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Practice Questions Midterm Economics 651
1.
Assume Barbara likes driving fast, but hates getting injured. If Congress passes a law for
mandatory airbags, Barbara is likely to experience an increased number of accidents.
Why?
a)
The benefits of driving faster increase.
b)
The expected cost of being in an accident at any given speed decreases.
c)
(a) and (b).
d)
None of the above.
2
Robert only consumes X and Y, and his indifference curves have the usual convex shape.
Consider the consumption bundles (3, 9), (6, 6), and (9, 3) (hint: they lie on a straight
line). If Robert is indifferent between (3, 9) and (9, 3), then:
a)
he prefers (3, 9) over (6, 6).
b)
he prefers (9, 3) over (6, 6).
c)
he prefers (6, 6) over both (3, 9) and (9, 3).
d)
(a) and (b).
3.
Assume the quantity of X is measured on the horizontal axis, and the quantity of Y is
measured on the vertical axis. Assume the price of X is $3, and the price of Y is $6. If
Amanda has $90 to spend on X and Y , then:
a)
she can buy at most 30 X.
b)
her budget line has a slope of – 2.
c)
(a) and (b).
d)
None of the above.
4.
Assume Joseph spends his entire income on X and Y, and his indifference curves have
the usual convex shape. If Joseph maximizes his utility, then:
a)
he spends his entire available income.
b)
no other bundle is both affordable and preferred.
c)
the slope of his indifference curve is equal to the slope of his budget line.
d)
All of the above.
5.
Marginal costs:
a)
are the incremental costs associated with making a decision.
b)
are the expenditures already made that can’t be covered.
c)
are not relevant in making a decision.
d)
(a) and (c).
6.
Assume the quantity of apples is measured on the horizontal axis and the quantity of
oranges is measured on the vertical axis. If the budget line rotates upward, while keeping
the same horizontal intercept, then:
a)
the price of apples decreased.
b)
the price of oranges decreased.
c)
the available income increased.
d)
(b) and (c).
7.
MACROSOFT decided to start developing the new word processor. After six months,
the R&D phase is completed (i.e. MACROSOFT has already invested $ 300,000).
However, after initial negotiations with its distributors, MACROSOFT revised upward
marketing and distribution expenses by $ 150,000 (i.e. total marketing and distribution
expenses will amount to $ 300,000). If MACROSOFT’s managers are risk-neutral, they
should abandon the project if the expected revenues from sales of the new software are:
a)
$599,000.
b)
$449,000.
c)
$299,000.
d)
None of the above.
8.
A competitive equilibrium price is such that:
A)
consumers who want to buy the product at the market price are satisfied.
B)
producers can sell the quantity of product they want to at the current market price.
C)
gains from trade are maximized.
D)
All of the above.
9.
Assume the current market price of candles is such that there is a surplus (i.e. excess
supply). Which of the following best describes the adjustment process in a competitive
market?
A)
As the price increases, the quantity demanded increases while the quantity
supplied decreases.
B)
As the price increases, the quantity demanded decreases while the quantity
supplied increases.
C)
As the price decreases, the quantity demanded increases while the quantity
supplied decreases.
D)
As the price decreases, the quantity demanded decreases while the quantity
supplied increases.
10.
Assume the government introduces a $0.50 per gallon tax on gasoline. Then which of the
following is true?:
The quantity of subway and bus tickets sold is likely to increase.
The quantity of cars sold is likely to decrease.
The quantity of gasoline sold is likely to decrease.
All of the above.
a)
b)
c)
d)
11.
Externalities exist when:
a)
the actions of one agent benefit another agent who is not part of the exchange
relationship.
b)
the actions of one agent hurt another agent who is not part of the exchange
relationship.
c)
(a) and (b).
d)
None of the above.
12.
Assume Pollutex Inc. produces paper in its plant located on Lake Ontario, half a mile
away from CleanAir Camping. Pollutex employs an obsolete production process,
dumping scum in the lake. The camp has experienced a steady decline in the number of
attendees since Pollutex moved nearby. In particular, the owners forecast that CleanAir
Camping will generate a profit of only $50,000 a year in the future, which is $150,000
less than the one generated before Pollutex moved nearby. A cleaner production process
is available, which would not require dumping the scum in the lake. However, converting
the plant would increase yearly costs by $100,000. Is the current situation Pareto
efficient?
a)
Yes, since there is no alternative that would make CleanAir better off without
hurting Pollutex, and vice versa.
b)
No, as Pollutex could convert its plant and make CleanAir better off by $150,000.
c)
No. In fact, CleanAir owners could pay Pollutex a sum between $100,000 and
$150,000 a year to convert its plant, and increase profits between $0 and $50,000.
d)
None of the above.
