MICROECONOMICS
WORKBOOK
The Icfai University Press # 52, Nagarjuna Hills, Hyderabad – 500 082
WORKBOOK
MICROECONOMICS
The ICFAI Univeristy
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Preface The ICFAI University has been upgrading the study material so that it is amenable for self study by the Distance Learning Students. We are delighted to publish a Workbook for the benefit of the students preparing for the examinations. The workbook is divided into three different parts. Brief Summaries of Chapters A brief summary of all the chapters in the textbook are given here for easy recollection of the topics studied. Part I: Multiple-Choice Questions and Answers (with Explanatory Notes) Students are advised to go through the relevant textbook carefully and understand the subject thoroughly before attempting Part I. Under no circumstances the students should attempt Part I without fully grasping the subject material provided in the textbook. Frequently used Formulae Similarly the formulae used in the various topics have been given here for easy recollection while working out the problems. Part II: Problems and Solutions The students should attempt Part II only after carefully going through all the solved examples in the textbook. A few repetitive problems are provided for the students to have sufficient practice. Part III: Model Question Papers (with Suggested Answers) The Model Question Papers are included in Part III of this workbook. The students should attempt all model question papers under simulated examination environment. They should self score their answers by comparing them with the model answers. Effective from April, 2003, the examinations for all the subjects of DBF/CFA (Level-I) consist of only multiple-choice questions. Each paper consists of Part I and Part II. Part I is intended to test the conceptual understanding of the students. It contains 40 questions carrying one point each. Part II contains problems with an aggregate weightage of 60 points. Please remember that the ICFAI University examinations follow high standards that demand rigorous preparation. Students have to prepare well to meet these standards. There are no shortcuts to success. We hope that the students will find this workbook useful in preparing for the ICFAI University examinations. Work Hard. Work Smart. Work Regularly. You have every chance to succeed. All the best.
Contents
Brief Summaries of Chapters
1
Part I
8
:
Multiple-Choice Questions and Answers (with Explanatory Notes)
Frequently Used Formulae
103
Part II :
Problems and Solutions
105
Part III :
Model Question Papers (with Suggested Answers)
257
Detailed Curriculum Introduction: Scarcity and Efficiency – The Twin Themes of Economics, The Study of Economics. The Three Problems of Economic Organization, Market, Command, and Mixed Economies, The Market Mechanism, How Markets Solve the Three Economic Problems? The Invisible Hand and Perfect Competition. The Economic Role of Government. General and Partial Equilibrium. Supply and Demand Analysis: The Demand Schedule, The Demand Curve, Demand Shifts, Elasticity of Demand – Price Elasticity of Demand, Calculating Elasticities, Elasticity and Revenue, Income Elasticity of Demand, Cross Elasticity of Demand and Promotional Elasticity of Demand. Analysis of Supply – The Supply Schedule, The Supply Curve, Behind the Supply Curve, Shifts in Supply, Price Elasticity of Supply. Equilibrium of Supply and Demand – Equilibrium with Supply and Demand Curves, Effect of a Shift in Supply or Demand, Interpreting Changes in Price and Quantity, Simultaneous Shifts of Supply and Demand, Rationing by Prices. Applying Supply and Demand – Impact of a Tax on Price and Quantity, Prices Fixed by Law – Minimum Floors and Maximum Ceilings. Consumer Behavior: Choice and Utility Theory, Marginal Utility and the Law of Diminishing Marginal Utility, Equilibrium Condition – Equal Marginal Utilities per Rupee for Every Good. Why Demand Curves Slope Downward? An alternative Approach – Substitution Effect and Income Effect, Substitutes and Complements, Derivation of Market Demand, The Paradox of Value, Consumer Surplus, Applications of Consumer Surplus. The Indifference Curve Analysis – Indifference Curve, Budget Line or Budget Constraint, The Equilibrium Position of Tangency, Changes in Income and Price, Price Effect, Substitution Effect, Income Effect, Deriving the Demand Curve. Production Analysis: Basic Concepts, The Production Function, Total, Average, and Marginal Product, The Law of Diminishing Returns, Returns to Scale, Short Run and Long Run, Technological Change, The Law of Diminishing Marginal Product, Least Cost Factor Combination for a Given Output, Expansion Path. Analysis of Costs: Cost Concepts, The Link between Production and Costs, Short Run and Long Run, Economies of Scale. Market Structure-I: Perfect Competition: Supply Behavior of the Competitive Firm, Derivation of Market Supply Curve, Short Run and Long Run Equilibrium, The Long Run for a Competitive Industry. Efficiency and Equity of Competitive Markets – Evaluating the Market Mechanism, Limits to Efficiency of Competitive Markets. Effects of Taxation under Perfect Competition. Market Structure-II: Monopoly: Definition of Imperfect Competition, Varieties of Imperfect Competition – Monopoly, Oligopoly, Monopolistic Competition, Sources of Market Imperfections. Basic Concepts in Monopoly. Equilibrium Under Monopoly, Imposition of Tax under Monopoly, Measures of Monopoly Power, Comparison between Monopoly and Perfect Competition, Price Discrimination, Monopsony, Bilateral Monopoly. Market Structure-III: Monopolistic Competition: Monopolistic Competition, Product Differentiation, Equilibrium under Monopolistic Competition. Market Structure-IV: Oligopoly: Oligopoly, Non-collusive Oligopoly – Duopoly, Kinked Demand Curve, Collusive Oligopoly – Cartels, Price Leadership, Game Theory – Basic Concepts, Alternative Strategies. Incomes and the Pricing of Factors of Production: The Distribution of Income and Wealth, Nature of Factor Demands, Determination of Factor Prices by Supply and Demand, The Distribution of National Income.
Brief Summaries of Chapters Introduction Economics is a subject that studies as to how to use the scarce resources in the best way to satisfy unlimited wants. The resources (factors of production) can be broadly classified into – land, labor, capital and entrepreneurship talent. Since all the resources are scarce, some price is paid to the owners of these factors of production for the usage of resources. The prices paid to the land, labor, capital and entrepreneurship talent are rent, wages, interest and profits. The two broad branches of economics are microeconomics and macroeconomics. Microeconomics studies the behavior of micro aspects of the economy, while macroeconomics studies the behavior of the economy as a whole. Opportunity cost refers to the best opportunity lost because of choosing an alternative. For example, the opportunity cost for a farmer in producing wheat is the value of rice that would have been produced by the farmer had the land been used for production of rice.
Supply and Demand Analysis A detailed analysis of demand and supply demonstrates how a market forces solve the problems of what, how, and for whom. It illustrates how prices and quantities of various goods and services are determined. A demand schedule shows the relationship between the price and the quantity demanded of a good. Demand curves for almost all commodities slopes downward owing to inverse relationship between price and quantity demanded. The law of demand states that other things being constant, quantity demanded for a good tends to fall as price rises. In addition to price, there are other factors such as population, average family incomes, prices of related goods, and tastes that influence the demand for a good. When these factors change, the demand curve will shift. However, there are few exceptions like Giffen goods and prestigious good to law of demand. Price elasticity of demand of a good measures the responsiveness of the quantity demanded to a change in price. It is defined as the percentage change in quantity demanded resulting from one percent change in price of the good. Typically price elasticity of demand is classified into five categories: (a) Demand is perfectly elastic when the percentage change in quantity demanded infinitely exceeds the percentage change in price. (b) Demand is perfectly inelastic for a good when a change in its price, however large it may be, causes no change in quantity demanded (Ep = 0). (c) Demand for a good is said to be unit elastic when a given change in the price causes an equally proportionate change in the quantity demanded, the value of price elasticity of demand is unitary (Ep = 1). (d) Demand for a good is regarded as relatively elastic when a change in its price results in more than proportionate change in the quantity demanded (Ep > 1). When a percentage change in quantity demanded is less than the percentage change in price, then the demand for that good is relatively inelastic (Ep < 1). Slope of the demand curve is not the elasticity of demand. Price elasticity of demand for necessary goods like food and shelter tends to be low and for luxuries, the price elasticity of demand is high. The relationship between average revenue, marginal revenue and price elasticity of demand is such that MR = P (1 – 1/ep), where ep is the absolute value of price elasticity of demand. The supply schedule (or curve) shows – other things constant – the relationship between the price and quantity supplied. Quantity supplied for most goods responds positively to the price, and therefore the supply curve rises upward and to the right. Price elasticity of supply measures the percentage change of output supplied for a percentage change in price of the good. If a specific tax is imposed or subsidy is given, the burden or benefit is shared by the buyers and suppliers in the ratio of elasticity of supply and elasticity of demand respectively. Sometimes, the government imposes price ceiling or price floor for the benefit of buyer or supplier respectively.
Consumer Behavior Analysis Indifference curve is a curve that shows different combinations of two goods that yields exactly the same level of satisfaction to a given consumer. In other words, indifference curve is a line that shows all combinations of two goods between which the consumer is indifferent. The indifference curve slopes down in accordance with the law of diminishing marginal utilities. Indifference curves of an individual do not intercept each other and higher the indifference curve, higher is the utility level. When a consumer has a fixed income, he spends all of his income and is confronted with market prices of two commodities; he has to move along with a straight line known as budget line. The slope of the budget line depends on the ratio of the prices of the two commodities. Whenever there is a change in his income the budget line shifts to right or left. In order to get maximum satisfaction, a consumer moves along his budget line until he reaches the highest attainable indifference curve. The budget line, at this point, touches the indifference curve but does not intercept the indifference curve. Thus, at equilibrium, the budget line is tangent to the indifference curve. Price effect is equal to the sum of income effect and substitution effect. The substitution effect measures the effect of change in relative price of any commodity, the real income remaining the same. The income effect measures the change in the quantity demanded of a good for a change in the real income resulting from a change in the price of the good.
Production Analysis Production is a process of transformation that connects factor inputs and outputs. The process of transforming inputs into outputs can be anyone of the following three kinds: change in form (e.g. raw materials transformed to finished goods), change in space (i.e. transportation) and change in time (i.e. storage). A production function is purely a technical relation that connects factor inputs and outputs. It shows the relationship between the quantity of output and the quantities of inputs (of labor, land and capital). Total production is the total quantity of output produced during a time period. Average product is equal to total output divided by the total quantity of inputs used. The marginal product of an input (say labor) is the extra product produced or added by using 1 extra unit of input (labor) while keeping other inputs constant. Mathematically, marginal product of labor (MPL) = TP/ Δ L, where TP is the total production and L is the labor units used. The shape of the total product curve is determined by the law of diminishing returns. The law of diminishing returns, being empirical in nature, states that with given state of technology, if the quantity of one factor input is increased by equal increments, when all other inputs are held constant, the resulting increment of total product will first increase but decrease after a particular point. The law, therefore, is also known as the law of eventually diminishing returns to factors. The law of diminishing returns is applicable only in the short run since in the long run all factor inputs can be changed. The relationship between total product and marginal product is such that total product will be maximum when marginal product is zero. The average product attains its maximum point, when the marginal product equals average product. Short run is a period of production during which some inputs cannot be varied. By contrast, long run refers to a period of production that gives enough time to vary all the factor inputs to produce a good. The law of production describes the technically possible ways of increasing the level of output by changing all the factors of production, which is possible only in the long run. If output increases in the same proportion as the inputs, we say that there are constant returns to scale. If output increases more (less) than proportionately with an increase in the factor inputs, the situation is one of increasing (decreasing) returns to scale. An isoquant curve is a curve that shows different combinations of two inputs which yields a given or same level of output. An isoquant curve is also known as equal output curve or equal product curve. The isoquant, like indifference curve, slopes downward in accordance with the law of diminishing marginal product. Parallel equal product curves do not represent the same output. 2
Marginal Rate of Technical Substitution (MRTS) measures, output being constant, the rate at which labor can be substituted for capital. If the two inputs were perfect substitutes, the isoquants would be straight lines and if they had no substitutability at all, the isoquants would be rectangular in shape. An isocost line shows all possible combinations of factor inputs that can be brought with a given amount of money. The point where an equal-cost line is tangential to an equal-product curve (isoquant curve) is the output maximizing point under given cost constraints. Mathematically, output maximization given the cost constraint equation is MPL/MPK = w/r. The expansion path is the locus of all input combinations for which the marginal rate of technical substitution (MRTS) is equal to the factor price ratio. If there are two factors of production and if their prices are constant, we can get a number of parallel isocost lines. Each isocost line will be tangent to one of the isoquants. The locus of all such points of tangencies between the isoquants and the parallel isocost lines is the expansion path for the firm. The points on the expansion path are the most efficient combinations of the two inputs. Technological change refers to a change in the present techniques of production, which may involve new products, improvements or cost reductions for existing products.
Analysis of Costs Total cost can be divided into fixed cost and variable cost. Fixed costs are those costs, which in total do not vary with changes in output (e.g. rental payments). On the other hand, variable costs are those costs, which changes with the level of output (e.g. charges on fuel and electricity, payments of raw materials). Thus, the total cost function can be represented as TC = TVC + TFC. Average Cost (AC) is equal to Average Fixed Cost (AFC) plus Average Variable Cost (AVC) [AC = AFC + AVC]. Marginal cost is the additional or extra cost that the firm is required to incur for the production of one additional unit of output. The shape of the Average Fixed Cost (AFC) is rectangular hyperbola because if output increases, the average fixed cost drops down. A firm’s cost curves and product curves are like mirror images. When marginal product is minimum (maximum), marginal cost is maximum (minimum). When law of diminishing returns operates, the marginal product falls and the marginal cost rises. Over the range of rising average product, average variable cost is falling. The short run average cost curves are U-shaped. Marginal cost intercepts both the average variable cost and average cost curves at their respective minimum points. In the long run, all factors of production are variable. The long run cost curve is also known as the planning curve, since it guides the entrepreneur in his/her decision to plan for the future expansion of output. The long run total cost curve is derived from the short run total cost curves. The long run average cost is the locus of the tangency points of the short run average cost curves. And therefore, long run average cost curve is known as envelope curve. The long run marginal cost curve is derived from the short run marginal cost (SMC) curves but does not ‘envelope’ them. The LMC curve is formed from points of intersection of the SMC curves with the vertical line drawn (to the X-axis) from the points of tangency of the corresponding SAC curves and the LAC curve. The LMC must be equal to the SMC for the output at which the corresponding SAC is tangent to the LAC curve. By joining these points of intersection we get the LMC curve of the firm. Economies of scale arise from an increase in the number of plants of a firm, irrespective of whether the firm continues to produce the same product in the new plants or diversifies. Economies of scale are distinguished into real economies and pecuniary economies of scale. Real economies are those associated with a reduction in the physical quantity of inputs, raw materials, various types labor and various types of capital (fixed or circulating capital). Pecuniary economies are economies realized from paying lower prices for the factors used in the production and distribution of the product, due to bulk buying by the firm as its size increases.
3
Useful Equations to Remember are TC = TFC + TVC; MC = Δ TC/ Δ Q; AFC = TFC/Q; AVC = TVC/Q; and ATC = AFC + AVC.
Market Structure I: Perfect Competition Perfect competition is a market structure characterized by a complete absence of rivalry among the individual firms. A perfectly competitive market model is constructed assuming that there are large number of buyers and sellers in the industry/market, so that no individual buyer or seller, however large, can influence the price by changing the purchase or output; all firms in the industry produce a homogenous product; entry and exit of firms is free for the industry. In perfect competition, an individual firm is a price taker. Under perfect competition, the firm takes the market price as given and adjusts the level of output to maximize the level of profit. The objective of the competitive firm is to maximize profits. In order to maximize profit, the firm adjusts its output level at which price equals the marginal cost of production, that is, P = MC. Diagrammatically, the firm reaches equilibrium, when the upward rising MC curve intercepts its horizontal demand curve. In perfect competition, the condition for the short run equilibrium of a firm is P = MR = AR = MC. To determine a firm’s shutdown point in the short run, variable costs must be taken into consideration. When market price equals minimum possible average variable cost, losses at the output for which price equals marginal cost are the same as fixed cost. If price falls below minimum possible average variable cost, the firm shuts down because operating losses would then exceed fixed cost. In a perfect competition, no firm will earn abnormal profits. A firm in the long run operates at a point where its average cost is minimum. Average cost will be minimum when it is equal to marginal cost, MC = AC. Since in the long run no firm is earning abnormal profits, the revenue must be equal to its cost. In other words, Total Revenue = Total Cost (or) price is equal to cost. Thus, the long run zero-economic-profit condition requires price = MC = Minimum long run AC. The short run supply curve of the industry is obtained from the horizontal summation of the short run supply curves of the individual firms. The short run supply curve of the firm is again the upward rising portion of the marginal cost curve which lies above the AVC curve. However, in the long run, the MC curve is not the supply curve of the firm because in the long run, only one point of the MC curve can be the equilibrium point where the firm earns only normal profit. If the existing firms earn excess profits new firms enter into the industry and excess profit will soon be eliminated. The supply curve of a firm in the long run depends on the cost curves. If the industry is a constant cost industry, the long run supply curve will be a horizontal straight line. If the industry is an increasing (decreasing) cost industry, the long run supply curve will be upward rising (downward sloping). Allocative efficiency, Pareto efficiency or simply efficiency is a condition achieved when resources are allocated in ways allowing the maximum possible net benefit from their use. An allocation is known as Pareto efficiency or allocative efficiency if the only way to make one individual better off is to make another worse off. Under ideal conditions, an economy attains allocative efficiency when all the firms operating in the industry are perfect competitors and there are no externalities.
Market Structure II: Monopoly In today’s world, most market structures fall somewhere between perfect competition and pure monopoly. A market is imperfectly competitive if the actions of one or more buyers and sellers have a perceptible influence on price. This broad definition of imperfect competition encompasses markets of many different types, which can be distinguished by further classification. Product and input markets are frequently classified according to the number of sellers and buyers, which they contain. Product markets can be further classified with regard to differentiation. Traditionally markets are classified on the basis of the number of sellers and buyers and the nature of the product being sold in the market. Important kinds of market structures are: (a) monopoly, where there is only one seller producing and selling a product which has no close substitutes; 4
(b) monopolistic competition, where many sellers compete to sell a differentiated product in a market into which the entry of new sellers is possible; (c) oligopoly, where there are only few sellers so that there is interdependence among the sellers and the sellers are aware of it. Each firm takes into account the rivals’ reaction. The products produced may be homogenous (pure oligopoly) or differentiated products (differentiated oligopoly); and (d) perfect competition, where a large number of firms sell a homogenous product. In the first three markets, the demand curve of each firm slopes downward. In monopoly market, there is only one seller producing and selling a product that has no close substitutes. The monopolist firm is the industry and the demand of the monopolist coincides with the industry demand. The monopolist can either change price or quantity. The price elasticity of demand faced by the monopolist is finite. Finally, since there is only one firm, entry is restricted or remote. The main causes that lead to monopoly are: a.
ownership of strategic raw materials or exclusive knowledge of production techniques with one firm
b.
patent rights for a product or production process
c.
economies of scale, or decreasing average costs
d.
government policies and
e.
high entry costs.
A monopolist attains maximum profit when it meets two conditions (a) MR = MC and (b) slope of the marginal revenue should be less than the slope of the marginal cost curve. Under conditions of perfect competition the supply curve of a firm can be determined from the MC curve in the short run. The supply curve is the portion of the MC curve that lies above the AVC curve. The supply curve is upward rising on the assumption that the firm maximizes profits. There is one-to-one correspondence between price and quantity supplied in perfect competition. However, under monopoly this unique relationship between price and quantity supplied is absent and is therefore, the supply curve of a monopolist is indeterminable. When a lump sum tax is imposed, in case of a monopolist we need not distinguish between the short run and the long run as under perfect competition. This is because the monopolist generally realizes some excess profits both in the short run and the long run. The effects of imposition of a profit or specific sales tax are broadly the same with those in a perfectly competitive market. A monopolist can charge different prices for the same good known as price discrimination. A firm (monopolist) can exercise price discrimination only when he has the ability to differentiate between consumers and consumers are unable to resell the product. There are many forms of price discrimination, but the standard method of classification identifies three types or degrees of discrimination – first, second and third. First-degree price discrimination involves charging the maximum price possible for each unit of output. Second-degree price discrimination is an imperfect form of price discrimination. Instead of setting different prices for each unit, it involves pricing based on the quantities of output purchased by individual consumers. Third-degree discrimination is the most commonly used form of price discrimination. It involves separating consumers or markets in terms of their price elasticity of demand. Monopsony is a form of market, where there exists only one buyer and a large number of sellers, other conditions remaining the same as under monopoly. Bilateral monopoly is a market form where one buyer faces one seller. When bilateral monopoly exists, the single buyer and the single seller individually possesses some power to fix the price at which the transaction takes place between them.
Market Structure III: Monopolistic Competition Product differentiation is an important aspect of monopolistic competition. Under monopolistic competition, unlike perfect competition, product is not homogenous. The demand curve for a monopolistically competitive firm is downward sloping because of product differentiation. The product differentiation may be in the form of features, quality or quantity. But it is quite elastic since there are close substitutes for the product of a firm. The 5
marginal revenue for any quantity will be less than the corresponding price because the demand curve is downward sloping. The basic principle of maximizing profit is same for a firm under monopolistic competition. The firm maximizes profit by selecting the output for which marginal revenue equals marginal cost. It then chooses the price that allows it to sell the profit-maximizing output. In the long run, since there is free entry and exit under monopolistic competition, the firms in the industry get only normal profits.
Market Structure IV: Oligopoly Oligopoly is a market structure, in which a few sellers dominate the sales of a product and the entry of new sellers is difficult or impossible. The product can be either differentiated or standardized. In oligopolistic markets, at least some firms can influence price by virtue of their large shares of total output produced. The sellers are aware of their interdependence and a change in one firm’s price or output causes a reaction by competing firms. The response an individual seller expects from its rival is a crucial determinant of its choices. Due to interdependence there is an uncertainty about the reaction patterns of rivals. A wide variety of reaction patterns become possible and accordingly a large variety of models of priceoutput determination may be constructed. The actual solution is, therefore, indeterminate unless we specify the particular reaction pattern of the rivals. The concept of kinked demand curve was originally used to explain why, in an oligopoly market, the price, which has been determined on the basis of average cost principle, would tend to remain rigid. The demand curve faced by an individual seller has a kink at the initial pricequantity combination. The kinked shape of the demand curve is based on the assumption that the rivals react differently to a rise in price or to a fall in price. It is also assumed that an individual seller increases prices for its goods so that the sales of the seller increasing the price will be reduced considerably. This means that the demand curve is relatively elastic for a rise in price. On the other hand, it is assumed that when a single seller reduces the price, other sellers will also reduce the price so that the seller who reduces the price first cannot gain much for a fall in the price. The kinked demand curve is, therefore, based on the assumption that rise in price by one seller will not be followed by a rise in the price of the other sellers while a fall in the price of one seller will be followed by the corresponding fall in the price by others. One of the important features of an oligopolistic market is uncertainty arising from oligopolistic interdependence. To avoid this uncertainty, the oligopolists may enter into collusive agreements. Cartels refer to direct agreements among competing oligopolists with the aim of reducing uncertainty. The aim of the cartel is the maximization of joint profits. Economic life is characterized by many situations of strategic interaction among firms, individuals, governments, or others. Game theory analyzes the strategic choices made by competitors in a conflict situation that jointly affect each participant.
Pricing Factors of Production In the traditional analysis it is assumed that there are four factors of production – land, labor, capital and entrepreneurship. The prices of these factors are rent, wages, interest and profit, respectively. According to the traditional analysis, different theories are required for the determination of different factor prices because different factors of production have different distinguished characteristics. Thus, we have theories of rent, interest, wages and profit. These theories are distinct from the theory of product pricing. However, according to the modern economists, the mechanism of determination of factor prices is not fundamentally different from the mechanism of determination of product prices. Just like product prices, factor prices are also determined by the forces of demand and supply. The demand for any factor of production is determined by the principle of profit maximization. The factor of production is determined by the firm and by summing up the demands of all the firms we get the market demand for any factor of production. Similarly, the supply of any factor of production comes from the owners of that factor. By summing over the supplies forthcoming from all the factors’ owners we get the market supply curve of that factor of production. At the intersection point of the market demand 6
and the market supply curves the price of that factor of production is determined. This, however, happens when it is assumed that perfect competition prevails in all the goods and factor markets. The demand for a variable or factor depends on the price of the input, the marginal physical product for the factor, the price of the good produced by the factor, the amount of other factors that are combined with the factor, and the technology progress. The most important variable factors are raw materials, intermediate goods and labor. The first two types are goods and hence their market supply is derived on the same principles as the supply of any good. The supply of labor, however, requires a different approach. The main determinants of the market supply of labor are (assuming that labor is a homogenous factor) – the price of labor, the tastes of the consumers, which define their trade-off between leisure and work, the size of the population, the labor force participation rate and the occupation, education and geographical distribution of the labor force. Although there is general agreement that the supply curve of labor by an individual exhibits the backward-bending pattern, economists disagree as to the shape of the aggregate supply of labor. However, in the long run the supply curve must have a positive slope, since young people will be attracted to the markets where the wages are high and also older workers may undertake retraining and change jobs if the wage incentive is strong enough. If perfect competition prevails in the goods and the factor markets, each firm takes the market price of the factor as given and determines the quantity demanded at that price from the principle of profit maximization.
7
Part I: Multiple-Choice Questions Introduction 1.
2.
3.
4.
5.
8
The difference between positive economics and normative economics is a.
Positive economics describes the positive effects of economic decisions while normative economics describes both positive and negative of economic decisions
b.
Positive economics describes the facts of an economy while normative economics involves value judgments
c.
Normative economics describes the facts of an economy while positive economics involves value judgments
d.
Positive economics describes the demand-supply theories of individual markets and firms while normative economics describes the total world economy as a whole
e.
Normative economics describes the demand-supply theories of individual markets and firms while positive economics describes the total world economy as a whole.
The difference in capital Indian economy before and after 1991 is a.
Before 1991 conceptional was a command economy and now a laissez faire economy
b.
Before 1991 it was a laissez faire economy and now a mixed economy
c.
Before 1991 it was a command economy and now a mixed economy
d.
Before 1991 it was a mixed economy and now a laissez faire economy
e.
Before 1991 it was a mixed economy with more command economic features and now it is a mixed economy with more laissez faire features.
The difference between microeconomics and macroeconomics is a.
Microeconomics deals with the economies of individual macroeconomics describes the functioning of the world economy
countries
b.
Microeconomics is concerned with the behavior of individual entities like markets, firms, etc. while macroeconomics, with the overall performance of the economy
c.
Macroeconomics is concerned with the behavior of individual entities like markets, firms, etc. While microeconomics with the overall performance of the economy
d.
Microeconomics is classical, pre-Keynesian economics while macroeconomics is modern and post-Keynesian
e.
Microeconomics is positive economics while macroeconomics is normative.
Economic goods are goods which a.
Obey the laws of economics
b.
Are scarce and limited in supply
c.
Are tangible
d.
Are intangible
e.
Are exceptional to the laws of economics.
Which of the following comes under the broad definition for factors of production? a.
Technology.
b.
Obsolate machinery.
c.
Innovations.
d.
Capital.
e.
Patent rights.
while
Part I
6. Econometrics is a. A modern name for economics b. A specialized branch of economics which applies the tools of statistics to the economic problems c. A branch of economics which combines macroeconomic principles with welfare economics d. A branch of economics which combines microeconomic principles with international trade e. A specialized branch of economics which describes neo-classical microeconomics. 7. In a modern free market, (most of them are tending towards mixed economy) the economic role of the government is to a. Leave the market and the market forces as they are b. Frequently interfere with the market c. Ensure efficiency and correct unfair distribution of income and resources d. Keep all the factors of production under its control e. None of the above. 8. The following is/are not example(s) of externality a. Pollution emanating from a factory chimney which is hazardous to the health of people living nearby b. Construction of roads for facilitating transportation to a factory c. Traffic signals put up by the government d. Both (a) and (b) above e. Both (b) and (c) above. 9. Which of the following is not an example of public good? a. Possession of atom bomb by a country. b. A highway constructed linking two states, which is tool-free c. Plantation of trees on both sides of the road d. Railway services run by the government e. None of the above. 10. In a market economy which of the following is not the economic function of the government? a. Promotion of equity by using taxes and expenditure programs and redistribute the income to particular groups. b. Ensuring macroeconomic stability and growth through fiscal and monetary policies. c. Increasing the efficiency by promoting perfect competition and curbing negative externalities. d. Deciding on the prices of various commodities, in accordance with their cost, to keep inflation under control. e. None of the above, since in a market economy, the government does not interfere. 11. Which of the following is true in the context of Indian economy? a. It lies on the production-possibility frontier. b. The current consumption in India is less than the capital investment. c. The markets for all commodities, are efficient. d. Government has a very little control over the markets. e. In the mass and goods transportation industry, the Indian railways has a near monopoly.
9
Microeconomics
12. Partial equilibrium analysis is concerned with the analysis of the a.
Effect of changes in an individual market holding other things equal
b.
Equilibrium state for the economy as a whole in which the markets for all goods and services are simultaneously in equilibrium
c.
Effect of change in the equilibrium point when the demand is kept constant and supply is changed
d.
Effect of change in the equilibrium point when the supply is kept constant and demand is changed
e.
Effect of change in equilibrium when demand and supply are kept constant while all other things are varying.
13. General equilibrium analysis is concerned with the analysis of the a.
Effect of changes in an individual market holding other things equal
b.
Equilibrium state for the economy as a whole in which the markets for all goods and services are simultaneously in equilibrium
c.
Effect of change in the equilibrium point when the demand is kept constant and supply is changed
d.
Effect of change in the equilibrium point when the supply is kept constant and demand is changed
e.
Effect of change in equilibrium when demand and supply are kept constant while all other things are varying.
14. Which of the following is true at general equilibrium state of markets? a.
The marginal utility of each good to the consumers is equal to the price of each good.
b.
The marginal utility of each good to the consumers is equal to the average cost of each good to the society.
c.
The marginal revenue of each good to the producers is equal to the marginal cost of each good to the society.
d.
The marginal utility of each good to the consumers is equal to the marginal cost of each good to the society.
e.
The marginal utility of each good to the producers is equal to the average cost of each good.
15. Which of the following is false with reference to opportunity cost? a.
It is the value of the next best use for an economic good.
b.
It is the value of a sacrificed alternative.
c.
It is useful in decision-making.
d.
It does not take into consideration, the cost of time.
e.
It is useful for valuing non-marketed goods.
Supply and Demand Analysis 16. Which of the following statements is true?
10
a.
When the supply increases, both the price and the quantity will increase.
b.
When the supply increases the supply curve shifts towards the left.
c.
A shift in the supply curve towards the right results in a fall in the price.
d.
A decrease in the quantity supplied results in shifting of the supply curve towards the left.
e.
An increase in the quantity supplied leads to a fall in the price resulting in the shifting of the supply curve towards the left.
Part I
17. Which of the following is/are the outcome(s) of sinking of a vessel transporting crude oil to a country that is completely dependent on imports for oil? a.
A fall in the quantity supplied of crude oil in the country.
b.
A rise in the prices of crude oil.
c.
Shifting of supply curve towards right.
d.
Both (a) and (b) above.
e.
All of (a), (b) and (c) above.
18. Which of the following is/are true? a.
If the demand for good B increases when the price of good A rises, good A and good B are said to be complementary goods.
b.
With a rise in the income, if the quantity demanded of good C falls then good C is an inferior good.
c.
If a rise in the price of good D causes a corresponding rise in the price of good E then good D and good E are substitutes.
d.
Both (a) and (b) above.
e.
All of (a), (b) and (c) above.
19. Which of the following is a movement along the supply schedule? a.
A fall in the output of rice because of a rise in the prices of pesticides and fertilizers.
b.
An increase in supply of air travel because of the liberalization of the aviation sector.
c.
A rise in the price of sugar leading to an increased production of sugarcane.
d.
A rise in the wages for workers in the software industry and leading to an increase in the supply of workers.
e.
None of the above.
20. Which of the following statement(s) is/are false? a.
If the demand falls, the price will fall.
b.
As the price rises the quantity demanded will fall.
c.
If demand rises, the demand schedule shifts to the left.
d.
Both (a) and (b) above.
e.
Both (a) and (c) above.
21. A decrease in price could be because of a a.
Fall in demand or a rise in supply
b.
Rise in demand or a rise in supply
c.
Fall in demand or a fall in supply
d.
Rise in demand or a fall in supply
e.
None of the above.
22. Which of the following results in a shifting of the demand curve? a.
An increase in the tax on cigarettes leading to their fall in demand.
b.
Slashing of ad rates by a television channel resulting in a rise in the number of ads.
c.
Fall in the sales of Diwali crackers due to heavy rains and floods before Diwali.
d.
A rise in the electricity charges leading to a lesser consumption.
e.
All of the above.
11
Microeconomics
23. Which of the following statement(s) is/are false? a.
When the supply schedule shifts towards the left, the equilibrium price goes up.
b.
When the demand curve shifts towards the right, equilibrium price goes down.
c.
The difference between demand and supply below the equilibrium point denotes shortage.
d.
The difference between demand and supply above the equilibrium point denotes surplus.
e.
Both (c) and (d) above.
24. Which of the following statement(s) is/are true? a.
If two demand curves pass through the same point the flatter one is less elastic.
b.
If two supply curves pass through the same point the flatter one is more elastic.
c.
When the price of a good is increased, the revenue increases if the demand is unit elastic
d.
Both (a) and (b) above.
e.
All of (a), (b) and (c) above.
25. Which of the following statements is false? a.
An increase in tax will affect the customers more than the producers if the supply schedule is inelastic.
b.
An increase in tax will affect the customers more than the producers if the demand schedule is inelastic.
c.
An increase in tax will affect the customers less than the producers if the supply schedule is inelastic.
d.
An increase in tax will affect the customers less than the producers if the demand schedule is inelastic.
e.
Both (a) and (d) above.
26. With the passage of time, for most of the goods, a.
The supply curve becomes elastic and demand curve inelastic
b.
The supply curve becomes inelastic and demand curve elastic
c.
Both the supply and demand curves become elastic
d.
Both the supply and demand curves become inelastic
e.
Time does not have any effect on the elasticity of goods.
27. Which of the following has the lowest elasticity of supply? a. Luxury items. b. Necessities. c. Perishable goods. d. Items that have the least budgetary allocation. e. None of the above. 28. Which of the following statement(s) is/are true? a. When price is increased, the revenue increases if demand is price-elastic. b. When price is increased, the revenue increases if demand is price-inelastic. c. When price is increased/decreased, the revenue increases/decreases respectively if demand is unit-elastic. d. Both (a) and (c) above. e. Both (b) and (c) above. 12
Part I
29. Which of the following is/are likely to happen if price for an item is fixed by the government? a. A shortage of the item if its equilibrium price is lower than the price fixed by the government. b. A surplus of the item if its equilibrium price is lower than the price fixed by the government. c. A shortage of the item if its equilibrium price is higher than the price fixed by the government. d. A surplus of the item if its equilibrium price is higher than the price fixed by the government. e. Both (b) and (c) above. 30. Which of the following statements is true? a. Elasticity of demand is constant throughout the demand curve. b. Elasticity of demand increases as one goes down the demand curve. c. Elasticity of demand decreases as one goes down the demand curve. d. The slope of the demand curve equals its elasticity. e. The price and the total revenue move in the same direction when demand is elastic. 31. Which of the following statement(s) is/are true? a. When there is a change in price the supply curve tends to be elastic in the long run, for most of the commodities. b. If substitutes are not easily available in the production of a good its elasticity of supply is high. c. The flatter one of the two curves is more elastic, even if the two curves are drawn on two different scales. d. Both (a) and (c) above. e. All of (a), (b) and (c) above. 32. Which of the following is/are true? a. Income elasticity is the ratio of percentage change in the price of a good to the percentage change in the income. b. Goods are independent if a price change for one has no effect on the demand for the other. c. The reciprocal of income elasticity is the percentage change in the income to the percentage change in the quantity demanded of a good. d. Both (a) and (b) above. e. Both (b) and (c) above. 33. A demand curve shows a. The quantity demanded of a good at various levels of income of the consumer b. The quantity demanded of a good at various levels of price of the good c. The amount of money spent by a consumer on the good at various levels of price d. The quantity supplied of a good at various levels of price of the good e. None of the above. 34. Increase in the population of India will a. Increase the supply of housing b. Increase the quantity supplied of housing c. Increase the demand for housing d. Increase the quantity demanded of housing e. May increase either the demand for housing or the quantity demanded of housing.
13
Microeconomics
35. You can buy any amount of rice at Rs.10 per kg. in the local market. The supply curve for rice is a. Vertical b. Downward sloping c. Horizontal d. Upward sloping e.
Data insufficient.
36. Which of the following is not true? a.
The law of demand says, ceteris paribus, the lower the price of a good, the greater the quantity demanded.
b.
The law of supply says, ceteris paribus, the higher the price of a good, the greater the quantity supplied.
c.
The supply curve for a highly perishable good is horizontal.
d.
The demand curve for a life saving drug is almost vertical.
e.
A fall in the per capita income of the people will reduce the price of a luxury good, other things remaining the same.
37. You have planned to spend Rs.100 for a month on browsing the Internet. Your demand for Net browsing can be said to be a.
Perfectly elastic
b.
Perfectly inelastic
c.
Relatively elastic
d.
Relatively inelastic
e.
Unit-elastic.
38. Internet cafes in the twin cities have faced a slump in revenues because of the charges fixed by the Association of Internet Cafes for browsing the Net at Rs.60 per hour. Before this action by the association the charges were as low as Rs.30 per hour. The demand for Net browsing is a.
Perfectly price elastic
b.
Perfectly price inelastic
c.
Relatively price elastic
d.
Relatively price inelastic
e.
Unit-elastic.
39. For complementary goods, the cross elasticity of demand will be a.
Zero
b.
Infinity
c.
Positive, but less than infinity
d.
