Microeconomics Exam 2

Suppose the price of the first good is $60 and the quantity is 80. The price increases to $120 and the quantity increases to 160. If the equilibrium price rises from $60 to $120, what is the producer surplus attributed to new producers in the market?

$2,400

Caroline sharpens knives in her spare time for extra income. Buyers of her service are willing to pay $3.00 per knife for as many knives as Caroline is willing to sharpen. On a particular day, she is willing to sharpen the first knife for $2.00, the second knife for $2.25, the third knife for $2.75, and the fourth knife for $3.50. Assume Caroline is rational in deciding how many knives to sharpen. Her producer surplus is

$2.00

Price elasticity of demand equation

% change in quantity demanded / % change in price

Cross-price elasticity of demand equation

% change in quantity demanded for good 1/% change in price for good 2

Income elasticity of demand equation

% change in quantity demanded/% change in income

Price elasticity of supply equation

% change in quantity supplied/% change in price

A tax can be a

% of the good's price, or a specific amount for each unit sold

Midpoint Equation

(Q2-Q1)/(Q2+Q1)x(P2+P1)/(P2-P1)

Calculating percentage change

(end value - start value) / start value x 100

Determinants of Supply Elasticity

- the more easily sellers can change the quantity they produce, the greater the elasticity of supply. -price elasticity of supply is greater in the long run than in the short run, because firms can build new factories, or new firms may be able to enter the market.

When the price of a good is $5, the quantity demanded is 120 units per month; when the price is $7, the quantity demanded is 100 units per month. Using the midpoint method, the price elasticity of demand is about

-0.55

Two reasons for a fall in consumer surplus

1. Fall in CS due to buyers leaving the market 2. Fall in CS due to remaining buyers paying a higher price

Two reasons for fall in producer surplus

1. Fall in PS due to sellers leaving the market 2. Fall in PS due to remaining sellers getting lower price

Two rationing mechanisms

1. Long lines 2. Discrimination according to the sellers' biases

Price elasticity is higher

1. when close substitutes are available 2. for narrowly defined goods than for broadly defined ones 3. For luxuries than for necessities 4. In the long run than in the short run

If the price elasticity of demand for a good is -1.2, the a 3 percent decrease in price results in a

3.6 percent increase in the quantity demanded.

Table 7-5 For each of three potential buyers of oranges, the table displays the willingness to pay for the first three oranges of the day. Assume Allison, Bob, and Charisse are the only buyers of oranges, and only three oranges can be supplied per day. Allison is willing to pay $2.00 for her first orange, $1.50 for her second orange, and $0.75 for her third orange. Bob is willing to pay $1.50 for his first orange, $1.00 for his second orange, and $0.60 for his third orange. Charisse is willing to pay $0.75 for her first orange, $0.25 for her second orange, and $0 for her third orange. If the market price of an orange is $0.80, then

4 oranges are demanded per day, and consumer surplus amounts to $2.80.

Unit elastic

= 1

Price ceiling

A legal maximum on the price of a good or service (ex. rent control)

What reduces PS?

A lower price

What all is included in cost?

All resources used to produce good, including the value of the seller's time.

How can you increase total surplus?

By reducing Q.

Consumer surplus equation

CS=WTP-P

How does a tax on buyers shift the demand curve?

Down (leftward)

Which of the following is likely to have the most price elastic demand?

Haagan-Dazs vanilla bean ice cream

Binding constraint (price ceiling)

Having an eq'm price above the ceiling is illegal. This causes a shortage.

If P1 is $2, Q1 is 80, P2 is $2, Q2 is 165, what happens when the government sets a price ceiling?

It causes a shortage of 85 units.

Suppose the demand for peanuts decreases. What will happen to producer surplus in the market for peanuts?

It decreases.

Producer surplus equation

PS=P-cost

What are the varieties of demand curves?

Perfectly Inelastic Demand (extreme), Inelastic Demand, Unit Elastic, Elastic Demand, and Perfectly Elastic Demand (extreme)

Revenue

Price x Quantity

Total surplus equation

TS=WTP-cost

Willingness to pay (WTP)

The maximum amount the buyer will pay for that good. Measures how much the buyer values the good.

T or F: Price elasticity is ALWAYS negative

True

A price ceiling is

a legal maximum on the price at which a good can be sold.

Price floor

a legal minimum on the price of a good or service (ex. minimum wage)

When demand is elastic,

a price increase causes revenue to fall.

When demand is inelastic,

a price increase causes revenue to rise.

