Download Chapter #3: Short Answer/Essay Solutions

Chapter #3: Short Answer/Essay Solutions
1. Demand refers to the willingness and ability to purchase at a variety of prices. The law of
demand says that there is an inverse relation between price and qty demanded. As price goes
up; qty demanded goes down, and the opposite is true.
2. Typically utility drops as a consumer consumes more of a product, causing them to stop
consuming if the price of the good remains constant. If the price of the product drops however;
the consumer will buy more since now the diminished utility is matched by the lower price!
3. As the price of coffee went up people bought less, which could be explained by the substitution
effect. As the price of coffee increased; people substituted tea which was cheaper. In addition,
to the substitution effect, the income effect also played a role. As the price of coffee rises and
incomes stay constant; consumers purchasing power drops and they don’t buy as much coffee.
4. Individual demand is just that; the willingness/ability of one person to purchase goods and
services at a variety of prices. Market demand is the sum of the willingness/ability of all
individuals to purchase goods and services at a variety of prices. There is an inverse relation
between price and willingness/ability to purchase, both in the market, and for the individual.
5. An increase in demand represents an increase in the willingness/ability to purchase at all prices
as represented by a rightward shift in the demand curve. An increase in qty demanded
represents an increase in demand demonstrated by movement down an existing demand curve,
caused by a change in price. One is movement of the entire curve, while the other is movement
along.
6. The factors that change demand (shift curve) are tastes, number of buyers, income, prices of
related goods (substitutes & complements), and consumer expectations. Graphs will show an
increase in price and quantity when demand increases. DRAW GRAPHS
7. Normal (superior) goods are goods whose demand is directly related to income. Income
increases, and demand increases. Ex) cars. Inferior goods are goods whose demand is inversely
related to income. As income goes up we buy less, with the opposite being true. An example
would be hot dogs.
8. The price change of related goods and its effect on demand depends on whether the goods are
substitutes or a complements. If the price of a good goes up (its demand drops); the demand of
its substitute will go up, an inverse relation. On the other hand if the price of a good goes up
(demand drops), the demand of its complement will drop as well; a direct relation. The opposite
is true in both instances. Substitutes are goods which can be logically used in place of each
other. Like coke substituted for pepsi. Complements are goods logically used together like skis
and ski boots.
9. As result of the newspaper article indicating people wear jeans for both play and work, the
demand for blue jeans will increase. The price of blue jeans as well as the quantity will increase
due to this increase in demand, causing a rightward shift in the demand curve. GRAPH TO
ILLUSTRATE.
10. A demand schedule shows the willingness and ability to purchase a good at a variety of prices in
table form, illustrating the inverse relation between price and quantity demanded; law of
demand. A supply schedule shows willingness/ability to provide goods and services in table
form, showing a direct relation between price and qty supplied.
11. The factors (determinants) which change supply (shift the entire supply curve) are prices of
inputs (factors of production/resources), technology, taxes/subsidies, the prices of other goods,
and the number of producers. If prices of resources go up producers can’t buy as many inputs
and supply drops; and the opposite is true. Improvements in technology will allow supply to
increase, shifting the curve right. If the government decreases taxes or increases subsidies;
producers will be able to buy more inputs thus increasing supply. The opposite will be true if
government raises taxes and decreases subsidies, reducing supply; shifting the curve left. If the
price of a good goes up, producers might decide to shift production to that good; increasing its
supply. If the price of a good drops producers might shift production to something else,
decreasing supply. Lastly, if the numbers of producers increases, supply will increase. The
opposite is true.
12. An increase in supply refers to an increase in the willingness to provide goods and services at all
prices as evidenced by a rightward shift in the supply curve. An increase in quantity supplied
refers to movement upward along a given supply curve due to a change in price. A decrease in
supply refers to a decrease the willingness/ability to provide goods/services at all prices. This
decrease (leftward shift of supply curve) will cause an increase in price and a decrease in qty
demanded.
13. An increase in supply (rightward shift in supply curve) will cause qty demanded to increase and
price to decrease. SHOW GRAPHICALLY. A decrease in supply refers to a decrease the
willingness/ability to provide goods/services at all prices. This decrease (leftward shift of supply
curve) will cause an increase in price and a decrease in qty demanded. SHOW GRAPHICALLY
14. Due to the excise tax producers will provide less gas since the tax will increase their costs; thus
shifting the supply curve of gasoline to the left. As result the price of gasoline will go up, and the
qty of gasoline demanded decreases. SHOW GRAPHICALLY
15. Given the demand and supply of a commodity; the equilibrium price and respective quantity of
the commodity will be the price/qty at the intersection of the demand and supply curves. This
price will tend to prevail as it is the price at which consumers and producers agree. Prices which
are higher or lower then this equilibrium will cause disequilibrium and result in temporary
surpluses and shortages of the commodity. If there is a surplus (price above equilibrium); the
pressure will be to reduce the price to equilibrium to clear the surplus. If the price is below
equilibrium there will be a shortage putting upward pressure on price, and signaling producers
to produce more!
16. If there is a shortage of a product, the price will be blow the equilibrium price; while if there is a
surplus the price will be above the equilibrium; or market clearing price.
17. Competition implies both allocative and productive efficiency because when firms compete they
do so by using the least cost combination of resources which is productive efficiency. They also
provide society with the mix of goods they desire which is allocative efficiency.
18. The fallacy in the statement is that while an increase in demand (rightward shift of demand
curve) will in fact cause price to rise; supply will not increase. An increase in supply implies a
rightward shift in the supply curve. An increase in demand will not cause this; but it will cause an
increase in qty supplied, an upward move along an existing supply curve.
19. If a price ceiling is set below equilibrium; a shortage will occur. See graph. Based
On $3.70 ceiling below; demand will be at 80,000, and supply at 72,000, resulting in a shortage
of 8,000 bushels.
20. The problem with price floors (government set prices above equilibrium), is that they create
surpluses; over allocating resources and causing allocative inefficiency by interfering with the
rationing function of prices. In addition, because of the floor, consumers pay a higher price for
the good that if the price were allowed to go to equilibrium. Government has used price floors
for agricultural goods to guarantee farmers a price they can be profitable.