Negative
e.
None of the above.
40. When the income elasticity of demand for a good is negative, the good is
14
a.
Normal good
b.
Luxury good
c.
Inferior good
d.
Giffen good
e.
Necessity.
Part I
41. Which of the following is not true? a.
If the demand for wheat is highly inelastic, a bumper crop may reduce farm incomes.
b.
On a straight line demand curve, total revenue is maximized at the mid point of the demand curve.
c.
Supply and demand curves tend to be more elastic in the long run.
d.
A producer can always increase his total revenue by increasing the price when the demand is elastic.
e.
In general, elasticity of demand for necessities is less than luxury goods.
42. The price elasticity of demand for a product is infinity. If the firm increases price of the product by 10%, total revenue of the firm will a.
Not change
b.
Increase to infinity
c.
Fall to zero
d.
Decrease by more than 10%
e.
Decrease by less than 10%.
43. If proportion of income spent on a good is significant, price elasticity of demand for the good tends to be a.
Perfectly elastic
b.
Elastic
c.
Unitary elastic
d.
Inelastic
e.
Perfectly inelastic.
44. If consumption of a product remains unaffected by the change in price of the product, demand for the product is a.
Perfectly inelastic
b.
Kinked
c.
Perfectly elastic
d.
Unitary elastic
e.
Inelastic.
45. In which of the following cases will total revenue increase? a.
When demand is elastic and price rises.
b.
When demand is elastic and price decreases.
c.
When demand is inelastic and price decreases.
d.
When demand is perfectly elastic and price decreases.
e.
When demand is unitary elastic and price decreases.
46. ‘Market period’ refers to a. The period in which the producers of a good cannot change the quantity produced in response to a change in price b. The period in which the producers of a good can change the quantity produced in response to a change in price c. The time it takes for the market to attain equilibrium state d. The time it takes for the consumers to respond to change in the price e. The time it takes to develop, produce and market a good. 15
Microeconomics
47. If the supply of a commodity is perfectly elastic, an increase in demand will result in a. Decrease in both price and quantity at equilibrium b. Increase in both price and quantity at equilibrium c. Increase in equilibrium quantity, equilibrium price remaining constant d. Increase in equilibrium price, equilibrium quantity remaining constant e. Increase in equilibrium quantity and decrease in equilibrium price. 48. Which of the following statements is/are true? a. If the cross elasticity of demand between two commodities is negative, the commodities are substitutes to each other. b. The slope of the demand curve is a measure of elasticity of demand. c. If the income elasticity of demand is greater than 1, the commodity is an inferior good. d. If the quantity of two commodities purchased both increase or decrease when the price of one changes, the cross elasticity of demand is zero. e. Both (a) and (b) above. 49. If the total expenditure of the consumer increases as a result of an increase in the price of the commodity, the elasticity of demand for the commodity is a. Infinity b. Greater than one c. Less than one d. Equal to one e. None of the above. 50. An increase in supply will lower price unless a. Supply is perfectly price inelastic b. Demand is perfectly price elastic c.
It is followed by a reduction in quantity demanded
d. Demand is highly price inelastic e. Both demand and supply are highly price inelastic. 51. If the total expenditure (i.e., total revenue) remains the same even after a change in price, elasticity of demand is a. Greater than unity b. Less than unity c. Equal to zero d. Equal to unity e. Equal to infinity. 52. It can be said that the substitution-effect is the increase in the demand for a good induced by a. A change in the absolute level of all prices b. A change in tastes due to advertising for a substitute commodity c. A change in real income due to a fall in the price of one item in the consumer’s budget d. The discovery of new substitutes for the given good e. A change in relative prices of goods. 53. If both income and substitution-effects are strong, this region of the demand curve must be a. Relatively price elastic b. Relatively price inelastic c. Unit-elastic d. Perfectly inelastic e. Perfectly elastic. 16
Part I
54. If the market demand curve shifts sharply to the left while market supply curve moves to the right, which of the following is true? a. Equilibrium quantity will increase, but equilibrium price will decrease. b. Equilibrium price will increase, but equilibrium quantity will decrease. c. Equilibrium price and equilibrium quantity will decrease. d. Equilibrium price will decrease but equilibrium quantity may or may not change. e. Equilibrium quantity will decrease but equilibrium price may or may not change. 55. Which of the following is true with reference to a straight-line demand curve? a. The slope of the curve is equal to its elasticity. b. The elasticity increases as one moves down the curve. c. The elasticity is zero at the mid-point of the curve. d. At any point on the curve, the elasticity is the ratio of the length of the lower portion to the length of the upper portion. e. The elasticity is less than 1 in the upper half of the curve. 56. Which of the following factors will not result in the shifting of supply curve for software packages? a.
Increase in the number of software development firms.
b.
Increase in the wages of computer professionals.
c.
Government tariffs on software exports and imports.
d.
Fall in the prices of software packages.
e.
All of the above result in the shifting of the curve.
57. Consider the following statements regarding elasticity of demand i. If two demand curves intersect at a point, the elasticity of demand is the same for both the curves at the point of intersection ii. If the elasticity of demand is infinity, the demand curve is a vertical straight line iii. The elasticity of demand at the mid-point on the demand curve is equal to one Which of the above statement(s) is/are true? a. Only (i) above b. Only (ii) above c. Only (iii) above d. Both (i) and (ii) of the above e. Both (i) and (iii) of the above. 58. Which of the following statements is true? a. If 10% decrease in the inputs leads to 10% increase in the output, increasing returns to scale are said to be in operation. b. If the output remains constant in spite of 10% reduction in the quantities of inputs, constant returns to scale are said to be in operation. c. The elasticity of substitution between two factors, labor and capital, in Cobb-Douglas production function is equal to unity. d. Isoquants are concave to the origin. e. The slope of the Iso-cost line increases as we move from Y-axis to X-axis. 59. If a good has close substitutes, a. Its demand curve will be relatively elastic b. Its demand curve will be relatively inelastic c. Its demand curve could be unit-elastic d. Either (a) or (c) e.
Either (b) or (c).
17
Microeconomics
60. Which of the following best describes the substitution effect? a.
When the price of a good rises, consumers stop consuming the good.
b.
When the price of a good rises, consumers tend to substitute it with a relatively expensive good.
c.
When the price of a good rises, consumers tend to substitute it with a relatively inexpensive good.
d.
When the price of a good falls, consumers tend to substitute it with a more expensive item in order to fulfil, their esteem needs.
e.
None of the above.
61. Which of the following best describes the income effect? a.
It is another name for substitution effect.
b.
It is the change in the quantity demanded of a good for a change in the income, keeping other things same.
c.
It is the change in the quantity demanded of a substitute good, for a change in the price of one good, keeping the income constant.
d.
It is the change in the quantity demanded of a good for a change in the real income resulting from a change in the price of the good.
e.
It is the change in the price of a good because of a rise or fall in the real income of a consumer.
62. At a local supermarket, the price of Simla apples varies every week. Mr. Mishra, who is a regular buyer of apples, spends exactly Rs.50 on apples every week, irrespective of the price. For Mishra, the price elasticity of demand for apples is a.
Perfectly elastic
b.
Perfectly inelastic
c.
Unit elastic
d.
Relatively elastic
e.
Relatively inelastic.
63. When the Government increases tax on cigarettes, cigarette manufacturers pass much of the additional tax on to consumers in the form of higher prices. This implies that the demand for cigarettes is a.
Relatively less elastic than supply
b.
Relatively more elastic than supply
c.
As elastic as the supply
d.
Perfectly inelastic
e.
Perfectly elastic.
64. Sugar is an important ingredient in the preparation of ice cream. Which of the following is/are true, ceteris paribus, if price of sugar falls? i. Demand for ice cream will decrease. ii. Supply of ice cream will increase. iii. Price of ice cream will increase. iv. Price of ice cream will decrease. a. Only (i) above b. Only (ii) above c. Only (iii) above d. Both (i) and (iv) above e. Both (ii) and (iv) above.
18
Part I
65. The demand for which of the following goods best illustrates derived demand? a. Rice b. Motor car c. Machinery d. Book e. Pen. 66. The cross price elasticity of demand for the products Rolex and Bollix is 10. It implies that Rolex and Bollix are a.
Substitutes
b.
Complements
c.
Independent
d.
Inferior goods
e.
Luxury goods.
67. Dr. Rahul Labs produces two life saving drugs, Amox and Bax. There are several close substitutes for Amox, but Bax has no substitutes. If Dr. Rahul Labs wants to increase its sales revenue, then it will normally a. Increase the price of Amox, but not Bax b. Lower the price of Amox and increase the price of Bax c. Increase the price of Amox and lower the price of Bax d. Lower the prices of both Amax and Bax e. Increase the prices of both Amax and Bax. 68. Which of the following statements is true of a Giffen good? a.
The good is a normal good and the income effect of the good equals substitution effect.
b.
The substitution effect will be negative.
c.
The good is a normal good and the substitution effect outweighs the income effect.
d.
The good is an inferior good and the substitution effect outweighs the income effect.
e.
None of the above.
69. Which of the following statements is/are false? i. Elasticity of demand is graphically represented by the slope of the demand curve. ii. Elasticity of demand increases as one goes down along the demand curve. iii. If the demand is inelastic, a decrease in price increases the total revenue of the firm. iv. Elasticity of demand is measured by dividing change in quantity demanded with the change in the price of the good. a. Both (i) and (ii) above b. Both (ii) and (iii) above c. (i), (ii) and (iii) above d. (i), (ii) and (iv) above e. All (i), (ii), (iii) and (iv) above. 70. The demand for most products varies directly with the change in consumer income. Such products are known as a. Normal goods b. Prestigious goods c. Complementary goods d. Inferior goods e. Substitute goods.
19
Microeconomics
71. Which of the following does not cause a shift in the demand curve? a. Change in the price of the good. b. Change in the income of the buyers. c. Change in the personal preferences. d. Change in the price of the related goods. e. Change in the consumer patterns. 72. If the purchase of a good can be postponed, it implies that the a.
Demand for the good is perfectly inelastic
b.
Demand for the good is relatively inelastic
c.
Demand for the good is relatively elastic
d.
Demand for the good is unitary elastic
e.
Demand curve for the good is vertical.
73. Which of the following is not true? a.
If the demand for wheat is highly inelastic, bumper crop may reduce farm incomes.
b.
Supply and demand curves tend to be more elastic in the long run.
c.
In general, elasticity of demand for necessities is less than luxury goods.
d.
A producer can always increase his total revenue by increasing the price when the demand is elastic.
e.
A Giffen good is always an inferior good.
74. The demand for which of the following goods best illustrates derived demand? a.
Chocolate.
b.
Motorbike.
c.
Showroom.
d.
Refrigerator.
e.
Color T.V.
75. The consumers bear more tax burden than the producer, when the a.
Cost of producing the good is too high
b.
Supply remains constant irrespective of the price of the good
c.
Good is a necessary good
d.
Total utility is greater than total cost
e.
Price elasticity of supply is greater than the price elasticity of demand.
76. Which of the following results in surplus in a market?
20
i.
If a local rent control ordinance establishes a ceiling of Rs.3,500 per room, which is much higher than the equilibrium rent.
ii.
If the government announces a minimum support price of Rs.9 which is more than the equilibrium price of wheat.
iii.
When a minimum wage is enforced which is below the prevailing market equilibrium wage of Rs.100 per day.
a.
Only (i) above.
b.
Only (ii) above.
c.
Both (i) and (ii) above.
d.
Both (i) and (iii) above.
e.
Both (ii) and (iii) above.
Part I
77. If the demand for electric cars remains the same, ceteris paribus, even after an increase in the price of diesel cars, electric cars and diesel cars are considered to be a.
Substitute goods
b.
Complementary goods
c.
Independent goods
d.
Luxury goods
e.
Inferior goods.
78. Market research conducted by Swati Electronics Ltd. indicated that the prices of consumer electronic goods have dropped, while consumer spending on these electronic goods has increased. It means the demand for consumer electronic goods is a.
Perfectly inelastic
b.
Relatively inelastic
c.
Relatively elastic
d.
Unitary elastic
e.
Perfectly elastic.
79. In which of the following demand functions are the goods X and Y substitutes? i.
Qx = 1000 – 2.5Px + 5Py
ii.
Qx = 250 – 0.5Px – 0.5Py
iii.
Qx = 150 – 3Px – Py
iv.
Qx = 300 – Px – Py
a.
Only (i) above
b.
Only (iv) above
c.
Both (i) and (iv) above
d.
Both (ii) and (iii) above
e.
(ii), (iii) and (iv) above.
80. Which of the following statements is true with regard to price elasticity of demand? a.
Elasticity remains constant throughout the demand curve.
b.
Elasticity increases with increase in quantity demanded.
c.
Elasticity increases as the price decreases.
d.
Elasticity is equal to the slope of the demand curve.
e.
Higher the elasticity, more responsive the demand is for a given change in price.
81. When the Government increases tax on cigarettes, cigarette manufacturers pass entire tax on to consumers in the form of higher prices. This implies that the demand for cigarettes is a.
Relatively less elastic than supply
b.
Relatively more elastic than supply
c.
As elastic as the supply
d.
Perfectly inelastic
e.
Perfectly elastic.
21
Microeconomics
82. For Ramesh, both Coke and Pepsi are perfect substitutes. The price of each bottle of Coke and Pepsi is Rs.10. Which of the following is true, if Pepsi increases the price to Rs.20 per bottle? a.
Ramesh will buy twice as much Pepsi as Coke.
b.
Ramesh will buy twice as much Coke as Pepsi.
c.
Ramesh will buy equal amounts of Pepsi and Coke.
d.
Ramesh will buy only Coke.
e.
No conclusion can be drawn unless utility function of Ramesh is known.
Consumer Behavior Analysis 83. Which of the following explain(s) the downward slope of the demand curve? a.
Equi-marginal principle.
b.
Substitution and income effects.
c.
The law of diminishing marginal utility.
d.
Both (a) and (c) above.
e.
All of (a), (b) and (c) above.
84. Which of the following statements is/are true? a.
For an addicted user the demand curve of a good is elastic.
b.
For an occasional user the demand curve of a demerit good is inelastic.
c.
For an addicted user the elasticity of demand is likely to be less than unity.
d.
When the government increases the tax on items such as alcohol and cigarettes the revenue is likely to fall because of the fall in consumption.
e.
Both (b) and (d) above.
85. If the sale of an addictive substance is prohibited from wide public use, the following is/are likely to happen a.
The supply curve will move downward
b.
An illegal market still exists where the illegal price will be more than the legal price
c.
Its legal price will be more than the illegal price
d.
The occasional users may switchover to substitutes
e.
Both (b) and (d) above.
86. Consumer surplus is defined as
22
a.
The difference between the amount a consumer is willing to pay and the amount actually paid
b.
The difference between the legal and illegal prices of a prohibited demerit good
c.
The difference between the intrinsic worth of a good and its market price
d.
The positive difference between the cost of a good and its market price
e.
None of the above.
Part I
87. Which of the following statements is false in relation to consumer equilibrium? a.
A consumer gets maximum utility at a point where the budget line is tangential to the indifference curve.
b.
The substitution ratio gives the slope of the indifference curve.
c.
Other things remaining the same, a change in the price of one good results in a new budget line which will not be parallel to the previous one.
d.
Equi-marginal utility is achieved at the mid-point of the budget line.
e.
In equilibrium, the marginal utilities are proportional to the prices.
88. Which of the following statements is true with respect to the demand and consumer behavior? a.
The area under the triangle formed by the consumer budget line with the two axes gives the total income of the consumer.
b.
The slopes of the indifference curve and the budget line are equal at the point of maximum satisfaction.
c.
A rise in the income will move the budget line outward in a parallel fashion.
d.
Both (a) and (b) above.
e.
Both (b) and (c) above.
89. Which of the following statement(s) is true with respect to the indifference curves and consumer behavior? a.
The demand curve can be formed by joining all the new equilibrium points that result due to a change in the price of one good.
b.
The demand curve can be formed by joining all the new equilibrium points that result due to a change in the income of the consumer.
c.
A point on the indifference curve signifies the equally desirable combination of two goods.
d.
Both (a) and (c) above.
e.
Both (b) and (c) above.
90. Which of the following best describes the law of diminishing returns? a.
The marginal product of each input declines when the amount of that input decreases.
b.
The marginal product of each input declines when the amount of that input increases.
c.
The marginal product of each input declines when the amount of that input decreases, when all other inputs are held constant.
d.
The marginal product of each input declines when the amount of that input increases, when all other inputs are held constant.
e.
The marginal product of each input declines when the amount of that input is held constant over a period of time.
91. The difference between the prices for an abundant but most essential good and a scarce but not-so-essential good can be explained by a.
The concept of consumer surplus
b.
Ordinal utility theory
c.
Equi-marginal utility principle
d.
Substitution and income effects
e.
Indifference curves.
23
Microeconomics
92. When a consumer is maximizing his utility subject to the constraint of income and given prices, then the a.
Total satisfaction derived from each commodity must be equal to the total satisfaction from every other commodity
b.
Ratio of the total satisfaction derived from any commodity to the price of that commodity must be equal for all commodities
c.
Satisfaction derived from the last tiny unit of each commodity must be equal for all commodities
d.
Ratio of the total satisfaction derived from any commodity to the total expenditure on that commodity must be equal for all commodities
e.
None of the above.
93. The position and the shape of any indifference curve for a particular consumer are governed by a.
His tastes and by the amount of income defining the budget constraint
b.
The prices of the goods purchased only
c.
Tastes, the amount of income available and the prices of the goods purchased
d.
The prices of the goods purchased and the amount of income available, but not by tastes
e.
His tastes only.
94. The difference between the total utility derived from the consumption of a certain amount of a given good and the amount of money actually paid for it is called a. b. c. d. e.
Marginal utility Average utility Consumer surplus Producer surplus None of the above.
95. Which of the following goods can be considered substitutes? a. Pen and Paper b. Car and Petrol c. Bread and Butter d. Tea and Coffee e. Keyboard and Monitor. 96. Which of the following is not true? a. Indifference curve describes all the possible combinations of two goods which give equal satisfaction to the consumer. b. Total utility is the sum of marginal utility of all units of a good consumed. c. When price of a product increases, demand for its complement increase. d. Utility is a psychological concept and therefore cannot be precisely measured. e. Consumer surplus of a good and its economic value are different. 97. Which of the following facts pertains to the idea of “consumer surplus”? a. When a commodity sells at a price below its normal level, the buyers gain at the expense of the sellers.
24
b.
The utility that a consumer derives from the consumption of a good is greater than the market price that the consumer pays.
c.
When the demand for a commodity is inelastic, a drop in its price will increase purchases, but consumers will spend less money to obtain the larger quantity.
d.
Consumers in the world’s richer countries need spend only part of their incomes on necessities, leaving the balance free for vital, even though less desirable, goods.
e.
The “value in exchange” of a commodity frequently exceeds its “value in use”.
Part I
98. Consider the following statements relating to Indifference Curves. i.
Indifference Curves intersect with each other at their mid-points.
ii.
In case of perfect substitutes, the indifference curves are linear.
iii.
A convex indifference curve implies that the Marginal Rate of Substitution will be gradually increasing as we move from Y axis to X axis.
Which of the above statements is/are true? a.
Only (i) above
b.
Only (ii) above
c.
Only (iii) above
d.
Both (i) and (ii) above
e.
Both (ii) and (iii) above.
99. If the price of good X exceeds the price of good Y, in consumer equilibrium, it must be true that a.
Total utility derived from both X and Y has begun to decline
b.
The marginal utility of X exceeds the marginal utility of Y
c.
The marginal utility of X equals the marginal utility of Y
d.
The marginal utility of Y exceeds the marginal utility of X
e.
Answer (a) and any of the other three is true, depending upon economic circumstances.
100. Which of the following statements is true? a.
Marginal utility tends to rise as the level of consumption rises.
b.
The paradox of value is not the result of declining marginal utility.
c.
With given income and prices, a consumer is in equilibrium when any change in the amounts purchased would result in a decrease in total satisfaction.
d.
The market demand curve for a product is derived by adding horizontally the separate demand curves of each consumer.
e.
When a good is much desired and has no close substitutes, then its demand curve will tend to be relatively inelastic in the neighborhood of the existing price.
101. Which of the following statements concerning indifference curves is true? a. An indifference curve is the locus of points describing proportional price levels of the two goods. b. Indifference curves presuppose the measurement of total utility and marginal utility. c. An indifference curve is the locus of points representing various combinations of two goods about which the consumer is indifferent. d. Indifference curves presuppose the validity of the “law of diminishing returns”. e. None of the above. 102. An individual consumer shifts to a new equilibrium position as a result of some changes in either prices or his income. He finds that, in his new equilibrium situation, marginal utilities are all lower than they were in the old situation. This means that a. He is definitely worse off in his new situation b. He is definitely better off in his new situation c. He is definitely worse off than in his old situation if his income has changed, but not otherwise d. He is definitely better off than in his old situation if prices have changed, but not otherwise e. He cannot determine whether he is worse off or better off from the given information. 25
Microeconomics
103. Which of the following statement(s) is/are true? i.
The slope of the indifference curve measures the price ratio.
ii.
If two indifference curves intersect each other it implies that the marginal rate of substitution starts diminishing from that point.
iii.
Money income of the consumer remaining constant, if the prices of the two commodities fall by the same percentage, the price line will shift leftwards.
iv.
The consumer is in equilibrium at the point on the indifference curve where the price ratio is equal to the marginal rate of substitution.
a.
Only (i) above
b.
Only (ii) above
c.
Only (iii) above
d.
Only (iv) above
e.
Both (i) and (iv) above.
104. Which of the following statement(s) is/are true? a.
Changes in the purchases of a good as a consequence of a change in the relative prices alone, real income of the consumer remaining constant is called substitution effect.
b.
Changes in the purchases of a good as a consequence of a change in the real income of the consumer, relative prices remaining constant is called substitution effect.
c.
If two commodities are perfect substitutes, the indifference curves are parallel straight lines.
d.
Both (a) and (c) above.
e.
Both (b) and (c) above.
105. Which of the following statements is false in relation to consumer equilibrium? a.
A consumer gets maximum utility at a point where the budget line is tangential to the indifference curve.
b.
The substitution ratio gives the slope of the indifference curve.
c.
Other things remaining the same, a change in the price of one good results in a new budget line which will not be parallel to the previous one.
d.
Equi-marginal utility is achieved at the mid-point of the budget line.
e.
In equilibrium, the marginal utilities are proportional to the prices.
106. Which of the following is false with reference to the indifference curve? a.
Every point on a curve yields exactly the same level of satisfaction to a given consumer.
b.
It is a curve drawn on a graph whose two axes measure amounts of different goods consumed.
c.
It can be used to explain the downward sloping demand curve.
d.
The consumer is indifferent to the price of consumption along the curve.
e.
The consumer’s equilibrium point is the point where budget line is tangential to the curve.
107. Which of the following is true with reference to total utility?
26
a.
It is the product of the number of units and the marginal utility of the first unit.
b.
It is the sum of the marginal utilities up to that unit.
c.
It is the product of the number of units and the marginal utility of the last unit.
d.
The rate of increase in the total utility increases with the number of units.
e.
Total utility decreases as the number of units increases.
Part I
108. Which of the following statements is true? a.
Anything that increases total utility will, other things being equal, tend to raise marginal utility.
b.
When a buyer experiences consumer surplus, the seller experiences a loss.
c.
If A and B are substitutes, then a rise in the price of A will tend to result in an increase in the demand for B.
d.
It is possible to sum individual demand curves to get the market demand curve only when all consumers are exactly alike in their demands.
e.
The consumer will be in equilibrium when the marginal utility of good A is equal to the marginal utility of good B.
109. The difference between the price an individual is willing to pay and the price he or she actually pays is a.
Producer cost
b.
Monopolist profit
c.
Economic profit
d.
Producer surplus
e.
Consumer surplus.
110. A consumer consumes two products, A and B. If the marginal rate of substitution (MRSAB) remains constant, the shape of the indifference curve is a.
Concave to origin
b.
Convex to origin
c.
Straight line with negative slope
d.
Straight line with positive slope
e.
L-shaped.
111. A curve drawn indicating the slope of the total utility curve closely resembles the a.
Demand curve
b.
Supply curve
c.
Average utility curve
d.
Marginal revenue curve
e.
Indifference curve.
112. Which of the following statements pertaining to indifference curve is true? i.
The slope of the indifference curve represents the marginal rate of substitution between two goods.
ii.
Indifference curve in case of perfect substitutes is a straight line with positive slope.
iii.
Two indifference curves intersect with each other in case of perfectly complementary goods.
iv.
A higher level of indifference curve connotes higher level of output.
a.
Only (i) above.
b.
Both (i) and (ii) above.
c.
Both (ii) and (iii) above.
d.
Both (i) and (iv) above.
e.
(i), (ii) and (iv) above. 27
Microeconomics
113. Which of the following better resembles the demand curve of a consumer? a.
Indifference curve.
b.
Marginal utility curve.
c.
Budget line.
d.
Total utility curve.
e.
Average utility curve.
114. Which of the following statements best reflects the consumer surplus? a.
Padma who is willing to accept a job at Rs.50 per hour is offered Rs.45 per hour.
b.
Raju pays the sales price of Rs.150 for the same shirt that he refused to buy earlier at Rs.180.
c.
Tendulkar gets Pepsi for free when he was ready to pay Rs.8, to quench his thirst.
d.
Dolly finds that the price of burgers, a food she dislikes, has been reduced by 50 percent.
e.
Rajesh, carpenter by profession, has a marginal cost of Rs.500 for a unit of output and sells that unit at Rs.600.
115. When income is allocated between two fruits, apples and oranges, the consumer reaches equilibrium only when a.
Marginal utility of apples is equal to marginal utility of oranges
b.
Marginal utility of apples is equal to marginal utility of oranges, and the income is exhausted
c.
Every rupee spent on apples and oranges gives him the same level of marginal utility
d.
Last rupee spent on apples and oranges gives him the same level of marginal utility
e.
Both (b) and (c) above.
Production Analysis 116. If a change in all inputs leads to a proportional change in the output, it is a case of a.
Increasing returns to scale
b.
Constant returns to scale
c.
Diminishing returns to scale
d.
Variable returns to scale
e.
Inefficient returns to scale.
117. If more output is produced with the same inputs or same output is produced with less inputs, then it is an example of a.
Product innovation
b.
Process innovation
c.
Increasing returns to scale
d.
Both (a) and (c) above
e.
Both (b) and (c) above.
118. Which of the following is/are an outcome of a technological change?
28
a.
A downward shift in the production function.
b.
Same output with fewer inputs or more output with same inputs.
c.
Invention of a product or production process.
d.
Both (b) and (c) above.
e.
All of (a), (b) and (c) above.
Part I
119. Isoquants are a. b. c. d. e.
Equal-cost lines Equal-product lines Equal-revenue lines Equal-total utility lines Equal-marginal utility lines.
120. When a factory is working at 70% capacity, increasing of variable inputs, leads to a.
Increasing of output
b.
Decreasing of output according to the law of diminishing returns
c.
Increasing of output up to full capacity and later decreasing of the marginal product according to the law of diminishing returns
d.
Decreasing of output up to full capacity and later increasing of the output
e.
Output remains the same up to full capacity and later starts decreasing.
121. The marginal product of an input is a.
The extra product reduced by reducing 1 unit of input while other inputs are changing
b.
The extra product added by reducing 1 unit of input while other inputs are held constant
c.
The extra product added by 1 extra unit of input while other inputs are held constant
d.
The extra product reduced by 1 extra unit of input while other inputs are held constant
e.
None of the above.
122. Average product is defined as a.
Total cost divided by the total units of input
b.
Total output divided by the total units of input
c.
Total cost divided by total output
d.
Total output divided by total cost of input
e.
Total units of input divided by total output.
123. Which of the following is/are false with reference to equal-product curve? i. It is a curve drawn on a graph with different factors of production on the two axes. ii. The output is the same on any point of the curve. iii. All parallel equal-product curves represent the same output. iv. The point where an equal-cost line is tangential to an equal-product curve is the point where the cost is the least. v. The point where an equal-cost line is tangential to an equal-product curve is the point where the cost is the highest. a. Both (i) and (v) above b. Both (i) and (iv) above c. (i), (ii) and (iv) above d. Both (iii) and (iv) above e. (ii), (iii) and (v) above. 124. To manufacture a PC, you require a keyboard and a monitor. If you measure keyboard on the X-axis and monitor on the Y-axis, the shape of the Isoquant will be a. Convex to the origin b. Concave to the origin c. Downward sloping straight line d. Upward sloping straight line e.
L-shaped. 29
Microeconomics
125. When average product is highest, a. Total product is maximum b. Marginal product is maximum c. Marginal product is zero d. Marginal product is negative e. Marginal product is equal to average product. 126. The marginal revenue product is: a.
The selling price of the last unit of output
b.
The incremental total revenue resulting from the use of an additional unit of input
c.
Used in determining marginal physical product
d.
Harder to determine in pure competition than in oligopoly
e.
Harder to determine in pure competition than in monopoly.
127. A firm achieves least-cost in production by substituting factors until a.
Their factor prices are equal
b.
Their marginal physical products are equal
c.
Their marginal physical products are equal to their factor prices
d.
Their marginal physical products are equal to zero
e.
Their marginal physical product to the factor price ratio is equal for all factor inputs.
128. Isoquant for two inputs which are used in fixed proportion is a. Convex to the origin b. Concave to the origin c. Straight line with negative slope d. Straight line with positive slope e. L-shaped. 129. Diseconomies of scale refer to a. The forces which reduce the average cost of producing a good as the firm expands the size of its plant b. The forces which reduce the marginal cost of producing a good as the firm expands the size of its plant c. The forces which increase the average cost of producing a good as the firm expands the size of its plant d. The forces which increase the marginal cost of producing a good as the firm expands the size of its plant e. The forces which keep the average cost of producing a good constant as the firm expands the size of its plant. 130. A combination of Capital (K) and Labor (L) lies to the right of the firm’s cost line; it means that the combination is a. Undesirable b. Efficient, given the budget c. Inefficient, given the budget d. Unattainable, given the budget e. Inferior to the points within the constraint in terms of production. 131. If marginal product is negative, it means that the
30
a.
Total product is at maximum
b.
Average product is at maximum
c.
Average product is falling
d.
Total product is increasing
e.
Average product is negative.
Part I
132. A firm realizes least-cost in production, if it substitutes the factors until their a.
Prices are equal
b.
Marginal physical products are equal
c.
Marginal physical products are equal to their factor prices
d.
Marginal physical products are equal to zero
e.
Marginal physical product to the factor price ratio is equal for all factor inputs.
133. The intersection of marginal product curve and average product curve characterizes the point of a. Maximum profit b. Maximum total product c. Maximum average product d. Maximum marginal product e. Zero marginal product. 134. Law of diminishing returns is not relevant when a. All labors are equally efficient b. The time period is short c. All factor inputs are increased by the same proportion d. Technology remains constant e. Capital is held constant. 135. Which of the following indicates the same level of total output for any combination of inputs? a. Indifference curve b. Isoquant b. Production possibility frontier d. Isocost line e. Marginal product curve. 136. The point beyond which no rational firm would employ labor is a. When the average product of labor is equal to marginal product of labor b. When the marginal product of labor is maximum c. When the marginal product of labor is zero d. When the total product of labor is zero e. When the average product of labor is zero. 137. Marginal product of labor is the a. Cost of employing labor for producing one more unit of output b. Change in output from using one more unit of labor c. Change in revenue from selling one more unit of output d. Change in revenue from using one more unit of labor e. None of the above. 138. Which of the following statements is true? a.
If 10% decrease in the inputs leads to 15% decrease in the output, increasing returns to scale are said to be in operation.
b.
If the output remains constant in spite of 10% reduction in the quantities of inputs, constant returns to scale are said to be in operation.
c.
The slope of isoquant is price ratio of the factor inputs.
d.
Isoquants are concave to the origin.
e.
The slope of the isocost line increases as we move from Y-axis to X-axis.
31
Microeconomics
Analysis of Costs 139. Which of the following is/are true? a.
When the marginal cost is below the average cost, it pulls the average cost down.
b.
When the marginal cost is below the average cost, it pulls the average cost up.
c.
When the marginal cost is below the average fixed cost, it pulls the average cost up.
d.
When the marginal cost is below the average fixed cost, it pulls the average variable cost down.
e.
None of the above.
140. The average total cost will be minimum at a point where a.
Marginal cost and average fixed cost curves intersect
b.
Marginal cost and average variable cost curves intersect
c.
Marginal cost and average cost curves intersect
d.
Marginal cost is minimum
e.
Average variable cost is minimum.
141. Which of the following is true with respect to average fixed cost? a.
It is a bell shaped curve.
b.
As the quantity increases it approaches zero.
c.
If quantity produced tends to zero, average fixed cost approachs infinity.
d.
Both (a) and (b) above.
e.
Both (b) and (c) above.
142. Which of the following is/are false? a. Marginal cost is the slope of the total cost curve. b. Marginal cost is the ratio of the difference between the respective costs to a unit change in the quantity. c. Marginal cost at a point could be measured by the slope of the tangent drawn at the point on the MC curve. d. Both (a) and (b) above. e.
Both (b) and (c) above.
143. Which of the following is false? a. Short run is the period in which no costs are variable. b. Long run is the period in which all costs are variable. c. Fixed cost changes after a period of time. d. Total cost and variable cost differ by a constant amount. e. Capital costs are said to be fixed and materials costs, variable, in the short run. 144. Which of the following best describes substitution rule? a. If the price of one factor input falls while prices of others do not change firms will lose if they do not substitute that factor input with any of the remaining factors.
32
b.
If the price of one factor input falls and the prices of other factor inputs do not change the firms will profit by substituting the cheaper factor for all other factors.
c.
If the price of one factor input rises and the prices of other factor inputs do not change the firms will profit by substituting the cheaper factors for all other factors.
d.
If the prices of all factor inputs rise except one, the firms will profit by substituting all other factor inputs with this factor input.
e.
None of the above.
Part I
145. Which of the following is/are true? a.
The total cost curve is bell shaped.
b.
Opportunity cost is the value of the good or service forgone.
c.
Economic costs include only the out-of-the-pocket costs.
d.
Both (a) and (c) above.
e.
Both (b) and (c) above.
146. Which of the following curves is called envelope curve? a.
Long run total cost curve.
b.
Long run average total cost curve.
c.
Long run marginal cost curve.
d.
Long run average variable cost curve.
e.
Long run average fixed cost curve.
147. Knowledge of fixed costs and total variable costs enable one to determine which of the following? a.
Average costs.
b.
Average fixed costs.
c.
Average total costs.
d.
Marginal costs.
e.
All of the above.
148. Average fixed cost a.
Always declines as the output increases
b.
Is U-shaped, if there are increasing returns to scale
c.
Is U-shaped, if there are decreasing returns to scale
d.
Is intersected by marginal cost at its minimum point
e.
None of the above.
149. With a given plant size, an increase in the output cannot produce an increase in a. Total cost b. Average fixed cost c. Average total cost d. Average variable cost e. Total variable cost. 150. Which of the following is not true? a. Depreciation is the loss in value of capital good due to wear or absolescence and is a fixed cost. b. Wages, fuel and raw materials are examples of variable costs. c. Labor provided by the owner of a store is an example of implicit cost. d. Whenever marginal cost is rising, average cost is also rising. e. Marginal cost declines at first because of increasing returns in production. 151. A distinguishing characteristic of the long run period is that a. All costs are fixed costs b. All costs are variable costs c. Fixed costs tend to be greater than variable costs d. Fixed costs tend to be less than variable costs e. None of the above. 33
Microeconomics
152. Which of the following cost curves is not ‘U’ shaped? a. Long run average cost curve b. Long run marginal cost curve c. Short run average cost curve d. Average variable cost curve e. Average fixed cost curve. 153. Which of the following cost curves is also called planning curve? a.
Long run total cost curve
b.
Long run average cost curve
c.
Long run marginal cost curve
d. Total fixed cost curve e. Total variable cost curve. 154. Economic profit is a.
Accounting profit + Implicit cost
b.
Accounting profit + Implicit cost + Explicit cost
c.
Accounting profit – Implicit cost
d.
Accounting profit – Implicit cost – Explicit cost
e.
Accounting profit – Indirect costs.
155. Assuming labor is the only variable input, which of the following is not true in the short run? a.
When MPL is highest, MC is lowest
b.
When APL is highest, AVC is lowest
c.
When MPL > APL, AC is decreasing
d.
When MC < AC, APL is increasing
e.
MPL and AC are inversely related. (Note: MPL= Marginal Product of Labor, MC = Marginal Cost, AC = Average Cost APL = Average Product of Labor)
156. Which of the following statements is true? a.
Average fixed cost curve is a horizontal straight line running parallel to X-axis.
b.
Corresponding to the level of output at which the average fixed cost curve intersects the X-axis, total cost is highest.
c.
Marginal cost curve intersects the average cost curves at the least average cost point.
d.
Average cost curve starts rising prior to the marginal cost curve.
e.
At a large volume of output, total cost curve and total variable cost curve coincide.
157. An implicit cost can be defined as the
34
a.
Payment to the non-owners of the firm for the resources they supply
b.
Money payment which the self-employed resources could have earned in their best alternative employment
c.
Costs which the firm incurs but does not disclose
d.
Costs which do not change over a period of time
e.
None of the above.
Part I
158. The intersection of the marginal cost curve and the average cost curve characterizes the point of a. b. c. d. e.
Maximum profit Minimum average cost Minimum marginal cost Minimum opportunity cost Minimum profit.
159. Which of the following statements is false? a.
Marginal cost is equal to the per unit change in variable cost.
b.
MC is the same whether it is computed from TVC or from TC.
c.
If AC is above MC, MC must be rising.
d.
Marginal cost can be derived given total cost at all levels of production.
e.
