UNIT 1

1.Explain how firms and individuals participate and interact in the product market
and in the factor market.

Firms and individuals participate and interact in both the product market and the
factor market in the process of buying and selling goods and services, as well as
productive resources. Here's a breakdown of how these interactions occur in each
market:
Product Market:
Firms as Sellers:
Products and Services: Firms produce goods and services that they offer in the
product market.
Pricing: Firms decide the prices based on production costs, market demand, and
competition.
Advertising and Promotion: Firms use marketing strategies to attract consumers
and create demand for their products.
Individuals as Buyers:
Consumers: Individuals buy goods and services based on their needs and
preferences.
Decision Making: Consumers make purchasing decisions based on factors like price,
quality, brand loyalty, and personal preferences.
Feedback: Consumer choices provide feedback to firms, shaping future production
and marketing strategies.
Interaction:
Exchange: Firms sell products to individuals, generating revenue.
Competition: Competition among firms ensures better products and prices,
benefiting consumers.
Market Forces: Supply and demand dynamics influence product prices and
availability.
Factor Market:
Firms as Buyers:
Labor: Firms hire individuals (labor) based on skills, qualifications, and labor market
conditions.
Capital: Firms acquire financial capital (loans, investments) to fund operations and
expansion.
Raw Materials: Firms purchase raw materials and resources necessary for
production.
Individuals as Sellers:
Labor: Individuals sell their labor and skills to firms in exchange for wages or
salaries.
Capital: Individuals invest in firms by buying stocks or bonds, providing necessary
financial capital.
Entrepreneurship: Some individuals create and manage businesses, contributing to
economic growth.
Interaction:
Employment: Firms hire individuals, compensating them with wages and benefits.
Investment: Individuals invest in firms, enabling them to grow, innovate, and create
more job opportunities.
Innovation: Entrepreneurs bring new ideas and skills to the market, driving
economic progress.
Interconnectedness:
Circular Flow: The product market and factor market are interconnected. Firms
receive revenue from selling products in the product market, and this revenue is
used to pay for factors of production in the factor market.
Economic Growth: Efficient interactions in both markets lead to economic growth,
job creation, and improved living standards.
In summary, firms and individuals play vital roles in the product and factor markets,
creating a complex web of interactions that drive economic activity, innovation,
and overall prosperity.

2. Describe the difference between the accounting and the economic concept of
profit. How might accounting practices be changed to make financial statements
and reports more useful for managerial decision-making?

Difference Between Accounting and Economic Profit:

Accounting Profit:
Definition: Accounting profit is the net income of a business calculated by
deducting all explicit costs (such as wages, rent, and materials) from total revenue.
Scope: It considers only explicit costs that are recorded in financial statements,
excluding implicit costs like the opportunity cost of the owner's time and resources.
Calculation: Accounting Profit = Total Revenue - Explicit Costs.
Economic Profit:
Definition: Economic profit takes into account both explicit and implicit costs. It
considers all costs, including opportunity costs, which are the benefits a firm
forgoes by choosing a particular course of action.
Scope: It provides a more comprehensive view of the firm's profitability by
considering all costs, including the costs associated with the owner's resources.
Calculation: Economic Profit = Total Revenue - (Explicit Costs + Implicit Costs).
Accounting Practices for Managerial Decision-Making:
Include Implicit Costs:
Problem: Accounting statements often ignore implicit costs, leading to a skewed
view of profitability.
Solution: Account for all costs, including opportunity costs, to provide a realistic
economic picture of the business's performance. This might involve assessing the
value of owner's time, skills, and resources that are used in the business.
Depreciation Methods:
Problem: Different depreciation methods can significantly impact financial
statements.
Solution: Standardize depreciation methods to ensure consistency and
comparability. For managerial decision-making, methods that more accurately
represent the wear and tear on assets over time could be employed.
Accrual Accounting:
Problem: Cash-based accounting can distort financial realities, especially for
businesses with credit transactions.
Solution: Implement accrual accounting, where transactions are recorded when
they occur, providing a more accurate representation of a company’s financial
health. This helps managers make decisions based on actual economic activities
rather than just cash flow.
Segment Reporting:
Problem: Aggregate financial statements might mask the performance of individual
business segments.
Solution: Implement segment reporting to break down financial statements into
smaller, manageable components. This helps managers identify profitable and
unprofitable segments, enabling focused decision-making.
Non-Financial Metrics:
Problem: Sole reliance on financial data might not provide a comprehensive view
of a company's performance.
Solution: Include non-financial metrics such as customer satisfaction, employee
engagement, and product quality in managerial reports. These metrics offer
valuable insights into areas that directly impact a company's long-term success.
Regular Performance Reviews:
Problem: Infrequent reporting might lead to delayed decision-making.
Solution: Conduct regular performance reviews, possibly monthly or quarterly, to
monitor financial and non-financial metrics. Timely information enables proactive
decision-making and quick course corrections if necessary.
By addressing these aspects, accounting practices can provide more nuanced,
accurate, and timely information to managers, aiding them in making informed
decisions that can enhance the overall performance and sustainability of the
business.