13.
Assume the demand function for basketballs is given by QD = 150 – 3P + 0.1I, where P =
price of a basketball, and I = average income of consumers. Also, assume the supply of
basketballs is given by QS =2P. If the market for basketballs is perfectly competitive, and
the average income is equal to $ 1,500, what are the equilibrium price and quantity?
What if a 20% income tax is introduced?
a)
Before the tax, the equilibrium price is $ 60, and 120 basketballs are traded. The
introduction of an income tax would have no effect on the equilibrium price net of the
tax and quantity.
b)
Before the tax, the equilibrium price is $ 60, and 120 basketballs are traded. Once
the income tax is introduced, the price would decrease by $ 6, and only 108
basketballs would be traded.
c)
Before the tax, the equilibrium price is $ 60, and 120 basketballs are traded. Once
the income tax is introduced, the price would decrease by $ 6, which would cause the
quantity of basketballs traded to increase.
d)
None of the above..
14.
Assume the demand function for scooters is given by QD = 20,000 – 10P + 0.2I, where P
= price of a scooter, and I = average income of consumers. Also, assume the supply
function of scooters is given by QS = 20 P. If the market for scooters is perfectly
competitive, and the average income of consumers is $20,000, what are the equilibrium
price and quantity in this market?
a)
The equilibrium price is $16,000, and 800 scooters are traded.
b)
The equilibrium price is $1,600, and 32,000 scooters are traded.
c)
The equilibrium price is $800, and 16,000 scooters are traded.
d)
None of the above.
15.
Assume the market for hammers is perfectly competitive, and the current price is $15. If,
at this price, the quantity of hammers demanded is 15,000, while the quantity supplied is
25,000, then:
a)
the market for hammers is in equilibrium.
b)
the price of hammers is likely to increase.
c)
the price of hammers is likely to decrease.
d)
None of the above.
16.
According to Ronald Coase, allocation of resources in a free-market economy will be
efficient as long as:
a)
property rights are clearly assigned and enforced.
b)
contracting costs are sufficiently low.
c)
(a) and (b).
d)
None of the above
17.
Assume the market for pencils is competitive, and originally in equilibrium. As a result of
increases in the price of graphite, the supply of pencils decreases. What is true in the new
equilibrium?
A)
The price is higher, while the quantity exchanged decreases.
B)
The price is higher, and the quantity exchanged increases.
C)
The price is lower, while the quantity exchanged decreases.
D)
The price is lower, and the quantity exchanged increases.
18.
Assume your company produces good X using only two inputs, capital (K) and labor (L).
Also, assume L is measured on the vertical axis and K on the horizontal one. If the prices
of inputs are PK=$30 and PL=15, and your company is behaving efficiently, what is the
slope of the isoquant at the current input mix?
a) -2
b) -1/2
c) Not enough information is provided to answer the question.
d) None of the above
19.
Assume SeatComfy Inc. produces table and chairs with the following total cost function,
TC=10,000+10Q+0.1Q2, where Q=quantity of chairs produced. If SeatComfy can sell as
many chairs it wishes at the current market price of $45, how many chairs should it
produce to maximize its short-run profits?
A)
350
B)
700
C)
175
D)
None of the above.
20.
In general, which of the following implies that a marginal cost curve will eventually
increase as a firm produces more output?
a) Profit maximizing behavior by the firm.
b) A production function displaying increasing returns to scale.
c) The law of diminishing returns.
d) None of the above.
21)
The Marginal Product curve of input Y shows:
A)
how the quantity of output produced changes for each amount of input Y, whether
or not all other inputs are held constant.
B)
how the quantity of output produced changes for each amount of input Y,
holding all other inputs constant.
C)
how the average quantity of output produced varies with input Y, whether or not
all other inputs are held constant.
D)
how the average quantity of output produced varies with input Y, holding all other
inputs constant.
22)
If the generic production function Q=f(K,L) displays increasing returns to scale, the value
of K is fixed in the short-run, and the prices of all inputs are held constant, then:
a)
the Short-Run Average Cost curve must be strictly decreasing.
b)
the Long-Run Average Cost curve must be strictly decreasing .
c)
(a) and (b).
d)
None of the above.
23)
If the price of a variable input increases, then:
a.
the total cost curve will shift up.
b.
the average total cost curve will shift up.
c.
the marginal cost curve will shift up.
d.
All of the above.
24)
A production with the form Q = 40 L.75 K.20 will have __________ in the long run.