Horizontal long run MC is associated with constant returns to scale.
160. If all firms in an industry which is characterized by decreasing costs are charging a price equal to marginal cost, then an upward shift in demand in the long run will a. Increase industry output and lower price b. Decrease industry output and raise price c. Alter neither industry output nor price d. Result in much more competitive industry structure e. None of the above. 161. The minimum efficient scale refers to the smallest level of output at which a firm can minimize a. Long run average cost b. Long run marginal cost c. Short run average cost d. Short run marginal cost e. Both explicit and implicit costs. 162. Consider the following Total Cost Function TC = 1000 + 200Q – 9Q2 + 0.25Q3 Which of the following statements is/are true? a. The average variable cost function is + 200 – 9Q + 0.25Q2. b. Fixed cost is 1000. c. Marginal cost function is 200 – 9Q + 0.25Q2. d. Variable cost function is 200Q – 9Q2 + 0.25Q3. e. Both (b) and (d) above. 163. Consider the following statements: i. If external economies prevail in an industry, expansion of industry output could shift the cost curves of individual firms downwards. ii. From the long run average cost curve, one can derive the long run marginal cost curve. iii. The marginal cost curve can only intersect the average variable cost curve at its minimum point. iv. With the total cost schedule being given, it is possible to draw a marginal cost curve. Which of the above statements is/are true? a. (i) only. b. Both (i) and (ii) above c. (iii) only d. Both (iii) and (iv) of the above e. All of (i), (ii), (iii) and (iv) the above. 35
Microeconomics
164. Which of the following statements is true about time period long run? a.
Long enough to enable producers of goods to change the quantities of all the resources they employ
b.
Long enough to recover the cost of production of a good
c.
Long enough to recover fixed costs
d.
In which equilibrium is established
e.
Not enough to enter or exit an industry.
165. The nature of the long run supply curve of a constant-cost industry is a.
Perfectly inelastic
b.
Inelastic
c.
Elastic
d.
Perfectly elastic
e.
Upward sloping.
166. When Average Product (AP) is at its maximum, which of the following costs will be at its minimum? a.
Average cost (AC)
b.
Average variable cost (AVC)
c.
Average fixed cost (AFC)
d.
Marginal cost (MC)
e.
Total fixed cost (TFC).
167. Which of the following is not an example of a firm’s explicit cost? a.
Salaries paid to workers.
b.
An amount of Rs.500 paid to an employee towards the reimbursement of medical expenses incurred by him.
c.
Advertisement expenditure incurred by the firm towards promotion of its branded good, ‘Atoka’.
d.
The firm’s owner has given up a job, where he was earning Rs.10,000 per month, to run the firm.
e.
Payment of telephone bills by the firm.
168. In economics, normal profit means a.
Zero accounting profit
b.
MR = MC
c.
Zero economic profit
d.
Zero opportunity cost
e.
Both (b) and (c) above.
169. Which of the following costs is not recorded in the books of a firm?
36
a.
Out-of-pocket costs.
b.
Indirect costs.
c.
Private costs.
d.
Implicit costs.
e.
Fixed costs.
Part I
170. Which of the following is true if marginal cost of a firm is increasing, but is less than the average cost? a.
Average fixed cost is increasing.
b.
Average cost is decreasing.
c.
Average cost is increasing.
d.
Average variable cost is increasing.
e.
Average variable cost is decreasing.
171. Which of the following costs remain constant as the output increases? a.
Marginal cost.
b.
Average variable cost.
c.
Average fixed cost.
d.
Total variable cost.
e.
None of the above.
172. The intersection of marginal product curve and average product curve characterizes the point of a.
Maximum profit
b.
Maximum total product
c.
Maximum average product
d.
Maximum marginal product
e.
Zero marginal product.
173. Diseconomies of scale refer to a.
The forces which reduce the average cost of producing a good as the firm expands the size of its plant
b.
The forces which reduce the marginal cost of producing a good as the firm expands the size of its plant
c.
The forces which increase the average cost of producing a good as the firm expands the size of its plant
d.
The forces which increase the marginal cost of producing a good as the firm expands the size of its plant
e.
The forces which keep the average cost of producing a good constant as the firm expands the size of its plant.
174. The difference between economic profit and accounting profit is a.
Selling and administrative expenses
b.
Depreciation
c.
Explicit costs
d.
Implicit costs
e.
None of the above.
175. Increasing marginal costs with increase of output implies a.
Decreasing average returns
b.
Decreasing average fixed costs
c.
Decreasing average variable costs
d.
Decreasing total costs
e.
Decreasing average costs.
37
Microeconomics
176. The vertical distance between the Total Cost (TC) curve and the Total Variable Cost (TVC) curve reflects a.
The law of diminishing returns
b.
The average fixed cost at each level of output
c.
Marginal cost at each level of output
d.
Average variable cost at each level of output
e.
Total fixed cost at each level of output.
177. Which of the following is/are true if the long run average cost is increasing? a.
A rising marginal cost curve.
b.
Operation of law of diminishing marginal productivity.
c.
Economies of scale.
d.
Both (a) and (c) above.
e.
(a), (b) and (c) above.
178. The cost curve(s) that depends on the level of output in the long run is/are a.
Total costs
b.
Total variable costs
c.
Average fixed costs
d.
Both (a) and (b) above
e.
Both (a) and (c) above.
179. Which of the following cost curves is not ‘U’ shaped? a.
Long run average cost curve.
b.
Long run marginal cost curve.
c.
Short run average cost curve.
d.
Average variable cost curve.
e.
Average fixed cost curve.
180. The difference between economic profit and accounting profit is a.
Selling and administrative expenses
b.
Depreciation
c.
Explicit costs
d.
Implicit costs
e.
There is no difference between economic profit and accounting profit.
181. Which of the following variables decreases if the marginal cost is increasing as the output increases?
38
a.
Average variable cost.
b.
Average cost.
c.
Average fixed cost.
d.
Total variable cost.
e.
Total cost.
Part I
182. Which of the following are not true if fixed cost of a firm is Rs.10,000? i.
Average Fixed Cost (AFC) never reaches zero.
ii.
Average Fixed Cost reaches minimum when MC intersects AFC.
iii.
The shape of Average Fixed Cost curve is linear.
iv.
Average Fixed Cost is maximum when output is zero.
a.
Both (i) and (ii) above
b.
Both (ii) and (iii) above
c.
Both (ii) and (iv) above
d.
(i), (ii) and (iii) above
e.
(ii), (iii) and (iv) above.
183. Engineers working at a car manufacturing plant have determined that a 15% increase in all inputs will increase the output by 15%. Assuming that the prices of inputs remain constant, which of the following costs will change as the output increases? a.
Average variable cost.
b.
Fixed cost.
c.
Marginal cost.
d.
None of the above.
e.
Both (a) and (c) above.
184. What would be the shape of the total cost curve when a manufacturing unit is experiencing economies of scale? a.
Upward sloping.
b.
Rectangular hyperbola.
c.
U-shaped.
d.
Inverted U-shaped.
e.
Horizontal straight line.
185. The management of a company has finally agreed to increase the salaries of the staff by 10% after hard negotiations with labor union. Which of the following would not be affected by this decision? a. Economic costs. b. Accounting profits. c. Direct costs. d. Implicit costs. e. Fixed costs. 186. A firm will break even when a.
TR = MC
b.
MR = MC
c.
AR = AC
d.
P = MC
e.
P = AR = MC.
187. Which of the following curves is called planning curve? a.
Long run average total cost curve.
b.
Long run marginal cost curve.
c.
Long run total cost curve.
d.
Long run average fixed cost curve.
e.
Long run average variable cost curve. 39
Microeconomics
188. Which of the following causes the average cost to increase in the long run? a.
Economies of scale.
b.
Diminishing marginal returns.
c.
Diseconomies of scale.
d.
Diminishing marginal utility.
e.
None of the above.
Market Structure I: Perfect Competition 189. Which of the following are the features of perfect competition? i. Marginal revenue is equal to the market price. ii. The supply curve will be vertical. iii. No single buyer or seller can influence the market price. iv. The products of all firms will be identical within the industry. a. (i), (ii), (iii) above b. Both (iii) and (iv) above c. (ii), (iii), (iv) above d. (i), (iii), (iv) above e.
All of (i), (ii), (iii), (iv).
190. In perfect competition, a firm maximizing its profits will set its output at that level where a.
Average variable cost = price
b.
Marginal cost = price
c.
Fixed cost = price
d.
Average fixed cost = price
e.
Total cost = price.
191. Which of the following is not a feature of zero-profit point (break even point)? a.
The output of the firm makes nil profits.
b.
Revenues just cover costs.
c.
Price equals average cost.
d.
Marginal cost equals fixed cost.
e.
All are features of zero-profit point.
192. It is advisable for a firm operating under perfect competition to shut down in the short run when the price of the product falls below the a.
Total cost
b.
Fixed cost
c.
Average variable cost
d.
Semi-fixed cost
e.
Average cost.
193. A shut down point is a point where
40
a.
Marginal cost (MC) curve meets the average variable cost curve
b.
MC curve meets the AC curve
c.
MC curve meets the demand curve
d.
Fixed cost curve is tangential to MC curve
e.
MC curve meets the total cost curve.
Part I
194. Which of the following statements is false in a perfectly competitive market with constant returns to scale? a.
The long run average cost curve will be horizontal at each firm’s minimum average cost.
b.
The long run average cost curve will be horizontal at each firm’s zero-profit price.
c.
If the industry uses a specific factor, the long run supply curve will slope upward.
d.
The long run equilibrium in a competitive industry will be one with no economic profit.
e.
With a constant increase in one input, keeping other inputs constant, the output could be increased.
195. Which of the following statements are false, for most commodities, in perfect competition? (Assume a constant supply curve) i.
An increase in demand increases the quantity demanded.
ii.
An increase in demand increases the price.
iii.
A decrease in demand decreases quantity demanded.
iv.
A decrease in demand decreases price.
a.
Both (i), (ii) above
b.
Both (iii), (iv) above
c.
Both (i), (iii) above
d.
Both (ii), (iv) above
e.
All are correct.
196. Which of the following are valid in a perfectly competitive market, when demand is inelastic and supply is increased by a firm? a.
The quantity decreases.
b.
The quantity remains unchanged.
c.
The price increases.
d.
The equilibrium quantity increases slightly.
e.
The prices remains unchanged.
197. Which of the following are valid in a perfectly competitive market, when supply is inelastic and demand is decreased? a.
The price decreases the most.
b.
Quantity increases slightly.
c.
Price remains unchanged.
d.
Quantity increases to the maximum possible extent.
e.
Price increases slightly.
198. Allocative efficiency is a situation in which a.
Reorganization of trade would make one better off only when other is also made better off
b.
Reorganization of trade would be possible by making one better off and the other is also made better off
c.
No reorganization of trade would be possible without making all better off
d.
No reorganization of trade would make one better off without making the other worse off
e.
An individual’s utility or satisfaction would be raised only when the utility and satisfaction of others are also raised.
41
Microeconomics
199. Which of the following curves resemble supply curve under perfect competition in the short run? a. Average cost curve above break even point. b. Marginal cost curve above shut down point. c. Marginal utility curve. d. Average utility curve. e. Average variable cost curve. 200. Which of the following curves resembles the demand curve in a perfect competition? a. Average cost curve. b. Marginal cost curve. c. Marginal utility curve. d. Average utility curve. e. Average variable cost curve. 201. A competitive equilibrium is efficient when a. The additional gain the firm gets from the last unit consumed is more than the additional cost the firm incurs in producing it b. The additional gain the firm gets from the last consumed equals the additional cost the firm incurs in producing it c. The additional gain the firm gets from the last unit consumed is less than the additional cost the firm incurs in producing it d. The disutility of labor needed to produce the last unit is less than the equilibrium price e. The utility of labor needed to produce the last unit is less than the equilibrium price. 202. Which of the following is one of the hidden assumptions of perfectly competitive markets? a. Social benefit is same as private benefit. b. Social benefit is different from private benefit. c. All information about the market is known to the government. d. Taxes equally affect both suppliers and consumers. e.
Factors of production are readily available to the producers.
203. In which of the following cases an efficiency loss occurs in a perfect competition? a.
When there is a move away from the output where marginal cost equals marginal benefit.
b.
When there is a move away from the output where marginal cost equals marginal revenue.
c.
When there is a move away from the output where marginal revenue equals marginal benefit.
d.
When there is a move away from the output where marginal revenue equals average variable cost.
e.
When there is a move away from the output where marginal cost equals average variable cost.
204. A perfectly competitive firm is operating at an output where price is greater than marginal cost. Which of the following is/are true?
42
a.
The firm should increase its output so as to maximize profit.
b.
The firm should reduce its output so as to maximize profit.
c.
The firm is making profits.
d.
The firm is incurring losses.
e.
Both (a) and (c) above.
Part I
205. Which of the following is true with reference to shut down point in a perfect competition? a.
The profits of the firm equals its total costs
b.
At that output level the price covers the average fixed costs of the firm
c.
At that output level the price covers the average variable costs of the firm
d.
At that output level the price covers the average total costs of the firm
e.
At that output level the losses of the firm cease and its profits begin.
206. Pareto efficiency occurs when a.
There is no way to reorganize production so that it will increase the satisfaction of one person without reducing the satisfaction of another person
b.
There is no way to reorganize consumption so that it will increase the satisfaction of one person without reducing the satisfaction of another person
c.
No reorganization of production and consumption is possible by which some individuals are made better off without making someone else worse off
d.
There is no way to reorganize production or consumption so that it will increase the satisfaction of one person by reducing the satisfaction of another person
e.
Reorganization of production or consumption is possible in such a way that one person’s satisfaction is increased by increasing the satisfaction of another person.
207. Which of the following is not a feature of perfect competition? a.
Large number of sellers and buyers.
b.
No one is large enough to influence the market price.
c.
Homogenous product.
d.
A horizontal demand curve.
e.
Low price.
208. Which of the following formula explains average revenue? a.
Marginal revenue x Number of units.
b.
Total revenue / 2.
c.
Total revenue / Number of units.
d.
(Total revenue – Total cost) / Number of units.
e.
(Marginal revenue x Number of units) / 2.
209. In the long run, a perfectly competitive firm earns only normal profits because of a.
Product homogeneity in the industry
b.
Large number of sellers and buyers in the industry
c.
Free entry and exit of firms in the industry
d.
Both (a) and (b) above
e.
Both (b) and (c) above.
210. Balesh Pvt. Ltd. is operating in a perfectly competitive industry. If the firm doubles its output during the year, then a.
Price of the product falls more than proportionately
b.
Price of the product falls less than proportionately
c.
Price of the product falls proportionately
d.
Price of the product remains same
e.
Insufficient data.
43
Microeconomics
211. The doctrine of invisible-hand applies to economies in which all the markets are a. Demand specific b. Supply specific c. Imperfectly competitive d. Perfectly competitive e. None of the above. 212. In the short run which of the following is not true of a profit-maximizing firm operating under perfect competition? a. P = MC b. MR = MC b. AR = MR = MC d. P = AR = AC e.
None of the above.
213. In India which of the following best describes a perfectly competitive market? a. Sugarcane cultivation b. Indian railways c. Soft drinks industry d. Toilet soap industry e. Electricity distribution. 214. Which of the following is not true with respect to a perfectly competitive market? a. There are many sellers in the market. b. Individual firms are price makers. c. Products sold by the firms are identical. d. Anyone can enter or exit the industry without difficulty. e. Buyers and sellers have perfect information about the market. 215. The horizontal demand curve for a firm is one of the characteristic features of a. Oligopoly b. Monopoly c. Monopolistic competition d. Perfect competition e. Duopoly. 216. A perfectly competitive firm attains break even point when the firm’s a. AR < AC b. AR > AC c. AR = AC d. MR > MC e. MR = MC. 217. In perfect competition, the long run equilibrium price is equal to i. Marginal Revenue. ii. Average Cost. iii. Marginal Cost. iv. Average Revenue. a. Both (i) and (iii) above
44
b.
(i), (ii) and (iii) above
c.
(i), (iii) and (iv) above
d.
(ii), (iii) and (iv) above
e.
All (i), (ii), (iii) and (iv) above.
Part I
218. If the firm operates in such a way that the additional revenue from selling an additional unit equals the cost of producing an additional unit, it reaches the i.
Profit maximization point.
ii.
Price maximization point.
iii.
Cost minimization point.
iv.
Revenue maximization point.
a.
Only (i) above
b.
Both (i) and (iii) above
c.
(i), (ii) and (iii) above
d.
(i), (iii) and (iv) above
e.
All (i), (ii), (iii) and (iv) above.
219. In the long run, which of the following is true of a firm in a perfectly competitive industry? a.
It operates at its minimum average cost
b.
The price is more than the average fixed cost
c.
The marginal cost is greater than marginal revenue
d.
The fixed cost is lower than the total variable cost
e.
The price is equal to minimum of AVC.
220. What would be the shape of the supply curve of a perfectly competitive industry, if the increased industry demands for inputs results in increasing market price of the product in the long run? a.
Horizontal.
b.
Vertical.
c.
Upward sloping.
d.
Downward sloping.
e.
Supply curve is absent in the long run.
221. Which of the following is true of a perfectly competitive firm in equilibrium? a.
P = MR = MC
b.
P = MR, but MR > MC
c.
P = MC, but MR < MC
d.
MR = MC and P < MR
e.
MR = MC and P > MR.
222. In which of the following markets the consumer surplus will be high? a. Monopoly. b. Monopolistic competition. c. Pure oligopoly. d. Differentiated oligopoly. e. Perfect competition. 223. Which of the following assumptions is/are necessary for a market to be perfectly competitive? i. Products are homogenous. ii. Cost structure of every firm is identical. iii. Buyers have no preferences towards any seller. iv. Buyers have perfect knowledge about prices in the market. a. Only (i) above 45
Microeconomics
b.
Only (ii) above
c.
Both (i) and (ii) above
d.
(i), (iii) and (iv) above
e.
(ii), (iii) and (iv) above.
224. A perfectly competitive firm can increase its sales revenue by a.
Reducing the price
b.
Increasing the price
c.
Increasing the production
d.
Increasing the expenditure on advertising
e.
Increasing the sales force.
225. If a perfectly competitive industry is an increasing cost industry, the demand curve faced by a firm will be a.
Upward sloping
b.
Downward sloping
c.
A horizontal straight line
d.
A vertical straight line
e.
A rectangular hyperbola.
226. A perfectly competitive firm earns abnormal profits when its a.
Average cost curve lies above its demand curve
b.
Average revenue curve is tangent to average cost curve
c.
Demand curve lies above the average cost curve
d.
Marginal revenue curve lies above the average cost curve
e.
Both (c) and (d) above.
227. In the long run, a perfectly competitive firm earns only normal profits because of a.
Product homogeneity in the industry
b.
Large number of sellers and buyers in the industry
c.
Free entry and exit of firms in the industry
d.
Both (a) and (b) above
e.
Both (b) and (c) above.
Market Structure II: Monopoly 228. Which of the following is not a feature of imperfect competition? a.
Individual sellers have some control over the price of their output.
b.
Individual buyers have some control over the price of the commodity they require.
c.
A group of large sellers can influence the demand and supply.
d.
A group of large buyers can influence the demand and price.
e.
The demand and supply curves will be horizontal.
229. Which of the following best describes monopoly?
46
a.
An indisputable market leader in an industry.
b.
Only a single buyer in the market.
c.
A single seller with large control over the price in the industry.
d.
Only a single seller with complete control over the industry.
e.
A single buyer with complete control over the industry.
Part I
230. In India monopoly exists in the following industry? a.
Courier services.
b.
Internet service providing industry.
c.
Rail transportation.
d.
Small car industry.
e.
Electricity generation.
231. Which of the following conditions are to be satisfied for a monopolist to initiate price discrimination? i.
The market in a segregatable position.
ii.
Ability of the monopolist to control price and output.
iii.
Consumers do not protest.
iv.
The original purchaser should not resale the good.
a.
(i), (ii) and (iv) above
b.
Both (i) and (iii) above
c.
Both (i) and (ii) above
d.
(ii), (iii) and (iv) above
e.
All of the above.
232. Which of the following is not a source of market imperfection? a.
Technology.
b.
Size of the firm.
c.
Product differentiation.
d.
Availability of resources.
e.
Forces of supply and demand.
233. Which of the following is not a feature of natural monopoly? a.
A firm can expand to monopolize the industry by cutting costs rapidly to lower levels.
b.
Industries with relatively high fixed costs are perceived to be natural monopolies.
c.
The marginal costs for natural monopolies are low.
d.
The large monopolist will be very efficient than smaller firms.
e.
It will be impossible to break natural monopolies.
234. Which of the following is false in a monopoly? i.
Assumption that all the goods manufactured at the maximum profit point are sold.
ii.
He has control over the entire supply of raw material.
iii.
He suppresses inventions.
iv.
Lesser efficient use of society’s resources compared to perfect competition.
a.
Both (iii) and (iv) above
b.
(i), (iii) and (iv) above
c.
Both (i) and (iii) above
d.
Only (iii) above
e.
All of the above.
47
Microeconomics
235. Which of the following is not a barrier to entry? a.
High costs of production.
b.
Government regulations.
c.
Production differentiation.
d.
Tax sops to new firms.
e.
Patent.
236. Which of the following is false with reference to marginal revenue? a.
It is the change in revenue generated by an additional unit of sales.
b.
In some cases it is negative.
c.
The curve will be dome-shaped.
d.
In some cases it is less than the price.
e.
The curve starts from the Y-axis when the quantity is zero.
237. Negative marginal revenue refers to a.
The decrease in the revenue of the firm when it offers freebies to boost its sales
b.
The fall in the revenue of the firm due to advertising expenses
c.
The decline in the prices of earlier units of the firm to make additional sales
d.
The decline in the total revenue as the firm decreases the prices of earlier units to make additional sales
e.
Marginal revenue cannot be negative.
238. Which of the following is true with reference to marginal revenue (MR) in a monopoly? a. When MR is negative, TR will be negative. b. When MR is negative, AR will be negative. c. When MR is negative, price will be negative. d. When demand slopes downward price will be less than MR. e. MR curve lies below the AR curve. 239. Which of the following is false with reference to MR in a monopoly? a. When the demand curve slopes downward MR will be equal to the difference between price and the reduced revenue on all previous units. b. The point at which the MR curve touches the X-axis gives the output where the revenues of the firm are maximum. c. When MR is zero, the firm has maximum total revenue. d. The firm gets more revenue when MR is positive than the revenue when it is negative. e.
When the demand turns inelastic, MR will be negative.
240. Which of the following is false with respect to total revenue (TR) in a monopoly? a. When TR is taken on the X-axis and the output on Y-axis, a dome-shaped curve will emerge. b. In the upper half of the demand curve, TR rises with increasing output. c. When the demand curve is unit elastic TR will be constant as the output increases. d. TR can be positive even when MR is negative. e. TR can be zero only when either price or quantity is zero. 241. The maximum profit condition for a monopoly firm is a. Total cost should be minimum b. Total revenue should be maximum c. Marginal revenue = Marginal cost d. Quantity should be maximum e. Price should be maximum. 48
Part I
242. Which of the following is not a characteristic of maximum-profit point in a monopoly? a. The tangents drawn to TR and TC curves at this point will be parallel to each other. b. The tangent drawn at this point to the total profit curve will be perpendicular to the Y-axis. c. At this point the total output of the firm will be maximum. d. The slopes of TR and TC will be equal. e. At this point the MR curve cuts AC curve. 243. The marginal principle in economics says that a. People maximize their income or profits when the marginal costs and marginal benefits of their actions are equal b. Before taking an economic decision the costs which are already incurred, have to be taken into consideration c. Before taking an economic decision the benefits which are already derived, have to be taken into consideration d. People maximize their income or profits when the marginal costs are less than the marginal benefits of their actions e. People maximize their income or profits when the marginal revenues are more than the marginal costs of their actions. 244. Price discrimination in a monopoly is described as a. Same product selling at different prices since the costs of production are different. b. Same product selling at different prices though the costs of production are same. c.
245.
246.
247.
248.
Different products having same price though costs of production are same.
d. Different products having different prices since costs of production are different. e. Monopolist charging different prices in same market. The term ‘market power’ refers to a. Superiority of free market economy over government controlled economy b. Degree of influence of markets on government decisions c. Degree of control that a firm or a group of firms has on the price and production decisions in an industry d. Degree of control a monopoly firm has on the buying decisions of its customers e. Degree of influence the government can exercise on the markets. ‘Four-firm concentration’ refers to a. The number of firms in an industry b. The four largest firms in four different and important industries in an economy c. The number of industries in an economy which have only four firms d. The percent of the total industry output that is accounted for by the smallest four firms e. The percent of the total industry output that is accounted for by the largest four firms. The four-firm concentration in a perfect competition would ideally be close to a. 0% b. 25% c. 50% d. 100% e. Cannot be measured. The Herfindahl index measures the a. Market shares within the industry b. Market power within the industry c. Inter-firm competition d. Market power of the government e. Market demand for a particular product.
49
Microeconomics
249. ‘Dead weight loss’ in economics refers to a. The loss in real income or consumer and producer surplus that arises because of distortions in the economy b. The loss to the consumers because of the unchecked malpractices of a supplier c. The loss to the suppliers because of the stringent restrictions of a large consumer d. The loss to the society in a market economy e. The loss to the society in a controlled economy. 250. Which of the following is a good example of monopsony in India? a. Mining companies, supplying coal to the steel industry. b. Ancillary units, supplying components to the railways. c. ONGC, supplying crude oil to the petroleum industry. d. Asea Brown Bovery, supplying electric boilers to state electricity boards. e. CMC, developing software for the government departments. 251. Which of the following is false with reference to the economic waste caused by a monopolist? a.
It is the difference between the loss in total consumer surplus and gain in producer surplus.
b.
It results when social MU is above social MC.
c.
It will be equal to the monopolist’s monopoly profits.
d.
It will be caused by restricting output.
e.
It will be zero when social MC = Social AC.
252. The ratio of four-firm concentration to eight-firm concentration in a perfect competition would ideally be a. 0 b. 0.5 c. 0.1 d. Infinity e. Indeterminate. 253. Market inefficiencies can come from a. Externalities b. Monopolies c. Imperfect information d. Entry Barriers e. All of the above. 254. Which of the following is/are possible sources of imperfectly competitive markets? a. Declining average costs as the production increases. b. Legal barriers to entry. c. Perceived product differentiation. d. Tariff protection from foreign competition. e. All of the above. 255. In a monopoly with downward sloping demand, marginal revenue is greater than price a.
If demand is elastic
b.
If demand is inelastic
c.
If MC = MR lies to the right of minimum ATC
d.
If the monopoly is under government regulation
e. 50
At no time for a profit maximizing monopolist.
Part I
256. Which of the following is not true? a.
If elasticity of demand is equal to one, marginal revenue is zero.
b.
If P>ATC, the firm is making economic or abnormal profits.
c.
In perfect competition price is equivalent to MC at the equilibrium output, but in monopoly price is greater than MC.
d.
When the market has a single buyer, we call it monopsony.
e.
All of the above are true.
257. Which of the following can lead to a natural monopoly? a. Legal restriction. b. Product differentiation. c. Large scale economies of scale. d. Ownership of raw materials. e. None of the above. 258. A monopolist who faces a negatively sloped demand curve operates in the region where the elasticity of demand is a. Less than one b. Equal to one c. Greater than one d. Between zero and one e. Zero. 259. Price discrimination takes place when a.
A homogeneous product is sold at different prices and not justified by cost differences.
b.
Different prices, to compensate for differences in characteristics of the product, are charged.
c.
The price is equal to the per unit cost of the product.
d.
Increased price lowers the supply of the product.
e.
Both (a) and (c) above.
260. Which of the following is false in the first degree price discrimination under monopoly? a. The monopolist will be able to extract the entire consumers’ surplus. b. The price of each unit will be different. c. By following the first degree price discrimination, the monopolist earns more than what he could otherwise earn at a uniform price per unit. d. The price of the first unit will be less than that of the subsequent units. e. It is another name for perfect price discrimination. 261. Which of the following statements is true? a.
In the short run, a competitive firm may incur losses but the monopolist will always earn abnormal profits.
b.
A monopolist can be in equilibrium whether costs are increasing, decreasing or constant but a competitive firm can be in equilibrium only under decreasing cost conditions.
c.
In the long run, the monopolist will earn normal profits while a competitive firm earns abnormal profits.
d.
In the long run, when compared to the competitive market, the price and the output under monopoly are higher.
e.
Consumers’ surplus is more under conditions of perfect competition than under monopoly.
51
Microeconomics
262. The Herfindahl index is found by the sum of the a. Squares of the market prices of each firm in an industry b. Squares of the market shares of each firm in an industry c. Cubes of the market shares of each firm in an industry d. Cubes of the market prices of each firm in an industry e. Squares of the profits of each firm in an industry. 263. Which of the following statements is false? a.
There will be no consumer surplus under first degree price discrimination.
b.
Dead weight loss is high under first degree price discrimination.
c.
Third degree price discrimination involves separating consumers or markets in terms of their price elasticity of demand.
d.
Under third degree price discrimination a firm charges a lower price in a market with more elastic demand than in the market with less elastic demand.
e.
A firm practicing first degree price discrimination charges a price that equals marginal utility of the consumer.
264. A monopolist sells goods in two clearly separable markets – A and B. Which of the following statements is/are true if the demand is more elastic in market A than in market B and the monopolist is aiming at profit maximization? a.
Price charged for the good in market A must be less than the price charged in market B.
b.
Monopolist must be selling an output where the marginal cost is at its minimum.
c.
The extra revenue obtained from selling an additional unit in market A must be more than received from selling an additional unit in market B.
d.
Both (a) and (c) above.
e.
(a), (b) and (c) above.
265. Which of the following cost functions signifies the cost function of a natural monopolist? a. TC = 15Q b. TC = 15Q2 c. TC = 15Q + 15Q2 d. TC = 15Q + 15Q2 + 15Q3 e. TC = 15Q0.5. 266. The supply curve of a monopolist a. Is the portion of MC curve that lies above the AVC curve b. Is the portion of MC curve that lies above the AC curve c. Is vertical d. Is horizontal e. Is absent. 267. In which of the following market structures the entry is least difficult?
52
a.
Pure monopoly.
b.
Oligopoly.
c.
Duopoly.
d.
Regulated monopoly.
e.
Monopolistic competition.
Part I
268. The supply curve of a monopolist a.
Is the portion of MC curve that lies above the AVC curve
b.
Is the portion of MC curve that lies above the AC curve
c.
Is vertical
d.
Is horizontal
e.
Is absent.
269. An entrepreneur in order to maximize the profits, without affecting the price, should produce an output where a.
Average cost is minimum
b.
Average variable cost is minimum
c.
Average fixed cost is minimum
d.
Marginal cost is equal to the average variable cost
e.
Marginal cost is minimum.
270. One of the reasons for the existence of natural monopoly is a.
Economies of scale
b.
Diminishing marginal rate of productivity
c.
Downward sloping demand curve
d.
Formation of cartels
e.
Lower fixed cost requirement.
271. Which of the following statements is true? a.
An increase in producer surplus that results from a tax is referred to as dead weight loss
b.
Dead weight loss would be higher, if the producer follows first degree price discrimination
c.
Price discrimination is possible in a monopolistically competitive market
d.
A price discriminating monopolist charges a higher price in a market where there are close substitutes
e.
Both (c) and (d) above.
272. In a monopoly, price is a. Lesser than the marginal revenue b. Greater than the average revenue b. Greater than the marginal revenue d. Equal to the total revenue e. Both (b) and (c) above. 273. In India, which of the following industries best illustrates monopoly? a. Agriculture. b. Automobile industry. c. Atomic energy. d. Cola drinks. e. Television industry. 274. Which of the following is not a legal barrier to entry? a. Patents. b. Economies of scale. c. Branding. d.
Franchise.
e.
Copy rights. 53
Microeconomics
275. The main feature of Monopsony is a.
Single buyer and single seller
b.
Single buyer, but many sellers
c.
Many buyers, but one seller
d.
Two buyers, but one seller
e.
Single buyer, but two sellers.
276. The supply curve of a monopolist a.
Is the portion of MC curve that lies above the AVC curve
b.
Is the portion of MC curve that lies above the AC curve
c.
Is vertical
d.
Is horizontal
e.
Is absent.
277. In the diagram below, the point that indicates normal profit for a monopolist is
a.
A
b.
B
c.
C
d.
D
e.
E.
Market Structure III: Monopolistic Competition 278. Which of the following is false in a monopolistic competition? a.
Many buyers and sellers.
b.
Identical products.
c.
Easy entry and exit.
d.
Price of the competitor is the benchmark price.
e.
Each firm could be market leader in its product segment.
279. Product differentiation in a monopolistic competition could lead to
54
a.
Horizontal demand curve
b.
Downward sloping demand curve
c.
Vertical demand curve
d.
Downward sloping supply curve
e.
None of the above.
Part I
280. Which of the following is/are false in a monopolistic competition? a.
Possibility of losses or break even in the long run.
b.
With excessive product differentiation, monopolistic competition will become inefficient in the long run.
c.
In the short run the monopolistic competitor sets price at an output level where MC = MR
d.
In the long run the price set by the monopolistic competitor changes to a point where the new demand curve is tangential to the AC curve.
e.
The marginal revenue will be more than the price.
281. Monopolistic competition consists of a.
A few firms selling differentiated products
b.
A few firms selling an identical product
c.
Many firms selling differentiated products
d.
Many firms selling an identical product
e.
None of the above.
282. In monopolistic competition, the long run equilibrium price will be equal to a.
Marginal revenue
b.
Average cost
c.
Marginal cost
d.
Minimum average cost
e.
Minimum marginal cost.
283. Which of the following is not a feature of monopolistic competition? a. Large number of sellers b. No single seller has control over the market c. Horizontal demand curve for the firm d. Differentiated products e. Different prices. 284. In India, monopolistic competition does not exist in which of the following industry? a.
Salt.
b.
Toothpastes
c.
Ice creams
d.
Packaged fruits and vegetables
e.
Automobile.
285. Product differentiation does not lead to a.
Different prices
b.
Differences in quality
c.
Price differentials
d. Monopoly/oligopoly in that particular product segment e. Shift in the demand curve to the right. 286. The term ‘differentiated products’ denotes a. Different products b. Different products in similar packets c. Same product used in different applications d. Different products used by a differentiated set of people e. Products whose important characteristics vary. 55
Microeconomics
287. Which of the following is a common feature in both a monopolistically competitive market and an oligopoly market? a.
Product differentiation.
b.
Interdependence among member firms.
c.
Kinked demand curve.
d.
Limited number of sellers.
e.
Entry is blocked.
288. Through more advertising, a monopolistically competitive firm has successfully created more demand for its product. It would have resulted in shifting of a.
AC curve upward
b.
MR curve to the left
c.
AC curve upward and MR curve to the left
d.
AC curve upward and MR curve to the right
e.
AC curve downward and MR curve to the right.
289. Because of product differentiation, a monopolistically competitive firm faces a (an) a.
Horizontal demand curve
b.
Vertical demand curve
c.
Downward sloping demand curve
d.
Upward sloping supply curve
e.
Horizontal supply curve.
290. A firm operating in a monopolistically competitive market earns only normal profits in the long run because of a.
Economies of scale
b.
Relative freedom to enter and exit the industry
c.
Product differentiation
d.
Large number of buyers
e.
Downward sloping demand curve.
291. In which of the following markets the demand curve faced by a firm would be more elastic? a.
Pure monopoly.
b.
Duopoly.
c.
Differentiated oligopoly.
d.
Monopolistic competition.
e.
Natural monopoly.
Market Structure IV: Oligopoly 292. Which of the following best describes ‘strategic interaction’ in oligopolistic markets? a. Interaction of the leading firms in an industry, with each other, for providing better service to the customers. b. Interaction of the leading firms in an industry, with each other, for preventing others from entering the market. c. Interaction of smaller firms in industry to form a bigger one which could compete with the market leaders. d. A situation in which each firm’s business strategies depend on its rival’s plans. e. A situation in which the bigger firms in an industry collude with the government for a better bargain.
56
Part I
293. The term ‘collusion’ refers to a. A situation in which government jointly sets prices with the market leader in an oligopoly b. A situation in which government jointly sets prices with the small players in an industry in the larger interests of the society c. A situation in which all firms in an industry decide the price and output d. A situation in which two powerful groups of an industry join hands with the government to rule the industry e. A situation in which central and state governments jointly decide price and output for an industry. 294. Which of the following best describes a cartel? a. An organization of independent firms producing similar products that work together to raise prices and restrict output. b. An organization of independent firms producing different products that work together to raise prices and restrict output. c. An organization of interdependent firms producing different products that work together to raise prices and restrict output. d. An independent body set up by the government against oligopolistic firms. e. An independent non-government organization that looks into the frauds committed by an oligopolistic firms. 295. Which of the following is/are false in a collusive oligopoly? a.
A few oligopolists jointly make decisions.
b.
The intention of the colluding oligopolists is to maximize their joint profits.
c.
A successful collusive oligopoly resembles a monopoly.
d.
The output and the price will be decided by the parties to the agreement.
e.
There are many instances which tell the success of long-term collusive oligopolies.
296. Which of the following does not likely to lead to the failure of collusive oligopoly? a. Secret price cutting. b. More number of firms. c. Undifferentiated products. d. Rapidly changing technology. e. Competition from foreign firms. 297. In an imperfect competition, duopoly refers to a. A market with only two buyers b. A market served by only two firms c. A market with a number of buyers but only two sellers having the complete market power d. A market with a number of sellers but only two buyers having the complete market power e. A market in which only central government and state government can be the players. 298. Which of the following is false in an imperfect competition? a. As the number of non-cooperative oligopolists increases, the market moves towards perfect competition. b. If more number of firms decide to collude the market moves towards monopoly. c. Often oligopolistic competition tends to be stable in the long run. d. In India collusion is illegal. e. Secret price cutting to select-customers is common in collusive agreements.
