Microeconomics II

Problem set 1
Due on Mar. 21
Note: PS will be graded solely on COMPLETION, and not CORRECTNESS.

A. Multiple Choices (50%, 2.5 points each)

1. The difference between producer surplus and profit is always the associated
A) opportunity costs.
B) total costs.
C) variable costs.
D) fixed costs.

2. A competitive market maximizes social welfare because in a competitive market,

A) profits are zero.
B) price equals marginal cost of the last unit produced.
C) price equals average cost of the last unit produced.
D) there is free entry and exit.

3. The figure shows supply and demand curves for apartment units in a large city. If the city
government passes a law that establishes $350 per month as the legal maximum rent, the loss
in social welfare equals

A) b + c.
B) f.
C) a.
D) f + g.

4. Following question 3, the figure shows supply and demand curves for apartment units in a
large city. If the city government passes a law that establishes $350 per month as the legal
maximum rent, producer surplus decreases by
A) d.
B) b + f.
C) c + g.
D) i.

5. As opposed to general-equilibrium analysis, partial equilibrium analysis looks

A) at an equilibrium and changes to it in a single, isolated market.
B) at how changes in one market effect other markets.
C) at how equilibrium is determined in all markets simultaneously.
D) at either price or quantity movements.

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6. Gains from trade can only occur when
A) marginal rates of substitutions differ across people.
B) marginal rates of substitution are equal across people.
C) indifference curves are convex.
D) people find themselves on the contract curve.

7. When considering trade of two goods between two people, if one person has all the
endowment of both goods, this allocation
A) is never on a contract curve.
B) will result in trade so each person has all of one good.
C) will result in trade to a equal division of goods between the two people.
D) is Pareto efficient.

8. The fact that any pareto efficient equilibrium can be achieved through competition by
adjusting endowments is called
A) the second welfare theorem.
B) the first welfare theorem.
C) the third welfare theorem.
D) That is not possible.

9. If pizza is measured on the horizontal axis and pretzels are measured on the vertical axis,
the slope of the production possibility frontier at a given combination reflects
A) the total cost of producing that combination.
B) the total cost of producing that quantity of pizza in terms of pretzels.
C) the cost of making the last pizza in terms of pretzels.
D) the cost of making the last pretzel in terms of pizza.

10. Suppose the production possibilities for two countries, producing either food or clothing,
are shown in the below figure. They can each produce any linear combination as well.
Measuring food on the horizontal axis, the joint production possibility frontier

A) will kink away from the origin at 20 units of food.

B) will kink toward the origin at 20 units of food.
C) will kink toward the origin at 10 units of food.
D) will kink away from the origin at 10 units of food.

11. Following question 10. Assuming free trade between these two countries, Canada will
produce food
A) as long as any positive amount of food is demanded.
B) as long as more than 10 units of food are demanded.
C) as long as people are willing to give up at least 1 unit of clothing to get a unit of food.

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D) as long as people are willing to give up more than 1/2 a unit of clothing to get a unit of
food.
12. Suppose in a democratic society, all voters prefer choice G over choice B; however, when
the two choices are presented along with a third choice, R, wins the election. This violates the
assumption of
A) transitivity.
B) non-dictatorship.
C) independence of irrelevant alternatives.
D) completeness.

13. A firm should always shut down if its revenue is

A) declining.
B) less than its average fixed costs.
C) less than its total costs.
D) less than its avoidable costs.

14. If a firm is a price taker, then its marginal revenue will always equal
A) price.
B) total cost.
C) zero.
D) one.

15. If a firm is currently in short-run equilibrium earning a profit, what impact will a lump-
sum tax (on this firm only) have on its production decision?
A) The firm will decrease output to earn a higher profit.
B) The firm will increase output but earn a lower profit.
C) The firm will not change output but earn a lower profit.
D) The firm will not change output and earn a higher profit.

16. Markets with hit-and-run entry and exit experience

A) barriers to entry.
B) firms entering whenever they can make a profit and exiting when they cannot make a
profit.
C) steady long-run economic profit.
D) a very steady number of firms.

17. In the long run, profits will equal zero in a competitive market because of
A) constant returns to scale.
B) identical products being produced by all firms.
C) the availability of information.
D) free entry and exit.

18. Long-run market supply curves are upward sloping if

A) firms are identical.
B) the number of firms is restricted in the long run.
C) input prices fall as the industry expands.
D) All of the above.

19. A ban on imports, a tariff, or a quota raises the price to domestic consumers. This means
that consumers will buy less of the product at a higher price. The loss associated with this is

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called
A) production associated loss.
B) productive consumption loss.
C) consumption distortion loss.
D) consumer misperception loss.

20. The assumptions about tastes and behavior to model the trading between two people do
not include
A) utility maximization.
B) convex indifference curves.
C) nonsatiation.
D) interdependence.

B. Analytical Problems (40%, 10 points each)

1. Suppose that by coincidence two markets for separate products had the same demand and
supply functions. In each market, Qd = 50 − p, and Qs = p. The government decides to
discourage consumption in both markets. It institutes a $4 per unit tax in one market, and a
quota of 23 units in the other market. Are the welfare effects of these policies equal? Please
use the figure to explain. (15%)

2. Consider trade between two consumers (1 and 2) and two goods, X and Y. Suppose the
total quantities of each good are 100 units. Each consumer has Cobb-Douglas preferences
given by:
U(X,Y) = XY
What is the shape of the contract curve, i.e. derive the equation?

3. Consider a society consisting of just a farmer and a tailor. The farmer has 10 units of food
but no clothing. The tailor has 20 units of clothing but no food. Suppose each has the
utility function U = F ∗ C. The price of clothing is always $1. If the price of food is $3,
does a competitive equilibrium exist? If not, what will happen to the price of food?

4. Lelu runs a firm that sells multipasses to intergalactic cruises. Her short-run cost function
is given by
C(q) = q2 + 25q + 144
a. If the market price is $75/pass, how many units will Lelu produce?
b. At what price will Lelu earn zero profits?
c. If the price is below the level you found in b., will Lelu shut down? If so, explain. If not,
below what price will she shut down?

C. Short Answer Problems (10 points, 5 point each)

1. Explain why a government may select an inefficient allocation.

2. True or False (please explain): If a firm cannot earn profits in the short run, it will shut
down.