3. Why is it important to state a managerial objective? Could the assumption that

managers’ objective is profit maximization be useful even if their real objective is
maximizing market share or their salaries?
Importance of Stating a Managerial Objective:
Stating a managerial objective is crucial for several reasons:
Guiding Decision-Making: A clear objective provides a guideline for decision-
making within the organization. It helps managers align their actions and strategies
with the overall goals of the company.
Resource Allocation: Objectives help in allocating resources efficiently. Whether it's
financial resources, human capital, or time, having a defined objective allows
managers to prioritize and allocate resources effectively.
Performance Evaluation: Objectives serve as a basis for evaluating the performance
of the organization and its employees. Managers can assess how well the
organization is progressing toward its goals and make adjustments as necessary.
Motivation: Clear objectives can motivate employees. When employees
understand the company's goals and their role in achieving those goals, they are
more likely to be engaged and motivated to perform well.
Stakeholder Communication: Clearly defined objectives facilitate communication
with stakeholders, including employees, investors, customers, and suppliers. It
creates transparency and helps stakeholders understand what the company is
trying to achieve.
Long-term Sustainability: Objectives guide the company's long-term strategy,
ensuring that decisions made today align with the organization's future vision and
sustainability.
Profit Maximization vs. Alternative Objectives:
While profit maximization is a common assumption in economic theory, real-world
managerial objectives can vary. Managers might prioritize goals such as maximizing
market share, increasing shareholder value, expanding the business, improving
customer satisfaction, or even enhancing their own salaries and bonuses.
Usefulness of Profit Maximization Assumption:
Simplicity: Assuming profit maximization simplifies economic models and analysis,
making it easier to understand and work with in theoretical contexts.
Benchmark: Even if profit maximization is not the actual objective, it can serve as a
benchmark against which other objectives are compared. For instance, decisions
might be evaluated based on their impact on profitability, even if profit
maximization is not the sole goal.
Investor Expectations: Shareholders often expect companies to generate profits.
Meeting profit expectations can positively influence stock prices and investor
confidence.
Consideration of Real Objectives:
Holistic Decision-Making: Acknowledging diverse objectives allows for more
holistic decision-making. For example, a focus on customer satisfaction might lead
to product improvements, which, in the long run, can enhance profitability.
Ethical and Social Responsibility: Companies increasingly consider social and ethical
responsibilities. Objectives related to environmental sustainability or community
welfare might not directly align with profit maximization but are essential for
corporate social responsibility.
In summary, while profit maximization is a useful theoretical concept, real-world
managerial objectives can be multifaceted. Acknowledging and understanding the
actual objectives of managers is crucial for creating realistic models, effective
decision-making, and sustainable business practices. Different contexts and
industries may warrant different objectives, and aligning these objectives with the
overall mission and values of the organization is key to long-term success.

