Download Midterm II: Econ 324

Midterm II: Econ 324.
Econ 324: You have a choice here. Each question has a maximum point value (given in
parenthesis at the beginning of each question). You can submit answers to questions
such that the maximum point total for the questions you submit is no greater than 100
points. If you submit answers to questions whose point total is less than 100, that point
total will be the highest possible grade you can earn on the exam (e.g., if you submit
questions whose total possible points is 80, then 80 will be the highest possible grade for
you to achieve on this exam). If you submit questions whose point total is greater than
100, your grade will be calculated from the lowest combination of scores on submitted
questions whose maximum point total is 100 or less. You MUST be explicitly clear
regarding which questions you want graded.
You will be graded on CLARITY of answers, COMPLETENESS of answers, and
CORRECTNESS of answers. If you use graphs as part of your exposition, make sure
that you explain what they mean and demonstrate. Graphs by themselves with no
explanations are meaningless; graphs without clear labels are not graphs, but modern
art…and will be graded accordingly.
This is due on WEDNESDAY, October 24th at the beginning of class. (I decided to give
you a little extra time…). Questions regarding interpretation of what a question is asking
will be the ONLY types of “clarification questions” that will be answered on Monday.
1.
(25 points) If x and y are perfect substitutes in consumption, (and the
marginal rate of substitution is 1x for 1 y), derive the demand for good x. Tell
me as much as you can (that is relevant) about the various critical points on
the demand curve you have derived as well as the shape of the demand curve.
(Critical points are things like intersections with axes, corners, sharp turns,
etc.)
2.
(25 points) Several years ago, congress considered increasing the gasoline tax
as a way to get Americans to decrease their use of gasoline. Since the price
elasticity of demand for gasoline is fairly inelastic, the tax increase would
have to be fairly high to appreciably decrease gas consumption. Such a large
increase was deemed to be politically infeasible because it would eat into too
much of the average person’s income. Therefore, someone suggested that we
increase the gas tax but then rebate the tax proceeds back to the customers as
cash (the specifics of how this would be done are not important, so you can
think of it as the government writing out a check to each person for the added
amount of gas taxes that he/she paid). Critics of this plan argued that paying
the revenue raised by the tax back to the customers would have no effect on
demand since customers could just use the rebated money to purchase more
gasoline. What does economic analysis say about the tax and rebate plan?
Would gasoline consumption be curtailed or not under such a tax-then rebate
plan?
3.
(10 points) If a consumer is consuming exactly two goods and is always spending all
of their income, is it possible for both goods to be inferior? Demonstrate your
answer.
4.
(10 points) Two goods, x and y, are perfect complements in consumption. Can the
Engel curve for one of those goods ever be negatively sloped? Why or why not?
5.
(25 points) Suppose goods x and y both have positive market prices, but good x also
is subject to ration coupons that are issued by the government. In other words, if you
want to buy x, you must both pay the price and provide ration coupons for the
amount you wish to purchase (e.g., one ration coupon for each unit of x that is
purchased). You can buy as much of good y as you want as long as you are willing
to pay the price; there are no ration coupons for y. Show how two people can both be
made better off if they are allowed to buy or sell the ration coupons from each other.
(Hint: start each person out with a fixed, equal amount of ration coupons for good x.
If a person buys ration coupons, he/she has less discretionary income; conversely, the
person who sells the ration coupons has an increase in income that can be spent.)
6.
(15 points) If a good is inferior will the price elasticity of demand be more or less
elastic in a given price range than if the good was superior? Demonstrate your
answer.
7.
(25 points) If a good is a “Giffen Good” in a given price range, (a) describe the
Marginal Revenue curve over that price range (i.e., is it “increasing” or “decreasing”,
“positive” or “negative”?) and explain why it is that shape; (b) does formula 8.5 on
page 225 of your text that relates price, marginal revenue, and elasticity of demand,
still hold in that price range? ; and (c) will MR < P in that price range?
8.
(10 points) Using the Hicks decomposition, demonstrate the income and substitution
effects of a price increase for good x if that good is inferior but not Giffen.