57
Microeconomics
299. A price war in an oligopoly refers to a. Successive and continued price increases by the firms to increase revenues and profits. b. Successive and continued price cuts by the firms to increase sales and revenues. c. Free gift offers by all firms on a competitive basis. d. Flooding the market with its good by one firm leading to price reduction by others. e.
Increase in the price by one firm and other firms following in a reverse way by decreasing their prices.
300. The marginal revenue (MR), price (P) and the elasticity of demand (e) of a good in an oligopoly are related by a.
MR = P/(1 – 1/e)
b.
MR = P/(1 – e)
c.
MR = P/(1/e – 1)
d.
P = MR/(1 – e)
e.
P = MR/(1 – 1/e).
301. Game theory is most useful for analyzing: a.
The results of the Super Bowl.
b.
The ways that two or more players choose strategies that jointly affect each participant.
c.
Uncertainty in economic analysis.
d.
Equilibrium in a perfectly competitive market.
e.
Adverse selection in markets for insurance.
302. In a geme-theoretic model, a dominant strategy exists when: a.
A player has a best strategy no matter what strategy the other player follows.
b.
No better strategy exists given the behavior of the other player.
c.
Players co-operate and co-ordinate their behavior in order to maximize joint profits.
d.
Players engage in a rivalry game involving price.
e.
The pay-offs to the players are equal.
Based on the following information answer the questions 303 to 305. The following figure shows a pay-off table for two firms, A and B. Each firm must choose to play one of two strategies. The pay-offs to the players depend not only on the strategies they choose individually but also on the strategy that the rival plays. The numbers inside the cells show the pay-offs to the two firms depending upon their choice of strategy. For example, if Firm A chooses strategy I and Firm B chooses strategy III, Firm A gets $20 and Firm B gets $50. Firm B III
Firm A Firm A
a
58
IV $50 b
$20
I $20 c
–$20 –$10 d
II $40
–$10
$25
Part I
303. Which strategy is a dominant strategy for firm A? a.
Strategy I.
b.
Strategy II.
c.
Strategy III.
d.
Strategy IV.
e.
None of the strategies available to firm A is a dominant strategy.
304. Which strategy is a dominant strategy for firm B? a.
Strategy I.
b.
Strategy II.
c.
Strategy III.
d.
Strategy IV.
e.
None of the strategies available to firm B is a dominant strategy.
305. Which cell is a dominant equilibrium? a.
Cell a.
b.
Cell b.
c.
Cell c.
d.
Cell d.
e.
None of the cells is a dominant equilibrium.
306. Price leadership refers to a.
Pre-emptive pricing made possible by the learning curve
b.
A form of price collusion
c.
The maintenance of a monopolistic price
d.
Cut-throat competition
e.
None of the above.
307. Which of the following is not true? a. Two types of collusions under oligopoly are tacit, as in price leadership and explicit, as in cartel formation. b. Using the kinked demand curve analysis, if a firm rises the price of its product, others will probably ignore this. c. A situation of few buyers is called oligopsony. d. Under oligopoly, equilibrium price is equal to marginal cost. e. Under oligopoly, the firms may produce standardized or differentiated products. 308. Under which of the following market structures is the price lower and output larger? a. Perfect competition. b. Monopolistic competition. c.
Monopoly.
d.
Collusive oligopoly.
e.
Non-collusive oligopoly.
309. In which of the following models of oligopoly it is assumed that firms believe their rivals will continue to produce the same output irrespective of the output produced by the firm? a.
Kinked demand curve model.
b.
Cournot’s duopoly model.
c.
Price leadership.
d.
Tacit collusion.
e.
Cartel formation. 59
Microeconomics
310. A cartel is a a.
Group of firms which get together and make joint price and output decisions to maximize joint profits
b.
Form of tacit collusion
c.
Type of oligopoly in which the demand curve is kinked
d.
Duopoly
e.
None of the above.
311. Which of the following is a characteristic of oligopoly? a.
A market situation with only a few competing buyers.
b.
A market situation with only a few competing sellers.
c.
A market situation with only one seller.
d.
An open market for the best interests of the consumers.
e.
Government control over prices.
312. A kinked demand curve occurs in an oligopoly when a firm a.
Increases its price and others follow it
b.
Increases its price and others do not follow it
c.
Decreases its price and others follow it
d.
Decreases its price and others do not follow it
e.
Both (b) and (c) above.
313. A zero-sum game is one in which a.
The gain of one player equals the loss of another player
b.
The gain of one player will not equal the loss of another player
c.
The maximin equals minimax
d.
The maximin does not equal minimax
e.
The Nash equilibrium and the dominant equilibrium are the same.
314. A dominant strategy is a state where a. The demand and supply are the same b. Every player will be in a position to dominate others c. One player has a best strategy no matter what strategy the other player follows d. No player can improve his/her pay-off given other player’s strategy e. Any sensible strategy can maximize the profits of all other players. 315. A pay-off table in a game theory describes a. The impact on the consumers because of the price war between two or more players b. The economic impact on the society because of the price war between two or more players c. The impact on the other players of the industry because of the price war between two players d. The strategies and pay-offs of a game with two or more players e.
The impact on two players because of strategies of different players in a market.
316. A saddle point in game theory refers to
60
a.
A point after which no player gets any profits irrespective of his/her strategy
b.
A point after which no player gets any losses irrespective of his/her opponent’s strategy
c.
The solution or outcome of a strictly determined game
d.
It is another name for dominant equilibrium
e.
It is another name for Nash equilibrium.
Part I
317. The term oligopoly refers to a.
Few buyers dominating the industry
b.
Few sellers dominating the industry
c.
A single seller who controls a group of sellers
d.
A consortium of sellers formed to supply some important goods
e.
A restricted number of sellers.
318. In which of the following industries oligopoly does not exist in India? a. Wheat farming. b. Software development. c. Pharmaceuticals. d. Engine oils. e. Cement. 319. The frequent formation of cartels by firms in the cement industry in India indicates that the cement industry in the country is a. A monopoly b. Perfectly competitive c. An oligopoly c. A monopsony e. An oligopsony. 320. A kinked demand curve occurs in an oligopoly when a firm a. Increases its price and others follow it b. Increases its price and others do not follow it c. Decreases its price and others follow it d. Decreases its price and others do not follow it e. Both (b) and (c) above. 321. When one firm in the health drinks market started advertising campaign that stressed the nutritional value of its health drinks, all the remaining 10 health drink majors started similar advertising campaigns to withhold their customers. It suggests that the health drinks industry is a/an a. Oligopoly b.
Oligopsony
c.
Monopolistically competitive market
d.
Perfectly competitive market
e.
Bilateral monopoly.
322. Which of the following market structures best describes the toilet soap industry in India, if the market shares of firms in the industry are:
a. b. c. d. e.
Company HLL P&G Nirma Karnataka Soaps Ltd. Others Perfect competition Monopoly Monopolistic competition Oligopoly Duopoly.
Market share 20% 15% 25% 15% 25%
61
Microeconomics
323. A firm having a kinked demand curve indicates that i.
If the firm reduces the price, competitive firms also reduce the price
ii.
If the firm increases the price, competitive firms also increase the price
iii.
If the firm reduces the price, competitive firms do not reduce the price
iv.
If the firm increases the price, competitive firms do not increase the price
a.
Only (i) above
b.
Both (i) and (iv) above
c.
Both (ii) and (iv) above
d.
Both (ii) and (iii) above
e.
Both (i) and (ii) above.
324. In a pure oligopoly, a price war refers to a. Continuous price cuts by firms to increase revenues and profits b. Unexpected price cut by a firm to improve its sales volumes c. A decrease in quantity supplied by the competitive firms to raise prices in order to maximize profits d. Entry of a new firm in the industry who charges a lower price e. Successive and continued price cuts by competitive firms with an aim to increase market share.
Pricing Factors of Production 325. Which of the following is true regarding the difference between the demand by consumers and the demand by firms for inputs? i. There is no difference. ii. The demand by consumers is for production while that by firms is for consumption. iii. The demand by consumers is for consumption while that by firms is for production. iv. The firm’s demand for inputs is derived indirectly from the consumer demand for its final product. a. Only (i) above. b. Only (iii) above. c. Only (iv) above. d. Both (ii) and (iv) above. e. Both (iii) and (iv) above. 326. The term ‘derived demand’ is defined as a. The demand for a factor of production that results from the demand for the final good to which it contributes b. The demand for a factor of production that results from the supply of the final good to which it contributes c. The demand that arises due to a rise in the income d. The demand that arises due to a fall in the supply e. The demand that results from fall in the supply of input factors. 327. The demand for the various factors of production are derived from a. The revenues that each factor yields b. The marginal product that each factor yields c. The demand curve for the final product d. The marginal revenue product that each factor yields e. The price of the additional unit.
62
Part I
328. Which of the following does the production function indicate? a.
Maximum revenue that could be generated.
b.
Maximum amount of output that could be produced.
c.
Maximum profit that could be made.
d.
Maximum marginal revenue that could be generated.
e.
Maximum marginal product that could be produced.
329. Declining marginal product is another name for a.
Diminishing costs
b.
Diminishing profits
c.
Diminishing returns
d.
Diminishing output
e.
Diminishing variable costs.
330. Marginal revenue production of an input-A is defined as a.
Extra revenue produced by an extra unit of input-A
b.
Extra revenue produced by an extra unit of input-B
c.
Extra profit produced by an extra unit of input-B
d.
Extra profit produced by an extra unit of input-A
e.
Extra revenue produced by extra units of all inputs except input-A.
331. The demand for a factor of production reflects its a. Marginal productivity b.
Supply
c.
Requirement
d.
Marginal cost
e.
Utility.
332. The term ‘labor supply’ refers to the number of a. People in a country b.
Adults in a country
c.
Laborers supplied
d.
Qualified laborers supplied
e.
Hours that the population desires to work in gainful activities.
333. The supply curve for the labor bends backward when a.
The substitution effect is more than the income effect
b.
The substitution effect is less than the income effect
c.
The substitution effect is equal to the income effect
d.
There is no substitution effect
e.
There is no income effect.
63
Part I: Multiple-Choice Answers (with Explanatory Key) Introduction 1. (b) Positive economics concerns with statements that are capable of verification by reference to facts. Normative economics involves statements about “what ought to be” rather than “what is”. 2. (e) Before 1991, the Indian economy was a mixed economy with more command economic features. 3. (b) Microeconomics deals with the minute details of the economy like the individuals, firms, markets, prices, etc. Whereas macroeconomics studies the aggregate variables of the economy such as output, employment and total spending. 4. (b) Economic good is a good that is scarce. The desire for economic goods exceeds the amount that is freely available from nature. 5. (d) To produce any commodity we need three factors of production land, labor and capital. Machinery, fuel, etc., come under capital. 6. (b) A discipline of economics which applies the statistical and mathematical techniques in solving the problems of economics is called econometrics. 7. (c) If the market is left to itself unfair practices prop up and the wealth concentrates in a few hands. Therefore the government must intervene, but not frequently, to ensure efficiency and to correct unfair distribution of income and resources. If the government interferes frequently, the market becomes inefficient due to too much regulations. 8. (e) Externality refers to those activities and actions of one person or firm that affect others (individual, firm or body corporate) for better or worse, without those others paying or being compensated for the activity. Thus, pollution emanating from a factory chimney, which is hazardous to the health of people living nearby, is an externality. Whereas construction of roads for facilitating transportation to a factory or traffic signals put up by the government does not constitute an externality. 9. (d) Public good can be defined as ‘a good or commodity whose benefits are indivisibly spread among the entire community whether or not particular individuals desire to consume it’ (Economics, Paul A. Samuelson & William D. Nordhaus). E.g. National defense, Police, and Atom bomb. 10. (d) In the market economy, prices assume significance in allocation of the resources and determining the factor prices. They are determined by supply and demand forces of the market. 11. (e) Indian Railways is a near monopoly in the mass goods transportation industry. 12. (a) Partial equilibrium analysis examines the behavior of a single market, household, or firm, taking the behavior of all other markets and the rest of the economy as given. 13. (b) General equilibrium analysis examines now (and now successfully) all the households, firms and markets interact simultaneously to solve the questions of how, what and for whom to produce. 14. (d) When we look at the economic system as a whole, the profit maximizing firms and utility maximizing house holds interact in product markets and factor markets. The general equilibrium would occur when markets for all these commodities and factors are simultaneously in equilibrium. 15. (d) Time value is the implicit cost in the opportunity cost. So the cost of time is considered.
Supply and Demand Analysis 16. (c) A right ward shift in the SS curve results in a drop in the price but increase in the quantity supplied and demanded. 17. (d) Due to sinking of the vessel transporting crude oil, the supply curve shifts toward left causing fall in the quantity supplied of crude oil and rise in prices of crude oil in the country. 64
Part I
18. (b) When two goods are substitutes, then the increase in the price of one good decreases its own demand and increases the quantity demanded of the other good. On the contrary, in the case of complementary goods, the increase in the price of one good decreases the quantity demanded of both the goods. 19. (d) The supply schedule describes the relationship between price and quantity supplied. A change in quantity supplied is a movement along a supply curve in response to a change in the price of the good. 20. (c) If demand rises, the demand curve shifts toward right and not toward left. 21. (a) Fall in demand or rise in supply decrease the price of the good, while rise in demand or fall in supply increases the price of the good. 22. (c) Change in factors other than price of the good results in the shift of demand curve. In option (c), demand falls due to rain and floods, and hence there will be a shift in demand curve. 23. (b) The shifting of the demand curve towards the right implies a rise in demand. If the demand increases, the price of the same quantity of goods increases. 24. (b) If the supply curve is rotated clock-wise around a particular point, the elasticity of supply increases gradually and ultimately reach infinity when it stands parallel to x-axis. Therefore, if two supply curves pass through the same point, the flatter one is more elastic. 25. (e) Tax burden is shared among buyers and sellers depending on the elasticity of demand and elasticity of supply. If elasticity of demand is less than elasticity of supply then most of the tax is borne by the buyers. On the other hand, if demand is more elastic than supply, most of the tax is borne by the sellers. 26. (c) Given more time it is possible to find more effective substitutes for a good or service whose price has increased. It is also possible to find more alternative uses for a good whose price has decreased. So the effect of change in the price of the product has greater effect on the quantity supplied and demanded and so both the supply and demand schedules are elastic in the long run. 27. (c) Elasticity of supply is lowest when the supply curve is perfectly inelastic. That means the change in price does not have effect on quantity supplied. Perishable goods like milk and vegetables have to be disposed off before they decompose or their quality decreases. So even if their price changes they do not have any change in supply. 28. (b) If the demand for a good is more inelastic, a change in price results in less than proportionate change in quantity demanded. Therefore, if the price of the good increases, the quantity demanded almost remains the same and the revenue increases. 29. (e) If the price fixed by the government is higher than the equilibrium price, the demand for the good decreases, leading to surplus of the good in the market. On the other hand, if the price fixed is less than the equilibrium price, the demand for the good increases and shortage of the good will occur due to constant supply of the good. 30. (c) Elasticity of demand varies from one point to another point. It decreases as one goes down the curve. 31. (a) If substitutes are not available in the production of a good the supply may be inelastic, i.e. there is less than proportionate change in quantity supplied for a given change in the price. If the two curves pass through the same point the flatter one is more elastic only when they are drawn on the same scale. 32. (e) The income elasticity of demand for a good is defined as percentage change in the quantity demanded of the good for a percentage change in the income of the consumer. Goods are said to be independent of each other, when changes in the price of one good does not effect the demand for the other, or vice versa. 33. (b) A demand curve of a good shows the quantity demanded of the good at various levels of price of the good. 34. (c) Ceteris paribus, an increase in the population results in an upward shift in the demand schedule. 65
Microeconomics
35. (c) Supply curve is drawn by taking quantities supplied on x-axis and their respective prices on vertical axis. If the price is constant at Rs.10 for any quantity then the supply curve is parallel to the X-axis. 36. (c) According to law of demand, ceteris paribus, if the price of any good decreases its quantity demanded increases and vice versa. By contrast, law of supply states that other things remaining constant, more of the good is supplied at a higher price and vice versa. The supply curve of perishable good is vertical. The demand for a life saving drug does not change with respect to changes in price. In other words, the demand for a life saving drug is inelastic. 37. (e) Demand for a good is said to be unit elastic when a given change in price of the good causes an equally proportionate change in the quantity demanded (Ep = 1). For example, if price per hour for browsing is Rs.10, the quantity demanded will be 10 hours (i.e. Rs.10 x 10 hours = Rs.100). If price changes to Rs.20 per hour, the quantity demanded will be 5 hours (i.e. Rs. 20 x 5 hours = Rs.100). The arc elasticity of demand for the good is (Ep) = 1. 38. (c) If the demand is relatively price elastic, for a given change in the price, the quantity demanded will change. As the charges were increased from 30 to 60 the demand for net browsing came down and the revenues decreased very largely. If the demand is inelastic then price change would not have effected the demand for net browsing and thereby revenue. 39. (d) Cross elasticity of demand = ecij = % change in quantity demanded of the ith good / % change in quantity demanded of jth good. ecij = ∂Qi / ∂Pj x Pj /Qi If the value of the derivative is positive then ecij will be positive and the two goods are said to be substitutes. For complementary goods, increase in the price of one good decreases the quantity demanded of both the goods. Here the value of derivative is negative. So Qc will be negative. 40. (c) The income elasticity of demand for a good is defined as percentage change in the quantity demanded of the good for a percentage change in the income of the consumer. When the demand for a particular good increases due to an increase in the level of income of the consumer, then such a good is called a normal good. The income effect of a normal good is always positive. For some goods it is seen that due to an increase in the income of the consumer the demand for the good falls. Such a good is known as an inferior good and the income effect of such a good is negative. 41. (d) If the demand for a good is elastic then for a given price increase the quantity demanded of the good decreases greatly and the revenue decreases. 42. (c) If the price elasticity of a good is perfectly elastic, for a small increase in price of the good leads to a great drop in quantity demanded. And therefore, the revenue of the firm may fall to zero if it increases the price of the good. 43. (b) Since the expenditure on the good is significant any change in price will affect the expenditure very much. If the price decreases the quantity purchased will increase if the price increases the quantity purchased will decrease. 44. (a) The demand for a good is said to be inelastic, if the quantity demand remains constant with respect to changes in price of the good. 45. (b) When demand is elastic the slightest price decrease will increase the quantity demanded very much and hence total revenue increases. 46. (a) Market period refers to the time period during which the market supply of a commodity is fixed and is also known as very short run period. 47. (c) The increase in demand of a perfectly elastic commodity will result in increase in equilibrium quantity while equilibrium price remains constant.
66
Part I
48. (b) Slope of the demand curve = We know that Ed =
ΔP ΔQ
ΔQ P x ΔP Q
Thus, slope of the demand curve is a measure of the elasticity of demand. 49. (c) If the demand is inelastic to the price changes then the total expenditure of the consumer increases with the increase in price. Hence the price of demand is less than one. 50. (b) An increase in supply results in right ward shift of the supply curve. The new supply curve intersects the demand curve at a point, where price is lower than the original price, unless the demand is perfectly price elastic. 51. (d) Total expenditure = Total revenue = PQ Where P is the price and Q is the quantity purchased. If the demand is unit elastic the change in price is offset by the proportionate change in quantity. So that the total expenditure is constant. 52. (e) Substitution effect is the increase in the demand for a good induced by the change in relative prices of goods. 53. (a) Price effect = Substitute effect + Income effect if both substitute and income effects are strong. Price effect will be strong. That is, for a given change in price, change in quantity will be large. Hence the answer is (a). 54. (c) If the market demand curve shifts sharply to the left while market supply curve moves to the right, the equilibrium price and quantity will decrease. 55. (d) The price elasticity at a point on the demand curve is the ratio of upper portion to the lower portion. 56. (d) Supply curve shifts only when factors other than good’s price change. Thus, there will not be any shift in supply curve when the prices of software packages fall. This is only a movement along the supply curve. 57. (c) The price elasticity at a point on the demand curve is the ratio of upper portion to the lower portion. If the point is the mid-point of the line then price elasticity is equal to one. A vertical demand curve implies quantity demanded at any price is same so price elasticity is zero that is demand is inelastic so second statement is wrong. If two demand curves pass through the same point the flatter one is more elastic so first one is also wrong. 58. (c) Cobb-Douglas production function is expressed as Q = α Lβ K1−β Since the exponents of the labor and capital variables sum to 1, such a model assumes that there are no increasing or decreasing returns to scale. There is constant returns to scale and the elasticity of substitution between two factors is equal to unity. 59. (a) The demand curve for a good having close substitutes is relatively elastic, as consumers will shift to the other goods (i.e. substitutes) even if there is a small increase in price. 60. (c) Substitution effect refers to a situation where increase in price of the good made consumers substitute with a relatively inexpensive good. 61. (d) Income effect explains the change in quantity demanded of a good for a change in the real income of the consumer due to a change in the price of the good. 62. (c) Total expenditure on a good will not change when the price of a good changes if demand is unit elastic. When the demand is unit elastic, the upward pressure on expenditure caused by the price increase would be equally off-set by the downward pressure on expenditure resulting from the reduction in the quantity demanded. Thus, expenditure of a consumer on a good with unitary elastic demand remains the same irrespective of the change in the price of good. 67
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63. (a) When the government levies a specific tax, buyers and sellers share the burden depending on the price elasticities of demand and supply. The tax burden will be more on those who are lesser sensitive to price changes. If cigarette companies pass much of the new tax on the consumers in the form of higher prices, it implies that the demand for cigarettes is comparatively lesser elastic than supply. The demand for cigarettes cannot be perfectly inelastic as part of the tax (although less) is borne by the sellers. 64. (e) When price of sugar falls, it reduces the cost of production of ice cream. This encourages suppliers to supply more to increase their profits. When supply of ice cream increases (supply curve shifts right), the price of ice cream falls. With the fall in price, because of increased supply, the demand for the good increases. Supply increases with the fall in the cost of production. Price of ice cream will fall because of increased supply. Hence, the correct answer is (e). 65. (c) Derived demand refers to demand for goods whose demand depends on the demand of other goods. Generally demand for producers’ goods like industrial raw materials, machine tools and equipments are derived because their demand depends on the demand of other goods. By contrast, direct demand refers to the demand for goods meant for final consumption; it is the demand for consumer goods like food items, ready-made garments and houses. 66. (a) The cross price elasticity of demand shows the nature of relationship between two products. Cross price elasticity of demand would be positive for substitutes as increase of price of one good increases the demand for other good. Since the cross-price elasticity of demand of Rolex and Bollix is +10, it implies that Rolex and Bollix are substitutes. 67. (b) One of the determinants of elasticity of demand is availability of substitutes. More the number of substitutes available, more elastic the demand is. Since Amox has more close substitutes than Bax, the price elasticity of demand for Amox will be more elastic than Bax. Thus, Dr. Rahul Labs should reduce the price of Amox and increase the price of Bax to increase its sales revenue. 68. (e) Price effect = Income effect + Substitution effect. For any good, the substitution effect is positive. That is, when a good becomes relatively cheaper, it is substituted for other goods. Income effect may be positive (normal good) or negative (inferior good) based on whether demand for the product increase or decrease when real purchasing power increase. In the case of a Giffen good, negative income effect is greater then the positive substitution effect, hence price and quantity demanded of the good are positively related. 69. (e) Elasticity of demand is defined as a percentage change in the quantity demanded due to the percentage change in the price; price elasticity of demand = percentage change in the quantity demanded/percentage change in the price of the commodity. I.
The slope of the demand curve represents the change in the price of the good to the change in the quantity demanded of the good.
II.
As one goes down the demand curve the price elasticity of demand decreases.
III. When the demand for the good is inelastic, a fall in the price of the good does not result in a greater increase in the quantity demanded. Hence, there would be no increase in the total revenue of the firm. IV. Elasticity of demand is measured by dividing the percentage change in the quantity demanded by percentage change in the price and not by dividing the change in quantity demanded by change in the price. (Note: ep = Percentage change in the quantity demanded/Percentage change in price). The correct answer is (e).
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Part I
70. (a) In case of normal goods, a given increase in income results in increase of demand. Normal goods can be further classified into luxury good or necessary goods based on the value of the income elasticity of demand. If the value of income elasticity is more than one, it signifies that the good is a luxury item. Since, the value of the income elasticity of demand is not known; we can classify the good to be normal goods. a.
In case of normal goods the quantity demanded increases/decreases with the increase /decrease in the income levels of the consumers.
b.
In case of necessities, though there would be positive change in the quantity demanded of the good for a given change in the income, the percentage change in the quantity demanded would be less than the percentage change in the income. Since, we do not know the value of the income elasticity of demand; we cannot classify the good as luxury or necessary good.
c.
Complementary goods are those which are jointly used to satisfy a want. Cross elasticity of demand, and not income elasticity of demand, is used to determine the relationship between the two goods.
d.
In case of inferior goods percentage change in the quantity demanded is negative with the change in the income. Hence, (d) is not the correct answer.
e.
In case of luxury goods, the percentage change in quantity demanded is greater than the percentage change in the income. Since, we do not know whether the percentage change in quantity demanded is greater than the percentage change in the income, we cannot classify the good to be luxury good.
71. (a) Movement of the demand curve implies that the change in the price of the good will lead to change in the demand for the good. For instance, fall in the price leads to extension in the demand curve. Similarly increase in the price of good leads to contraction in the demand for the good. A shift in the demand curve is caused by a change in any non-price determinant of demand. The curve can shift to the right or left. The factors that are responsible for shift in the demand curve may be listed out as follows: •
Income of the consumers
•
Prices of other goods (substitutes or complements)
•
Tastes and preferences of consumers.
a.
It is appropriate in this instance because it is not the factor that is responsible for the shift in the demand curve but it represents the movement along the demand curve.
b.
It is not appropriate in this instance because it is one of the factors that is responsible for shift in the demand curve.
c.
It is not appropriate in this instance because it is one of the factors that is responsible for shift in the demand curve.
d.
It is not appropriate in this instance because it is one of the factors that is responsible for shift in the demand curve.
e.
It is not appropriate in this instance because it is one of the factors that is responsible for shift in the demand curve. The correct answer is (a).
72. (c) Demand for a commodity is the quantity of that commodity demanded at a particular period for certain price. If a good is durable, that is if its purchases can be postponed, then it exhibits an elastic demand because consumers can postpone their purchases when they feel the price is high. a.
It is not appropriate in this instance because it indicates a situation where the elasticity of demand or the coefficient of elasticity is equal to zero.
b.
It is not appropriate in this instance because, it is indicating that there is no impact or consumers are not responding to the changes in the prices of the goods and therefore the demand for that good is perfectly inelastic and therefore the demand curve will be vertical to the X-axis.
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Microeconomics
c.
It is appropriate in this instance because it is indicating a situation where the consumers are sensitive to the changes in the prices of the goods and therefore the demand for that good is elastic and therefore the demand curve will be flatter. d. It is not appropriate in this instance because it is indicating a situation where the percentage change in the quantity demanded is equal to the percentage change in the price and the coefficient of elasticity is equal to one. e. It is appropriate in this instance because it is indicating a situation where the demand for the commodity is perfectly inelastic. The correct answer is (c). 73. (d) a. If the demand for wheat is highly inelastic, bumper crop will lead to a sharp decline in price thereby reducing farm incomes. b. In the long run both supply and demand curves tend to be more elastic since the responsiveness of producers and consumers to a price change will be more in the long run than in the short run. c. Demand for necessities is not as responsive to price change as the case with luxuries. d. If the demand is elastic, % change in Q > % change in P. For a given increase in price, decrease in Q will be more than proportionate to the increase in price thereby leading to decrease in total revenue. e. Price effect is the sum of income and substitution effects. For a Giffen good, the income effect is negative and more than the substitution effect thereby leading to a direct relation between price and quantity. If the negative income effect is less than the substitution effect, the good is inferior but not a Giffen good. 74. (c) Derived demand refers to demand for goods whose demand depends on the demand of other goods. Generally demand for producers’ goods like industrial raw materials, machine tools and equipments are derived demand because their demand depends on the demand of other goods. By contrast, direct demand refers to the demand for goods meant for final consumption; it is the demand for consumer goods like food items, ready-made garments and houses. a. Chocolate has more of direct demand than derived demand. b. Motorbike is a luxury good and a consumer good. Hence it has higher amount of direct demand. c. Demand for showrooms has higher derived demand. d. and (e) Refrigerator and color television are consumer goods and have lower derived demand than machinery 75. (e) When a specific tax is imposed, the burden of tax would be shared between buyer and seller based on their elasticities. If the elasticity of demand is higher than the elasticity of supply, the supplier would borne more tax burden. In fact, whoever is more inelastic will bear more amount of tax. a. It is not appropriate in this instance because it is not indicating increase in the price of a good due to increase in the demand for the good. b. It is not appropriate in this instance because it is indicating an inelastic supply of good. When the price elasticity of supply is inelastic, ceteris paribus, the supplier would bear more tax burden than the consumer. c. The price elasticity of demand is low in case of necessary goods, but since we do not know the price elasticity of supply, we cannot be precisely say who will share higher tax burden. d. It is not appropriate in this instance because it is indicating a relationship between total utility and total cost, and not the price elasticity. e. Since the buyer is more inelastic, the consumer would share more tax burden. Hence, the correct answer is (e).
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Part I
76. (b) I.
When a local rent control ordinance establishes a ceiling of Rs.3,500 per room, which is much higher than the equilibrium rent, it will not affect the equilibrium rent and quantity of rooms available.
II.
If the government announces a minimum support price of Rs.9, which is more than the equilibrium price of wheat, the support price reduces quantity demanded and increases quantity supplied. This will result in a surplus in the market.
III. When a minimum wage is enforced which is below the prevailing market equilibrium wage of Rs.100 per day, it will have no effect on labor hours. a
Is not the answer because in I above.
b.
Is the answer because there is a surplus in the market in II above.
c.
Is not the answer because there is a surplus in II, but no surplus in I above.
d.
Is not the answer because there is no surplus in I and III above.
e.
Is not the answer because there is a surplus in the market II but no surplus in III above.
77. (c) Ceteris paribus, when the demand for electric cars remains the same even after an increase in the price of diesel cars and electric cars are said to be independent. In this case the cross elasticity of demand will be zero. This means that the quantity demanded of one good remains constant regardless of the change in price of the other good. a.
Is not the answer because in case of substitute goods, if the price of one good increases (decreases) the quantity demanded of other good also increases (decreases).
b.
Is not the answer because in case of complementary goods, if the price of one good decreases (increases) the quantity demanded of other good also increases (decreases).
c.
Is the answer because in case of independent goods the quantity demanded of one good remains constant regardless of the price of the other good.
d.
Is not the answer because ceteris paribus, when the demand for electric cars remains the same even after an increase in the price of diesel cars, it cannot be inferred that electric cars and diesel cars are luxury goods. The classification of goods like inferior, normal and luxurious goods can be done only when the income elasticity of demand for the good is known.
e.
Is not the answer because ceteris paribus, when the demand for electric cars remains the same even after an increase in the price of diesel cars, it cannot be inferred that electric cars and diesel cars are inferior goods.
78. (c) When the prices of consumer electronics have dropped, while consumer spending on these electronic goods has increased, the demand for consumer electronic goods is relatively elastic. In this case the percentage change in quantity demanded is greater than the percentage change in price and the value of price elasticity of demand will be greater than one. a.
Is not the answer because in case of a perfectly inelastic demand, if the price of a good decreases, consumer spending on these goods has to be decreased.
b.
Is not the answer because in case of a relatively inelastic demand, if the price of a good decreases, consumer spending on these goods has to be decreased.
c.
Is the answer because in case of a relatively elastic demand, if the price of a good decreases, consumer spending on these goods has to be increased.
d.
Is not the answer because in case of a unitary inelastic demand, if the price of a good decreases, consumer spending on these goods remain constant.
e.
Is not the answer because in case of a perfectly elastic demand, if the price of a good decreases, consumer spending on these goods undetermined.
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79. (a) I.
Qx = 1000 – 2.5 Px + 5Py. In this case, if the Py increases, Qx also increases and vice versa. So good X and Y are substitutes.
II.
Qx = 250 – 0.5 Px – 0.5Py. In this case, if the Py increases, Qx decreases and vice versa. So good X and Y are complements.
III. Qx = 150 – 3Px – Py. In this case, if the Py increases, Qx decreases and vice versa. So good X and Y are complements. IV. Qx = 300 – Px – Py. In this case, if the Py increases, Qx decreases and vice versa. So good X and Y are complements. a.
Is the answer because good X and Y are substitutes in I above.
b.
Is not the answer because good X and Y are not substitutes in IV above.
c.
Is not the answer because good X and Y are substitutes in I above, but complements in IV above.
d.
Is not the answer because good X and Y are complements in II and III above.
e.
Is not the answer because good X and Y are complements in II, III and IV above.
80. (e) a.
Is not the answer because it is a false statement that elasticity remains constant throughout the demand curve. Elasticity takes different values at different point on the demand curve. b. Is not the answer because it is a false statement that elasticity increases with increase in quantity demanded. c. Is not the answer because it is a false statement that elasticity increases as the price decreases. d. Is not the answer because it is a false statement that elasticity is equal to the slope of the demand curve. If the demand function is represented by P = f (Q), then the slope of the demand curve is given by ∂P/ ∂Q and its elasticity is given by ep = P/Q. ∂Q/ ∂P. e. Is the answer because higher the elasticity, more responsive the demand is for a given change in price. Higher the elasticity, higher is the percentage in quantity demanded than the percentage change in price. 81. (d) When the demand for a product is perfectly inelastic then fire tax burden will be borne by the customers. a. Is not the answer because when the demand is relatively less elastic than supply, cigarettes manufacturers pass much of the additional tax on to the consumers in the form of higher prices. b. Is not the answer because when the demand for cigarettes is relatively more elastic than supply, cigarettes manufacturers do not pass much of the additional tax on to the consumers in the form of higher prices. Here the tax burden is more on the cigarettes manufacturers. c. Is not the answer because when the demand for cigarettes is as elastic as the supply, cigarettes manufacturers do not pass much of the additional tax on to the consumers in the form of higher prices. In this case the tax burden is shared equally by the cigarettes manufacturers and consumers. d. Is the answer because when the demand for cigarettes is perfectly inelastic, the entire tax burden is borne by the cigarettes consumers. e. Is not the answer because when the demand for cigarettes is perfectly elastic, the entire tax burden is borne by the cigarettes manufacturers.
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Part I
82. (d) As Coke and Pepsi are perfect substitutes, if the price of Pepsi increases to Rs.20 while the Coke price is Rs.10, Ramesh will buy only Coke. a.
Is not the answer because Ramesh will not buy as much pepsi as coke.
b.
Is not the answer because Ramesh will not buy twice as much coke as pepsi.
c.
Is not the answer because Ramesh will not buy equal amount of pepsi and coke, because the price of pepsi increases to Rs.20 while the coke price is Rs.10.
d.
Is the answer because Ramesh will buy only coke because coke price is Rs.10, while pepsi price is Rs.20.
e.
Is not the answer because conclusion can be drawn unless utility function of Ramesh is known.
Consumer Behavior Analysis 83. (e) The downward slope of the demand curve can be explained by equi-marginal principal, substitution and income effects or the law of diminishing marginal utility. 84. (c) The addicted users demand for the good will be the same even if the price changes. So demand is inelastic and the price elasticity is less than unity. 85. (e) The demand for an addicted good is price inelastic. If the sale of an addictive substance is prohibited from wide public use, the occasional (i.e. not addictive) users may switchover to substitutes and an illegal market may flourish to make advantage of the situation. 86. (a) The consumer surplus arises because we receive more than we pay for. In other words, consumer surplus is the difference between the amount of money we are willing to pay and the money we actually pay. 87. (d) If the consumer spends his income on two goods prices of which are P1 and P2 and MU1 and MU2 are marginal utilities equimarginal utility is achieved at MU1/P1=MU2/P2. 88. (e) The area under the triangle formed by consumer budget line with the two axes represents the feasible set of the consumer. The consumer is eligible to purchase any commodity bundle lying on or within the triangle. Income of the consumer increases the prices of the commodities remaining the same then his budget line shifts to the right. At the point of maximum satisfaction or equilibrium the budget line is tangent to the indifference curve. So their slopes are equal at the point. 89. (c) Any point on the indifference curve signifies the equally desirable combinations of two goods. 90. (d) The law of diminishing marginal utility states that as we go on employing more than one factor of production other factor remaining the same, it’s marginal productivity will diminish after some point. 91. (c) The difference between the prices for an abundant but most essential good and a scarce but not-so-essential good can be explained by equi-marginal utility principle. Example: water and diamond (Refer water-diamond paradox). The water though essential is abundant and its marginal utility is almost equal to zero. Whereas, the diamond though not-so-essential good is scare and so its marginal utility is high and so as its price. 92. (e) When a consumer is maximizing his utility subject to the constraint of income and given prices, then the marginal satisfaction (or utility) derived from the last rupee spent on each commodity must be equal for all commodities. 93. (e) Self-explanatory. 94. (c) The difference between the amount a consumer is willing to pay and the amount actually paid is known as consumer surplus. 95. (d) Substitutes are goods or products that are related such that an increase in the price of one will cause an increase in demand for the other. Tea and coffee are considered as substitutes because if price of tea increases, the demand for coffee increases, or vice versa.