4. What might be the objective or objectives of each of the following nonprofit

institutions?
i) The engineering college at a major state university
ii) A police department in a city
iii) The emergency room of a hospital
iv) A museum
Nonprofit institutions have specific missions and objectives that are aligned with
their roles and responsibilities. Here are the potential objectives for each of the
mentioned nonprofit institutions:
i) Engineering College at a Major State University:
Educational Excellence: The primary objective of an engineering college is to
provide high-quality education to students. This includes offering rigorous
academic programs, fostering research and innovation, and ensuring students are
well-prepared for careers in engineering and related fields.
Research and Innovation: Many engineering colleges engage in research activities.
Their objective could be to contribute to scientific knowledge, technological
advancements, and innovations that benefit society and industry.
Community Engagement: Engineering colleges might also have objectives related
to community outreach, offering resources, expertise, and educational programs
to the local community.
ii) Police Department in a City:
Public Safety: The central objective of a police department is to maintain public
safety and order. This includes preventing and solving crimes, ensuring the safety
of citizens, and responding to emergencies.
Crime Prevention: Police departments often focus on crime prevention initiatives,
such as community policing programs and public education campaigns, to reduce
the incidence of criminal activities.
Community Relations: Building positive relationships with the community is
essential. Police departments might have objectives related to community
engagement, trust-building, and promoting cooperation between law enforcement
officers and residents.
iii) Emergency Room of a Hospital:
Emergency Medical Care: The primary objective of an emergency room is to
provide immediate and effective medical care to patients with acute illnesses,
injuries, or medical emergencies. This includes triage, diagnosis, treatment, and
stabilization of patients.
Life-saving Interventions: The objective is to save lives by providing timely
interventions, including resuscitation, trauma care, and critical medical procedures,
especially in life-threatening situations.
Efficiency and Timeliness: Another objective could be to ensure that patients are
seen promptly and receive appropriate care efficiently, even during high-demand
periods.
iv) Museum:
Preservation of Cultural Heritage: Museums often have a primary objective of
preserving and showcasing cultural, historical, scientific, or artistic artifacts. This
includes conservation efforts to protect these artifacts for future generations.
Education and Public Engagement: Museums aim to educate the public about
various aspects of culture, history, art, or science. Objectives could include
organizing exhibitions, workshops, and educational programs for visitors of all ages.
Cultural Enrichment: Museums contribute to the cultural enrichment of society.
They might have objectives related to promoting cultural understanding, diversity,
and appreciation of different art forms and historical periods.
It's important to note that the specific objectives of nonprofit institutions can vary
based on their missions, funding sources, community needs, and organizational
priorities. These objectives often reflect the institution's commitment to serving
the public and fulfilling its societal role.

5. A recent engineering graduate turns down a job offer of $30,000 per year to start
his own business. He will invest $50,000 of his own money that has been in a bank
account earning 7 percent in interest per year. He also plans to use a building he
owns that has been rented to another business for $1,500 per month. Revenue
during the first year was $107,000, while expenses were:
Advertising $ 5,000
Rent 10,000
Taxes 5,000
Employees’ salaries 40,000
Supplies 5,000
Prepare two income statements, one using the traditional accounting approach
and one using the opportunity cost approach to determine profit.
6. Sharon Smith is a full-time homemaker and also is an excellent seamstress. She
has material for which she paid $5 per yard several years ago. The material has
increased in value during that time and could be sold back to the local fabric shop
for $15 per yard. Sharon is considering the use of that material to make dresses
that she would sell to her friends and neighbors. She estimates that each dress
would require four yard of materials and four hours of her time, which she values
at $10 per hour. If the dress could be sold for $90 a piece, could Sharon earn an
economic profit by making and selling the dresses?

