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«Economics 2010 (Morey section), Fall 2011 Second Midterm: Version 1 Name: Date: _ I have added comments to some of the questions. I commented on ...»

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Economics 2010 (Morey section), Fall 2011

Second Midterm: Version 1

Name: __________________________ Date: _____________

I have added comments to some of the questions. I commented on questions that people found

difficult and others simply because I wanted to comment on them.

Note that we gave everyone full credit for the cruise question about variable costs. It was not a

great question.

Some people do not adequately understand negative numbers and what they mean.

Surprisingly, at least to me, some people found the elasticity questions difficult. I thought most of them would be shoe-ins. Maybe the difficulty is due to my last point.

There was an issue with question19 that I only thought about after the exams were graded. Given the problem with the question (explained below) we will add one point, out of 45, to everyone’s test score. This grade change applies to both versions of the exam.

1. Which statement best describes how the competitive firm chooses the input combination it will use to produce, in the long run, its chosen level of output.

A) It is determined by the isoquant map

B) It is determined by the input prices

C) It is determined by the state of technical knowledge for producing its output and the constraints imposed on the firm by the market.

D) It is determined by its chosen level of output

2. Billy the bulldog has a \$30 coupon for Dogs'R'Us, a store that sells only two goods: puppy chow (\$5 per bag) and chew toys that look like economics professors (\$3 per toy). Billy can only use the coupon once and he must use his organic shopping bag to drag home whatever he buys. The bag can hold an unlimited number of chew toys, but at most three bags of chow. Billy will starve unless he buys at least one bag of chow. Which of the following bundles is in his choice set?

A) 2 bag of food; 6 chew toys.

B) 4 bags of food; 2 chew toys C) 0 bags of food; 8 chew toys D) 3 bags of food; 6 chew toys Version 1 Page 1

3. Consider two different indifference curves, the latter for a higher level of utility than the former. While not likely, it is possible that these two indifference curves intersect.

A) True

B) False

4. In the theory of the firm, we use "isoquants". Breaking down the term we have "quant" as in "quantity," and "iso" as in "one," meaning every point on an isoquant corresponds to the same quantity. The analogous concept in regards to consumer theory is_______.

A) Preferences

B) Utility

C) A budget line

D) An Indifference curves

5. Consider two commodities A and B that are both bads, with A on the vertical axis and B on the horizontal axis. Higher indifference curves (curves further up and right) represent

A) the same amount of utility as lower curves.

B) less utility than do lower indifference curves.

C) either more or less utility than lower curves.

D) more utility than do lower indifference curves

Use the following to answer question 6:

Figure: Total Product 6.

(Figure: Total Product) Between points A and B the marginal product of labor is:

A) infinite.

B) increasing.

C) zero.

D) falling.

Between points A and B total product is increasing but marginal product is falling.

–  –  –

8. Consider two commodities that are complements: peanut butter and jelly. The jelly-price elasticity of demand for peanut butter is likely positive.

A) True

B) False The elasticity being asked about is the percentage change in the demand for peanut butter divided by the percentage change in the price of jelly. Since they are compliments (the utility you get from consumption of one of them is higher the more of the other you are consuming), this elasticity will be negative. That is, as the price of jelly goes up the demand for peanut butter will not down, so the elasticity is negative and the answer is false.

9. Which of the following best illustrates an "income effect" of a price increase?

A) The price of corn chips increases, so Michelle buys potato chips, a substitute for corn chips

B) The tuition at the public university increases, so Michelle attends a community college, a substitute for a public university

C) Michelle's apartment rent increases, so she cancels her subscription to a monthly magazine.

D) The price of bacon increases, so Michelle buys more sausage, a substitute for bacon.

10. Zoe's Bakery operates in a perfectly competitive industry. Suppose that when the market price is \$5, the profit-maximizing output level of pastries is 150 units, with average total cost of \$4, and average variable cost of \$3. From this we know Zoe's marginal cost is ________, and her short-run profits are ________.

A) \$1; \$150 B) \$5; \$150 C) \$1; \$300 D) \$5; \$300 At the profit maximizing output level, we know that price equals marginal cost. So if price is \$5, marginal cost must be \$5. Total revenue is 150 multiplied by 5, which is \$750, and total cost is 150 multiplied by 4, which \$600, so profits are \$150

11. Let d denote Diet Cokes and c chocolate bars. At my current consumption level my MRSdc=3. So, my wtp for an additional chocolate bar is 1/3 of a Diet Coke.

A) True

B) False Version 1 Page 3 The MRSdc is how chocolate consumption must decline if the guy drinks another Diet Coke and one want to hold his utility constant. Since it is three, it means he will give up 3 chocolate bars to drink another Diet Coke. Or said the other way, he will give up 1/3 of a Diet Coke to get another chocolate bar.

12. At my current consumption levels, My wtp for a Diet Coke in terms of chocolate bars is 3.

Let d denote diet Cokes and c denote chocolate bars. Therefore my MRSdc=3 and the slope of my indifference curve at my current level of consumption is -3, with chocolate on the vertical axis and Diet Cokes on the horizontal axis.

A) True

B) False Simply, three different ways of saying the same thing.

13. Chuck spends all his income on two goods: tacos and milkshakes. His income is \$100, the price of tacos is \$10, and the price of milkshakes is \$2. Put tacos on the horizontal axis and milkshakes on the vertical axis. The opportunity cost of one taco equals ________ units of milkshakes.

A) 10 B) 5 C) 1/5 D) 2

14. The slope of ______ shows the rate at which two goods can be exchanged ________ the consumer's ________.

A) an indifference curve; without affecting; utility level.