A.
increasing returns to scale
B.
decreasing returns to scale
C.
constant returns to scale
D.
diminishing returns to the variable input
25)
If a company has significant economies of scale in the long run – assuming a large
market -- the company will tend to:
a) grow larger and have a declining average cost curve.
b) become smaller and have a declining average cost curve.
c) grow larger and have raising average cost curve.
d) become smaller and have a rising average cost curve.
26)
If a company has a cost curve of TC = 300 + 2Q + Q2 and it produces 300 units per day,
then its marginal cost is:
a) $1.00.
b) $600.
c) $602.????????
d) $2.02.
27)
If a company has a cost curve of TC = 300 + 2Q + Q2 and it produces 300 units per day,
then its average (total) cost is:
a) $1.00.
b) $303.
c) $300.
d) $602.
28)
The general rule for profit maximization in a firm is to:
a) set average cost at its minimum.
b) reduce fixed costs by expanding output.
c) maximize sales revenue.
d) set marginal revenue to marginal cost.
29)
As output expands from 199 to 200 units and total costs rise from $2985 to $3000, the marginal cost and
average cost of production are:
a)
b)
c)
d)
30)
$1.00, and $200.
$15 and $15.
$29.85 and $15.
None of the above.
The long-run price elasticity of demand for a product is generally _________ the shortrun elasticity for the same product:
A.
lower than
B.
equal to
C.
higher than
D.
not comparable to
Assume the demand function for skin care products is given by Q = 1,000 – 20 P + 5I. If P=$25 and I=$1,000 currently,
then:
A.
skin care products are a normal good. (CORRECT)
B.
the elasticity of demand is equal to 11.
C.
(a) and (b) .
Elasticity=(1/slope)*(P/Q)=(1/[1/20])*($45/5500)=0.16 which does not equal 11, so B is wrong.
31)
32)
Assume that several firms compete in the market for cellular phones, and that the price elasticity for this industry is
equal to 0.75. Based on this information, would you advise a firm in this industry to increase its price? If so, what is the
percentage loss in total sales this firm should expect to experience?
A.
Definitely yes. Total revenues would increase, since  < 1. Sales would decrease by only .75% for each 1%
increase in price.
B.
Not enough information is provided to make a sound decision. For the same reason it is not possible to
predict what the loss in sales for one firm would be.(CORRECT)
C.
Definitely no. Each 1% increase in price would result in 7.5% reduction in total sales, negatively affecting
total revenues.
Assume the demand curve for skirts in Europe is P = 100 – QE (or Qe=100 - P), while the U.S demand is P = 100 –
¼QUS. (or Qus = 400 - 4P). Over the range of prices which demand is more price elastic?
A.
U.S. demand is more elastic. CORRECT
B.
European demand is more elastic.
C.
It depends on the price level.
D.
U.S. and European demand have the same elasticity for any price level.
Assume that the price is $1 in each country. Since Elasticity of demand = (1/slope)*(P/Q), then in Europe
(1/1)*($1/10)=0.1. In the US, (1/[1/4])*($1/6)=0.66. 0.66 is larger than 0.1, so the U.S. is more elastic.
33.
34.
Assume D1 represents the current demand curve for skis. Which of the following would be likely to cause D1 to shift to
D2?
Increase in demand
a)
An increase in the price of snowboards. (CORRECT)
b)
An increase in the price of ski boots and clothing.
c)
A decrease in the price of skis
(WITH RESPECT TO “C”, REMEMBER THAT A LOWER PRICE INCREASES QUANTITY BECAUSE OF THE
LAW OF DEMAND. THIS IS WHY DEMAND CURVES SLOPE DOWNWARD.
ALSO, EVEN THOUGH A LOWER PRICE WILL NEVER CAUSE THE DEMAND OR SUPPLY CURVES TO SHIFT
POSITION, IT DOES CAUSE THE BUDGET CONSTRAINT TO ROTATE OUT SO THAT CONSUMERS CAN BE
ON A HIGHER INDIFFERENCE CURVE AND BE HAPPIER. IN OTHER WORDS, PEOPLE ARE HAPPIER ON
THE LOWER PORTIONS OF THE DEMAND CURVE.