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96. (c) If price of a good increases, the demand for its complement decreases. 97. (b) The consumer surplus arises because we receive more than we pay for. It is the difference between the amount of money we are willing to pay and the money we actually pay. 98. (b) Two indifference curves do not intersect with each other. A linear indifference curve implies a constant MRS. It happens when two goods are perfect substitutes to each other. MRS for an IC gradually decreases as we move down the curve. 99. (b) Since in consumer equilibrium MUx/ MUy = Px/Py The marginal utility of X exceeds the marginal utility of Y. 100. (c) The utility for a consumer is maximized when he chooses that bundle of goods which gives him the highest level of satisfaction. 101. (c) Indifference curve is a curve that shows different combinations of two goods that yields exactly the same level of satisfaction to a given consumer. In other words, indifference curve is a line that shows all combinations of two goods between which the consumer is indifferent. 102. (b) According to the law of diminishing marginal utility as we go on consuming more of the same good the marginal utility will be decreasing. So in the given case the total satisfaction of the consumer is increased so he is definitely better off in his new position. 103. (d) Because at the equilibrium point the budget line is tangent to the indifference curve the slopes are equal and hence the price ratio is equal to MRS. –
The slope of the indifference curve gives the ratio of marginal utilities.
–
Two indifference curves cannot touch each other.
–
Money income of the consumer remaining constant, if the price of the two commodities fall by the same percentage the price line will shift right wards.
104. (a) The substitution effect measures the effect of change in relative price of any commodity, the real income remaining constant. 105. (d) Equi-marginal utility is achieved at a point where the budget line is tangential to IC. (Indifference Curve). 106. (d) The indifference curve in the locus of different combinations of commodity bundles which give same level of utility to the consumer. 107. (b) Total utility is equal to the sum of marginal utilities up to that unit. 108. (c) When A and B are substitutes, increase in the price of one good increases the demand of other good. 109. (e) Consumer surplus is the difference between the willingness price and actual price for a consumer. a. Producer costs represent the cost incurred by the producer in producing the good. b. Monopolist Profit: Economic profit generated as a result of a firm’s market control. It’s termed monopoly profit as a reflection of the most prominent market structure with market control – monopoly. c. Economic Profit: The difference between business revenue and total economic cost. This is the revenue received by a business over and above the minimum needed to produce a good. d. Producers Surplus: The revenue that producers obtain from selling a good over and above the opportunity cost of production. This is the difference between the minimum supply price that sellers would be willing to accept and the price that is actually received. e. Consumer Surplus is the satisfaction that consumers obtain from a good over and above the price paid. This is the difference between the maximum demand price that the consumer would be willing to pay and the price that he actually pays. The correct answer is (e). 74
Part I
110. (c) The slope of the indifference curve is represented by the marginal rate of substitution between the two goods. a.
It is not appropriate in this instance because, marginal rate of substitution between two imperfect substitutes cannot be an increasing factor, and hence the indifference curve cannot be concave.
b.
It is not appropriate in this instance because, marginal rate of substitution between two imperfect substitutes is decreasing in accordance with the law of diminishing marginal utility and hence the indifference curve will be convex.
c.
It is appropriate in this instance because, it is representing a situation where the products A&B are perfect substitutes. In case of perfect substitutes, the marginal rate of substitution remains constant. Hence, the indifference curve would be downward sloping straight line.
d.
An upward sloping straight line indicates positive slope.
e.
In case of perfect complementary goods, the indifference curve would be L shaped.
The correct answer is (c). 111. (a) A curve drawn indicating the slope of the total utility curve represents the marginal utility curve. MU curve closely resembles the demand curve. The only difference between MU curve and demand curve is that demand curve does not go below 0, while MU can be negative. 112. (a) Indifference curve shows different combinations of goods that give same level of satisfaction. I.
It is appropriate because the slope of the indifference curve represents the marginal rate of substitution.
II.
It is not appropriate in this instance because in case of substitutes the indifference curve is a negatively sloped straight line.
III. It is not appropriate in this instance because indifference curves will never intercept each other. IV. It is not appropriate in this instance because indifference curves represent higher level of satisfaction and not the higher level of output. Hence, the correct answer is (a). 113. (b) The law of demand is directly derived from the law of diminishing marginal utility. When the price of the good falls, the consumer buys more of the good so as to equate the marginal utility to the lower price. The downward sloping marginal utility curve can be converted into the downward sloping demand curve. a.
Is not the answer because indifference curve doesn’t resemble the demand curve of a consumer. An indifference curve depicts the various alternative combinations of the goods, which provide same level of satisfaction to the consumer.
b.
Is the answer because marginal utility curve resembles the demand curve of a consumer.
c.
Is not the answer because budget line is not same as the demand curve of a consumer. Budget line represents all the combinations of the two commodities, which the consumer can buy by spending his entire income for the given prices of the two commodities.
d.
Is not the answer because total utility curve is not same as the demand curve of a consumer. Total utility curve is a curve representing the sum of all the utilities derived from the total number of units consumed.
e.
Is not the answer because average utility curve is not same as the demand curve of a consumer.
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Microeconomics
114. (c) Consumer surplus is the excess of the price that a consumer is willing to pay for the commodity over and above what he actually pays for it. a.
Is not the answer because Parma is offered a job below the price what she expected. So, this doesn’t reflect the consumer surplus.
b.
Is not the answer because Raju refused to buy the same shirt at Rs.180, but he pays for the same shirt a sale price of Rs.150. So, this doesn’t reflect the consumer surplus.
c.
Is the answer because Tendulkar is ready to pay Rs.8 for a pepsi, but he gets it free. This is a case of consumer surplus.
d.
Is not the answer because the price of the burgers has reduced by 50 percent. This is not a case of consumer surplus.
e.
Is not the answer because Rajesh has a marginal cost of Rs.500 for a unit of output and sells that unit at Rs.600. This is not the excess of the price that a consumer is willing to pay for the commodity over and above, what he actually pays for it. So this is not a case for a consumer surplus.
115. (d) When consumer pays price for the commodity he is consuming, he compares the utility he derives from the additional unit of a commodity with the utility he sacrifices in terms of the price paid for that unit of a commodity. The consumer is in equilibrium when marginal utility and price are equal. Therefore, the consumer reaches equilibrium only when last rupee spent on apples and oranges give him the same level of marginal utility. a.
Is not the answer because the consumer doesn’t reach equilibrium when marginal utility of apples is equal to the marginal utility of oranges.
b.
Is not the answer because the consumer doesn’t reach equilibrium when marginal utility of apples is equal to the marginal utility of oranges and the income is exhausted.
c.
Is not the answer because the consumer doesn’t reach equilibrium when every rupee spent on apples and oranges give him the same level of marginal utility.
d.
Is the answer because the consumer reaches equilibrium when last rupee spent on apples and oranges give him the same level of marginal utility.
e.
Is not the answer because on (b) and (c) above, the consumer doesn’t reach equilibrium.
Production Analysis 116. (b) If the output changes in a constant proportion with factor inputs then it is called constant returns to scale. 117. (b) New innovations may result in the increase of efficiency of all the methods of production. This indicates that a higher level of output can be obtained with a same level of input or a same output with a lesser inputs. 118. (d) Technological change should improve the production so output is increased with lesser inputs or new products, processes are found. 119. (b) An isoquant curve is a curve that shows different combinations of two inputs which yields a given or same level of output. An isoquant curve is also known as equal output curve or equal product curve. 120. (c) The law of diminishing returns states that if we go on employing more of one factor the other factor remaining the same it’s marginal productivity will diminish after some point. 121. (c) The marginal product of an input (say labor) is the extra product produced or added by using 1 extra unit of input (labor) while keeping other inputs constant. Mathematically, marginal product (MP) = Δ TP/ Δ L. Where TP is the total production and L is the labor units used. 122. (b) Self-explanatory.
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Part I
123. (d) An isoquant (equal product curve) is the locus of all those combinations of two inputs, which yields a given level of output. Parallel equal product curves do not represent the same output. The point where an equal-cost line is tangential to an equal-product curve (isoquant curve) is the profit maximizing point. 124. (e) If the two inputs were perfect substitutes, the isoquants would be straight lines and if they had no substitutability at all, the isoquants would be rectangular in shape. Keyboard and monitor are not substitutable and are used in fixed proportion. Thus, the shape of the isoquant will be L-shaped. 125. (e) The average product will be maximum when marginal product curve intersects the average product curve. In other words, when average product is highest, the marginal product is equal to average product. 126. (b) The change in total revenue for a given change in use of inputs. 127. (e) Minimization of the cost for a given level of output at least cost condition is suppose L and K are factor inputs
ΔQ P x ΔP Q 128. (e) If the two inputs were perfect substitutes, the isoquants would be straight lines and if they had no substitutability at all, the isoquants would be rectangular in shape. If inputs are used in fixed proportions the isoquants are L-shaped. 129. (c) Diseconomies of scale refers to increase in average cost with the expansion of plant size. 130. (d) A combination of inputs to the right of the cost line indicates that it is a point above the cost function which cannot be reached with the given budget. Hence, the correct answer is (d). 131. (c) Marginal product is the increase in the total product resulting from a unit increase in the employment of a variable input. When marginal product is negative, TP decreases. When TP is falling and output is increasing, AP also starts falling. a.
TP will be maximum, when MP = 0
b.
AP will be maximum, when MP = AP
c.
When marginal product is negative, TP decreases. When TP is falling and output is increasing, AP also starts falling.
d.
When MP is negative, TP falls.
e.
AP cannot be negative.
The correct answer is (c). 132. (e) Least-cost production implies that the producer produces a given level of output where the marginal physical product to the factor price ratio is equal to the factor inputs. a.
It is not appropriate in this instance because it is indicating that all factor prices are equal indicates the demand and supply of that factor.
b.
It is not appropriate in this instance because it indicates the addition to total output by the employment of an additional unit of a factor of production all else equal.
c.
It is not appropriate in this instance because marginal physical product is the slope of the total output curve and therefore will not indicate the least cost production.
d.
It is not appropriate in this instance because it is not indicating the least-costproduction.
e.
It is appropriate in this instance because, it is the change in the total revenue of the firm that results from the employment of one additional unit of a factor of production. Therefore the marginal physical product to factor price ratio equal to the factor inputs indicates the least-cost production.
The correct answer is (e).
77
Microeconomics
133. (c) The relationship between marginal product curve and average product curve is such that when marginal product curve cuts average product curve, the average product will be at its maximum point. a. Maximum point is reached when MR = MC. b. Total product reaches maximum when MP = 0. c. When MP = AP, AP will be maximum. d. Marginal product will be maximum, when ∂ MP/ ∂ L = 0. e. Marginal product will be zero, when employing of an additional labor does not result in increase of total product. 134. (c) The law of diminishing returns states that by employing more units of some factors of production to work with one or more fixed factors, the total product will increase at an increasing rate, then at a constant rate and finally at a diminishing rate. a. Is not the answer because the law of diminishing returns holds good when all labors are equally efficient i.e. labor are homogeneous. b. Is not the answer because the law of diminishing returns is relevant only when the time period is short because in long run all factors are variable. c. Is the answer because the law of diminishing returns is not applicable when the two inputs are used in same proportion. When all factor inputs are increased by the same proportion, this law is not relevant. d. Is not the answer because the law of diminishing returns assumes that the state of technology is given and remains constant. e. Is not the answer because according to the law of diminishing returns, one factor of production must always be kept constant at a given level. So if capital is held constant, with varying labor, this law of diminishing returns holds good. 135. (b) Isoquant represents all the alternative combinations of two factors that can produce a given level of output. a.
Is not the answer because an indifference curve shows all the various combinations of two goods that give equal amount of satisfaction or utility to a consumer.
b.
Is the answer because isoquant shows all combination of inputs that can produce a given output.
c.
Is not the answer because production possibility frontier represents all possible combinations of total output that can be produced with a fixed amount of productive resources.
d.
Is not the answer because isocost line shows all the combinations of the two factors (e.g. labor and capital) that the firm can buy with a given set of prices of the two factors.
e.
Is not the answer because marginal product curve is the curve, which represents the marginal product of a factor i.e. the addition to the total production by the employment of an extra unit of a variable factor.
136. (c) A rational firm always employs labor up to the point when the marginal product of labor is zero. If the firm employs beyond that point, it reduces the efficiency of the fixed factors, which results in a fall in the total product instead of rising.
78
a.
Is not the answer because a rational firm will employ labor when the average product of labor is equal to marginal product of labor.
b.
Is not the answer because a rational firm will employ labor when the marginal product of labor is maximum.
c.
Is the answer because no rational firm would employ labor when the marginal product of labor is zero.
d.
Is not the answer because when the labor is zero, the total product of labor will be zero.
e.
Is not the answer because when the labor is zero, the average product of labor will be zero.
Part I
137. (b) Marginal product of labor is the addition to the total production by employment of an extra unit of a variable factor. a.
Is not the answer because marginal product of labor is not the cost of employing labor for producing one more unit of output.
b.
Is the answer because marginal product of labor is the change in output from using one more unit of labor.
c.
Is not the answer because marginal product of labor is not the change in revenue from selling one more unit of output.
d.
Is not the answer because marginal product of labor is not the change in revenue from using one more unit of output.
e.
Is not the answer because none of the above is not the answer
138. (a) a.
b. c. d. e.
Is the answer because it is a true statement that a 10% decrease in the inputs leads to 15% decrease in the output, increasing returns to scale are said to be in operation. When change in output is more than proportionate to the change in inputs, increasing returns to scale are in operation. Is not the answer because a constant returns to scale are in operation when the change in output is proportionate to the change in inputs. Is not the answer because the slope of the isoquant is not price ratio of factor ratio, rather the MRTS. Is not the answer because isoquants are convex to the origin. Is not the answer because the slope of isocost line is constant.
Analysis of Costs 139. (a) MC curve is upward rising and it cuts the average cost curve at minimum AC. So long as MC is below AC, the AC curve is gradually declining. 140. (c) The marginal cost curve intersects both the average variable cost and average cost at their respective minimum points. 141. (e) As the total fixed cost is constant, increase in output results in decrease of average costs. If quantity produced tends to zero, average fixed costs tends to infinity. The average fixed cost therefore is a monotonically decreasing function of the level of output. 142. (c) MC at a point could be measured by the slope of the tangent drawn at the point on the TC curve. 143. (a) In the short run all costs are not fixed. 144. (b) Self-explanatory. 145. (b) In addition to out-of-pocket costs, economic costs include implicit costs also. The total cost curve is not bell shaped. The opportunity cost of a resource can be defined as the value of the resource in its next best use that is, if it were not being used for the present purpose. 146. (b) Long run average cost curve is an envelope of all SACs. So it is also called envelope curve. 147. (e) If fixed cost and total variable cost are known TC
= FC + VC
AFC = Fixed cost /output AVC = Variable cost/output AC = AFC+AVC MC = The change in total costs for any additional unit of output.
79
Microeconomics
148. (a) As the total fixed cost is constant the average fixed cost decreases as output quantity increases. The average fixed cost is therefore is a monotonically decreasing function of the level of output. 149. (b) Total cost, ATC, AVC, TVC all increase with increase in output whereas AFC decreases with increase in output. 150. (d) Initially the AC curve is falling. But as output increases AVC reaches a minimum and gradually increases but the AFC decreases continuously. Hence the rising AVC will outweigh the falling AFC. But for MC it increases for every additional unit of output produced. 151. (b) In the long run all costs are variable. 152. (e) Average fixed cost curve is a rectangular hyperbola. 153. (a) Long run total cost curve is also known as planning curve in the sense that it is a guide to the entrepreneur in his decision to plan for the future expansion of the output. 154. (c) Accounting Profit = Total Revenue – Explicit Costs Economic Profits = Total Revenues – Explicit Costs – Implicit Costs Therefore, Economic Profits = Accounting Profits – Implicit Costs. 155. (e) APL = AC =
Q L
FC + VC FC + WL Q , AC = = Q Q L
VC = WL, AC = AC =
FC WL + Q Q
FC + W/APL Q
∴ In short run, APL and AC are inversely related.
Hence (e) is not true. 156. (c) The marginal cost curve intersects both the average variable cost and average cost at their respective minimum points. 157. (b) The opportunity cost of a resource can be defined as the value of the resource in its next best use, that is if it were not being used for the present purpose. Implicit cost is the opportunity cost of self-employed resources. 158. (b) The marginal cost curve intersects both the average variable cost and average cost at their respective minimum points. 159. (c) When AC is above the MC curve, MC may be rising or falling. This will be clear from a graph showing AC and MC curves. 160. (a) When demand increases, firms produce more output. Since the industry is decreasing cost industry, production of more output reduces the average cost and hence firms lower price. 161. (a) At this level the firm will earn normal profits. It is possible at minimum LAC. 162. (e)
TC = 1000 + 200Q – 9Q2 + 0.25Q3 MC = 200 – 18Q + 0.75Q2 FC = 1000
163. (a) If external economy prevails in an industry, due to a fall in input prices the firm’s per unit cost curves shifts downwards as the industry expands. 164. (a) In the long run all factors of production are assumed to be variable. The entrepreneur is free to change the resources and plant size in the long run.
80
Part I
165. (d) Firms earn above normal profits if the market demand increases for a commodity. This will attract new firms into the industry and the supply increases. If input prices are constant as the demand for inputs is going up, the new long run equilibrium price will be the same. Then at min. LAC the long run industry supply curve for the commodity is horizontal. This is a constant cost industry, indicating the nature of the supply curve to be perfectly elastic. 166. (b) A firm’s cost curves are linked to its product curves. Over the range of rising average product, average variable cost is falling. When average product (AP) is maximum, average variable cost (AVC) is a minimum. 167. (d) Explicit costs refer to those costs that are made out-of-pocket and are recorded in accounting books. Salaries paid to workers, medical expenses of an employee, advertisement expenses and telephone bills are all out-of-pocket costs and are entered in the books of accounts. The amount forgone by the firm’s owner by not working at another job represents the opportunity cost (implicit cost) and hence is the answer. Note that the opportunity cost is the highest valued benefit that must be sacrificed as a result of choosing an alternative. 168. (c) In economics, cost includes opportunity costs. A normal return to management or capital is the minimum payment necessary to keep those resources from moving to some other firm or industry. Thus, economic cost includes a normal rate of profit. The term economic profit refers to profit in excess of these normal returns. Thus, a firm earning normal profits represents that the firm is getting zero economic profits but not zero accounting profits. 169. (d) Out-of-pocket (explicit) costs, indirect costs, private costs and fixed costs are all recorded in the books of accounts of the company as payments are made to outsiders who supply labor services, materials, power, transportation, etc. Implicit costs are not entered in the books of accounts, which include costs of self-owned, self-employed resources and time cost, etc. 170. (b) a. b. c. d. e.
Average fixed cost (AFC) falls with the increase of output whether or not marginal cost is increasing or decreasing. Hence (a) is not correct. When marginal cost is increasing, but less than average total cost, the average curve will fall. Since (b) is correct, (c) cannot be the answer. The average variable cost will be equal or less than average cost since average cost comprises. Of both AVC and AFC (i.e. average variable costs and average fixed costs). When marginal cost of a firm is increasing, but less than average total cost, average variable cost may be increasing or decreasing.
171. (e) a.
Normally, marginal cost falls initially, reaches a minimum and then gradually increases after some point with the increase of output.
b.
Average variable cost falls initially, reaches a minimum and then gradually increases after some point with the increase of output.
c.
As TFC remains constant, AFC falls continuously with the increase in output.
d.
Total variable costs increases with increase of output.
e.
The correct answer is (e) because none of the above remains constant with the increase of quantity of output.
172. (c) The relationship between marginal product curve and average product curve is such that when marginal product curve cuts average product curve, the average product will be at its maximum point. a.
Maximum point is reached when MR = MC.
b.
Total product reaches maximum when MP = 0.
c.
When MP = AP, AP will be maximum.
d.
Marginal product will be maximum, when ∂ MP/ ∂ L = 0.
e.
Marginal product will be zero, when employing of an additional labor does not result in increase of total product. 81
Microeconomics
173. (c) Diseconomies of scale refer to the forces causing the average cost of production to increase as the output increases. Therefore the answer is (c). 174. (d) Economic profit = Accounting profit – Implicit costs. Hence, the correct answer is (d). 175. (a) a.
When marginal cost is increasing with the increase of output, average returns may be increasing or decreasing.
b.
When output is increasing, average fixed costs decreases whether or not marginal cost is increasing or decreasing.
c.
When marginal cost is increasing with the increase of output, average variable costs may be increasing or decreasing.
d.
When MC is rising, TC also increases
e.
When marginal cost is increasing with the increase of output, average costs may or may not increasing.
176. (e) The vertical distance between TC and TVC shows the fixed cost of the firm. a.
The law of diminishing returns states that as more and more units of a variable resource are combined with a fixed amount of other resources, employment of additional units of the variable resource will eventually increase output only at a decreasing rate. But, it does not reflect the vertical distance between TC and TVC.
b.
AFC is given by TFC/Q. MC is given by dTC/dQ or dTVC/dQ. Thus, only slope of TC and TVC reflect the MC.
d.
AVC is given by TVC/Q. It has no significance with respect to vertical distance between TC and TVC.
e.
The vertical distance between TC and TVC shows the fixed cost of the firm.
The correct answer is (e). 177. (a) Long run average cost curve is a U shaped curve indicating initially there exists economies of scale followed by diseconomies of scale. a. When AC is increasing, MC must be increasing b. Operation of law of diminishing marginal productivity is not the cause of the upward rising long run average cost curve. c. Only diseconomies of scale lead to increase in AC, while economies of scale reduce the AC. Hence, the correct answer is (a). 178. (d) When the level of output changes, the total cost as well as total variable costs also changes. Since there would be no fixed cost in the long run, AFC remains at 0 in the long run. Hence, the correct answer is (d). 179. (e)
82
a.
Long run average cost (LAC = LTC/Q) is U-shaped because of economies of scale initially and diseconomies of scale at later stages of production.
b.
Long run marginal cost (LMC = ∂LTC/∂Q) is U-shaped as cost of producing additional units reduces at the beginning because of economies of scale, but raises later due to diseconomies of scale.
c.
(c) and (d) short run average cost (SAC = STC/Q) and AVC (= TVC/Q) falls and raises due to operation of ‘law of diminishing marginal productivity’.
d.
Average fixed cost (AFC = TFC/Q) falls at a decreasing rate with the increase of output because of constant total fixed cost.
Part I
180. (d) Economic profit = Accounting profit – Implicit costs. 181. (c) As the output increases, the total fixed cost spreads over more and more units and therefore average fixed cost becomes less and less. As output increases, Average Fixed Cost (AFC) decreases continuously; whatever may be the marginal cost. a.
Is not the answer because as the output increases, if the marginal cost is increasing, average variable cost increases.
b.
Is not the answer because as the output increases, if the marginal cost is increasing, average cost increases.
c.
Is the answer because as the output increases, if the marginal cost is increasing, average fixed cost decreases.
d.
Is not the answer because as the output increases, if the marginal cost is increasing, total variable cost increases.
e.
Is not the answer because as the output increases, if the marginal cost is increasing, total cost increases.
182. (b) I.
When output becomes very large, average fixed cost approaches zero, but it never reaches zero, if there is a certain amount of fixed costs.
II.
It is not true that AFC reaches minimum when MC interests AFC. AFC does not reach minimum when MC cuts AFC. There is no minimum point of AFC.
III. It is not true that the shape of AFC curve is linear. The shape of average fixed cost curve is rectangular hyperbola indicating that when the output increases by a certain percentage, the average fixed cost decreases by the same percentage such that their product representing total fixed cost remains constant. IV. Average fixed cost is maximum when output is zero. a.
Is not the answer because I above is true and II above is not true if the fixed cost of a firm is Rs.10,000.
b.
Is the answer because both II and III are not true if the fixed cost of a firm is Rs.10,000.
c.
Is not the answer because II above is not true, while IV above is true if the fixed cost of a firm is Rs.10,000.
d.
Is not the answer because I above is true, while II and III above are not true if the fixed cost of a firm is Rs.10,000.
e.
Is not the answer because II and III above are not true, while IV above are true if the fixed cost of a firm is Rs.10,000.
183. (d) The prices of inputs remain constant; a 15% increase in all inputs will increase the output by 15% results in no change in average variable cost, fixed cost and marginal cost. a.
Is not the answer because average variable cost will not change as the output increases.
b.
Is not the answer because fixed cost will not change as the output increases. Fixed cost remains same at different level of output, even if the output is zero.
c.
Is not the answer because marginal cost will not change as the output increases.
d.
Is the answer because average variable cost, fixed cost and marginal cost will not change as the output increases.
83
Microeconomics
184. (a) When a firm expands in the long run, it tends to reap the benefits of economies of scale. On account of these advantages; the firm’s long run total cost increases slowly with the output. The shape of the total cost curve will be an upward sloping curve. a.
Is the answer because the shape of the total cost curve is an upward sloping curve.
b.
Is not the answer because the shape of the total cost curve is not rectangular hyperbola.
c.
Is not the answer because the shape of the total cost curve is not U-shaped curve.
d.
Is not the answer because the shape of the total cost curve is not inverted U-shaped curve.
e.
Is not the answer because the shape of the total cost curve is not horizontal curve.
185. (a) When a firm expands in the long run, it tends to reap the benefits of economies of scale. On account of these advantages; the firm’s long run total cost increases slowly with the output. The shape of the total cost curve will be an upward sloping curve. a.
Is the answer because the shape of the total cost curve is an upward sloping curve.
b.
Is not the answer because the shape of the total cost curve is not rectangular hyperbola.
c.
Is not the answer because the shape of the total cost curve is not U-shaped curve.
d.
Is not the answer because the shape of the total cost curve is not inverted U-shaped curve.
e.
Is not the answer because the shape of the total cost curve is not horizontal curve.
186. (c) Break even point of a firm occurs when there is a no profit no loss situation happens. This can be possible only when AR = AC. a.
Is not the answer because a firm will not break even when TR = MC.
b.
Is not the answer because a firm will not break even when MR = MC. Rather a firm is said to be in equilibrium when MR = MC.
c.
Is the answer because a firm will break even when AR = AC.
d.
Is not the answer because a firm will not break even when P = MC.
e
Is not the answer because a firm will not break even when P = AR = MC.
187. (a) The long run average total cost curve is known as the planning curve. It helps the firm in the decision-making for the future expansion of output. a.
Is the answer because long run average total cost curve is called planning curve.
b.
Is not the answer because long run marginal cost curve is not the planning curve.
c
Is not the answer because long run total cost curve is not the planning curve.
d
Is not the answer because long run average fixed cost curve is not the planning curve.
e
Is not the answer because long run average variable cost curve is not the planning curve.
188. (c) When a firm continues to expand beyond the optimum capacity, economies of scale will disappear and will give place to diseconomies. A given percentage increases in all the factors will be followed by less than a proportionate increase in the total output. As a result average cost will increase in the long run.
84
a.
Is not the answer because economies of scale cause the average cost to decrease in the long run.
b.
Is not the answer because diminishing marginal returns don’t cause the average cost to increase in the long run.
c.
Is the answer because diseconomies of scale cause the average cost to increase in the long run.
d.
Is not the answer because diminishing marginal utility doesn’t cause the average cost to increase in the long run.
e.
Is not the answer because none of the above is not the answer.
Part I
Market Structure I: Perfect Competition 189. (d) The portion of the MC curve of a firm, which lies above the AVC curve, is the supply curve of the firm in the short run. Thus, vertical supply curve is not a feature of perfect competition. All the remaining are the features of perfect competition. 190. (b) For a firm the profit function π =R −C ∂π / ∂Q = ∂R / ∂Q − ∂C / ∂Q to maximize total profit ∂π / ∂Q = 0 ∂R / ∂Q − ∂C / ∂Q = 0 ∂R / ∂Q = ∂C / ∂Q MR =
MC since price is constant
AR =
MR = Price
P
MC
=
191. (d) At zero profit point or break even point marginal cost equals the average cost. 192. (c) When market price equals minimum possible average variable cost, losses at the output for which price equals marginal cost are the same as fixed cost. If price falls below minimum possible average variable cost, the firm shuts down because operating losses would then exceed fixed cost and will unable to recover average variable cost. 193. (c) When market price equals minimum possible average variable cost, losses at the output for which price equals marginal cost are the same as fixed cost. If price falls below minimum possible average variable cost, the firm shuts down because operating losses would then exceed fixed cost. 194. (e) The statement refers to short run. While returns to scale is referring to long run. Hence, the statement is wrong. 195. (e) All the given statements are correct. 196. (d) In perfect competition no single supplier is able to influence the price or market supply and the demand is constant. So even if the supply is increased the quantity will only increase slightly. 197. (a) When supply is inelastic, reduction in demand causes steep fall in prices. 198. (d) A situation is defined as efficient if it is impossible to make any one better off without making someone worse-off. When an efficient allocation of resources has been done it is not possible to make any person in the society better off without making someone worse off. 199. (b) The portion of the marginal cost curve lying above the average variable cost curve is the short run market supply curve for a commodity produced by a competitive industry. 200. (c) The marked demand curve is the marginal benefit curve because each point on a market demand curve reflects the maximum sum a consumer will give up to get more of a good, given its current availability. 201. (b) The concept and measure of efficiency are based on marginal analysis. The best level of output for a firm under any market organization is where the marginal revenue equals marginal cost. If marginal revenue exceeds MC it pays for the firm to expand output because by doing so the firm will add more to its total revenue than to its total costs. On the other hand if marginal cost exceeds marginal revenue it pays for the firm to reduce output because by doing so its total costs will decline more than its total revenue. Thus the best level of output is where the MR equals MC. This is nothing but ‘B’. 202. (a) In a perfectly competitive market no individual buyer or seller however large can influence the price by changing the purchase or output. So nobody can have the private benefits. It implies that social benefit is same as private benefit.
85
Microeconomics
203. (a) In a perfectly competitive market no individual buyer or seller however large can influence the price by changing the purchase or output. So nobody can have the private benefits. It implies that social benefit is same as private benefit. When there is a move away from the level of output the efficiency is lost. 204. (a) At the profit maximizing output, price should be equal to the marginal cost. If MC is less than price the firm can increase its total profit by increasing output. 205. (c) It is advisable for a firm operating under perfect competition to shut down in the short run when the price of the product falls below the average variable cost. If the firm is not able to get its variable costs, a rational firm will not operate in the market. 206. (c) A distribution of inputs among commodities and of commodities among consumers in pareto is efficient, if no reorganization of production and consumption is possible by which some individuals are made better off without making someone else worse off. 207. (e) Low price is not an assumption in the perfect competition, all the remaining are the assumptions under perfect competition. 208. (c) AR = TR/Number of units. 209. (c) If any firm earns more than normal profits, new firms will enter the industry in the long run, leading to fall in good prices. This decline in the price reduces the volume of profits of the existing firms. This process continues till all existing firms earn only normal profits. On the contrary, when existing firms get losses, some of the firms leave the industry. This increases the price of good. 210. (d) There exists large number of buyers and sellers in a perfectly competitive industry. When there are large number of buyers and sellers no individual seller, however large, can influence the price by change the output. Since the firm is operating in a perfectly competitive market, the price remains the same even if the firm doubles its output. 211. (d) Invisible hand enables the market to reach equilibrium. When the government prevents prices from adjusting naturally to supply and demand, it impedes the invisible hand’s ability to coordinate the millions of households and firms that make up the economy. The invisible hand doctrine runs with the presence of demand and supply forces. It runs efficiently only when there is no impediment in the markets such as government intervention, etc. Thus, the invisible hand doctrine applies to economies when the market is perfectly competitive with no impediments. 212. (d) Any firm produces an output where MR = MC to maximize profits. In case of a perfectly competitive firm, P = AR = MR. Hence, the profit maximization condition of a firm operating in a perfectly competitive market is P = AR = MR = MC. 213. (a) Perfect competition refers to a market where there are large number of sellers and buyers. There should be free exit and entry in the market should be. As this is possible only in sugarcane cultivation, the answer is (a). 214. (b) In perfect competition firms do not have any price making power as there are many sellers and the product is homogeneous. 215. (d) Perfect competition is a form of market structure which represents a market without rivalry among the individual firms. When the product is similar and identical, given all other conditions, a perfectly competitive firm can only be a price taker. The price of the good is determined by the market forces. The demand curve is horizontal to x-axis implying that the producers can produce as much as quantity of output to the given level of price.
86
a.
Oligopoly is a form of market structure where there are few sellers. The demand curve is indeterminable because of the interdependence between the firms and it depends on the reaction curves of the competitor.
b.
Monopoly is a form of market structure where there is only one producer of the good. The demand curve is downward sloping implying that the producer is a price-maker. The distinguishing feature of this form of market structure is that the average costs of production continually decline with increased output as a result of which average costs of production will be lowest when a single large firm produces the entire output demanded.
Part I
c.
Monopolistic competition is a market structure where there are many firms selling closely related but non-identical goods. The demand curve is downward sloping because of product differentiation.
d.
The demand curve in the perfect competition is horizontal to x-axis implying that producer can produce as much as the quantity of output for a given level of price.
e.
The demand curve of a duopolist is indeterminate because of high degree of interdependence between the firms.
Hence, the correct answer is (d). 216. (c) The firm is said to attain break even point implies that the firm is earning zero economic profit i.e., TR = TC or AR = AC. a.
It is not appropriate in this instance because it is not indicating break even point but representing economic losses as total revenue is less than total cost. b. It is not appropriate in this instance because it is not indicating break even point but representing that the firm is getting economic profits. c. It is appropriate in this instance because when average revenue (TR/Q) is equal to average cost (TC/Q) implies that the firm is earning zero economic profits. d. It is not appropriate in this instance because it is not indicating break even point but is representing that marginal revenue is more than marginal cost. e. It is not appropriate in this instance because it is not indicating break even point but is representing that marginal revenue is equal to marginal cost. Hence, the correct answer is (c). 217. (e) The demand curve is horizontal to x-axis implies that the producers can produce as much as quantity of output to the given level of price. Therefore, the producer under perfect competition is a price-taker. The long run equilibrium, all the existing firms get normal profits because of free entry and exit of firms. Hence the equilibrium condition in the long run for a firm would be P = AR = MR = MC. Hence, the correct answer is (e). 218. (a) a. When MR = MC, the firm maximizes its profits. Thus, MR = MC represents only profit maximization position. b. When MR = MC, price may not be at its maximum position. c. When MR = MC, cost may not be at its minimum position. d. When MR = MC, revenue may not be at its maximum position. Hence, the correct answer is (a). 219. (a) A perfectly competitive firm cannot earn abnormal profits in the long run because new firms enter into the industry and competition reduces the price of the good. Conversely, when the firm gets losses in the long run, it would move out of the industry. Thus, an existing firm only gets normal profits in the long run. In perfect competition, normal profit is possible only when the firm operates at its minimum average cost. a.
In perfect competition, normal profit is possible only when the firm operates at its minimum average cost.
b.
It is not appropriate in this instance because in the long run all inputs are variable and there are no fixed costs.
c.
It is not appropriate in this instance because marginal cost is greater than marginal revenue and is not a desirable situation for a firm to continue in the industry.
d.
It is not appropriate in this instance because fixed cost is lower than total variable cost does not indicate anything. Further, there would be no fixed costs in the long run.
e.
It is not appropriate because P = Minimum Average variable cost only indicates shut down point in the short run.
Hence, the correct answer is (a).
87
Microeconomics
220. (c) In case on increasing cost industry as market demand increases, new firms enter into the industry, and the prices of the factors of production increases. As a result, the long run average cost curve of all the firms, including the new firms shifts upward. The new equilibrium will now be achieved only at a higher price. However all firms earn normal profit at a higher price. Since the long run average cost curve has now shifted in the upward direction, the long run supply curve of the industry is upward sloping. a.
It is not appropriate in this instance because it is indicating the supply curve of constant cost industry.
b.
It is not appropriate in this instance because it is not indicating supply curve of a perfectly competitive industry.
c.
It is appropriate because it is representing the supply curve of increasing cost industry.
d.
It is not appropriate in this instance because it is representing the supply curve of the decreasing cost industry.
e.
The supply curve is not absent in the long run.
Hence, the correct answer is (c). 221. (a) A perfectly competitive firm is in equilibrium only when P = MR = MC because in perfect competition, MR = P. a.
Is the answer because a perfectly competitive firm is in equilibrium only when P = MR = MC.
b.
Is not the answer because a perfectly competitive firm is not in equilibrium when P = MR, but MR > MC.
c.
Is not the answer because a perfectly competitive firm is not in equilibrium when P = MC, but MR < MC.
d.
Is not the answer because a perfectly competitive firm is not in equilibrium when MR = MC, but P < MR.
e.
Is not the answer because a perfectly competitive firm is not in equilibrium when MR = MC, but P > MR.
222. (e) Consumer surplus is the excess of the price that a consumer is willing to pay for the commodity over and above what he actually pays for it. In perfect competition, the price is lower as compared to monopoly, monopolistic competition, pure oligopoly or differentiated oligopoly because of high competition. So the answer is (e). 223. (d) I.
In a perfectly competitive market, the products produced by all the firms in the industry are homogeneous. The technical characteristics of the product as well as the services associated with its sale and delivery are identical.
II.
In a perfectly competitive market cost structure of every firm is not identical. The cost conditions of the industry are reflected in the change in factor prices, as the industry expands. With the expansion of the industry in the long run, cost curves of the firms shift on account of external economies and diseconomies.
III. In a perfectly competitive market, there are large number of buyers and sellers in the industry. No individual seller has any economic or market power to influence the market price in his favor through his own individual behavior or action. Buyers have no preferences towards any seller. IV. In a perfectly competitive market, buyers have perfect knowledge about prices in the market. The information regarding price is assumed to be available free of costs.
88
a.
Is not the answer because I above is one of the necessary assumption for a market to be perfectly competitive.
b.
Is not the answer because II above is one of the necessary assumption for a market to be perfectly competitive.
Part I
c.
Is not the answer because both I and III above are not all necessary assumptions for a market to be perfectly competitive.
d.
Is the answer because both I, III and IV above are all necessary assumptions for a market to be perfectly competitive.
e.
Is not the answer because II above is not the assumption of a perfectly competitive market where as III and IV above are necessary assumptions for a market to be perfectly competitive.