When demand is elastic, a decrease in price will cause

an increase in total revenue.

Suppose good X has a negative income elasticity of demand. This implies that good X is

an inferior good.

Who can the government make pay the tax?

buyers or sellers

Demand is said to be price elastic if

buyers respond substantially to changes in the price of the good.

Which of the following is likely to have the most price inelastic demand?

chocolate

Total Surplus

consumer surplus + producer surplus

In a market economy, the allocation of resources is ___, determined by the interactions of many self-interested buyers and sellers.

decentralized

A tax on buyers will shift the

demand curve downward by the amount of the tax.

When the price of candy bars is $1.00, the quantity demanded is 500 per day. When the price falls to $0.80, the quantity demanded increases to 600. Given this information and using the midpoint method, we know that the demand for candy bars is

elastic

Total Producer Surplus

equals the area above the supply curve under the price, from 0 to Q

For normal goods, income elasticity is

greater than 0 (positive)

Not binding price floor

has no effect on the market outcome

Binding constraint (price floor)

having an eq'm wage below the floor is illegal. This causes a surplus.

Perfectly elastic demand

horizontal slope and extreme

In general, elasticity is a measure of

how much buyers and sellers respond to changes in market conditions.

The incidence of tax

how the burden of tax is shared among the market participants

An increase in income causes an

increase in demand for a normal good

The supply of oil is likely to be

inelastic in the short run and elastic in the long run.

Elasticity

is a numerical measure of the responsiveness of Quantity Demanded or Quantity Supplied to one of its determinants

Consumer surplus

is the amount a buyer is willing to pay minus the amount the buyer actually pays.

Producer surplus (PS)

is the amount a seller is paid for a good minus the seller's costs

Cost

is the value of everything a seller must give up to produce a good.

An allocation of resources is efficient if

it maximizes total surplus

How does a tax on sellers shift the supply curve

leftward

For inferior goods, income elasticity is

less than 0 (negative)

In the ____ run, supply and demand are more price elastic, so the shortage is larger.

long

We can use total surplus as a

measure of society's well-being, and we consider whether the market's allocation is efficient

Price elasticity of demand

measures how much quantity demanded responds to a change in price.

Price elasticity of supply

measures how much quantity supplied responds to a change in price.

Cross-price elasticity of demand

measures the response of demand for one good to the changes in price of another good

Income elasticity of demand

measures the response of quantity demanded to a change in the consumer income

Midpoint method

midpoint is the number halfway between the start and end values, the average of those values.

Complements in c-pe

negative, >0

Substitutes of c-pe

positive, <0

Minimum wage is an example of a

price floor

A perfectly inelastic demand implies that buyers

purchase the same amount as before when the price rises or falls.

Suppose the equilibrium price of a tube of toothpaste is $2, and the government imposes a price floor of $3 per tube. As a result of the price floor,

quantity demanded decreases, quantity supplied increases, and there is a surplus.

A tax imposed on the sellers of a good will

raise the price buyers pay and lower the effective price sellers receive.

A seller's willingness to sell is

related to her supply curve, just as a buyer's willingness to buy is related to his demand curve.

Elastic demand

responsive, >1

Welfare economics

studies how the allocation of resources affects economic well-being.

A key determinant of the price elasticity of supply is

the ability of sellers to change the amount of the good they produce.

Total consumer surplus

the area under the demand curve above the price, from 0 to Q

The flatter the curve,

the bigger the elasticity

Marginal buyer

the buyer who would leave the market if the price was higher. (the last buyer who barely values it enough to buy it & if the price increases they jump)

The term tax incidence refers to

the distribution of the tax burden between buyers and sellers.

laizzes faire

the notion that government should not interfere with the market

A seller will produce and sell the good/service only if

the price exceeds his or her own cost.

Cross-price elasticity of demand measures how

the quantity demanded of one good changes in response to a change in the price of another good.

If the price elasticity of supply is zero, then

the quantity supplied is the same, regardless of price.

Marginal seller

the seller who would leave the market who would leave the market if the price were any lower.

The steeper the curve,

the smaller the elasticity

Which of the following is NOT a determinant of the price elasticity of demand for a good?

the time horizon, the availability of substitutes for the good, the definition of the market for the good

If a price ceiling is not binding, then

there will be no effect on the market price or quantity sold.

Inelastic demand

unresponsive, <1

Perfectly Inelastic Demand

vertical slope and extreme

Price controls are usually enacted

when policymakers believe that the market price of a good or service is unfair to buyers or sellers.