Assume SeatComfy Inc. estimates the demand for its table chairs to be Q = 5,000 – 25P + 4I +10PA – 15 PT, where P =
the price of SeatComfy’s chairs; P A = average price of competitors’ chairs; P T = price of tables; and I = average income
of SeatComfy’s customers. Which of the following is true? “C” IS CORRECT
a)SeatComfy’s chairs are inferior goods; SeatComfy’s chairs and tables are complements, while SeatComfy’s and competitors’
chairs are substitutes. SeatComfy’s sales decrease by 250 units for each $10 increase in their own price.
b)SeatComfy’s chairs are normal goods; SeatComfy’s and competitors’ chairs are substitutes, while SeatComfy’s sales are not
affected by the pricing decisions of tables’ producers. SeatComfy’s sales increase by 50% if the price decreases by $2.
c)SeatComfy’s chairs are a normal good; SeatComfy’s chairs and tables are complements, while SeatComfy’s and competitors’
chairs are substitutes. SeatComfy’s sales decrease by 25 units for each dollar increase in price.
35.
36.
a)
b)
c)
Assume the demand function for SeatComfy’s table chairs is as given in the previous question (Q = 5,000 – 25P + 4I
+10PA – 15PT). Moreover, assume that currently P = 10, P A = 15, I = 500, PT = 100. Which of the following is true?
If SeatComfy increases its price by 1%, sales will increase as well as total revenues.
If SeatComfy decreases its price by 1%, sales will increase, while total revenues will decrease.
If SeatComfy increases its price by 1%, sales will decrease, while total revenues will increase.
Q=5650-25P OR P=5650-(1/25)Q. THE SLOPE IS 1/25, PRICE IS $10, AND QUANTITY IS 5400, SO THE
ELASTICITY = (1/[1/25])*($10/5400)=0.046 WHICH IS INELASTIC. THIS MEANS THAT WHEN PRICE
INCREASES TOTAL REVENUE WILL DECREASE. ALSO, THE LAW OF DEMAND IMPLIES THAT IF
PRICE INCREASES SALES WILL DECREASE. “B” AND “C” BOTH SEEM TO FIT THIS.
37.
a)
b)
c)
d)
FarAwayDrive Inc. has recently increased the price of its golf balls from $4.00 to $6.00. In response to this increase in
price, sales decreased from 2,200 to 1,800 units. If no other information concerning the demand is available, which of
the following is true about the sensitivity of demand (using the ARC or mid-points formula) for FarAwayDrive’s golf
balls?
The ARC-elasticity (midpoints formula) of demand is 2.0.
The ARC-elasticity (midpoints formula) of demand is ½ or .50.
The ARC-elasticity (midpoints formula) of demand is 2/3 or .667.
The ARC-elasticity (midpoints formula) of demand is 4/11 or .364.
THE MIDPOINT FORMULA IS ELASTICTY=[(Q2-Q1)/(THE AVERAGE QUANTITY)] /[(P2-P1)/(THE AVERAGE
PRICE)]. THE CHANGE IN QUANTITY IS 400, THE AVERAGE QUANTITY IS 2000, THE CHANGE IN PRICE IS
$2, AND THE AVERAGE PRICE IS $5. SO (400/2000)/($2/$5)=0.2/0.4=0.5. “B” IS CORRECT
38.
Assume Pyrotex Inc. estimates the demand for its fireworks to be linear. If the current price charged by Pyrotex is such
that the elasticity of demand is equal to 2.5, which of the following statements is true?
a)Pyrotex will increase its revenues by decreasing the price of fireworks.
b)Pyrotex will increase its revenues by increasing the price of fireworks.
c)Pyrotex cannot increase its revenues by changing the price of fireworks.
d)Not enough information is provided to determine whether or not Pyrotex is currently maximizing its profits.
THE ELASTICITY IS ELASTIC SINCE IT IS GREATER THAN 1. IF PRICE DECREASES, TR WILL INCREASE.
SO “A” IS CORRECT.
39.
Computer equipment is believed to be a normal good. This means that:
A.
the quantity of computer equipment consumed decreases as income increases.
B.
the income elasticity of demand for computer equipment is negative.
C.
the quantity of computer equipment increases as income increases. (CORRECT)
D.
None of the above
40.
If a firm is earning a large economic profit and the firm operates in a fairly competitive market, then, over time:
a) old firms will exit and prices will rise.
b) old firms will exit and prices will fall.
c) new firms will enter and prices will rise.
d) new firms will enter and prices will fall.
ECONOMIC PROFITS MEAN THAT FIRMS WILL MAKE MORE IN THIS INDUSTRY THAN IN THEIR
NEXT BEST ALTERNATIVE. FIRMS ENTER, SUPPLY INCREASES (SHIFTS TO THE RIGHT), AND
PRICE FALLS. “D” IS CORRECT.
41. Each semester, Mark pays $1700 tuition and $400 for books and supplies. Mark gives up $5,000 that he could
have made if he worked. He lives in the same apartment that he lived in before college and pays $400 for the
apartment and $400 for food. Assuming that Mark will eat and live somewhere even if he doesn’t go to school,
what is Mark’s cost of going to school each semester?
a. $2900.
b. $2100.
c. $1700.
d. $7900.
e. $7100.