7. Tempo Electronics, Inc., has an inventory of 5,000 unique electronic chip

originally purchased at $2.50 each; their market value is now $ 5 each. The
production department has proposed to use these by putting each one together
with $6 worth of labor and other materials to produce a wristwatch that would be
sold for $10. Should that proposal be implemented? Explain from the viewpoints
of economic profit and opportunity costs.
8. What do you understand by exchange of two commodities? What are the
necessary conditions for exchange? Explain Barter exchange. Discuss the problems
associated with"Barter Exchange".
Exchange of Two Commodities:
Exchange in economics refers to the process where individuals, businesses, or
countries trade goods or services with one another. In simpler terms, it's the act of
giving one thing and receiving another in return.
Necessary Conditions for Exchange:
For an exchange to occur, several conditions need to be met:
Double Coincidence of Wants: Both parties in the exchange must have something
the other wants. This means their desires or needs must align mutually. For
instance, if person A has wheat and wants rice, and person B has rice and wants
wheat, there is a double coincidence of wants.
Mutual Benefit: Both parties should believe that they will be better off after the
exchange. If both parties do not perceive a benefit, the exchange is unlikely to
happen.
Agreed Terms: The terms of exchange, including the quantity and quality of the
items being exchanged, need to be agreed upon by both parties.
Barter Exchange:
Barter exchange is a direct exchange of goods and services between two parties
without using money as a medium of exchange. In a barter system, individuals
trade items they have for items they need. For example, a farmer might exchange
a bushel of wheat for a set of tools from a blacksmith.
Problems Associated with Barter Exchange:
Double Coincidence of Wants: Finding someone with exactly what you want and
who wants what you have can be extremely difficult. This lack of coincidence of
wants hampers the efficiency of barter exchanges.
Lack of a Common Measure of Value: Money serves as a common measure of
value, allowing people to compare the value of different goods and services. In
barter systems, there is no universal measure of value, making negotiations
complex.
Indivisibility: Some goods cannot be divided for smaller exchanges. For example,
it’s difficult to exchange half a cow for a bag of rice. This indivisibility creates
challenges in making fair exchanges.
Difficulty in Storage and Transportation: Certain goods are perishable or difficult
to transport. In barter systems, this can be a significant obstacle as parties need to
exchange goods at the same time and place.
Lack of Standardization: There may be variations in the quality and quantity of
goods being exchanged, leading to disputes and disagreements.
Limited Specialization: The absence of efficient exchange mechanisms limits
specialization and productivity. With a monetary system, individuals can focus on
producing what they are best at and exchange for other goods they need. Barter
systems often limit specialization.
Absence of Deferred Payments: Barter transactions usually require simultaneous
exchange. In modern economies, credit and deferred payments are common,
allowing for more flexible exchanges. Barter does not offer this flexibility.
Due to these challenges, most economies have transitioned from barter systems to
monetary systems, where money serves as a medium of exchange, resolving the
difficulties associated with the direct exchange of goods and services.

9.Mention and explain the qualities of standard money. Can you give an example
of standard money? If not then why?
Qualities of Standard Money:
Standard money, also known as commodity money, is a type of money that has
intrinsic value. It possesses several qualities that make it suitable as a medium of
exchange, store of value, and unit of account. The qualities of standard money
include:
Intrinsic Value: Standard money has value in itself. For example, gold and silver
have intrinsic value due to their use in jewelry, electronics, and other industries.
Durability: Standard money should be durable and not easily perishable. It should
withstand wear and tear over time, ensuring it retains its value.
Divisibility: Standard money should be easily divisible into smaller units without
losing its value. This divisibility allows for flexibility in transactions of varying sizes.
Uniformity: Each unit of standard money should be of the same quality and value,
ensuring consistency in its use as a medium of exchange.
Portability: Standard money should be easy to carry and transport, allowing for
convenient transactions over different locations.
Acceptability: Standard money must be widely accepted as a medium of exchange.
People should have confidence in its value and be willing to use it for transactions.
Limited Supply: The supply of standard money should be limited, preventing
excessive inflation. Precious metals like gold and silver have limited supply,
ensuring their value remains relatively stable over time.
Recognizability: Standard money should be easily recognizable to prevent
counterfeiting or fraud. Recognizable markings or characteristics help in verifying
its authenticity.
Example of Standard Money: An example of standard money is gold. Gold
possesses all the qualities mentioned above. It has intrinsic value due to its uses in
jewelry, electronics, and various industrial applications. Gold is durable, divisible,
uniform in quality (when pure), portable, widely accepted, and has limited supply.
Throughout history, many civilizations have used gold as a standard form of money
because of these qualities.
Why I Can't Give a Current Example: I cannot provide a current example of
standard money because, in modern economies, most countries have transitioned
away from commodity money (like gold and silver) to fiat money. Fiat money is
currency that a government has declared to be legal tender but is not backed by a
physical commodity. Instead, its value is derived from the trust people have in the
government and the stability of the economy. In the fiat system, the qualities of
money are based more on the stability of the issuing government and the
effectiveness of the monetary policies in place, rather than intrinsic value.
Therefore, there isn't a current widely accepted standard money in the form of a
physical commodity like gold.

