Introduction to Economics Exercise 1

INTRODUCTION TO ECONOMICS Exercise 1 1. What determines that a resource be scarce? Why is scarcity important in defining Economics as a science Resources are seen as being scarce, when the wants exceed the resources. The fundamental problem of economics relates to the choices made in the face of limited resources and unlimited wants. 2. Read your local newspaper and economic magazines. Explain the difference between Microeconomics and Macroeconomics. From your research, give three examples of microeconomic and macroeconomic issues.

Microeconomics relates to the study of households and firms and the interaction between these different economic actors. Macroeconomics, however, relates to the study of the economy as a whole, and in particular problems pertaining to growth, unemployment and inflation. Examples of microeconomic issues: 1. price ceilings/floors 2. positive/negative externalities 3. elasticity Examples of macroeconomic issues: 1. inflation 2. unemployment 3. economic growth (GDP) 3. Regarding the concept of Opportunity Cost, comment how your opportunity cost of going to the movies may be affected when: a.

You have a final exam the following day b. The University will be shut down for a month starting today c. The same movie will be shown on TV tomorrow a) increase b) decrease c) increase 4. Explain if the following statements are true or false, Explain your reply d. The opportunity cost of choosing a certain activity is equal to the sum of all the benefits of all the alternatives not chosen. e. Opportunity cost is a subjective measure a) False - the opportunity cost of choosing a certain activity is equal to the cost of the next best alternative forgone. ) True – opportunity cost relates to the individual, in that they must choose how to maximize their own utility/happiness, and opportunity cost can vary from individual to individual. 5. Under what conditions is it possible to expand the Production Possibility Frontier (If it is not possible, explain your reply) The PPF can expand during periods of technological innovation or the discovery of new resources. Or through the process of trade. 6. a) England 2/6 = 1/3, USA 1/5 b) Wheat = England, Clothes = England c) England = Wheat, USA = Clothes ) England should produce wheat and USA clothes. Using the following table Hours of work needed to produce one unit | England| USA| Wheat| 2| 1| Clothes| 6| 5| | | | a. What is the opportunity cost of producing wheat in England and in the USA b. Which country has an absolute advantage in the production of wheat, and of clothes c. Which country has a comparative advantage in producing wheat and producing clothes d. Which country should specialize in the production of wheat? And of clothes? a. GRAPH b. GRAPH c. GRAPH

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The Price is above market equilibrium: If the price exceeds the equilibrium price, a surplus occurs and there will be competition among the sellers and price will come down to the equilibrium point. This way the equilibrium is tried to maintain in each of the cases. d. GRAPH Price is below the market equilibrium: If the price is below the equilibrium a shortage occurs and there will be a competition among the buyers and the price will rise to the equilibrium level. This is also another way to restore the equilibrium though there are changes that are occurring in the market in the prices. . The inferior good demand will decrease when consumer income rises. These goods are affordable and adequately fulfill their purpose, but as more costly substitutes that offer more pleasure become available, the use of the inferior goods diminishes. f. A complementary good is a good with a negative cross elasticity of demand. This means the demand for a good will decrease when the price of the complementary good is increased. g. If there is a rumor that price for this good will increase, demand will probably increase too. Consumers want to purchase the product before any increase.

All the market will be affect; we will see an increase of demand for main and complementary goods. Shortage will probably appear and price will increase to search equilibrium. Rumor will be reality. 7. Using the following demand and supply table Price| Demand| Supply| 1. 25| 8| 28| 1. 00| 14| 24| 0. 75| 20| 20| 0. 50| 26| 16| 0. 25| 32| 12| a. Graph the demand curve and the supply curve b. Identify the equilibrium price and equilibrium quantity c. Assume a price of 1. 00, Identify if there is shortage or surplus in the market and how the market forces behave to reinstate the equilibrium d.

Now assume the price is 0. 50 and repeat the question above e. Now assume this is the market behavior for an inferior good, what would happen if the consumers income would increase from $ 25 to $ 32 a week f. Assume this markets complementary good? s price increases, what would happen in this market g. Assume there is a rumor that the price for this good will increases in the following days. How do expectations affect this market? What will be the final outcome? For all the questions above you must support your answer with a graph. 8.

Price elasticity of demand : (0,1)/(-0,2) = -1,5 The demand is elastic and sensitive to price changes. 9. Price elasticity of demand : ((0,38-0,5)/0,5) = -0,24 -24% ((26000-10000)/10000) = 1,6 160% (-0,24)/(1,6) = -0,15 The demand is elastic and sensitive to price changes. 10. a. Vodka: luxury good or superior good, making a vodka more expensive can increase its perceived value as a luxury good to such an extent that sales can go up, rather than down. b. Table Salt: necessity good, necessity goods are usually produced by a public utility.

We can't live without and won't likely cut back on even when times are tough c. Furniture: normal good, this does not necessarily refer to the quality of the good, but an abnormal good would clearly not be in demand, except for possibly lower socioeconomic groups. d. Perfume: luxury good or superior good, making a perfume more expensive can increase its perceived value as a luxury good to such an extent that sales can go up, rather than down. e. Beet: inferior good, we can replace beet by others foodstuffs more expensive, better quality or that give more pleasure like a meat. f.

Sugar: necessity good, necessity goods are usually produced by a public utility. We can't live without and won't likely cut back on even when times are tough. 11. Decision making is based on costs and benefits. That means you make purchases if the marginal benefits are greater than the price. Thus, when you decide to make a purchase, you are likely receiving something worth more to you than what you had to spend to buy it, or else you wouldn’t have bought it. That net benefit, minus the equilibrium price, is consumer surplus. 12. GRAPH b. With a price of 4$, Bert buys 2 bottles.

His CS for 2 bottles: (7-4) + (5-4) = 3 + 1 = 4$ c. With a price of 2$, Bert buys 3 bottles. His CS for 3 bottles: (7-2) + (5-2) + (3-2) = 9$ 13. GRAPH A price ceiling occurs when the government puts a legal limit on how high the price of a product can be. In order for a price ceiling to be effective, it must be set below the natural market equilibrium. When a price ceiling is set, a shortage occurs. A price floor is the lowest legal price a commodity can be sold at. Price floors are used by the government to prevent prices from being too low.

For a price floor to be effective, it must be set above the equilibrium price. 14. a. 4P – 80 = 100 – 2P 6P = 180 P = 30$ Q = 40 The equilibrium price is 30$ and the equilibrium quantity is 40 bushels b. GRAPH c. (0. 5) x (20) x (40) = 400 $ Consumer surplus (0. 5) x (10) x (40) = 200 $ Producer surplus 400 + 200 = 600 $ Surplus Equilibrium 15. f. The difference between marginal utility and total utility The marginal utility of a good or service is the gain or loss from an increase or decrease in the consumption of that good or service.

All goods and services have their own marginal utility. The total utility is the sum of all marginal utilities for a good or service. Total utility is the aggregate sum of satisfaction or benefit that an individual gains from consuming a given amount of goods or services. The more the person consumes, the larger his or her total utility will be. g. The principle of diminishing marginal utility Diminishing marginal utility is to use or consume a good or service with the most important or efficient utility for us.

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