B) an indifference curve, without affecting, level of expenditures.

C) a budget line, without affecting, utility level.

15. The curve that shows the additional cost of each additional unit of output is called the:

A) marginal cost curve.

B) marginal product curve.

C) average cost curve.

D) total cost curve.

16. Consider two commodities that are substitutes: skiing at Vail and skiing at Aspen. The Vail-price elasticity of demand for trips to Aspen is likely positive.

A) True

B) False The question is asking about the percentage change in the demand for trips to Aspen divided by the percentage change in price of skiing Vail. If they are substitutes this elasticity is positive.

–  –  –

18. Assume China and the U.S. currently have the same levels of pollution, but the U.S. is much richer in terms of goods. Which statement is more likely to be correct?

A) Willingness-to-pay for pollution reduction is higher in China

B) The marginal-rate-of-substitution of pollution reduction for goods in the U.S. is greater than the marginal-rate-of-substitution of pollution reduction for goods in China

C) The marginal-rate-of-substitution of pollution reduction for goods in China is greater than the marginal-rate-of-substitution of pollution reduction for goods in the U.S.

19. If it produces, a perfectly competitive firm will maximize profits at the output level where

A) marginal revenue equals price.

B) price equals average total cost.

C) price exceeds marginal cost.

D) marginal revenue equals marginal cost.

At the point where marginal revenue (price) equals marginal cost. For a competitive firm, marginal revenue is equal to price at every possible output level, so they are equal at the output level where profits are maximized. So, taken literally, A is true. When this question was graded we only counted it correct if you answered D. We will, now, add one point (out of 45) to each score. I should have been more careful with this question.

20. In the Fred lectures, If Fred is being paid \$x a mile to ski, and currently it is costing her more than \$x to crank out her last mile, to increase her revenues she needs to ski more.

A) True

B) False The question is asking about her revenue not her profits. To get paid more she needs to ski more.

21. Utility is the:

A) satisfaction consumers derive from their consumption of goods and services.

B) difference between a firm's total revenue and its total economic cost.

C) lowest price that buyers are willing to pay for a given quantity of a good.

D) good not adequately provided by a free market and usually provided by the government.

–  –  –

23. Consider the probability of being infected with AIDs, and the frequency one has unprotected sex with a stranger. While you would never have unprotected sex with a stranger, you have a friend who told you he is going to increase his frequency of unprotected stranger-sex by 10%, and you are worried he might contract AIDs. Under which of the following four scenarios will you worry the least about him contracting AIDs

A) The percentage change in the probability of him contracting AIDs divided by the percentage change in the frequency of his unprotected stranger-sex is a number less than negative one.

B) The percentage change in the probability of him contracting AIDs divided by the percentage change in the frequency of his unprotected stranger-sex is between zero and negative one.

C) The percentage change in the probability of him contracting AIDS divided by the percentage change in the frequency of his unprotected stranger-sex is positive number between zero and one.

D) The percentage change in the probability of him contracting AIDs divided by the percentage change in the frequency of his unprotected stranger-sex is a number greater than one.

I asked this question to see if you really understood what elasticity means.

You will worry the least about your friend getting AIDS if having unprotected sex decreases the probability of contracting AIDS. That is, you worry less if the elasticity is negative rather than positive. So, if the elasticity were C or D you would worry more than if it was A or B, so this eliminates C and D as possible answers (the two alternatives with positive elasticities). If the elasticity is as described in A or B, unprotected sex helps to protect you against contracting AIDS.

So the correct answer is either A or B. The answer is A because in case B a one percent increases in the frequency of unprotected sex decreases the probability of contracting AIDs, but by less than one percent, whereas in case A, a one-percent increase in the frequency of unprotected sex decreases the probability of contracting AIDS by more than one percent.

Note that -2, for example, is a negative number less than negative 1 And -.5, for example, is a negative number between zero and -1.

I suspect that some of you do not know what less than (or more than) means when the number is

–  –  –

24. Assume the demand curve for oil is downward sloping. OPEC lowers the price of oil and this leads to an increase in OPEC's revenues from the sale of its oil. The price elasticity of demand for oil is ___ and ___.

A) negative, greater than -1

B) negative, less than -1

C) Positive

D) negative, greater than If the demand curve is downward sloping (higher price implies lower demand) the price elasticity of demand must be negative, so C cannot be correct. If lowering the price increases total revenue, then demand must be going up in percentage terms more than price is going down in percentage terms, meaning the price elasticity of demand must be elastic (negative and less than -1).

A price elasticity of demand that is negative and less than -1 (elastic) implies that a one percent price increase (decrease) will lead to a more than one percent quantity decrease (increase) causing total revenue to decrease (increase) if price is increased (decreased).

Note that a number cannot be negative and greater than one.

25. In Xiodo China, a small rural community, China's one-child policy combined with a son preference has shifted the situation from 100 potential grooms and 100 potential brides to 100 potential grooms and 80 potential brides. This policy will increase, for potential grooms, the cost of getting married, and decrease the number of marriages (assuming Xiodo does not import potential brides or export potential grooms). This price increase and quantity decrease is caused by right-ward shift in the demand curve for brides.

A) True

B) False The number of potential grooms stays the same, so the demand curve for brides (they are demanded by potential grooms) does not shift. The policy shifts to the left the supply curve of brides (there are fewer potential brides). Price goes up and number of marriages goes down.

–  –  –

Figure: Income and Substitution Effects 26. (Figure: Income and Substitution Effects) The consumer is originally consuming his or her optimal consumption bundle at point A in the figure when the price of Good K falls.

The dashed line tangent to I1 shows a hypothetical budget line reflecting:

A) the income and substitution effects.

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