10.Define bank. Justify the statement "Bank is the nerve center of modern world.

Definition of a Bank:
A bank is a financial institution that accepts deposits from the public, creates credit,
and provides loans. Banks act as intermediaries between depositors who have
surplus funds and borrowers who need capital for various purposes such as starting
or expanding businesses, purchasing homes, or funding other investments. Banks
play a crucial role in the economy by facilitating the flow of funds and supporting
economic activities.
Justification of the Statement "Bank is the Nerve Center of the Modern World":
The statement "Bank is the nerve center of the modern world" is justified for
several reasons:
Financial Intermediation: Banks serve as intermediaries between savers and
borrowers. They collect funds from individuals and businesses with surplus money
and lend these funds to those in need. This intermediation is fundamental to
economic growth as it ensures that capital is efficiently allocated to productive
ventures.
Payment System: Banks provide various payment services such as checks, credit
cards, and electronic fund transfers. They facilitate smooth transactions, allowing
businesses and individuals to engage in economic activities seamlessly.
Monetary Policy Implementation: Central banks, which are the apex institutions
in the banking system, formulate and implement monetary policies. They control
the money supply, interest rates, and inflation, influencing economic stability and
growth.
Credit Creation: Banks have the ability to create credit through a process known as
fractional reserve banking. By lending out a portion of the deposits they receive,
banks stimulate economic activities and entrepreneurship, leading to the
expansion of businesses and employment opportunities.
Capital Formation: Banks play a vital role in the accumulation of capital. They
provide loans for investment in infrastructure, technology, and other productive
sectors, contributing to the overall development of the economy.
Risk Management: Banks offer various financial services, including insurance and
hedging products, helping businesses and individuals manage risks associated with
their financial activities.
Facilitating International Trade: Banks facilitate international trade by providing
services such as letters of credit and foreign exchange services. They simplify cross-
border transactions, promoting global economic integration.
Economic Stability: Banks contribute to economic stability by providing stability to
the financial system. They act as custodians of public funds, ensuring the safety and
security of deposits through regulatory measures and deposit insurance schemes.
Innovation and Technology: Banks drive innovation in the financial sector,
developing new products and services, especially in the era of digital banking and
fintech. These innovations enhance convenience and accessibility for customers,
fostering economic activities.
Due to these critical functions, banks are rightly considered the nerve center of the
modern world. They are essential for economic development, financial stability,
and the overall functioning of economies at both the national and global levels.