224. (c) An individual firm in perfect competition is a price taker. The level of market price is determined by the market supply and demand. A perfectly competitive firm has control over only on quantity. So sales revenue can be increased by increasing the production only. a.
Is not the answer because a perfectly competitive firm cannot increase its sales revenue by reducing the prices.
b.
Is not the answer because a perfectly competitive firm cannot increase its sales revenue by increasing the prices.
c.
Is the answer because a perfectly competitive firm can increase its sales revenue by increasing the production.
d.
Is not the answer because a perfectly competitive firm cannot increase its sales revenue by increasing the expenditure on advertising. Because all firms produce a homogeneous product. The technical characteristics of the product as well as the services associated with its sale and delivery are same. A buyer cannot differentiate among products of differentiate firms.
e.
Is not the answer because a perfectly competitive firm cannot increase its sales revenue by increasing the sale force.
225. (c) For a perfectly competitive firm, the demand curve is horizontal. A firm in a perfectly competitive industry is a price taker. Its demand curve is infinitely elastic, indicating that the firm can sell any output at the prevailing market price. So, the demand curve faced by a firm will be a horizontal straight line. a.
Is not the answer because if a perfectly competitive industry is an increasing cost industry, the demand curve faced by a firm is not upward sloping.
b.
Is not the answer because if a perfectly competitive industry is an increasing cost industry, the demand curve faced by a firm is not downward sloping.
c.
Is the answer because, the demand curve faced by a firm operating in perfect competition is a horizontal straight line.
d.
Is not the answer because the demand curve faced by a firm operating in perfect competition is not a vertical straight line.
e.
Is not the answer because if a perfectly competitive industry is an increasing cost industry, the demand curve faced by a firm is not a rectangular hyperbola.
226. (e) A perfectly competitive firm earns abnormal profits when its demand curve and marginal revenue curve lies above the average cost curve as the demand curve and marginal revenue curve is the same for a perfectly competitive firm. a.
Is not the answer because a perfectly competitive firm earns negative profits when average cost curve lies above its demand curve.
b.
Is not the answer because a perfectly competitive firm earns normal profits when average revenue curve is tangent to average cost curve.
c.
It is true that a perfectly competitive firm earns abnormal profits when its demand curve lies above the average cost curve.
d.
It is true that a perfectly competitive firm earns abnormal profits when its marginal revenue curve lies above the average cost curve.
e.
Is the answer because in (c) and (d) above, a perfectly competitive firm earns abnormal profits. 89
Microeconomics
227. (c) In the long run if a firm earns abnormal profits, new firms will enter the industry. If the existing firms get losses, the firms leave the industry. So, in the long run, a perfectly competitive firm earns only normal profit because of free entry and exit of firms in the industry. a.
Is not the answer because product homogeneity in the industry does not result in normal profits.
b.
Is not the answer because presence of large number of sellers and buyers in the industry indicates that no individual buyer or seller can influence the price by changing the purchase or output.
c.
Is the answer because a firms earn normal profit because of free entry and exit of firms in an industry.
d.
Is not the answer because due to (a) and (b), a firm cannot earn normal profits.
e.
Is not the answer because due to (b) a firm cannot earn normal profits. But due to (c) a firm can earn normal profits.
Market Structure II: Monopoly 228. (e) A market is in imperfect competition if the actions of one or more buyers and sellers have a perceptible influence on price. In perfect competition firms face horizontal demand curves. 229. (d) Monopoly is a market where a single seller controls the industry. 230. (c) Indian Railways enjoy monopoly in rail transportation. 231. (a) There are two conditions, which must be fulfilled for price discrimination to be possible. Firstly, the market must be divided into sub markets with different price elasticities. Secondly, there must be effective separation of the sub markets, so that no reselling can take place from a low-price market to a high-price market. 232. (e) Forces of supply and demand are not sources of market imperfection. 233. (e) The market power of the monopolist is sharply curtailed by fear of government antitrust prosecution by the threat of new competitors. Therefore, it is not impossible to break natural monopolies. 234. (d) A monopolist may not suppress invention. If it is required for improving his control over the market or to increase his profit he can promote inventions. 235. (d) Tax sops to new firms will encourage the firms to enter into the industry and hence it is not a barrier to entry. A tax sop is a form of concession. All the other options are barriers to entry because they render the entry of a new firm very unattractive. 236. (c) MR curve is downward sloping. It is not dome shaped. 237. (d) Over the range of output for which marginal cost is negative demand is inelastic. So even the price is decreased there will be no increase in quantity purchased and the total revenue decreases. This is referred as the range of Negative Marginal Revenue. 238. (e) TR
= PQ
MR = P + ∂P / ∂Q AR = PQ/Q = P Since ∂P / ∂Q is less than 0 in monopoly MR is less than AR So MR curve lies below the AR curve. 239. (e) For a linear demand curve, marginal revenue declines twice as quickly as price when more is sold. When marginal revenue is positive, total revenue increases. When marginal revenue is negative, total revenue declines. Total revenue is at a maximum when MR = 0. Marginal revenue is defined as the change in total revenue per unit change in the quantity sold, which is smaller than price; and the monopolist’s marginal revenue curve lies below its demand curve. 90
Part I
240. (a) When the total revenue is taken on Y-axis and output on X-axis a dome shaped curve will emerge. So, (a) is false. 241. (c) π = R − C ∂π / ∂Q = ∂R / ∂Q − ∂C / ∂Q to maximize total profit ∂π / ∂Q = 0 ∂R / ∂Q − ∂C / ∂Q = 0 ∂R / ∂Q = ∂C / ∂Q
MR = MC 242. (e) At the maximum profit point MR curve cuts the MC curve. So the option ‘e’ is wrong. 243. (a) The marginal principle in economics says that the efficiency is achieved when marginal cost is equal to marginal benefit. If it is a firm, it will maximize its profits where marginal cost of producing a unit is equal to the marginal revenue generated by that unit. 244. (b) When the monopolist charges different prices from different buyers for the same good. It is known as price discrimination. 245. (c) Monopoly (market) power refers to degree of control a firm has on the price and output in an industry. 246. (e) The degree by which an industry is dominated by a few large firms is measured by concentration ratios. The four firm concentration ratio is the percentage of total industry sales made by the four (or sometimes eight) largest firms of an industry. 247. (a) Since market share of each firm in a perfect competition is negligible, the four-firm concentration ratio works out to be zero. 248. (b) Herfindahl index measures the market concentration. 249. (a) Dead weight loss is a net loss associated with the foregoing of an economic action. The loss does not lead to an offsetting gain for the other participants. This reflects economic inefficiency. 250. (b) It is the complementary form of monopoly. In this market form there exists only one buyer and a large number of sellers. Because railway components can be bought for use only by the government and the units supplying those are many. 251. (c) The economic waste caused by the monopolist may not be equal to his profits. It may be greater or lesser. 252. (e) In perfect competition no single firm or a group of firms can be able to concentrate the industry or market. So the concentration ratio cannot be calculated as each firm contributes same to the total industry output. 253. (e) All of a, b, c, d are sources of market inefficiencies. 254. (e) Economies of scale, barriers in entry, legal restrictions, high costs, advertising and product differentiation are major sources of market imperfections. 255. (e) R = PQ MR = ∂R / ∂Q = P + Q x ∂P / ∂Q ∂R / ∂Q − ∂C / ∂Q = 0
Since ∂P / ∂Q < 0 MR is less than price. MR is less than price for every output greater than 0. The rate of decline in MR is twice the rate of decline of price. 256. (e) All the statements a, b, c and d are true.
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257. (c) The size of the market may not allow the existence of more than a single large plant. In these conditions it is said that the market creates a natural monopoly, and it is usually the case that the government undertakes the production of the commodity or of the service so as to avoid exploitation of the customers. Ownership of strategic raw material, patent rights for a product and government licensing the size of the market or large-scale economies are the main causes that leads to natural monopoly. 258. (a) When the elasticity of demand is less than unity, MR will be negative. When MR > 0, demand will be elastic. Demand is unit elastic when MR = 0. 259. (a) If a homogeneous good is charged at different prices to different buyers in different situations, it is called price discrimination. 260. (d) First degree price discrimination involves charging the maximum price possible for each unit of output. It is also called perfect discrimination The price of the first unit is greater than the price of the subsequent units. 261. (e) Because in monopoly price discrimination is possible, monopolist is able to capture part of the consumer surplus that would have resulted from uniform pricing. Price discrimination is not possible under perfect competition because every one knows the price at which the good is being bought and sold. So consumer surplus is higher than in monopoly. 262. (b) Herfindahl’s index measures market concentration by squaring the percentage market share of each firm in the market. 263. (b) a.
Consumer surplus of a consumer = Willingness price – Actual price. Under first-degree price discrimination, the producer charges a price that equals the willingness price of the consumer. Hence, there will be no consumer surplus under first-degree price discrimination.
b.
Dead weight loss refers to loss to society caused by the higher prices as only part of the consumer surplus goes to producer with an increase in the price. Under first-degree price discrimination, the producer absorbs entire consumer surplus as charges a price that is equal to the willingness price of the consumer. Hence there will be no dead weight loss under first-degree price discrimination.
c.
Third degree price discrimination involves separating consumers/markets based on their price elasticities of demand.
d.
Normally, a firm charges a lower price in a market having higher elastic demand to retain the customers who are more sensitive to prices as compared to a market having inelastic demand.
e.
A firm practicing first-degree price discrimination charges a price that equals marginal utility (willingness price) of the consumer.
264. (a)
92
a.
As demand is more elastic in market A, the price of good must be lesser in market A than in market B.
b.
For profit maximization a firm should operate at MR = MC. Hence a monopolist wanted to produce an output where MR = MC. The marginal cost at this point may not be at its minimum. Hence, (b) is not correct.
c.
Because marginal cost is constant, the decision rule for allocating output is that the MR should be equal in the two markets. Hence (c) is not correct.
d.
As statements (b) and (c) are not correct, and (d) and (e) cannot be the answers.
Part I
265. (e) The term ‘natural monopoly’ is used to describe a production activity were technology results in continually declining average costs that provide a substantial cost advantage to larger firms. Because a firm can decrease its average cost by increasing its rate of output, the only stable market structure is that of a single firm serving the entire market. a.
AC = 15Q/Q = 15; indicates that average cost (AC) remains the same irrespective of output produced. Hence, it does not represent natural monopoly.
b.
AC = 15Q2/Q = 15Q; indicates that average cost (AC) increases with the increase of output. Hence, it does not represent natural monopoly.
c.
AC = (15Q + 15Q2)/Q = 15 + 15Q; indicates that average cost (AC) increases with the increase of output. Hence, it does not represent natural monopoly.
d.
AC = 15Q + 15Q2 + 15Q3/Q = 15 + 15Q + 15Q2; indicates that average cost (AC) increases with the increase of output. Hence, it does not represent natural monopoly.
e.
AC = 15Q0.5/Q = 15/Q0.5; indicates that average cost decreases with the increase of output. Hence, (e) is the answer.
266. (e) a.
The supply curve of a perfectly competitive firm is that portion of its marginal-cost curve lying above average variable costs.
b.
The supply curve of a perfectly competitive firm is that portion of its marginal-cost curve lying above average variable costs because of unique relationship between price and quantity supplied.
c.
Supply curve will be vertical when amount quantity can be delivered, whatever be the price. It is possible in case of perishable goods.
d.
Horizontal supply curve indicates that at a given price, any amount of goods can be delivered.
e.
Unlike in perfect competition, there is no unique relationship between price and quantity supplied. Hence, in case of a monopolist, the supply curve is absent.
267. (e) Monopolistic competition is a type of market structure which is characterized by many firms selling closely related but unidentical goods. The features of the monopolistic competition may be summarized as follows: a.
In case of monopoly, the entry is blocked.
b.
In case of oligopoly, the presence of few players restricts the entry of new firms.
c.
In case of duopoly, there exist only two firms. The entry of new firms is restricted because of actions of the two firms.
d.
In case of monopoly, the entry is blocked.
e.
In case of monopolistic competition, there is relatively free entry and exit of the firms.
The correct answer is (e). 268. (e) a. b.
c. d. e.
The supply curve of a perfectly competitive firm is that portion of its marginal-cost curve lying above average variable costs. The supply curve of a perfectly competitive firm is that portion of its marginal-cost curve lying above average variable costs because of unique relationship between price and quantity supplied. Supply curve will be vertical when amount quantity can be delivered, whatever be the price. It is possible in case of perishable goods. Horizontal supply curve indicates that at a given price, any amount of goods can be delivered. Unlike in perfect competition, there is no unique relationship between price and quantity supplied. Hence, in case of a monopolist, the supply curve is absent.
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Microeconomics
269. (a) When an entrepreneur wants to maximize the profits without affecting the price, the best way is to reduce the average cost to its minimum possible level. When MC curve cuts AC curve, AC will be at its minimum possible. Hence, a firm to maximize the profits, without affecting the price should produce at a level where MC = AC. a.
When MC curve cuts AC curve, AC will be at its minimum possible. Hence, a firm to maximize the profits, without affecting the price should produce at a level where MC = AC.
b.
It is appropriate to minimize the total average cost instead of average variable cost.
c.
MC = P signifies only equilibrium condition in a perfectly competitive market.
d.
When MC = AVC, AVC will be at minimum. It is appropriate to minimize the total average cost instead of average variable cost.
e.
It is appropriate to minimize the total average cost instead of marginal cost to maximize profits without changing the price.
Hence, the correct answer is (a). 270. (a) Natural monopoly is a situation where the size of the market may not allow the existence of more than a single large plant. In these conditions it is said that the market creates a natural monopoly, and it is usually the case that the government undertakes the production of the commodity or of the service so as to avoid exploitation of the customers. Large scale economies are one of the main causes of natural monopoly. a.
It is appropriate in this instance because a firm can take up the responsibility of producing the total output of the market in a situation when it experiences economies of scale. Economies of scale imply reduction in the firm’s per unit costs that are associated with the use of large plants to produce a large volume of output.
b.
It is not appropriate in this instance because diminishing marginal productivity does not guarantee formation of a natural monopoly.
c.
Downward sloping demand curve only shows the inverse relationship between price and output. It is not the cause that helps in the formation of natural monopoly.
d.
It is not appropriate in this instance because it is representing one of the features of oligopoly.
e.
Low fixed cost in fact reduces the entry barriers and helps in breaking monopoly.
Hence, the correct answer is (a). 271. (c) a.
Dead weight loss refers to the loss to the society because of increase in the price of the good.
b.
When the producer follows first degree price discrimination, there exists no dead weight loss because price = willingness price of the consumer.
c.
First degree price discrimination is possible in a monopolistically competitive market.
d.
A price discriminating monopolist charges a lesser price in a market where there are close substitutes because the demand for the good would be more elastic.
Hence, the correct answer is (c). 272. (c) Monopoly is a market structure in which there is one seller of the product implying that the producer has complete control over market supply of the commodity. The monopolist must decrease the price he receives for every unit in order to sell an additional unit. Hence, the marginal revenue of the monopolist would be lesser than price. Hence, the correct answer is (c).
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Part I
273. (c) Monopoly is a market structure in which there exists a only a single seller. There are no close substitutes for the product and there are barriers to entry in to the industry. In India, the Government of India is the only producer of atomic energy and there are barriers to entry for the private entrepreneurs. So, atomic energy best illustrates a monopoly. a.
Is not the answer because agriculture is not a monopoly in India, rather it is a perfectly competitive market.
b.
Is not the answer because automobile industry is not a monopoly in India, rather it is an oligopoly.
c.
Is the answer because atomic energy is a monopoly in India.
d.
Is not the answer because cola drinks is not a monopoly in India.
e.
Is not the answer because television industry is not a monopoly in India.
274. (b) Legal barrier to entry is a feature of monopoly. Legal backing provided by the government to produce a particular product through granting of patent, copy rights, branding and franchize may create and perpetuate monopoly. These rights are protected by law against imitation by rival producers. But economies of scale is not a legal barrier to entry. Economies of scale occur to a firm in the course of expansion of its scale of operation by increasing all the factors or by increase in the number of firms in the industry. a.
Is not the answer because patent is a legal barrier to entry.
b.
Is the answer because economies of scale is not a legal barrier to entry.
c.
Is not the answer because branding is a legal barrier to entry
d.
Is not the answer because franchise is a legal barrier to entry
e.
Is not the answer because copy rights is a legal barrier to entry.
275. (b) Monopsony is a market structures in which there exists a single buyer, but many sellers. a.
Is not the answer because when there is single buyer and single seller, it is a case of bilateral monopoly.
b.
Is the answer because monopsony consists of single buyer and many sellers.
c.
Is not the answer because when there is many buyers and single seller, it is a case of monopoly.
d.
Is not the answer because monopsony doesn’t consist of two buyers and one seller.
e.
Is not the answer because monopsony doesn’t consist of single buyer and two sellers.
276. (e) For a monopolist, there is no unique relationship between price and quantity supplied. Therefore, the supply curve of a monopolist is irrelevant. a.
Is not the answer because the supply curve of a perfectly competitive firm is the portion of its marginal-cost curve that lies above the average variable costs.
b.
Is not the answer because the supply curve of a monopolist is not the portion of its marginal-cost curve that lies above the average cost curve.
c.
Is not the answer because the supply curve of a monopolist is not vertical.
d.
Is not the answer because the supply curve of a monopolist is not horizontal.
e.
Is the answer because a monopolist has no supply curve.
95
Microeconomics
277. (e) Normal profit is the profit which is necessary for the existence of a firm in the industry. When the firm is earning normal profit, Average Cost will be equal to Average Revenue. a.
Is not the answer because point A indicates the price at which the monopolist can maximize the profit.
b.
Is not the answer because point B indicates the Average Cost at the profit maximizing output.
c.
Is not the answer because point C indicates the equilibrium point of the profitmaximizing monopolist.
d.
Is not the answer because point D indicates the point at which Marginal Cost is equal to Average Revenue.
e.
Is the answer because point E indicates the point where Average Cost is equal to Average Revenue.
Market Structure III: Monopolistic Competition 278. (b) Product differentiation is an important aspect of monopolistic competition. So identical product is not an assumption in monopolistic competition. 279. (b) The demand curve for a monopolistically competitive market is downward sloping because of product differentiation. 280. (e) The marginal revenue for any quantity will be less than the corresponding price becasue the demand curve is downward sloping. 281. (c) One of the main conditions prevailing under the monopolistic competition is that a large number of firms satisfy a share of the market demand for a similar but not identical products. 282. (b) The long run equilibrium point under monopolistic competition (E) must be at the falling portion of the AC curve because here AR is falling and such an AR curve can be tangent to the AC curve only at the latter’s downward sloping portion. 283. (c) Demand curve of a firm slopes downward in a monopolistic market. 284. (e) Automobile industry is characterized by oligopolistic market structures. 285. (e) Product differentiation does not lead to shift in the demand curve to the right. 286. (e) Product differentiation may take place either in the form of physical or in the form of qualitative differences. Differences in real terms – in functional features, materials, design and workmanship – are some of the vital aspects of product differentiation. 287. (a) Monopolistic competition is a type of market structure characterized by many firms selling closely related but unidentical goods. The features of the monopolistic competition may be summarized as follows: Features of Monopolistic competition •
Relatively large number of firms
•
Differentiated products
•
Some control over price in a narrow range
• a.
Relatively easy entry and exit. It is appropriate in this instance because both differentiation. It is not appropriate in this instance because, it is not features of Oligopoly. It is not appropriate in this instance because, it is not features of Oligopoly. It is not appropriate in this instance because, it is not features of Oligopoly. It is not appropriate in this instance because, it is not features of Oligopoly. The correct answer is (a).
b. c. d. e.
96
the markets indicate product a common feature but one of the a common feature but one of the a common feature but one of the a common feature but one of the
Part I
288. (d) Monopolistic competition is a type of market structure which is characterized by many firms selling closely related but unidentical goods. The features of the monopolistic competition may be summarized as follows: Features of Monopolistic competition •
Many firms: There is relatively large number of firms, each satisfying a small, but not microscopic, share of the market demand for similar, but not identical products.
•
Differentiated products: The product of each firm is not a perfect substitute for the products of competitive firms. The product is differentiated from any other product. A product group represents several closely related, but not identical products that serve the same general purpose for consumers. The sellers in each product group can be considered competing firms within the industry.
•
Some control over price in a narrow range: The firms in the market do not consider the reactions of their rivals when choosing their product prices or annual sales targets.
•
Relatively easy entry: Relative freedom of entry and exit of firms exists in monopolistically competitive markets.
a.
It is not appropriate in this instance because if the marginal cost curve to the right implies increasing cost of expenditure.
b.
It is not appropriate in this instance because increase in the demand for the product will shift the marginal revenue curve to the right and not the left.
c.
It is not appropriate in this instance because with the increase in the demand for the product average cost curve will decrease and therefore the marginal revenue curve will not shift to the right.
d.
It is appropriate in this instance because it is indicating that with increase in the demand for the product average cost curve will move upwards (advertising expenses) and marginal revenue will shift to the right.
e.
In anticipation of increased demand for the commodity through advertisement it increases the average cost and therefore it is not appropriate in this instance. The correct answer is (d).
289. (c) Monopolistic competition is a market structure where there are many firms selling closely related but non-identical goods. The characteristic features of this market are: •
Large number of buyers and sellers
•
Differentiated products but they are close substitutes
•
No barriers to entry.
The demand curve is downward sloping because of product differentiation as the firms will have some amount of liberty in deciding the price of the good, unlike in perfect competition. a.
It is not appropriate in this instance because it is representing the demand curve in perfect competition.
b.
It is not appropriate in this instance because it is not representing the demand curve in monopolistic competition. A vertical demand curve indicates that the demand is inelastic.
c.
It is appropriate in this instance because it is representing the demand curve in monopolistic competition.
d.
& (e) Supply curve depends on the cost functions of the firm.
Hence, the correct answer is (c).
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Microeconomics
290. (b) A firm operating in a monopolistically competitive market earns only normal profits in the long run because new firms enter into the industry and competition reduces the price of the good. Conversely, when the firm gets losses in the long run, it would move out of the industry. 291. (d) The demand curve faced by a monopolistically competitive firm will be more elastic. Because there are close substitutes available for the product of a firm as compared to pure monopoly, duopoly, differentiated oligopoly and natural monopoly. a.
Is not the answer because in pure monopoly the demand curve faced by a firm will be less elastic, as there is no close substitute available for the product.
b.
Is not the answer because in duopoly, the demand curve faced by a firm will be less elastic, as there are only two firms in the industry.
c.
Is not the answer because in differentiated oligopoly, the demand curve faced by a firm will be less elastic, as there are only few firms in the industry.
d.
Is the answer because in a monopolistically competitive market, the demand curve faced by a firm will be less elastic, as there are close substitute available for the product.
e.
Is not the answer because in natural monopoly the demand curve faced by a firm will be less elastic, as there is no close substitute available for the product. There is only one firm exists in a natural monopoly. There are substantial economies, which can be realized only at large scales of output. The size of the market may not allow the existence of more than a single large firm.
Market Structure IV: Oligopoly 292. (d) The firms in the oligopolistic industry are aware of their interdependence and always consider their rivals’ reactions when selecting prices, output goals, advertising budgets, and other business policies. 293. (c) To reduce the uncertainty arising from interdependence the oligopolists enter into collusion agreements. They appoint a central agency and delegate the authority to decide on the total output and price and allocation of production. 294. (a) Cartels imply direct agreement among competing oligopolists with the aim of reducing uncertainty. The aim of the cartel is the maximization of joint profits. In this case the firms appoint a central agency. To this central agency they delegate the authority to decide not only the total quantity and the price but also the allocation of production among the members of the cartel and the distribution of the maximum joint profits among them. The central agency has full information about the cost functions of the members. It is assumed that all members produce identical products. 295. (e) Though theoretically the cartel can maximize joint profits, in practice it is not possible for several reasons. Firstly, mistakes may arise in the estimation of the market demand. Secondly, mistakes may also arise in the estimation of the MC curves. Thirdly, the existence of high-cost firms sometimes set an obstacle towards joint profit maximization. If the cost curve of the firm lies wholly above the equilibrium MC, profit maximization requires that the high-cost firm should close down. But it is not possible. As a result the cartel has to be satisfied at less than maximum profits. Fourthly, the cartel may not also maximize total profit for fear of government intervention or for fear of entry. Fifthly, sometimes the cartel likes to maintain a good public image and for this it may not maximize total profit. 296. (c) Factors like secret price-cutting by a member, rapid changing technology, more number of firms and competition from foreign firms are likely to lead to failure of collusion. Undifferentiated good is not a source of failure of collusive oligopoly. 297. (c) In an imperfect competition duopoly is a special case of Oligopoly where there are only two sellers. All other conditions remain the same as under Oligopoly. 298. (a) The increase of non-cooperative oligopolists may not become perfect competition. A perfectly competitive industry has a large number of sellers.
98
Part I
299. (b) A price war in an oligopoly refers to successive and continued price cuts by the firms to increase sales and revenues. 300. (e) The relation between price, MR and the absolute value of demand elasticity is given by ⎛ 1 ⎞ ⎟. MR = P ⎜1 − ⎜ e p ⎟⎠ ⎝ 301. (b) The theory of games is a framework for analyzing the selection of strategies by persons or organizations with conflicting interests in situation where pay-offs depend on the choices made by each participant and the participant’s rival. 302. (a) Dominant strategy is that strategy for which a player is getting the highest possible pay-off regardless of what the rival players are doing. 303. (b) Dominant strategy refers to a situation that arises when one player has a best strategy no matter what strategy the other player follows. In this example, firm A has a dominant strategy; it will profit more by choosing strategy II no matter what firm B does. 304. (e) Firm B does not have a dominant strategy, because firm B would want to play strategy IV if firm A chooses strategy II and would want to play strategy III if firm A adopts strategy I. 305. (e) When both (or all) players have a dominant strategy, the outcome is a nash equilibrium and we a dominant equilibrium cell. In this example, firm A has a dominant strategy, whereas firm B does not. Therefore, none of the cell is a dominant equilibrium in this example. 306. (b) Price leadership is a form of collusion in oligopoly market. In this form one firm sets the price and the other firms follow it because it is advantageous to them or because they prefer to avoid uncertainty. 307. (d) In oligopoly market there exists interdependence among different firms. Due to this interdependence there is an uncertainty about the reaction patterns of rivals. A wide variety of reaction patterns become possible and accordingly a large variety of models of priceoutput determination may be constructed. The actual solution is, therefore, indeterminate unless we specify the particular reaction pattern of the rivals. 308. (a) Because perfect competition no individual seller is unable to influence the price and output he cannot try to increase the price and thereby gain profits. 309. (b) Though each duopolist is aware of the mutual interdependence between their output plans, each is quite ignorant of the direction and magnitude of the revision in his rival’s plan that would be induced by any given change in his own. 310. (a) Cartels imply direct agreement among competing oligopolists with the aim of reducing uncertainty. The aim of the cartel is the maximization of joint profits. In this case the firms appoint a central agency. To this central agency they delegate the authority to decide not only the total quantity and the price but also the allocation of production among the members of the cartel and the distribution of the maximum joint profits among them. The central agency has full information about the cost functions of the members. It is assumed that all members produce identical products. 311. (b) Oligopoly is a market structure, in which a few sellers dominate the sales of a product and the entry of new sellers is difficult or impossible. 312. (e) The kinked shape of the demand curve is based on the assumption that the rivals react differently to a rise in price or to a fall in price. It is also assumed that when an individual seller increases the price to a fall in price. It is also assumed that when an individual seller increases the price of his product other sellers will not increase their prices so that the sales of the seller increasing the price will be reduced considerably. This means that the demand curve is relatively elastic for a rise in price. On the other hand, it is assumed that when a single seller reduces the price, other sellers will also reduce the price so that the seller who reduces the price first cannot gain much for a fall in the price. The kinked demand curve is, therefore, based on the assumption that a rise in price by one seller will not be followed by a rise in the price of the other sellers, while a fall in the price of one seller will be followed by the corresponding fall in the price by others. 99
Microeconomics
313. (a) In a zero sum game, the gain of one player equals loss of another player. 314. (c) Dominant strategy is that strategy for which a player is getting the highest possible pay-off regardless of what the rival players are doing. 315. (d) Pay-off table or matrix shows the gain or loss from each possible strategy for each possible reaction by the rival player of the game. 316. (c) A strictly determined game is one in which the gain of one player equals the loss of another player. The solution of the game is known as saddle point. Here the maximum and minimum coincide. 317. (b) In an oligopoly market there are few sellers so that there is interdependence among the sellers and the sellers are aware of it. 318. (a) Oligopoly is a market structure, in which a few sellers dominate the sales of a product and the entry of new sellers is difficult or impossible. The product can be either differentiated or standardized. Automobiles, cigarettes, beer and chewing gum are examples of differentiated products whose market is characterized by high market concentration. In software, pharma, engine oils and cement industries, few sellers are dominating. So they are digopolies, whereas wheat farming is not like those. 319. (c) In an oligopoly market there are few sellers so that there is interdependence among the sellers and the sellers are aware of it. This encourages them to form cartels for their mutual benefits. Oligopsony is a complementary form of oligopoly, where there exists a few buyers and a large number of sellers. Cartels imply direct agreement among competing oligopolists with the aim of reducing uncertainty. Hence, (c) is the correct answer. 320. (e) The kinked demand curve model is based on the assumption that when a firm increase price other firms in the industry do not follow and if the firm decrease price other firms also decrease the price. Therefore, the answer is (e). 321. (a) When there are only 11 firms in the industry, it better represents the oligopoly market. a.
The presence of 11 firms in the industry connotes the market to be an oligopoly market.
b.
Oligopsony refers a market with few buyers. Hence, it is not the answer.
c.
Monopolistically competitive market consists of relatively large number of buyers and sellers. The member firms in the monopolistic competition are not highly interdependent as in oligopoly market.
d.
Perfect competition consists of large number of buyers and sellers.
e.
Bilateral monopoly represents single buyer and single seller.
Hence, the correct answer is (a). 322. (d) In India, the total 100% market share of toilet soap industry is dominated by only few numbers of firms. So this is a case of oligopoly industry.
100
a.
Is not the answer because toilet soap industry is not a perfectly competitive industry. In a perfectly competitive industry, there are large numbers of firms.
b.
Is not the answer because toilet soap industry is not a monopoly industry. In a monopoly, there is only one firm.
c.
Is not the answer because toilet soap industry is not a monopolistically competitive industry. In a monopolistically competitive industry, there are relatively large number of firms.
d.
Is the answer because toilet soap industry is an oligopoly competitive industry. In an oligopoly industry, there are few number of firms.
e.
Is not the answer because toilet soap industry is not a duopoly. In a duopoly, there are only two firms in the industry.
Part I
323. (b) I.
It is true that if the firm reduces the price, competitive firms also reduce the price.
II.
It is a false statement that if the firm increases the price, competitive firms also increase the price. III. It is a false statement that if the firm reduces the price, competitive firms do not reduce the price. IV. It is true that if the firm increases the price, competitive firms do not increase the price. a. Is not the answer because I above is true and II above is not true in a kinked demand curve model of oligopoly. b. Is the answer because I and IV above are true in a kinked demand curve model of oligopoly. c. Is not the answer because II above is not true, while IV above is true in a kinked demand curve model of oligopoly. d. Is not the answer because II and III above are not true in a kinked demand curve model of oligopoly. e.
Is not the answer because only I above does not reflect the behavior of a kinked demand curve model of oligopoly.
324. (e) In an oligopoly, a price war refers to successive and continued price cuts by the competitive firms to increase sales and revenues. A price war aims at increasing market share, but not profits. a.
Is not the answer because a price war does not mean a continuous price cuts by firms to increase revenues and profits.
b.
Is not the answer because a price war does not mean an unexpected price cut by a firm to improve its sales volumes.
c.
Is not the answer because a price war does not mean a decrease in quantity supplied by the competitive firms to raise prices in order to maximize profits.
d.
Is not the answer because a price war does not mean an entry of a new firm in the industry who charges a lower price.
e.
Is the answer because a price war means a successive and continued price cuts by competitive firms with an aim to increase market share.
Pricing of Factors of Production 325. (e) Statements (iii) and (iv) are true. 326. (a) Derived demand refers to the demand for goods which are needed for further production or the demand for an input of a factor of production. 327. (d) The demand for a variable factor depends on i.
The price of the input: The higher the price of a factor, the smaller the demand for the services.
ii.
The marginal physical product for the factor, which is derived from the production function.
iii.
The price of the good produced by the factor: It should be noted that the VMPL is the product of the MPPL times the price of the good, Px.
iv.
The amount of the other factors which are combined with labor: An increase in the collaborating factors will shift the MPPL outwards to the right and hence will raise its VMPL curve, and vice versa.
v.
The prices of other factors: since these prices will determine their demand, and hence the demand for labor.
vi.
The technological progress. Technological progress changes the marginal physical product of all inputs, and hence their demand.
101
Microeconomics
328. (b) Production function indicates the maximum output that could be produced, given the inputs. 329. (c) According to the law of diminishing returns, after a certain point, the marginal product of a variable input declines. It is also called Diminishing Marginal Product. 330. (a) Marginal revenue product indicates the extra revenue generated by an extra unit of input. 331. (a) From the assumption of diminishing marginal productivity we know that as more units of a factor are employed, its marginal productivity diminishes. The marginal productivity theory states that all units of a factor receive a reward equal to the marginal productivity of its last unit. Thus, if ten units of labor are employed in the production process, each unit of labor will receive a wage rate, which is equal to the marginal productivity of the tenth unit of labor by virtue of perfect competition. 332. (e) Labor supply refers to the number of hours that the population desires to work in gainful activities. 333. (b) The supply curve for labor bends backwards because of the operation of substitution and income effects in opposite directions. The substitution effect of the wage increase always operates to make the individuals supply curve of labor positively sloped that is more work is substituted for leisure. The income effect of a wage increase always operators to make the individuals supply curve negatively sloped i.e., more leisure is demanded by labor. Until the substitution effect overwhelms the negative income effect the supply curve is positively sloped. But at very high wage rates substitution effect is overwhelmed by the negative income effect and the supply curve bends backwards.
102
Frequently Used Formulae Supply and Demand Analysis ep
=
P ΔQ × 1 ΔP Q1
where, P1 = Initial price Q1 = Initial quantity (This formula is used when we know the initial and latest prices and quantities) Arc ep
=
(P1 + P2 ) ΔQ × ΔP (Q1 + Q 2 )
Point ep
=
∂Q P × ∂P Q
(This formula is used when single price is given).
Consumer Behavior Analysis 1.
Optimum allocation:
MU y MU x = Px Py 2.
Budget = Qx × Px + Qy × Py
3.
Consumer surplus = Willingness price – Actual Price
4.
Price effect = Interest effect + substitution effect.
Production Analysis 1.
Optimum Allocation: MPk MPL = w r
2.
Optimum labor units: w = MPL × Price of the good
3.
MPL = ΔTP / ΔL APL = TP/L
4.
Max AP: When AP = MP (or)
5.
Max. MP: When
∂AP =0 ∂L
∂MP = 0. ∂L
Analysis of Costs 1.
TC = TFC + TVC
2.
MC =
ΔTC ΔTVC = ΔQ ΔQ
Min. AC: When AC = MC (or)
∂AC =0 ∂Q
∂MC =0 ∂Q
3.
Min. MC: When
4.
AC = AFC + AVC.
103
Market Structure : Perfect Competition 1.
Profit maximizing output: P = MC
2.
Long run profit maximizing output: P = Min. AC
3.
Shut down point: P = Min. AVC.
Monopoly, Monopolistic Competition and Oligopoly 1.
2.
Profit maximization: MR = MC Long run profit maximization condition (monopolistic competition): P
= AC
Qn
= Qp(n/n+1)
where,
3.
104
Qn
=
output in a market
Qp
=
output in perfect competition
n
=
number of firms.
MR =
⎛ 1 ⎞ ⎟ P ⎜1 − ⎜ ⎟ e p ⎠ ⎝
Part II: Problems Supply and Demand Analysis 1.
The weekly demand schedule for milk in Delhi is Price (Rs/Ltr.)
2.
3.
4.
Demand (Lakh/Ltr)
9
18
10
16
11
14
12
12
13
10
14 8 The weekly demand function for milk in Delhi is a. Q = 36 – 2P b. Q = 34 – 2P c. P = 36 – 2Q d. P = 34 – 2Q e. Q = 38 – 2P. The demand function for a good in Hyderabad is estimated to be Q = 34 – 2P. The theoretical maximum quantity of good demanded is a. 34 units b. 36 units c. 72 units d. 30 units e. 0 units. If the demand function for a good in Hyderabad is Q = 34 – 2P. The theoretical maximum price of the good is a. 17 b. 21 c. 20 d. 18 e. 16. The following is the weekly demand schedule for a good in Bombay. Price (Rs)
Quantity Demanded
9
36
10
32
11
28
12
24
13
20
14
16
The weekly demand function for good is a. Q = 72 – 4P b. Q = 35 – 10P c. Q = 32 – 2P d. Q = 40 – 10P e. P = 20 – 2Q. 105
Microeconomics
5.
Weekly supply schedule for milk in Bombay is as follows. Price
Quantity supplied
9
9
10
10
11
11
12
12
13
13
14
14
The supply function of milk in Bombay is
6.
7.
a.
Q=P
b.
Q = 2P
c.
Q = 100 – 2P
d.
Q = 10 – 3P
e.
Q = 80 – 2P.
The supply function for milk in Bombay is Qs = 2P – 100. The price below which no milk will be supplied in Bombay is a.
0
b.
1
c.
10
d.
25
e.
50.