TUITION, BOOKS AND SUPPLIES, AND FOREGONE EARNINGS ARE ALL OPPORTUNITY COSTS OF
COLLEGE. THE APARTMENT AND FOOD ARE NOT OPPORTUNITY COSTS OF COLLEGE SINCE
HE WOULD HAVE LIVED SOMEWHERE AND EATEN IF HE HAD NOT GONE TO COLLEGE. SO
$1700+$400+$5000=$7100. “E” IS CORRECT.
42. Zambizi’s Bakery is a firm in a competitive industry. Zambizi produces 1,000 cakes a day and sells them for $15
each. At this quantity, Zambizi’s variable costs are $8,000, the fixed costs are $6,000, and total costs are $14,000.
What should Zambizi do?
A) Keep producing and make an economic loss.
B) Keep producing and make an economic profit.
C) Shut down and take a loss equal to its total variable cost.
D) Shut down and take a loss equal to its total fixed cost.
E) Keep producing and make zero economic profits.
TR=$15,000 AND TC=$14,000. PROFIT IS $1,000, SO “B” IS CORRECT.
IN THE LONG RUN THE PROFIT WILL BE GONE BECAUSE OF EITHER (1) ENTRY OF NEW FIRMS OR
(2) BECAUSE OTHER PEOPLE WILL TRY TO BUY THIS FIRM WHICH INCREASES ITS
OPPORTUNITY COST UNTIL THERE IS NO ECONOMIC PROFIT. AN EXAMPLE IS TAXI CAB
MEDIALIONS IN NEW YORK CITY, FIRMS MIGHT SEEM TO MAKE A LARGE PROFIT BECAUSE
OTHER TAXI CABS ARE NOT ALLOWED TO ENTER THE MARKET, HOWEVER, THE VALUE OF
THE MEDIALION WHICH IS A LICENSE TO 0PERATE A TAXI HAS INCREASED TO AROUND
$200,000 EACH. (REMEMBER THAT THE FIRM IS GIVING UP $200,000 IF IT KEEPS THE
MEDALION. IT IS AN IMPLICIT COST) IF THE PROFITABLE ASSET IS PRICED TOO LOW SO THAT
THERE ARE ECONOMIC PROFITS, PEOPLE WILL BE WILLING TO BUY IT, THE PRICE WILL
INCREASE UNTIL PEOPLE ARE MAKING THE SAME AMOUNT AS THE NEXT BEST
OPPORTUNITY (ZERO ECONOMIC PROFITS). SO IN THE LONG RUN IF A FIRM OWNS ASSETS
THAT ARE VERY PROFITABLE, OTHERS WILL BE WILLING TO BUY THEM. THE FIRM DOESN’T
MAKE ECONOMIC PROFITS ANYMORE.
43. Which of the following is a likely consequence of rent controls?
A. People living in rent controlled housing want to have rent controls lifted.
B. Landlords don’t want to rent to people with low and unstable incomes.
C. The quality of rental housing improves.
D. It is easy for new residents in an area to find apartments.
E.
Landlords clearly prefer to have rent controls because they can be choosier on who to rent to.
RENT CONTROL MAKES IT SO THAT OWNERS HAVE A SURPLUS OF PEOPLE TO RENT TO. IT I
HARD TO FIND AN APARTMENT, SO OWNERS CAN BE CHOSIER SUCH AS NOT RENTING TO
PEOPLE WHO THEY THINK WILL HAVE A DIFFICULT TIME PAYING THE RENT. “B” IS
CORRECT. OWNERS ALSO WILL TEND TO LET APARTMENTS GET RUN DOWN, IT WILL BE
HARD TO FIND APARTMENTS FOR NEW RENTERS, AND PEOPLE WHO CURRENTLY HAVE
APARTMENTS DON’T WANT THEIR RENT TO INCREASE SO THEY VOTE TO KEEP RENT
CONTROL. OWNERS WOULD PREFER TO BE ABLE TO INCREASE RENTS.
44. Amy is thinking about going to the movies tonight to see Princess Diaries. A ticket costs $7 and she will have to
give up 4 hours of work. She earns $8 an hour. What is the cost of seeing the movie?
A)
$7.
B)
$39.
C)
$32.
D)
$24.
E)
$31.
THE OPPORTUNITY COST IS THE PRICE OF THE MOVIE AND THE VALUE OF THE TIME. $7+4*$8=$39. “B”
IS THE RIGHT ANSWER.