11. Explain in details about:

Indigenous banking system
Modern banking system
Indigenous Banking System:
Indigenous banking systems refer to traditional or local financial practices that have
existed in various cultures and societies long before the establishment of modern
banking institutions. These systems are deeply rooted in the local customs and
traditions of a particular community. Indigenous banking systems vary widely
across different cultures, but they often share common features:
Community-Based: Indigenous banking systems are usually community-based and
operate within a specific community or tribe. They are built on trust and personal
relationships within the community.
Informal Structure: These systems lack the formal structure and regulations that
characterize modern banks. Transactions are often based on oral agreements and
social norms rather than written contracts.
Flexible Terms: Indigenous banking systems often offer more flexible lending and
borrowing terms compared to formal banks. Interest rates, repayment schedules,
and collateral requirements are often negotiable based on mutual understanding.
Social and Cultural Context: Indigenous banking practices are deeply intertwined
with the social and cultural fabric of the community. Lending decisions might be
influenced by social status, reputation, or familial relationships.
Savings and Credit: These systems facilitate both savings and credit activities
within the community. People can save money collectively or borrow from the
community fund as needed.
Risk-Sharing: Risks associated with lending are often shared among the community
members. In case a borrower defaults, the burden might be distributed among
others in the community.
Examples: Indigenous banking systems include practices like rotating savings and
credit associations (ROSCAs) in various cultures, chit funds in India, and susu
savings systems in parts of Africa and the Caribbean.
Modern Banking System:
Modern banking systems, on the other hand, refer to the structured, regulated,
and technologically advanced financial institutions that operate globally. Modern
banking systems have several key characteristics:
Regulation and Supervision: Modern banks are heavily regulated by government
authorities and central banks. Regulations ensure the stability of the financial
system and protect the interests of depositors.
Fractional Reserve Banking: Modern banks operate on the principle of fractional
reserve banking, meaning they keep only a fraction of their deposits in reserve and
lend out the rest. This system allows for the creation of credit and supports
economic activities.
Diverse Financial Services: Modern banks offer a wide range of financial services,
including savings and checking accounts, loans, mortgages, credit cards,
investment products, and online banking services. They cater to both individual and
corporate clients.
Technological Integration: Modern banks have embraced technology, offering
online banking, mobile apps, ATMs, and electronic fund transfers. These
technologies enhance convenience and accessibility for customers.
Global Operations: Many modern banks operate globally, facilitating international
trade and financial transactions. They provide services like foreign exchange, trade
financing, and international money transfers.
Credit Evaluation: Modern banks use advanced credit evaluation methods,
considering credit scores, financial history, and collateral when approving loans.
Decisions are based on quantitative analysis rather than personal relationships.
Deposit Insurance: Many countries have deposit insurance schemes that protect
depositors' funds up to a certain limit, enhancing confidence in the banking system.
Economic Influence: Modern banking systems play a significant role in shaping
economies. Central banks, as part of the modern banking system, control monetary
policy, affecting interest rates and inflation rates, and thus influencing economic
growth.
In summary, indigenous banking systems are localized, informal, and community-
based, while modern banking systems are formal, regulated, and technologically
advanced, operating on a global scale. The coexistence of these systems reflects
the diversity of financial practices across different regions and communities in the
world.

12. Discuss nature of economic prices, opportunity costs, and efficiency.

Nature of Economic Prices:
Economic prices are determined by the interaction of supply and demand in the
marketplace. They reflect the value that consumers are willing to pay for a good or
service and the cost of producing that good or service. Several factors influence
economic prices:
Supply and Demand: Prices are influenced by the relationship between supply (the
quantity of a good that producers are willing to offer) and demand (the quantity of
that good consumers are willing to buy). Prices rise when demand exceeds supply
and fall when supply exceeds demand.
Scarcity: Economic prices arise due to the scarcity of resources. When resources
are limited and demand is high, prices tend to be higher. Scarcity implies that
choices must be made, and these choices are reflected in prices.
Utility: Prices are influenced by the utility, or the satisfaction, a good or service
provides to consumers. Goods that provide higher utility often command higher
prices because consumers are willing to pay more for them.
Production Costs: The cost of producing a good or service, including raw materials,
labor, and overhead costs, affects its price. Producers aim to set prices above their
production costs to generate a profit.
Market Competition: In competitive markets, prices tend to be driven down to a
level where marginal cost equals marginal revenue. Competition ensures that
prices are efficient and reflect the cost of production.
Opportunity Costs:
Opportunity cost refers to the value of the next best alternative forgone when a
decision is made. In every decision involving resource allocation, there are trade-
offs. Choosing one option over another means giving up the benefits that could
have been gained from the next best alternative. Opportunity costs are crucial in
economic decision-making because resources are scarce, and choosing one option
means forgoing other valuable opportunities.
For example, if a student decides to spend time studying for an exam instead of
working at a part-time job, the opportunity cost is the income the student could
have earned from the job. Understanding opportunity costs helps individuals and
businesses make informed choices, ensuring the efficient use of resources.
Efficiency:
Efficiency in economics refers to the allocation of resources in a way that maximizes
overall societal welfare. There are two types of efficiency:
Allocative Efficiency: Allocative efficiency occurs when resources are distributed
among different goods and services to maximize societal satisfaction. It means that
resources are allocated in a way that produces the combination of goods and
services most desired by society.
Productive Efficiency: Productive efficiency occurs when goods and services are
produced at the lowest possible cost. In other words, it means producing goods
and services using the fewest inputs, minimizing wastage, and maximizing output.
Efficiency is essential in economics because it ensures that resources are not
wasted and that society gets the most value from its scarce resources. Market
competition, informed decision-making based on opportunity costs, and rational
resource allocation contribute to achieving efficiency in economic activities.