If the demand and supply functions of a good in Delhi are Qd = 100 – 3P and Qs = 2P – 20, the equilibrium output is
a. 22 units b. 24 units c. 26 units d. 28 units e. 30 units. 8. The demand and supply functions of a good in Delhi are Qd = 100 – 3P and Qs = 2P – 20. If the price is Rs.20, there would be surplus (deficit) of a. 20 units b. 25 units c. 30 units d. 35 units e. 40 units. 9. The demand schedule for the product Alpha is given by
106
Price
Quantity demanded
3
20
4
16
5
12
6
8
7
4
Part II
The price elasticity demand for an increase in the price from Rs.5 to Rs.6 is a. 0.87 b. 1.02 c. 1.67 d. 1.50 e. 1.25. 10. Price elasticity of demand for a decrease in the price from Rs.6 to Rs.5, given the demand schedule is Price Quantity Demanded 3 20 4 16 5 12 6 8 7 4 a. 2.0 b. 2.5 c. 3.0 d. 3.5 e. 2.25. 11. The monthly demand schedule for rice for a family is given below Price (Rs./Kg) Quantity demanded 12
21
13
18
The price elasticity of demand of the rice is a. 1.90 b.
1.93
c.
1.95
d.
1.80
e.
1.92.
12. Demand function for ballpoint pens in Nagpur is Qd = 100 – 0.5P, the price elasticity of the good at price Rs.10 is a.
0.054
b.
0.026
c.
0.055
d.
0.052
e.
0.051.
13. Consumer demand function for good X is given by the equation P = 100 – Q. If the price of the good is Rs.60, the price elasticity of demand is a.
1.5
b.
1.6
c.
1
d.
1.25
e.
1.75.
107
Microeconomics
14. The supply schedule for oranges is given below. Price (Rs./dozen)
Quantity supplied (1000 dozen) 6 10 7 20 8 30 9 40 10 50 Arc price elasticity of supply for oranges when the price increases from Rs.7 to Rs.8 per dozen is a. 3 b. 6 c. 3.5 d. 6.5 e. 5. 15. Arc price elasticity of supply for the following supply schedule given that the price decreases from Rs.10 to Rs.9 per dozen is Price (Rs./dozen) Quantity supplied (1000 dozen) 6 10 7 20 8 30 9 40 10 50 a. 2.15 b.
3.15
c.
2.11
d.
2.05
e.
2.13.
16. The supply function for a product is Qs = 500P – 1000. Calculate the price elasticity of supply at a price of Rs.10. a.
4000
b.
1.25
c.
500
d.
1.33
e.
1000.
Based on the following information answer the questions 17 to 18. 17. The following is the table for market demand and supply of wheat in India.
108
Price (Rs./kg)
Supply (Million tons)
Demand (Million tons)
3.0 4.5 6.0 7.5 9.0 10.5 12.0
4.0 4.5 5.0 5.5 6.0 6.5 7.0
6.0 5.5 5.0 4.5 4.0 3.5 3.0
Part II
If the government wants to release wheat to the market only through FCI and announces a MSP (Minimum Support Price) of Rs.7.5, what is the quantity that FCI need to procure from the producers? a.
6.5 million tons.
b.
7.0 million tons.
c.
4.5 million tons.
d.
3.0 million tons.
e.
5.5 million tons.
18. Given the table for market demand and supply of wheat, if FCI procures the wheat at Rs.7.5, the price at which FCI can offload all the quantity procured is a.
4.5
b.
5.5
c.
7.5
d.
9.0
e.
6.0.
19. What is the price elasticity of demand for fuel oil as its price increases from Rs.40 to Rs.60? Price per gallon (Rs.) 40 60 85 a. 0.67 b.
0.58
c.
0.45
d.
0.25
e.
0.52.
Fuel oil Quantity demanded (millions of gallons) 120 80 65
20. Given the demand schedule, the cross elasticity between goods A and B is Product A Product B Price Quantity demanded Price 10 100 20 10 80 40 a. –0.33 b. 0.53 c. –0.53 d. 0.33 e. 0.63. 21. Compute income elasticity of demand using arc elasticity of demand. Quantity Price Consumer Income Demanded 20 50 12000 30 40 12000 20 40 10000 a. 0.11 b. 1.22 c. 0.09 d. 1.50 e. 0.98. 109
Microeconomics
22. From the following table calculate price elasticity of demand. Price Quantity sold Income 20 1000 30000 18 1200 24000 16 1450 26000 12 1600 30000 20 1200 32000 12 1600 31000 a. 0.5 b. 1.5 c. 0.9 d. 0.7 e. 0.2. Based on the following information answer the questions 23 to 25. Quantity Point Price of X Demanded A 8.5 2000 B 10.0 1500 23. The price elasticity of commodity X (From A to B) is a.
1.5
b.
500
c.
8.5
d.
1.42
e.
2000.
24. The price elasticity of commodity X from the above table (From B to A) is a. 2.22 b. 1.50 c. 2.50 d. 1.25 e. 3.25. 25. The price elasticity of commodity X, given the schedule, is a. 18.5 b. 0.18 c. 1.76 d. 1.5 e. 0.143. 26. The cross elasticity of demand between X and Y, given the schedule, is Goods
110
Before price change
After price change
Price (Rs./unit)
Quantity (unit/month)
Price (Rs./unit)
Quantity (unit/month)
Y
5.00
60
4.00
80
X
2.00
25
2.00
15
a.
– 10
b.
25
c.
–1
d.
5
e.
2.
Part II
27. Given the following schedule, what would be the cross elasticity of demand between X and Z? Goods
Before price change
After price change
Price (Rs/unit)
Quantity (unit/month)
Price (Rs/unit)
Quantity (unit/month)
Z
2.40
15
3.00
12
X
2.00
25
2.00
20
a.
– 5.
b.
– 0.5.
c.
5.
d.
– 0.8.
e.
0.5.
Based on the following information answer the questions 28 to 29. The following is the demand schedule of goods X, Y and Z. Price X
Quantity Demanded
Y
Z
X
Y
Z
3.50
2.50
3.25
400
550
150
4.00
3
3.75
450
600
200
4.50
3.50
4
425
700
250
4.50
4
3.25
450
650
300
4.75
4.50
4.75
500
500
150
5.00
4.50
5.25
350
550
100
28. Compute the cross elasticity of demand between X and Y from the above table? a.
0.50.
b.
0.37.
c.
0.52.
d.
0.31.
e.
0.42.
29. What is the cross elasticity of demand between Y and Z? a.
0.50.
b.
0.75.
c.
4.75.
d.
–0.364.
e.
0.41.
30. Calculate income elasticity of demand from the following demand schedule. Price (Rs)
Quantity sold (units)
Consumer income (Rs)
4
150
5000
5
140
6000
4
125
4500
111
Microeconomics
a.
11/19
b.
15/20
c.
25/2
d.
19/11
e.
20/15.
Based on the following information answer the questions 31 to 33. In a year number of cars sold decreased by 20% during the year, prices of cars increased by 5%, per capita income declined by 2% and price of petrol increased by 10% income elasticity of demand for cars is estimated to be +1.5 and cross price elasticity of petrol and cars is estimated to be –0.30. 31. The impact of decline in per capita income on the demand for cars is a.
2% sales decline
b.
3% sales decline
c.
1.5% sales decline
d.
4% sales decline
e.
5% sales decline.
32. The impact of increase in price of petrol on the demand for cars is a.
0.30% sales decline
b.
10% sales decline
c.
3% sales decline
d.
0.45% sales decline
e.
0.15% sales decline.
33. If sales decline because of increase in petrol and decrease in income are 3% and 3% respectively, the price electricity of demand for cars would be a. 2.8 b. 4.2 c. 6 d. 14 e. 20. Based on the following information answer the questions 34 to 35. Time Watch Company assembles wrist watches and sells in western India. Demand function faced by the company is estimated to be QT = 40000 – 2PT – 2I + 4PC QT = number of watches demanded from time watch company PT = price of watches sold by time watch co. I
= per capita income in western India.
PC = price changed by competitors. Currently PT, I and PC are Rs. 350, Rs.10,000 and Rs. 400 respectively. 34. The price elasticity of demand is a. b. c. d. e. 112
0.063 0.572 0.711 0.033 0.052.
Part II
35. The income elasticity of demand is a. (2.22) b. (0.96) c. (0.05) d. 0.85 e. None of the above. 36. Home Needs Ltd., produces three products Lam, Tom and Pom. The demand functions are estimated as follows. Ql = 100 – 4P1 Qt = 1500 – 20Pt PP = 50 – 0.1QP Where Q1, Qt and QP represent quantities demanded of the products Lam, Tom and Pom respectively and P1, Pt and PP represent price per unit of the products Lam, Tom and Pom respectively. Currently, Home Needs Ltd., sells the products at prices P1 = 20, Pt = 5, and PP = 20. The price elasticities of demand for Lam, Tom and Pom are a.
4, 1/14 and 2/3
b.
2, 14 and 3/2
c.
3, 1/14 and 2/3
d.
4, 1/14 and 1/3
e.
None of the above.
37. The demand function for a commodity is estimated to be Qd = 250000 – 35P. The price elasticity of demand between prices Rs.2000 and Rs.3000 per unit is a.
0.425
b.
0.231
c.
0.385
d.
0.835
e.
0.538.
38. The price elasticity of demand at price Rs.2000 if Qd = 250000 – 35P is a.
0.325
b.
0.523
c.
0.389
d.
0.839
e.
None of the above.
39. The demand function for a good is Qd = 250000 – 35P. The theoretical highest price that can prevail in the market and the theoretical maximum quantity that the customers are willing to purchase are a.
Rs.7142.86 and 250,000 units
b.
Rs.7245.75 and 225,375 units
c.
Rs.7214.68 and 25,000 units
d.
Rs.7124.86 and 0 units
e.
Rs.7214.72 and 250,000 units. 113
Microeconomics
40. The price at which the elasticity of demand is equal to unity, given the demand function of Qd = 250,000 – 35P, is a.
Rs. 3224.02
b.
Rs. 3570.22
c.
Rs. 3540.05
d.
Rs. 3525.15
e.
Rs. 3571.43.
Based on the following information answer the questions 41 to 43. A farm product has the following demand and supply functions. Demand: Qd =13500 – 500P Supply: Qs = 3000 + 200P 41. Given the above demand and supply functions, the equilibrium price of the good is a.
12
b.
13
c.
14
d.
15
e.
16.
42. If the government imposes a specific sales tax of Rs.10, the new equilibrium price would be a.
Rs.15.86
b.
Rs.19.80
c.
Rs.17.86
d.
Rs.21.86
e.
None of the above.
43. If the government imposes a lump sum tax of Rs.1000, what would be the equilibrium price of the good? a.
Rs.17.
b.
Rs.14.
c.
Rs.18.
d.
Rs.15.
e.
Rs.12.
Based on the following information answer the questions 44 to 45. Ashok Company manufactures and sells ready-made garments that have the following demand function. Q = 20000 – 300P Where
Q = quantity demanded P = price per unit
114
Part II
44. The company currently sells at a price of Rs.30 per unit. Compute the price elasticity of demand at the current price. a.
0.188
b.
0.818
c.
1.100
d.
0.931
e.
0.185.
45. The arc price elasticity of demand when price decrease from Rs.30 to Rs.20 is a.
0.4
b.
0.6
c.
0.1
d.
0.8
e.
0.3.
Based on the following information answer the questions 46 to 48. The demand function for a Detergent and Soaps Industries Limited (DSIL) for bar soaps is given as follows QX = 15000 – 3000 PX + 7Y + 300 PC Where
QX = Quantity of bar soaps demanded for DSIL PX = Price charged by DSIL PC = Price of the related product Y = Per capita income of the consumers.
Assume the current price for every bar soap of DSIL = Rs.5, price of the related product = Rs.6 and per capita income of the consumer = Rs.6000. 46. The price elasticity of demand for bar soap of DSIL at the current values is a. 0.342 b. 0.511 c. 1.255 d. 0.722 e. 0.888. 47. The income elasticity of demand for bar soap of DSIL at the current values is a.
0.342
b.
0.958
c.
1.255
d.
0.722
e.
0.734.
48. The cross elasticity of demand for bar soap of DSIL at the current values is a.
0.343
b.
0.958
c.
0.041
d.
0.722
e.
0.734.
115
Microeconomics
Based on the following information answer the questions 49 to 51. Sharma brother is a multi product firm engaged in the production of consumer goods. Two of its products X and Y are related in consumption. The past experience of the firm indicates the following relationships: Price of X
Quantity of demand 15 20 5000 17.5 22.5 5500 17.5 25 6000 20 25 5500 20 25 6500 49. The price elasticity of demand for good X is a.
0.652
b.
0.820
c.
0.580
d.
0.722
e.
0.734.
Price of Y
Consumers income (Per capita) 1000 1050 1050 1050 1250
50. The income elasticity of demand for good X is a.
0.954
b.
0.820
c.
0.580
d.
0.722
e.
0.734.
51. The cross elasticity of demand between good X and good Y is a.
0.954
b.
0.820
c.
0.580
d.
0.722
e.
0.734.
52. The demand schedule for product Q is given as Price
Quantity
5
25
6
20
7
15
8
10
The demand function for product Q is a. Q = –5P b. Q = 5 – 50P c. Q = 50 – 5P d. Q = –50P e. Data insufficient.
116
Part II
Based on the following information answer the questions 53 to 55. After a careful statistical analysis Nazareth & Co., concludes that the demand function for its product is Q = 500 – 3P + 2Pr + 0.1I; where, Q is the quantity demanded of its product, P is the price of its product, Pr is the price of its rival ’s product and I is the per capita disposable income. At present P = Rs.10, Pr = Rs.20 and I = Rs.6000. 53. The price elasticity of demand for the product is a. 0.027 b. 0.063 c. 0.523 d. 0.225 e. 0.314. 54. What is the income elasticity of demand for the firm’s product? a. 0.32. b. 0.72. c. 1.23. d. 0.54. e. None of the above. 55. What is the cross elasticity of demand between the firm’s product and the rival’s product? a. 0.022. b. 0.342. c. 0.521. d. 0.036. e. 0.502. 56. The demand function of a good is estimated to be Q = 1000 – 0.2PX + 0.5PY + 0.04I. If the I = 10000 and Q = 1600, the income elasticity of demand is a. 0.50 b. 0.75 c. 0.1 d. 0.25 e. 0. Based on the following information answer the questions 57 to 60. Pillavillai corporation, a maker of small engines, determines that in 2003 the demand function for its product is P = 2000 – 50Q, where P is the price of the engine and Q is the number of engines sold per month. 57. To sell 20 engines, the price at which Pillavillai have to charge is a.
2000
b.
2050
c.
1000
d.
1050
e.
None of the above.
58. If the firm sets the price at Rs.500 how many engines will Pillavillai sell per month? a.
20 units
b.
30 units
c.
50 units
d.
40 units
e.
None of the above. 117
Microeconomics
59. What is the price elasticity of demand if the price is Rs.500? a.
3.32.
b.
0.43.
c.
0.33.
d.
0.51.
e.
0.22.
60. At what price the demand for Pillavillai’s engines is unitary elasticity? a.
1500.
b.
1000.
c.
1050.
d.
1250.
e.
1325.
Based on the following information answer the questions 61 to 63. The table shows the sales data of a firm which imports and distributes sports and formal shoes. Month
No.of sports shoes sold
Sports shoes Advertising expenditure
Sports Shoes price P
July
4,500
10,000
26
50
August
5,500
10,000
24
50
September
4,500
9,200
24
50
October
3,500
9,200
24
46
November
5,000
9,750
25
50
December
15,000
9,750
20
50
January
5,000
8,350
25
50
February
4,000
7,850
25
50
March
5,500
9,500
25
55
April
6,000
8,500
24
51
May
4,000
8,500
26
51
June
5,000
8,500
26
57
61. The average advertising arc elasticity of demand for sports shoes is a.
2.4
b.
3.6
c.
6.0
d.
3.0
e.
4.2.
62. The average price arc elasticity of demand for sports shoes is
118
Formal shoe Price PD
a.
3
b.
4
c.
2
d.
5
e.
6.
Part II
63. The average cross arc price elasticity of demand between sports and formal shoes is a.
2.0
b.
3.0
c.
2.5
d.
3.5
e.
4.5.
64. The supply of apples in the past summer was found to be Price Quality Supplied Rs.50 25 apples Rs.100 50 apples Rs.150 75 apples The expected supply function of apples in next summer is a. Q = 125 + 12P b. Q = 12P c. Q = 250P + 125 d. Q = 0.5P e. Q = 40 – 3P. Based on the following information answer the questions 65 to 69. Demand schedule for a product is given in the following table. Price
6
5
4
3
2
1
0
QX
0
10
20
30
40
50
60
65. The price elasticity of demand when the price changes from Rs.5 to Rs.3 is a. 2 b. 3 c. 4 d. 5 e. 6. 66. The price elasticity of demand considering the average price of Rs.5 and Rs.3 is a. 4 b. 3 c. 5 d. 2 e. 6. 67. The price elasticity of demand when the quantity demanded increases from 30 to 50 units because of change in price is a. 2 b. 1 c. 3 d. 4 e. 5. 68. Price elasticity of demand when quantity demanded decreases from 50 units to 30 units because of change in price is a. 0.02 b. 0.4 c. 0.2 d. 0.04 e. 0.002. 119
Microeconomics
69. Price elasticity of demand when the price rises from Rs.3 to Rs.5 is a. 2 b. 1 c. 3 d. 4 e. 5. 70. When the price of a product is Rs.10 per unit the quantity demanded is 40 units. But when the price of the product rises by Rs.10 per unit to Rs.20 per unit the quantity demanded falls to 20 units. What is the price elasticity of demand? a.
0.3.
b.
0.4.
c.
0.5.
d.
0.6.
e.
0.7.
71. What is the slope of the demand curve when the price is Rs.60 and demand function is P = 100 – 36Q? a.
15.
b.
– 36.
c.
– 12.
d.
1/36.
e.
None of the above.
72. For the demand function QD = 145 – 0.5P, what is the quantity demanded when the price is Rs.80? a.
100
b.
105
c.
150
d.
160
e.
None of the above.
73. What will be the value of MR when P = Rs.80 and demand function is QD = 145 – P? a.
10.
b.
15.
c.
20.
d.
80.
e.
25.
Based on the following information answer the questions 74 to 75. The demand function for a small business firm is given by QM = 6000 – 6PrmA + 8PrmB + 0.5 Y. Where Y = income of the firm = 8000 and PrmA = price of raw material A = Rs.140 per kilogram and PrmB = the price of raw material B = Rs.120. 74. The income elasticity of demand is a. 0.440 b. 0.210 c. 0.500 d. 0.395 e. 0.415. 120
Part II
75. The cross price elasticity of demand for raw material A is a.
0.095
b.
0.450
c.
0.065
d.
0.045
e. 0.500. Based on the following information answer the questions 76 to 77. The demand function for honey for Arthur John is given as follows QH = 5850 – 6 PH + 2 PJ + 0.15 Y. where Y = income of Arthur John = Rs 8000; PH = price of honey = Rs.125 per kilogram; PJ = price of jam = Rs. 70 per kilogram. 76. The income elasticity of demand for honey is a. 0.155 b. 0.186 c. 0.125 d. 0.140 e. 0.175. 77. The cross price elasticity of demand for honey is a.
0.15
b.
0.02
c.
0.12
d.
0.14
e.
0.17.
78. Zigonbalg supplied a firm with 2000 books at the rate of Rs.18 per book. Next month due to rise in the price to Rs.22.5 per book the supply of the number of books increased to 5250 books. The elasticity of supply of the books is a.
6.5
b.
4.0
c.
3.1
d.
5.0
e.
5.2.
79. A homemade product was demanded by three households with three different demand functions viz., Q1 = 30.00 – 1.00P; Q2 = 22.50 – 0.75P; and Q3 = 37.50 – 1.25P. The market demand function for the homemade product is a.
Qm = 99.00 – 8.00P
b.
Qm = 99.00 – 3.00P
c.
Qm = 90.90 – 3.00P
d.
Qm = 00.90 – 3.00P
e.
Qm = 90.00 – 3.00P.
80. For the homemade product discussed previously it was found that if the price of the product is increased by 2% and quantity demanded subsequently decreased by 3%. The price elasticity of demand for the homemade product is a.
2
b.
1
c.
1.5
d.
0.5
e.
2.25. 121
Microeconomics
81. The market demand for a rubber ball is given by the equation Q = 6000000 – 1000000P where Q is the number of footballs demanded each year and P is the price of each ball. For a price increase from Rs.2 to Rs.3 per ball what is the arc price elasticity of demand? a.
0.81
b.
0.20
c.
0.71
d.
0.52
e.
0.34.
Questions 82 and 83 are based on the following information: The demand function for a good produced by Amex India Ltd. is given by where
Q
= 12,000 – 250P + 5Y + 500Pc
P
= price of the good
Y
= per capita income
Pc
= price of the related good
Q
= quantity of good demand for Amex India Ltd.
The current price charged by Amex India for the good is Rs.10. Price of the related good is Rs.11 and per capita income is Rs.1,000. 82. If the marketing manager of Amex India Ltd., proposed to reduce the price of the good by 10 percent, the change in sales volume will be a.
0.125 percent
b.
1.25 percent
c.
10 percent
d.
2.5 percent
e.
None of the above.
83. Suppose the price of the related good is reduced by 10 percent, what should be the new price charged by Amex to retain the sales at the current level? a.
Rs.7.80.
b.
Rs.10.20.
c.
Rs.11.75.
d.
Rs.8.40.
e.
Rs.6.90.
84. The market demand and supply functions for a good are: Qd = 260 – 2P Qs = 20 + 10P If the government announces a price ceiling of Rs.15, which of the following is true?
122
a.
The shortage in the market is 60 units.
b.
The surplus in the market is 60 units.
c.
The surplus in the market is 240 units.
d.
The shortage in the market is 12 units.
e.
There will be no shortage/surplus as price ceiling is equal to the equilibrium price.
Part II
85. When the price is Rs.75, demand for a good is 10 units and when the price is Rs.70, demand is 12 units. Assuming that the demand function for the good is linear, what is the theoretical maximum possible quantity of the good that can be demanded? a.
100.
b.
25.
c.
5.
d.
40.
e.
76.
86. The absolute price elasticity of demand of ‘Dollex’, a branded doll, is estimated to be 1.5. At present, the firm is selling 3000 units. Income effect for Dollex is half that of substitution effect. If management increased the price of the Dollex brand from Rs.20 to Rs.25, the substitution effect for the price increase will be a.
1125 units
b.
750 units
c.
3000 units
d.
375 units
e.
560 units.
87. If the demand function for a good is P = 100 – 2Q, over what range of prices is the demand inelastic? a.
5 to 50.
b.
0 to 50.
c.
Above 40.
d.
Above 50.
e.
25 to 40.
88. The market for a good consists of three individuals – Ali, Basha and Chetan. The demand schedule of the individuals is given below: Quantity demanded Ali Basha Chetan 100 0 0 0 90 3 1 0 80 5 2 1 70 6 4 2 What is the arc price elasticity of demand (absolute value) for the good, when the price decreases from Rs.90 to Rs.80 per unit? Price of the good (Rs.)
a.
4.36.
b.
2.58.
c.
5.67.
d.
7.24.
e.
3.66.
89. The arc cross price elasticity of demand for the good is a.
2.4
b.
5.0
c.
4.5
d.
3.0
e.
6.6. 123
Microeconomics
90. The arc income elasticity of demand for the good is a.
2.4
b.
5.0
c.
4.5
d.
3.0
e.
6.6.
91. Consider the following Demand and Supply functions: Demand function: P = 100 – 4Q Supply function: P = 40 + 2Q. (where P = Price per unit and Q = Quantity in units). The equilibrium price and quantity are a.
P = 60, Q = 10
b.
P = 10, Q = 6
c.
P = 40, Q = 6
d.
P = 20, Q = 20
e.
None of the above.
92. Suppose the price of movie tickets at a theater increases from Rs.12 per couple to Rs.20 per couple. The theater manager observed that the increase in price caused attendance at a given movie to fall from 300 persons to 200 persons. What is the price elasticity of demand for the movie? a.
0.5.
b.
1.0.
c.
0.8.
d.
1.2.
e.
5.0.
93. Demand and supply functions of cigarettes are given by the following functions: Qd = 5,800 – 80P , Qs = 1,000 + 40P If the government imposes a tax of Rs.12 on each unit to discourage smoking, what would be the new equilibrium price? a.
Rs.40.0
b.
Rs.44.0
c.
Rs.48.0
d.
Rs.52.0
e.
Rs.42.5.
94. The demand function for Rollex pens is estimated as QR = 10,000 – 1,500PR + 2Y + 200PC Where, QR = Quantity of Rollex pens demanded PR = Price of Rollex pen PC = Price of Competitor’s product Y = Per capita income of the consumer 124
Part II
If the current price of Rollex pen is Rs.5, the price of the competitor’s product is Rs.8 and per capita income is Rs.5,000, the income elasticity of demand is a.
0.521
b.
1.222
c.
0.827
d.
0.709
e.
1.052.
95. The demand and supply functions of a good are Qs = 400 + 15P Qd = 600 – 10P If the government fixes a price ceiling of Rs.12 for the product, there would be a.
No supply of the good
b.
Shortage of the good
c.
Excess supply of the good
d.
Excess demand for the good
e.
No effect on demand and supply.
96. When the price is Rs.75, demand for a good is 10 units and when the price is Rs.70, demand is 12 units. Assuming that the demand function for the good is linear, the theoretical maximum possible quantity of the good that can be demanded is a.
100 units
b.
25 units
c.
5 units
d.
40 units
e.
76 units.
97. Demand and supply schedule for a product is given below: Price (Rs. Per unit)
Demand
Supply
10
500
320
12
450
360
14
400
400
16
350
440
18
300
480
20
250
520
Equilibrium price for the product is a.
Rs.10
b.
Rs.12
c.
Rs.14
d.
Rs.16
e.
Rs.18. 125
Microeconomics
Answer questions 98 to 100 based on the following information: Supply and demand functions for a product are: Qs = 400P – 500 Qd = 1500 – 100P 98. Equilibrium output for the product is a.
1000 units
b.
1100 units
c.
1200 units
d.
1300 units
e.
1400 units.
99. At the current output, price elasticity of demand is a.
0.16
b.
0.25
c.
0.50
d.
0.36
e.
0.40.
100. At the current output, price elasticity of supply is a.
1.45
b.
1.60
c.
1.80
d.
2.00
e.
2.50.
101. Which of the following statements is true, if demand for mobile phones increases by 12% when income increases by 5%? a.
Income elasticity of demand for mobile phones is 2.4 and mobile phones are inferior goods.
b.
Income elasticity of demand for mobile phones is 0.42 and mobile phones are normal goods.
c.
Income elasticity of demand for mobile phones is 2.4 and mobile phones are necessary goods.
d.
Income elasticity of demand for mobile phones is 0.42 and mobile phones are inferior goods.
e.
Income elasticity of demand for mobile phones is 2.4 and mobile phones are luxury goods.
102. Demand for a product at two levels of advertising is given below: Expenditure on advertising (Rs.)
Demand (units)
1,00,000
25,000
1,50,000 30,000 Using arc method, promotional elasticity of demand for the product is a. 1.00 b. 0.40 c. 0.45 d. 0.50 e. 2.00. 126
Part II
103. Demand and supply functions for a product are: Qd = 10,000 – 4P Qs = 2,000 + 6P If the government imposes a sales tax of Rs.100 per unit, the price will a. Increase by Rs.100 b. Increase by Rs.50 c. Increase by Rs.60 d. Increase by Rs.40 e. Increase by Rs.80. 104. Current demand for apples in a city is 1000 boxes per week. In the city, price elasticity of demand for apples is –1.25 and income elasticity of demand is 2.00. For the next period, if per capita income is expected to increase by 7% and price of apples is expected to increase by 10%, demand for apples is expected to be a.
875 boxes per week
b.
1000 boxes per week
c.
1250 boxes per week
d. e.
1140 boxes per week 1015 boxes per week.
105. The sales response function of a consumer durable for brand X is estimated to be: Qx = where Qx =
50,000 – 2Px + 3Py + 50Ax – 20Ay Sales in units of brand X
Px
=
Price of brand X = Rs.3,000
Py
=
Price of brand Y = Rs.3,500
Ax =
No. of advertising messages for brand X
Ay =
No. of advertising messages for brand Y.
The manufacturer of brand X decides to increase the advertising messages from the current level of 250 to 375. With the increase in number of messages for brand X it is expected that the number of messages for brand Y will also increase by the same number. Current advertising for Y is 500 messages. If the cost of production of brand X is Rs.1,500 and the cost of an advertising message is Rs.250, how will the increase in advertising messages with regard to brand X affect the profits? a.
Rs.55,93,750.
b.
Rs.12,31,250.
c.
Rs.10,21,250.
d.
Rs.10,31,350.
e.
Rs.55,53,753.
106. The demand and supply functions of a product are given by Supply function: P = 0.2Qs – 20 Demand function: P = 40 – 0.1Qd If the government enforces a price floor of Rs.10 for the product a.
Excess supply of the product will be 150
b.
Excess supply of the product will be 300
c.
Shortage of the product will be 150
d.
Shortage of the product will be 300
e.
Price floor will not have any affect on the market. 127
Microeconomics
107. In an industry, there are only three consumers – A, B and C and three firms – X, Y and Z. The demand functions for the three consumers are: QA = 130 – 0.2P QB = 50 – 0.4P QC = 70 – 0.4P – 0.05P2 The supply functions for the three firms are: QX = 100 + 0.5P QY = 50 + 0.5P QZ = 50 + 1.5P + 0.1P2 The equilibrium price of the product is a. 10.00 b. 15.00 c. 5.00 d. 3.33 e. 33.33.
Consumer Behavior Analysis 108. A consumer has a monthly budget of Rs.4000 he spends all his income on two goods A and B. The prices of goods A and B are Rs.2 and Rs.4 respectively. His marginal utility functions are given by MUA = 3/A MUB = 9/B The optimum amount to be spent on good A is a.
Rs.1000
b.
Rs.2000
c.
Rs.3000
d.
Rs.2500
e.
Rs.4000.
109. Utility function of a consumer is U = X1.5 Y prices of good X and Y are Rs.3 and Rs.4 respectively. His weekly budget is Rs.100. What is the optimum allocation of expenditure on good X and good Y for the consumer? a.
Rs.40 and Rs.60 respectively.
b.
Rs.80 and Rs.20 respectively.
c.
Rs.60 and Rs.40 respectively.
d.
Rs.70 and Rs.30 respectively.
e.
Rs.25 and Rs.75 respectively.
110. The consumer has a monthly budget of Rs.1000 the prices of good X and Y he consumes are Rs.10 per Kg of good X and Rs.15 per litre of good Y. his utility function is U = XY + X + Y. What is the optimum spending on good X and Y?
128
a.
Rs.490 and Rs.510 respectively.
b.
Rs.510 and Rs.490 respectively.
c.
Rs.503 and Rs.497 respectively.
d.
Rs.500 and Rs.500 respectively.
e.
Rs.400 and Rs.600 respectively.
Part II
111. Raja Singh has budgeted a total of Rs.15,000 to spend on a pair of socks and a pair of footwear. Any wrist of single footwear is useless unless it is used with another pair a footwear. If the price of a pair of footwear is Rs.600 and a pair of socks is Rs.25, how many units of each good will he purchase? a.
12 units of each pair.
b.
120 units of each pair.
c.
24 units of each pair.
d.
36 units of each pair.
e.
48 units of each pair.
112. The marginal utility of a banana and an apple are 30 and 45 respectively. If the price of an apple is Rs.6 and the consumer is at equilibrium, what would be the price of a banana? a.
Rs.8.
b.
Rs.4.
c.
Rs.16.
d.
Rs.3.
e.
Rs.2.
113. During rainy season the demand function of umbrella is estimated to be P = 500 – 10Q. The current market price is Rs.100, the consumer surplus is a. Rs.4000 b. Rs.1600 c. Rs.8000 d. Rs.6500 e. Rs.1200. 114. Utility function of Margoschis is U = 10XY, where X and Y are quantities consumed of two goods X and Y. If Margoschis consumes 20 units of X, marginal utility of Y is a. 200 b. 400 c. 100 d. 40 e. None of the above. 115. Norton consumes two commodities X and Y at an equilibrium level. If the marginal utility of commodity X is 175, price of the commodity X is Rs.25 and the price of commodity Y is Rs.40, the marginal utility of Y is a.
280
b.
175
c.
320
d.
350
e.
225.
116. Slope of the budget line (when good X is taken on X-axis and good Y is taken on Y-axis) is – 0.25. If a consumer with an income of Rs.100 buys equal quantities of two goods, X and Y, what would be the amount spent on good X? a.
Rs.75.
b.
Rs.20.
c.
Rs.40.
d.
Rs.60.
e.
Rs.80.
129
Microeconomics
117. The demand function for a good is estimated to be P = 20 – 0.5Q. What would be the consumer surplus, if the market price is 4? a. 480. b. 320. c. 280. d. 512. e. 256. 118. A consumer is indifferent between the combinations A and B. Combination
Good X
Good Y
A
10
14
B
12
13
Absolute value of Marginal Rate of Substitution (MRSXY) for the consumer is a. 0.50 b. 1.00 c. 1.50 d. 2.00 e.
None of the above.
119. Marginal utilities of goods A and B are 600 and 900, and the price of good B is Rs.120. If the consumer is in equilibrium, the price of good A is a. Rs.60 b. Rs.70 c. Rs.80 d. Rs.90 e. Data insufficient. 1.5
120. The utility function of a consumer is U = 12X . If the price of the good is Rs.63 per unit, the consumer would consume a. 8.00 units b. 9.50 units c. 12.25 units d. 14.75 units e. 15.00 units. 121. A consumer consumes only good X and good Y. The budget constraint of the consumer is Rs.720. The market price of good X and good Y are Rs.4 and Rs.6 respectively. If good X is taken on horizontal axis and good Y on vertical axis, the slope of the budget line of the consumer is a. 0.33 b. 0.66 c. 0.75 d. 1.50 e. 30.0. 122. Quantity demanded of a product decreases from 4,000 units to 3,000 units when price of the product increases from Rs.40 to Rs.45. If income effect is estimated to be 900, substitution effect of the price change is
130
a.
100
b.
133
c.
1,000
d.
4,500
e.
None of the above.
Part II
123. Marginal utility of good X is 300 utils and its price is Rs.12. If price of good Y is Rs.30, the marginal utility of good Y at equilibrium is a.
350 utils
b.
700 utils
c.
750 utils
d.
550 utils
e.
600 utils.
124. Refer to the graph below. If price of good Y is Rs.2, income of the consumer is
a. b. c. d. e.
Rs.10 Rs.20 Rs.30 Rs.40. Insufficient information.
125. A consumer is willing to buy 100 units of a product at a price of Rs.10. If the current market price of the product is Rs.9, consumer surplus is a. Re.1 b. Rs.50 c. Rs.100 d. Rs.900 e. Rs.1000. 126. A consumer with an income of Rs.100 can buy 10 units of good X and 15 units of good Y. If price of both the goods is same, absolute value of slope of the budget line for the consumer is a. b. c. d. e.
0.67 1.00 1.50 6.67 10.00.
127. A consumer consumes only two products, A and B. Utility function of the consumer is U = 10A0.5B0.5 If price of good A is Rs.10 per unit and price of good B is Rs.5 per unit, optimum combination of the goods for the consumer is a.
1 unit of good B for every unit of good A
b.
2 units of good B for every unit of good A
c.
0.5 unit of good B for every unit of good A
d.
3 units of good B for every unit of good A
e.
Insufficient data. 131
Microeconomics
128. Assume that utility can be measured in Rs. From the utility schedule given below, find how many Cokes the consumer would consume at the price of Rs.9 per Coke. Cokes 1 2 3 4 5 a.
2
b.
4
c.
3
d.
4
e.
5
Total utility (Rs.) 30 45 54 59 59
129. A consumer has an income of Rs.19 for a week. He would like to spend all the Rs.19 on three goods ‘X, Y and Z’. Prices of X, Y and Z are Rs.5, Rs.3 and Rs.1 per unit respectively. The Marginal Utility (MU) schedule is given below for various levels of consumptions. Units
Marginal Utilities X Y Z 30 18 8 25 15 7 20 9 5 15 6 4 5 4 3
1 2 3 4 5
The consumer will allocate his income on the three goods in the following way. a.
X = 10, Y = 6 and Z = 3
b.
X = 4, Y = 6 and Z = 10
c.
X = 5, Y = 5 and Z = 9
d.
X = 15, Y = 4 and Z = 4
e.
X = 12, Y = 4 and Z = 3.
130. A family has a monthly budget of Rs.340 for Cheese, Fish and Meat. Prevailing prices are Rs.20/kg Cheese, Rs.40/kg Fish and Rs.50/kg Meat. The total utility schedule is given below: Consumption (Kg) Cheese
Fish
Meat
1
70
80
160
2
130
160
290
3
170
210
410
4
205
250
510
5
230
285
590
6
250
315
650
7
260
335
680
What is the maximum total utility that can be achieved by the consumer?
132
a.
240.
b.
840.
c.
330.
d.
510.
e.
670.
Part II
131. You have only 5 hours study time remaining for the Economics exam. According to the best estimates made by you, your points in each paper depends upon the time allocated to it as given below: Hours of study
Points Microeconomics Macroeconomics 20 40 45 52 65 62 75 71 83 78 90 83
0 1 2 3 4 5
How would you allocate your time? a. b. c. d. e.
5 hours on micro economics and 0 hours on macro economics. 0 hours on micro economics and 5 hours on macro economics. 3 hours on micro economics and 2 hours on macro economics. 2 hours on micro economics and 3 hours on macro economics. 2.5 hours on micro economics and 2.5 hours on macro economics.
