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```Econ 340: Assignment 2
Demand and Supply Theory
1. The demand for automobiles is often described as highly cyclical, and very sensitive to
automobile prices and interest rates. Given these characteristics, describe the effect of each of
the following in terms of whether it would increase or decrease the quantity demanded or the
demand for automobiles. Moreover, indicate whether the effect of each of the following is an
upward or downward movement along a given demand curve or instead involves an outward or
inward shift in the relevant demand curve for autos. Explain your answers.
(a) A decrease in auto prices (b) A fall in interest rates
(c) A severe economic recession
2. The ABC Company is a bottler of natural spring water distributed throughout the city. Operating
experience during the past year suggests the following demand function for its spring water:
Q = 250 - 100P + 0.0001Pop + 0.003I + 0.003A
where Q is quantity in thousand units, P is price (\$), Pop is population, I is disposable income
per capita (\$), and A is advertising expenditures (\$).
(a) Determine the demand curve faced by the firm in a typical market where P = \$4, Pop =
4,000,000 persons, I = \$50,000 and A = \$400,000. Show the demand curve with quantity
expressed as a function of price, and price expressed as a function of quantity.
(b) Calculate the quantity demanded at prices of \$5, and \$3.
(c) Calculate the prices necessary to sell 1,250, and 1,750 units of bottled water.
(d) If income increases to \$60,000, determine the demand curve function and compare it
graphically to that in part (a).
3. Pappa's Pizza, Ltd., provides delivery and carryout service to the whole city. An analysis of the
daily demand for pizzas has revealed the following demand relation:
Q = 1,400 - 100P - 2PS + 0.01CSP + 750S
where Q is the quantity measured by the number of pizzas per day, P is the price (\$), PS is a
price index for soft drinks (1992 = 100), CSP is the college student population and S, a binary
or dummy variable, equals 1 on Thursday, Friday, and Saturday, zero otherwise.
(a) Determine the demand curve facing Pappa's Pizza on Tuesdays if P = \$10, PS = 125, and
CSP = 35,000, and S = 0.
(b) Calculate the quantity demanded and total revenues on Fridays if all price-related variables
are as specified above.
4. Demand and supply of orange juice are both highly sensitive to changes in the weather. During
hot summer months, demand for orange juice and other beverages grows rapidly. On the other
hand, hot and dry weather has an adverse effect on supply by reducing the size of the orange
crop.
Demand and supply functions for orange juice are as follows:
Qd= 4,500,000 - 1,200,000P + 2,000,000PS + 1,500Y + 100,000T
QS = 8,000,000 + 2,400,000P - 500,000PL - 80,000PK - 120,000T
where P is the average price of orange juice (\$ per case), PS is the average retail price of canned
Pepsi (\$ per case), Y is income (GNP in \$billions), T is the average daily high temperature
(degrees), PL is the average price of unskilled labor (\$ per hour), and PK is the average cost of
capital (in percent).
(a) Determine the orange juice demand and supply curves if P = \$11, PS = \$5, Y = \$12,000
billion, T = 75 degrees, PL = \$6, and PK = 12.5%.
(b) Calculate the surplus or shortage of orange juice when P = \$5, and \$10.
(c) Calculate the market equilibrium price-output combination.
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5. Make comment on the following statement "The cold weather reduced the quantity demanded
for hotel rooms in Hawar Island, thereby reducing both the equilibrium price of renting a hotel
room and the number of rooms rented. The fall in the price of hotel rooms in turn increased
demand so that in the end price returned to its original level"
6. Suppose that the demand for oranges increases. Carefully explain how the rationing function of
price will restore market equilibrium. Explain the long -run effects of the guiding function of
price in this scenario.
7. Suppose that macroeconomic forecasters predict that the economy will be expanding in the near
future. How might managers use this information?
8. Annual demand and supply for the Entronics company is given by:
Qd= 5,000 + 0.5 I + 0.2 A - 100P, and Qs = -5000 + 100P
where Q is the quantity per year, P is price, I is income per household, and A is advertising
expenditure.
a. If A = \$10,000 and I = \$25,000, what is the demand curve?
b. Given the demand curve in part a., what is equilibrium price and quantity?
c. If consumer incomes increase to \$30,000, what will be the impact on equilibrium price and
quantity?
9. The market for milk is in equilibrium. Recent health reports indicate that calcium is absorbed
better in natural forms such as milk, and at the same time, the cost of milking equipment rises.
Carefully analyze the probable effects on the market.
10. Industry supply and demand are given by: Qd = 1000 - 2P and Qs = 3P
a. What is the equilibrium price and quantity?
b. At a price of \$100, will there be a shortage or a surplus, and how large will it be?
c. At a price of \$300, will there be a shortage or a surplus, and how large will it be?
MULTIPLE CHOICE QUESTIONS:
1. If demand increases while supply decreases for a particular good:
(a) its equilibrium price will increase while the quantity of the good produced and sold could
increase, decrease, or remain constant.
(b) the quantity of the good produced and sold will decrease while its equilibrium price could
increase, decrease, or remain constant.
(c) the quantity of the good produced and sold will increase while its equilibrium price could
increase, decrease or remain constant.
(d) its equilibrium price will decrease while the quantity of the good produced and sold could
increase, decrease, or remain constant.
2. The quantity of product X supplied can be expected to rise with a fall in:
(a) prices of competing products.
(b) price of X.
(c) energy-saving technical change.
(d) input prices.
2
3. Change in the quantity supplied reflects a:
(a) change in price.
(b) switch from one supply curve to another.
(c) change in one or more non-price variables.
(d) shift in supply.
4. Holding all else equal, if supply increases, the:
(a) equilibrium price will decrease while the quantity produced and sold could increase,
decrease or remain constant.
(b) quantity produced and sold will increase while the equilibrium price could increase,
decrease, or remain constant.
(c) equilibrium price will increase while the quantity produced and sold could increase,
decrease or remain constant.
(d) none of these.
5. The basic reason(s) for the increase in quantity demanded as the result of a price reduction is
(are):
(a)
(b)
(c)
(d)
income effect
substitution effect
complementary effect
both a and b
6. Which of the following statements is not true?
(a) An increase in demand causes equilibrium price and quantity to rise.
(b) A decrease in demand causes equilibrium price and quantity to fall.
(c) An increase in supply causes equilibrium price to fall and quantity to rise.
(d) A decrease in supply causes equilibrium price to rise and quantity to rise.
7. Which of the following best describes the "guiding function" of price?
(a) In response to the surplus or shortage in two markets, price serves as a "guiding
function" by decreasing in one market and increasing in the other market in the short run.
(b) The guiding function of price is the movement of resources into or out of markets in
response to a change in the equilibrium price of a good or service.
(c) The guiding function of price occurs when the market price changes to eliminate the
imbalance between supply and demand caused by a shortage or surplus at the original
price.
(d) The guiding function usually occurs in the short run while the rationing function usually
occurs in the long run.
8. Which of the following would indicate that price is temporarily below its market equilibrium?
(a) There are a number of producers who are left with unwanted inventories.
(b) There are a number of customers who must be placed on waiting lists for the product.
(c) Firms decide to leave the market.
(d) The government must step in and subsidize the product.
PROBLEMS FROM THE TEXT:
Solve problems 1, 3, 4, 5, 6, 9, and 10 at the end of Ch.3, Pages: 73-75
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