13. Suppose that the demand and supply equations have been estimated and that
the demand and supply curves are given by Qd = 14 - 2P & Qs = 2+ 4P; Determine
the equilibrium price and quantity.
14. Consider an independent businessperson who has an MBA degree and is
considering investing $100,000 in a retail store that she would manage. There are
no other employees. The projected income statement for the year as prepared by
an accountant is as below
Sales $90,000
Less: Cost of Goods Sold 40,000
Gross Profit 50,000
Less: Advertising 10,000
Depreciation 10,000
Utilities 3,000
Property Tax 2,000
Miscellaneous Expenditure 5,000
Sub total 30,000
Net Accounting Profit is 50,000 - 30,000 = 20,000
As an Economist you recognize other costs, defined as implicit costs. What are
they? If you include them in the above statement will you show profit or loss?
Illustrate with your own implicit costs.
15. Explain the concept of an economic model. Why do economists and managers
use such models as part of the decision-making process?
An economic model is a simplified representation of a real-world economic system.
It is a set of assumptions, equations, or concepts that describe economic behavior
and interactions among various economic agents, such as individuals, households,
firms, and governments. Economic models are used to analyze, understand, and
predict economic phenomena, making complex economic situations more
manageable and interpretable.
Economic models often focus on specific aspects of the economy, such as supply
and demand, market competition, consumer behavior, investment decisions, or
macroeconomic variables like inflation and GDP growth. These models help
economists and policymakers gain insights into the functioning of the economy,
allowing them to formulate better policies and strategies.
Why Economists and Managers Use Economic Models:
Simplification of Reality: Economic models simplify complex economic realities by
focusing on essential elements and relationships. They allow economists and
managers to isolate specific factors and analyze their impact on economic
outcomes.
Analysis and Prediction: Models enable economists to analyze economic situations
and predict how changes in variables might affect outcomes. This predictive ability
is valuable for understanding potential consequences of policy changes, market
shifts, or managerial decisions.
Policy Formulation: Economic models provide a basis for formulating economic
policies. By understanding the cause-and-effect relationships within the economy,
policymakers can design interventions to achieve specific goals such as controlling
inflation, promoting economic growth, or reducing unemployment.
Understanding Behavior: Economic models help in understanding the behavior of
economic agents, such as consumers, firms, and investors. By examining factors like
price elasticity of demand, profit maximization, or investment decisions,
economists and managers can anticipate responses to changes in the economic
environment.
Resource Allocation: Models assist in analyzing how resources are allocated within
an economy. By studying production functions, input-output relationships, and
efficiency, economists and managers can optimize resource allocation for
maximum output.
Scenario Analysis: Economic models allow economists and managers to simulate
different scenarios. By changing variables within the model, they can explore
various outcomes without the need for real-world experimentation, enabling risk
assessment and strategic planning.
Communication: Economic models provide a common language for economists,
policymakers, and managers. They allow complex economic concepts and
relationships to be communicated effectively, facilitating discussions and
collaboration among stakeholders.
Decision-Making: Managers use economic models to make informed decisions
about production, pricing, investment, and resource allocation. By understanding
the economic factors at play, managers can make decisions that maximize profits
and ensure the sustainability of their businesses.
In summary, economic models serve as valuable tools for economists and
managers, enabling them to make sense of the complex economic world. By
providing a structured framework for analysis, these models enhance the
understanding of economic phenomena and contribute to more informed decision-
making and policy formulation.

16. Explain the relationship among the total, average and marginal functions in the
most generalized way. Intuitively explain why any intersection of the average and
marginal function will occur at a maximum or a minimum point on the average
function.
In economics, total, average, and marginal functions are important concepts used
to analyze various economic activities, such as production, cost, revenue, and
utility. Here's how these functions are related:
Total Function (Total Output, Total Cost, Total Revenue, etc.): Total functions
represent the overall quantity or amount produced, cost incurred, revenue
generated, or any other variable of interest. It shows the complete picture without
considering per-unit values.
Average Function (Average Cost, Average Revenue, etc.): Average functions
represent the per-unit value of the total variable. It is calculated by dividing the
total quantity or amount by the number of units produced or consumed. For
example, average cost is total cost divided by the quantity produced.
Marginal Function (Marginal Cost, Marginal Revenue, etc.): Marginal functions
represent the change in the total variable when one additional unit is produced or
consumed. It shows the rate at which the total variable changes with a small
increase in quantity. For example, marginal cost is the change in total cost when
one more unit is produced.
Now, the intersection of the average and marginal functions holds great
significance in economics, particularly in microeconomics. When average and
marginal functions intersect, it indicates a specific point on the average function
where the per-unit value aligns with the rate of change. This intersection can occur
at a maximum, minimum, or at a point where the average is neither at its maximum
nor minimum.
At Maximum Point (e.g., Average Cost at Minimum Cost): When the marginal
function is below the average function, it pulls the average down. If the marginal
function intersects the average function from below, it indicates that the average
function is decreasing. This scenario often occurs at the minimum point of the
average function, such as minimum average cost. After this point, if the marginal
function rises above the average, the average function starts increasing.
At Minimum Point (e.g., Average Cost at Minimum Cost): Conversely, when the
marginal function is above the average function, it pushes the average up. If the
marginal function intersects the average function from above, it indicates that the
average function is increasing. This scenario often occurs at the maximum point of
the average function, such as maximum average revenue. After this point, if the
marginal function falls below the average, the average function starts decreasing.
Intuitively, the intersection of the average and marginal functions signifies a
balance point where the incremental benefit (or cost) equals the average benefit
(or cost). If the marginal function is below the average function, increasing the
quantity will bring the average down (benefit exceeds cost). If the marginal function
is above the average function, increasing the quantity will raise the average (cost
exceeds benefit).
Economically, these intersections are essential because they help businesses and
policymakers make decisions about production levels, pricing strategies, and
resource allocation, ensuring efficiency and profit maximization.
17. Given the following supply and demand equations

QD = 100 – 5P
QS = 10 + 5P
a) Determine the equilibrium price and quantity.
b) If the government sets a minimum price of $10 per unit, how many units would
be
supplied and how many would be demanded?
c) If the govt. sets a maximum price of $5 per unit, how many units would be
supplied and
how many would be demanded?
d) If the demand increases to
Q’D = 200 – 5P
Determine the new equilibrium price and quantity.
18. Given the following demand equation

Q = 20 – 0.10P
Complete the following table:
Quantity Price Total Revenue Average Revenue Marginal Revenue
1
2
3
4
5
6
19. Given the total cost function
TC = 150 Q – 3Q2 + 0.25Q3
Complete the following table by computing the total, average, and marginal costs
associated
with each quantity indicated.
Quantity Total Cost Average Cost Marginal Cost
1
2
3
4
5
6