132. Vinod has a monthly income of Rs.340. Being an addict to fruit juices, he spends all his income on Apple, Mango and Orange juices. The prevailing prices of Apple, Mango and Orange juices are Rs.20 per bottle, Rs.40 per bottle and Rs.50 per bottle, respectively. The total utility schedule of Vinod is given below: Bottles Consumed 1 2 3 4 5 6 7
Total Utility (Utils) Apple Mango Orange Juice Juice Juice 140 170 320 260 330 580 340 420 820 410 500 1020 460 570 1180 500 630 1300 520 670 1360
The maximum total utility Mr. Vinod can attain is a. b. c. d. e.
1160 Utils 1690 Utils 1580 Utils 1910 Utils 2550 Utils.
Production Analysis 133. Production function for an agricultural commodity is TP = 15L2 – L3. How much Labor (L) should be employed to maximize output? a. 0. b. 3. c. 10. d. 20. e. 30.
133
Microeconomics
Based on the following information answer the questions 134 to 136. Shoe & Co. manufactures shoes for export. The production function is TP = 15L2 – L3 134. If Shoe & Co., would like to achieve the highest possible APL what is the labor to be employed? a. 7.5 b.
5.5
c.
7.0
d.
5.0
e.
8.5.
135. What can be the Average Productivity of Labor (APL) when labor employed is 7.5? a. 54.50 b. 55.25 c. 57.50 d. 56.25 e. 56.20. 136. What is the Marginal Productivity of Labor (MPL) when the Average Productivity of Labor (APL) is maximum? a.
56.25
b.
52.50
c.
54.25
d.
55.42
e.
56.50.
137. Suppose the production function relating to agricultural output to varying amounts of capital input is of the following form.
K3 + 2K 2 + 12K 3 Beyond what point do diminishing returns exist? a. 9. b. 4. c. 2. d. 12. d. 3. Q=–
138. The production function of a firm is estimated to be Q = L K . The cost of inputs Labor (L) and Capital (K) are Rs.2 and Rs.4 per unit respectively. If the firm producing Q has a budget constraint of Rs.80. What is the maximum output? a. 20 units. b. 14.14 units. c. 12.14 units. d. 15.15 units. e. None of the above. 139. The production function of the firm is given by Q = L0.5K0.5. If the firm would like to produce 90.50 units of output. What is the minimum possible cost of production? a. Rs.512.
134
b.
Rs.152.
c.
Rs.215.
d.
Rs.525.
e.
Rs.510.
Part II
140. The marginal productivity of labor and capital are given by 4/L and 8/K respectively. If the total cost function of the firm is C = 3L+ 9K what is the optimum input combinations?
a.
K/L = 4/2.
b.
L/K = 2/2.
c.
L/K = 3/2.
d.
K/L = 1/1.
e.
L/K = 5/3.
141. A firm has the production function Q = 2K1/2. L1/2. Assume that the capital stock is fixed at nine units (i.e.,) K = 9. The Price of the output (P) is Rs.6 per unit and the Wage rate (W) is Rs.2 per unit. The optimal quantity of labor to be hired is a. 79 units b. 18 units c. 80 units d. 75 units e. 81 units. 142. A firm has the production function Q = 2K1/2. L1/2 assume that the capital stock is fixed at nine units (i.e.,) K = 9. The Price output (P) is Rs.6 per unit and the Wage rate (W) is Rs.3 per unit. The optimal quantity of labor to be hired is a. 6
b.
36
c.
18
d.
81
e.
30.
143. The marginal product of labor function for mine and Mint Co., a gold mining company is
given by the equation. MPL = 10 ⎛⎜⎝ KL ⎞⎟⎠
0.5
Currently the firm is using 100 units of capital and 121
units of labor. Given the very specialized nature of the capital equipment it takes six to nine months to increase the capital stock, but the quantity of labor can be varied daily. If the price of the labor is Rs.10 per unit and the price of output is Rs.2 per unit, the optimum units of labor to be employed is a. 250 b.
225
c.
400
d.
375
e.
300.
144. The production function Q = 2K + 3 L + KL signifies a. Decreasing returns to scale b. Increasing returns to scale c. Constant returns to scale d. Law of diminishing marginal productivity e. Both (b) and (d) above. 145. The production function Q = 20 K 0.6 L 0.5 signifies a. Decreasing returns to scale b. Increasing returns to scale c. Constant returns to scale d. Law of diminishing marginal productivity e. Both (b) and (d) above.
135
Microeconomics
146. The production function Q = 100 + 3K + 2L signifies
a.
Decreasing returns to scale
b.
Increasing returns to scale
c.
Constant returns to scale
d.
Law of diminishing marginal productivity
e.
Both (b) and (d) above.
147. The production function Q = 5Ka Lb, where a + b = 1, signifies
a. b. c. d. e.
Decreasing returns to scale Increasing returns to scale Constant returns to scale Law of diminishing marginal productivity Both (b) and (d) above.
148. The production function Q = K/L signifies
a.
Decreasing returns to scale
b.
Increasing returns to scale
c.
Constant returns to scale
d.
Law of diminishing marginal productivity
e.
Both (b) and (d) above.
149. The production function for Microlite pedal boats is Q = 20 K0.5 L0.5. If the price of capital is Rs. 5 per unit and the price of labor is Rs. 4 per unit the expansion path ratio for the firm is
a.
K = 0.5L
b.
K = 4/5L
c.
K = 0.3L
d.
K = 0.8L
e.
K = 3/4L.
Based on the following information answer the questions 150 to 151.
Consider two firms A and B with the following production functions QA = 100K0.8L0.2 and QB = 100K0.5L0.5. Both the firms use 25 units of capital and 25 units of labor. 150. The output produced by firm A is
a.
2700 units
b.
3600 units
c.
2500 units
d.
2600 units
e.
2800 units.
151. The output produced by firm B is
136
a.
2700 units
b.
3600 units
c.
2500 units
d.
2600 units
e.
2800 units.
Part II
152. Consider two firms A and B with the following production functions Firm A = QA = 1000.8L0.2; Firm B = QB = 1000.5L0.5. Both the firms use 25 units of capital and 25 units of labor. The input prices are r = Rs.1 and w = Rs.1. Are Firms A and B operating efficiently?
a.
Firms A and B are not efficient.
b.
Firm A is efficient, while firm B is not efficient.
c.
Firm A is not efficient, while firm B is efficient.
d.
Firm A as well as firm B is efficient.
e.
Data insufficient.
153. Given the production function Q = 30K0.7 L0.5 and input prices r = 20 and w = 30, the expansion path equation is
a.
K = 3L
b.
K = 2.1L
c.
K = 5L
d.
K=L
e.
None of the above.
154. Sit and Sleep manufactures metal office furniture with the following production function:
Q = 20K0.1L0.9 If the firm currently is effectively using on 20 units of capital and 50 units of labor, what is the output? a.
927.33 units.
b.
915.45 units.
c.
927.36 units.
d.
912.44 units.
e.
922.34 units.
155. A firm has the following short run function where the only variable input is Labor (L) Q = 9L2 – 0.5L3. A rational firm would employ labors between
a. 7 to 12 b. 9 to 15 c. 12 to 15 d. 0 to 9 e. 9 to 12. 156. Blue Dot Marketing Inc., has a short run production function where the only variable input is labor; Q = 9L2 – 0.5L3. The price of the output produced is Rs.4 per unit and the market going wage rate is Rs.120. The optimum input of labor for the firm is a. 20 b. 120 c. 10 d. 72 e. 24. 157. Pyxes Team Works has the following production function Q = 4L2 + 6K2 – 2LK Where, Q = output L = input of labor K = input of capital 137
Microeconomics
Budget constraint of the firm is Rs.720, the market going wage rate, w = Rs.10 and cost of capital, r = Rs.10. If the firm is operating at the optimum level, the output produced would be a. 9936 units b. 9108 units c. 8142 units d. 7302 units e. 2114 units. 158. A firm has the following production function. Q = 4L2 + 6K2 – 2LK Budget constraint of the firm is Rs.720, the market going wage rate, w = Rs.15 and cost of capital, r = Rs.15. Compute the Optimum output. a. 4256 units b.
4320 units
c.
3220 units
d.
4416 units
e. 3216 units. 159. Production function for a small business firm is TP = 150L2 – 10L3. The quantum of labor to be employed to maximize output is a. 30 b. 7.5 c. 300 d. 10 e. 20. 160. If the marginal products of Labor (L) and Capital (K) are 480 and 360 and the wage rate is 40, the price of capital, assuming that the producer is operating at the equilibrium output level a. 20 b. 24 c. 15 d. 30 e. 40. 161. A manufacturing firm uses two inputs, labor and capital. The Marginal Product of Labor (MPL) is estimated as MPL = 20K0.5/L0.5. At present, the firm is using 100 units of capital and 30 units of labor. It takes twelve months for the firm to increase the capital stock because of its specialized nature. However, the firm can vary the number of labor depending on the requirement. The current wage rate is Rs.100 per unit and cost of capital is Rs.5 per unit. If the price of the output is Rs.3 per unit, the optimal input of labor for the firm is a.
84
b.
100
c.
25
d.
36
e.
16.
162. Which of the following production function(s) signifies Constant Returns to Scale (CRS)?
138
i.
Q = 5K + 7L + KL
ii.
Q = 8K/L
iii.
Q = 5K0.3L0.7
Part II
a.
Only (ii) above
b.
Only (iii) above
c.
Both (i) and (ii) above
d.
Both (ii) and (iii) above
e.
All of (i), (ii) and (iii) above.
163. The production function of Boomex, an auto spare parts manufacturer, is estimated to be Q = 30K0.5L0.5. If the prices of capital (r) and labor (w) are Rs.20 and Rs.30 per unit respectively, what is the minimum possible cost for producing 180 units?
a.
Rs.240.
b.
Rs.280.
c.
Rs.360.
d.
Rs.320.
e.
Rs.410.
164. Production function for a firm is TPL = 10L – L2. The number of labor after which marginal production becomes negative is
a. b. c. d. e.
4 6 5 10 8. 0.3
165. If the production function is Q = 20K substitution of labor for capital?
a. b. c. d. e.
0.3
L , what is the marginal rate of technical
L . K K 0.3 . L K . L K . L K –L.
0.3
166. Mr. Subba Rao, owner of Billow Garments & Brothers, employs labor and knitting machines as inputs to produce woolen garments. The following are the marginal productivity functions of labor and capital for the firm:
MPK = 0.75
L0.75 K 0.75 , MPL = 0.75 0.25 0.25 K L
If the wage paid to the laborers is Rs.8 and the cost of capital is Rs.5 each, the cost minimizing proportion of L to K is a.
L = (8/5) K
b.
L = (5/8) K
c.
L = (5 + 8) K
d.
L = (5 – 8) K
e.
L = (8 × 5) K. 139
Microeconomics
167. If the Average Product of Labor (APL) is 30L – L2, the maximum possible Total Product (TPL) is
a.
2,000 units
b.
4,000 units
c.
6,000 units
d.
8,000 units
e.
12,000 units.
168. Which of the following production functions represents decreasing returns to scale?
i. ii.
Q = 250 + 3K + 4L + 5R 0.3 0.5 0.2 Q = 100K L R KL iii. Q = R Where, K = Units of capital L = Units of labor R = Units of Raw materials. a. Only (i) above. b.
Both (i) and (ii) above.
c.
Both (ii) and (iii) above.
d.
Both (i) and (iii) above.
e.
All of (i), (ii) and (iii) above.
169. Marginal Product schedule of a firm at various levels of inputs is given below:
No. of units
1
2
3
4
5
6
Labor
144
96
60
48
36
24
Capital
120
84
60
30
20
10
The wage rate is Rs.12 and cost of capital is Rs.6. If budget of the firm is Rs.60, optimum labor and capital to be employed by the firm are a. L = 3 units and K = 4 units b. L = 4 units and K = 4 units c. L = 5 units and K = 3 units d. L = 5 units and K = 5 units e. None of the above. 0.5
170. The production function of a firm is Q = 250L . The quantity of labor that the firm should hire to maximize total profits, when price of the good is Rs.2 and wage rate is Rs.25, is
a.
50 units
b.
25 units
c.
75 units
d.
100 units
e.
125 units.
171. The production function for a firm is given by Q = 50K0.5 L0.5 . The efficient input combination ratio is estimated to be K = 4L. If the firm has to produce an output of 2,000 units, the efficient input combination is
a. b. c. d. e. 140
L = 30 units and K = 120 units L = 20 units and K = 80 units L = 15 units and K = 60 units L = 30 units and K = 60 units L = 30 units and K = 30 units.
Part II
172. Production function for a firm is Q = 100L – 0.02L2. If 10 units of labor are used, average productivity of labor is
a.
100.0 units
b.
20.0 units
c.
99.8 units
d.
200.0 units
e.
0.20 unit.
173. Which of the following production functions exhibit constant returns to scale?
i.
Q = K 1/2+L 1/2
ii.
Q = 2K+3L
iii.
Q = 3K 1/2 L 1/2
iv.
Q = K 1/2 L 2/3.
a.
Only (i), (ii) and (iii) above
b.
Only (ii), (iii) and (iv) above
c.
Only (i), (iii) and (iv) above
d.
Both (ii) and (iii) above
e.
Both (i) and (ii) above.
174. MRTSL,K for the production function, Q = 10K0.5L0.5 is
a.
0.5 K/L
b.
0.5 L/K
c.
K/L
d.
L/K
e.
0.5+K/L.
175. For a firm production function, budget constraint and expansion path are
Production function: Q = 50K0.4L0.4 Budget constraint: 1000 = 40L + 50K Expansion path: L = 1.25K The maximum possible output for the firm is a.
50 units
b.
90 units
c.
230 units
d.
345 units
e.
1000 units.
176. A firm has a production function of the form Q = K + 2L, where Q is output, K is the capital input and L is the labor input. If both wage rate and cost of capital are equal to Rs.100 per unit, the cost minimizing output
a.
Is achieved by producing at any point along the isoquant
b.
Is achieved by using labor input only
c.
Is achieved by using the capital input only
d.
Is impossible to achieve
e.
Is achieved by using labor and capital in equal amounts.
141
Microeconomics
Analysis of Costs Based on the following information answer the questions 177 to 178.
Mr. Jogui operates Bake Box Bakery and projected the sales revenue of Rs.85,000 for next month. Earlier he was working as a manager in the 7 Star International Hotel and used to get a salary of Rs.12000 p.m. He thought of selling his own venture and started Bake Box about three months ago. He used his own building to house the bakery, which otherwise could have earned a rent of Rs.9000 p.m. he employed four men to man Bake Box and wages would be Rs.10000 p.m. He planned to spend Rs.4000 for local promotional (advertisement etc.) work per month. Raw material cost would be Rs.38,000. Cost of utilities is likely to be Rs.3000 and provision for tax payments is Rs.9000. When he started the bake box he invested all his savings Rs.50000 which could have earned interest @18% p.a. 177. The accounting profit of the firm is
a.
8250
b.
0
c.
21000
d.
11250
e.
–745.
178. The economic profit of the firm is
a.
8250
b.
0
c.
–750
d.
11250
e.
–745.
179. Amchi Bike Co. manufactures bicycles. The cost function of the firm is estimated to be TC = 60000 – 400Q + Q2. The revenue function is given by TR = 400Q – Q2. The output level at which the firm break even is
a.
120
b.
600
c.
400
d.
100
e.
750.
180. The short run costs for different levels of output is given as
Q
0
20
40
60
80
100
120
140
150
160
180
STC (Rs) 80 200 260 300 320 The total revenue function of the firm is 4Q.
340
370
420
453
500
720
The level of output at which the breakeven point occurs is
142
a.
0
b.
80
c.
100
d.
180
e.
Both (b) and (d) above.
Part II
181. The following schedule shows the total, average and marginal productivity of labor. The wage per unit of labor is constant at Rs.600.
L
1
2
3
4
5
6
7
TPL
200
600
1400
2000
2400
2600
2700
APL
200
300
466
500
480
434
385
MPL
200
400
800
600
400
200
100
If the firm produces 2400 units of output the Average Variable Cost of production is a.
Rs.1.25
b.
Rs.1.35
c.
Rs.1.05
d.
Rs.1.55
e.
Rs.1.65.
182. What is the Marginal Cost function of Benhur Gracio that has the Total Cost function of C = Q3 – 6Q2 + 600Q?
a.
Q2– 16Q + 600.
b.
3Q2– 24Q + 600.
c.
3Q2– 12Q + 600.
d.
Q2– 6Q + 600.
e.
None of the above.
Based on the following information answer the questions 183 to 184.
The Total Variable Cost function of Nazareth Bros. is estimated to be TVC = 50Q – 10Q2 + Q3. 183. The output level where the Marginal Cost (MC) is a minimum is
a.
20/6
b.
50/6
c.
10/6
d.
50
e.
0.
184. What is the output level where the Average Variable Cost is a minimum?
a.
10.
b.
50.
c.
15.
d.
20.
e. None of the above. 185. The cost function of a firm producing race bike is estimated to be TC = 80,000 – 600Q + 2Q2. The demand function for race bike is given by Q = 400 – P. The break-even level of output for the firm is a.
Q = –133.33 (or) 200 units
b.
Q = 133.33 (or) 200 units
c.
Q = 133.33 (or) – 200 units
d.
Q = – 133.33 (or) – 200 units
e.
None of the above. 143
Microeconomics
186. For a firm the LTC = Q3 – 2Q2 – 6Q. What is the optimum level of output for the firm?
a.
1 unit.
b.
2 units.
c.
3 units.
d.
4 units.
e.
5 units.
187. If the cost function for a pen manufacturer is TC = 200 + 5Q – 0.4Q2 + 0.001Q3. What is the fixed cost?
a.
100.
b.
400.
c.
20.
d.
200.
e.
2.
188. What is the marginal cost function for the company having a total cost equal to 200 + 5Q – 0.04Q2 + 0.001Q3?
a.
200/Q + 5 – 0.048 + 0.001Q2.
b.
5 – 0.08Q + 0.003Q2.
c.
5 + 0.08Q + 0.003Q2.
d.
5 – 0.08Q + 0.03Q2.
e.
1 – 0.08Q + 0.003Q2.
189. Find the average cost function for the company that has a total cost of TC = 200 + 5Q – 0.04Q2 + 0.001Q3. a. 5 – 0.08Q + 0.003Q2
b.
5 + 0.08Q – 0.003Q2
c.
200/Q + 5 – 0.04Q + 0.001Q2
d.
Q/200 + 5 – 0.04Q + 0.001Q2
e.
200/Q + 5 + 0.04Q + 0.001Q2.
190. What is the marginal cost function of a firm selling its output for Rs.20/unit, provided the cost function is TC = 16 + 17Q – 9Q2 + Q3? a. 20Q.
b.
3Q + 9Q2 – Q3 – 16.
c.
17 – 18Q + 3Q2.
d.
3Q (Q + 6) + 17.
e.
17 + 18Q – 3Q2.
191. A firm sells its output for Rs.20 per unit. The cost function is TC = 16 + 17Q – 9Q2 + Q3. What it its profit function?
144
a.
3Q + 9Q2 – Q3 + 16.
b.
3Q + 9Q2 + Q3 + 16.
c.
3Q + 9Q2 – Q3 – 16.
d.
3Q + 9Q2 – Q3 – 8.
e.
None of the above.
Part II
192. DRDO produces electronic components for an antimissile system. Each component sells for Rs.900. Average variable cost is constant at Rs.700 and total fixed cost is Rs.10,000. What is the break even level of output?
a.
500 units.
b.
25 units.
c.
250 units.
d.
125 units.
e.
50 units.
Based on the following information answer the questions 193 to 194.
During the last period the sum of profit and fixed costs for a firm totaled Rs.100,000. Units sold were 10,000. 193. If variable cost per unit was Rs.4 what was the selling price of a unit of output?
a.
Rs.16.
b.
Rs.10.
c.
Rs.12.
d.
Rs.14.
e.
Rs.20.
194. How much would profit change if the firm sells 11,000 units of output? (Assume average cost remains at Rs.4 per unit and price is Rs.14).
a.
Profit will change 30,000
b.
Profits will be changed by 60,000
c.
Profits will be increased by 100,000
d.
Profits will increase by 10,000
e.
Profits will change by 50,000.
195. The Average Variable Cost (AVC) for the total cost function TC = 1000 + 200Q – 9Q2 + 0.25Q3 is
a.
200Q – 9Q2 + 0.25Q3
b.
200 – 9Q + 0.25Q2
c.
1000/Q + 200 – 9Q + 0.25Q2
d.
200 – 9Q + 0.25Q3
e.
1000/Q.
196. A firm sells its output for Rs.30 per unit and has total cost function TC = 30 + 17Q – 9Q2 + Q3. What is the firm’s total profit function?
a.
π = 13Q + 9Q2 + Q3 + 30.
b.
π = – 13Q – 9Q2 – Q3 – 30.
c.
π = – 13Q + 9Q2 – Q3 + 30.
d.
π = 13Q – 9Q2 + Q3 + 30.
e.
π = 13Q + 9Q2 – Q3 – 30.
145
Microeconomics
197. If the cost function of a firm is TC = Q3 – 20Q2 – 240Q, the output beyond which average cost will increase is
a.
10 units
b.
15 units
c.
20 units
d.
25 units
e.
12 units.
198. The Luminous Lamp Company, a producer of old style oil lamps, has estimated the following demand function for its product:
Q = 120,000 – 10,000P where Q is the Quantity demanded per year and P is the price per lamp. The firms fixed costs are Rs.12,000 and variable costs are Rs.1.50 per lamp. What is the equation for the total profit function in terms of Q? a.
120,000 – 10,000Q.
b.
12 – 0.0001Q.
c.
10.5Q – 0.0001Q2 – 12000.
d.
12Q + 0.0001Q2.
e.
10.5Q + 0.0001Q2 – 12000.
199. The demand function for a firm is given by Q = 1,20,000 – 10,000P. The fixed and variable costs are Rs.12,000 and Rs.1.5 per unit respectively. The marginal revenue function of the firm is
a.
12 – 0.0001Q
b.
12Q – 0.0001Q2
c.
12 – 0.0002Q
d.
24 – 0.0002Q
e.
None of the above.
200. The demand function for a firm is given by Q = 120,000 – 10,000P. The fixed and variable costs are Rs.12,000 and Rs.1.5 per unit respectively. The average cost function of the firm is
a.
12000 + 1.5Q
b.
12000Q + 1.5Q2
c.
12000/Q + 1.5
d.
12000/Q + 1.5Q
e.
None of the above.
201. Ashok & Co., is a multi product firm engaged in the manufacture of several consumer products. Recently the company introduced products X, the demand function of which is estimated as follows:
Px = 120 – 1.5Qx, where, Px = Price of X Qx = Demand for X
146
Part II
The marginal and average revenue functions are a.
120 + 3Qx and 120 + 1.5Qx
b.
120 + 3Qx and 120 + 1.5Qx
c.
120Qx – 1.5Q2 and 120 – 1.5Qx
d.
120Qx + 1.5Q2 and 120 – 3Qx
e. 120 – 3Qx and 120 – 1.5Qx. 202. The Marginal Cost function for a firm is found to be MC = 100 + 0.004Q. The Marginal Cost of production at output 2500 is a. 100 b. 110 c. 250 d. 400 e. 275. 203. The Marginal Cost function for a firm is found to be MC = 100 + 0.004Q. The level of output when MC = 200 is a. 10,000 b. 12,500 c. 13,500 d. 25,000 e. 27,500. 204. The marginal cost of production of a synthetic rubber glove is Rs.5 compared with the marginal cost of a rubber glove made of natural rubber which is Rs.2.5. The market price of the glove made of natural rubber is Rs.10. What will be the price of the rubber glove made of synthetic rubber? (Assumption: Producer equilibrium is maintained at that output level) a. Rs.25. b. Rs.35. c. Rs.20. d. Rs.50. e. Rs.10. 205. The average cost of producing 500 units of a good is Rs.5. The firm incurs a fixed cost of Rs.500 in the form of rent paid for the building. If the current price of the good is Rs.10 and the firm increases its sales to 750 units, the profit earned by the business unit, assuming the marginal cost is constant, is a. Rs.3,500 b. Rs.7,000 c. Rs.4,500 d. Rs.4,000 e. Rs.7,500. 206. When 10 units of output are produced, the Average Cost of production (AC) is Rs.10. If Average Cost of production (AC) increases to Rs.11 with an increase in output by one unit, the marginal cost of producing the 11th unit is a.
Rs.11
b.
Rs.21
c.
Rs.10
d.
Rs.13
e.
None of the above.
147
Microeconomics
207. The Total Cost function and demand function of a good are estimated to be TC = 100 – 5Q + 2Q2 and Q = 100 – P respectively. If the current output is 2 units, the average profit is
a. 98 b. 100 c. 49 d. 105 e. 65. 208. The cost function of Alco & Co., is TC = 2850 + 3.5Q. If the current market price of the good produced by the firm is 5 per unit, what will be the break even output for the firm? a. 1600 units. b. 1200 units. c. 1550 units. d. 1900 units. e. 1750 units. 209. Which of the following cost functions signifies a long run cost function? a. TC = 250 + 3Q. b. TC = 300. c. TC = 50 + 100Q + 2Q2. d. Both (b) and (c) above. e. None of the above. 210. If the Average Cost function of a firm is estimated to be AC = 500/Q + 10 + 5Q + 25Q2, the Fixed Cost of the firm will be a. 10 b. 500 c. 5 d. 25 e. Cannot be determined. 211. If Total Cost function for a firm is TC = 18Q – 0.30Q2 + 0.010Q3, the output at which Average cost is minimum is a. 20 b. 15 c. 35 d. 25 e. 12. 212. The following is the marginal cost schedule for a good: Output Marginal Cost 1 6 2 5 3 4 4 5 5 7 If the firm produces four units of output, the Average Cost of production would be a. b. c. d. e. 148
6 5 4 7 10.
Part II
213. Consider the following Total Cost function TC = 1000 + 200Q – 9Q2 + 0.25Q3
Which of the following statements is/are true? a.
The Average Variable Cost function is + 200 – 9Q + 0.25Q2 .
b.
Fixed cost is 1000.
c.
Marginal Cost function is 200 – 9Q + 0.25Q2.
d.
Variable Cost function is 200Q – 9Q2 + 0.25Q3.
e.
Both (b) and (d) above.
214. The Total Cost function is estimated to be TC = 100 – 3Q + 5Q2. If the current output is 5 units, Marginal Cost is
a.
96
b.
75
c.
47
d.
26
e.
None of the above.
215. For a firm, the Average Cost function is estimated as 100 + 20 + 4Q Q What is Total Variable Cost for the firm at an output of 15 units? a. Rs.100. b. Rs.750. c. Rs.1,200. d. Rs.1,340. e. Rs.2,100. 216. Which of the following cost functions signifies a long run cost function?
AC =
a. b. c. d. e.
TC = 250 + 3Q. TC = 300. TC = 50 + 100Q + 2Q2. Both (b) and (c) above. None of the above.
217. The demand function for a firm is P = 30 – 3Q. If the Average Cost (AC) is Rs.6, what is the output at which the firm earns normal profits?
a.
3 units
b.
30 units
c.
10 units
d.
6 units
e.
8 units.
218. The long run cost function of a firm is TC = Q3 – 40Q2 – 480Q
Beyond what output do diseconomies of scale exists? a.
20 units
b.
30 units
c.
40 units
d.
35 units
e.
45 units. 149
Microeconomics
219. Total Cost of production for a firm to produce 200 units is Rs.12,500 and Rs.13,500 for 250 units. What would be the Fixed Cost for the firm, if the Average Variable Cost is constant?
a.
Rs. 7,500.
b.
Rs. 8,000.
c.
Rs. 8,500.
d.
Rs. 7,750.
e.
Rs. 8,150. 2
220. If the total cost function is TC = 200 – 4Q + 6Q and the output is 4 units, the Marginal Cost is
a.
Rs.24
b.
Rs.32
c.
Rs.44
d.
Rs.35
e.
Rs.41.
221. Mr. Sachin can earn money from various activities. His hourly earnings from cricket is Rs.5,000, acting Rs.30,000, coaching Rs.10,000 and ceremonies Rs.15,000. The Opportunity Cost of an hour of coaching for Sachin is
a.
Rs.5,000
b.
Rs.10,000
c.
Rs.15,000
d.
Rs.30,000
e.
None of the above.
222. The Total Cost (TC) schedule of a firm is
Output (in units)
TC (in Rs.)
1 2 3 4 5
100 150 190 250 340
Marginal Cost of the third unit is a. b. c. d. e.
Rs.30 Rs.40 Rs.150 Rs.60 Rs.190.
223. Cost function of a firm is TC = 500 + 10Q – 0.25Q3. If the current output is 100 units, Average Fixed Cost is
a. b. c. d. e.
150
Rs.500 Rs.10 Rs.5 Rs.100 Rs.0.25.
Part II
224. Long run cost function of a firm is TC = Q3 – 40Q2 + 450Q.
What is the minimum possible average cost? a. Rs.20. b. Rs.60. c. Rs.10. d. Rs.50. e. Rs.30. 225. If the short run cost function of a firm is TC = 300 + 10Q, the Marginal Cost is a. 10Q b. 10 c. 300 d. 360 e. 36. 226. Total Cost of production for a firm to produce 1,000 units is Rs.15,000 and to produce 1,500 units is Rs.20,000. The Fixed Cost of the firm is a.
20,000
b.
10,000
c.
500
d.
5,000
e.
None of the above.
227. What is the Marginal Cost function for the given Total Cost function?
TC = 1,000 + 200Q – 9Q2 + 0.25Q3 a.
MC = 400 – 18Q2 + 0.75Q2.
b.
MC = 1000 + 200Q – 9Q 2 + 0.25Q 3.
c.
MC = 200 – 18Q + 0.75Q2.
d.
MC = 200Q – 9Q2 + 0.25Q3.
e.
MC = 0.
228. For Selva Singh Corporation the cost function is estimated as TC = 100,000 + 200Q. If the price of each good is Rs.250. What is the Break Even Output for the firm?
a.
250.
b.
1,000.
c.
200.
d.
2,000.
e.
3,000.
Based on the following information answer the questions 229 to 230. A firm incurs Rs.50,000 every year towards fixed expenses. Its Average Variable Cost is given by AVC = 0.5 + 0.0025Q, where AVC is Average Variable Cost in Rupees and Q is output. 229. If the volume of the first year is expected to be 20,000 units, the Average Total Cost of the firm is
a.
53
b.
50
c.
59
d.
10
e.
60.
151
Microeconomics
230. The firm’s productivity has increased by greater learning resulting in cost saving for the company. What will be the effect of learning on Average Total Cost if actual second year cost was 848,000 at an actual volume of 20,000 units?
a.
AC = 0 per unit.
b.
AC = 42.4 per unit.
c.
AC = 10.6 per unit.
d.
AC = 20 per unit.
e.
None of the above.
231. The total cost function of a firm is TC = 10 + 15Q – 2Q2 + 0.1Q3
The lowest price for output that would allow the firm to cover just the Average Cost is a.
5.0
b.
5.9
c.
10
d.
6.7
e.
7.2.
232. The cost function for a service marketing firm is given by C = 20 + 3Q2. What is the Average Variable Cost for the firm if it produces 10 units of output?
a.
32.
b.
20.
c.
60.
d.
30.
e.
40.
Based on the following information answer the questions 233 to 235.
The Jaysingh Enterprises is a retail seller of walkmans. The price of each walkman is Rs.550 and the average variable cost is Rs.130. The monthly fixed cost incurred by the Enterprise is Rs.6500. 233. Find the sales volume if the manager of the stores wants to determine how many walkmans they want to sell in order earn a profit of Rs.15000 per month.
a.
58.4
b.
51.2
c.
42.0
d.
61.3
e.
47.5.
234. If the enterprise wants to sell each walkman at a price of Rs.600 instead of selling at Rs.550, but wants to earn same profit of Rs.15,000 per month what would be the required sales volume?
152
a.
42.5 units.
b.
45.74 units.
c.
90 units.
d.
48.12 units.
e.
52.5 units.
Part II
235. If the price is Rs.600, average variable cost is Rs.100 rather than Rs.130 and profit is Rs.15,000, the required sales volume is
a.
50 units
b.
65 units
c.
45 units
d.
45.74 units
e.
43 units.
236. The Cost and Profit functions of a firm are
TC = 200 + 10Q Profit = – 10Q2 + 200Q – 200 If the firm aims at maximizing Total Revenue, the output should be a. b. c. d. e.
10.0 9.5 10.5 6.3 19.0.
237. A firm’s Average Variable Cost function is AVC = 20 – 10Q + 0.25Q2. If the Fixed Cost is 100, the output at which the Marginal Cost will be minimum is a. 13.33
b.
15.33
c.
26.67
d.
30.00
e.
20.00.
Market Structure I: Perfect Competition Based on the following information answer the questions 238 to 239.
Vijaya Ltd., is operating in a perfectly competitive industry. The Total Cost function of the firm is given by TC = 25000 + 150Q + 3Q2. 238. If the industry is in long run equilibrium what is the price of the Vijaya Stores product?
a.
69.77
b.
697.7
c.
91.3
d.
6.9
e.
9.13.
239. What is the profit maximizing output for the firm if the price is Rs.900?
a.
225.
b.
200.
c.
125.
d.
150.
e.
175.
153
Microeconomics
240. The supply and demand curves for groundnut are QS = 10000P and QD = 25000 – 15000P where, QS is the quantity (tons) supplied, QP (tons) is the quantity demanded and P is the price year. The equilibrium quantity of groundnut is
a.
15000
b.
25000
c. 10000 d. 35000 e. None of the above. Based on the following information answer the questions 241 to 242. The Total Cost function of Ananda Corporation is TC = 200 + 4Q + 2Q2 (where TC is the Total Cost in Rupees and Q is the quantity). 241. If the firm is a perfectly competitive firm and is selling its goods at Rs.24. What is its optimal output level? a. 5. b. 4. c. 3. d. 2. e. None of the above. 242. If the output produced and sold by the firm is 5 units, the profits earned by the firm is a. Rs.150 b. (Rs.150) c. 0 d. Rs.200 e. None of the above. 243. The bottle industry in a country is experiencing perfect competition. The lowest point on the long run average cost curve of each of the identical bottle producers is Rs.4, and this minimum point occurs at an output of 1000 bottles per month. The market demand curve for bottles is QD = 140000 – 10000P where P is the price of a bottle (in Rupees per bottle) and QD is the quantity of bottles demanded per month, the market supply curve for bottles is QS = 80000 – 5000P where QS is the quantity of bottles supplied per month. What is the equilibrium price of a bottle? a. 1. b. 2. c. 3. d. 4. e. 5. Based on the following information answer the questions 244 to 248. R. K. Enterprises is a small firm in the steel office chairs industry, which is perfectly competitive. The market price of each chair is Rs.640. The cost function of the firm is TC = 240Q – 20Q2 + Q3. 244. What is the profit maximizing output? a. 20 units. b. – 6.67 units. c. 40 units. d. 30 units. e. 100 units. 245. What is the Average Cost when the level of output is 20 units? a. 480. b. 220. c. 140. d. 40. e. 240. 154
Part II
246. What is the profit earned by the R. K. Enterprises if the output sold in the market is 20 units? a. Rs. 8000.
b.
Rs. 4800.
c.
Rs. 12800.
d.
Rs. 240.
e.
None of the above.
247. Suppose the local government imposes a specific tax of Rs.325 per chair on the R. K. Enterprises, the profit maximizing output is a. 10 units
b.
15 units
c.
20 units
d.
25 units
e.
30 units.
248. The local government imposes a specific tax of Rs.325 per chair on the R.K. Enterprises. If the firm is producing 15 units, the profits earned by the R. K. Enterprises is a. Rs. 2050
b.
Rs. 2250
c.
Rs. 2520
d.
Rs. 2500
e.
Rs. 2275.
Based on the following information answer the questions 249 to 251. An industry has 100 firms 50 are located in Faridabad and 50 in Jaipur. All the output sells only at Delhi. The cost of transportation is Rs.6 per unit from Faridabad to Delhi and Rs.10 from Jaipur to Delhi. Cost function of all firms in the industry is identical and given by C = 0.5Q2. The industry demand function is QD = 1600 – 20P. 249. What is the equilibrium price for the industry? a. Rs. 0.5. b. Rs. 10. c. Rs. 50. d. Rs. 20. e. Rs. 200. 250. What is the output supplied by each firm at Faridabad and Jaipur? a. 1.4 units and 1 units. b. 6 units and 10 units. c. 26 units and 30 units. d. 14 units and 10 units. e. None of the above. 251. Suppose the Delhi administration impose an entry tax of Rs.2 per unit coming from Faridabad and give subsidy of Rs.2 per unit coming from Faridabad and give subsidy of Rs.2 per unit coming from Jaipur. What is the equilibrium price for the industry? a. P = Rs.120. b. P = Rs.210. c. P = Rs.200. d. P = Rs.20.
e.
P = Rs.100. 155
Microeconomics
252. Racing Cycles Ltd., faces a horizontal demand curve. The firm’s Total Cost, TC is given by the equation TC = 200 + 150Q – 20Q2 + Q3. What is the price below which the firm is forced to shutdown its operations?
a. b. c. d. e.
Rs.45. Rs.200. Rs.50. Rs.150. Rs.100.
253. In a perfectly competitive market
Demand function: Qd = 20000 – 400P Supply function: Qs = 14000 + 200P What is the price charged by a member firm having a cost function of TC = 100 + 50Q? a. b. c. d. e.
Rs.10. Rs.15. Rs.20. Rs.25. Rs.30.
254. Pens and Pens Co., sells ball point pens at Rs.10 per pen. The cost function is TC = 1000 + 2Q + 0.01Q2. What is the profit maximum output for Pens and Pens Co.?
a. b. c. d. e.
4000 units. 40 units. 400 units. 440 units. 800 units.
255. A bicycle manufacturer sells bicycles in a perfectly competitive market. The cost function is TC = 5000 + 150Q – 20Q2 + Q3. What is the price below which the manufacturers shutdown operations?
a.
Rs.20.
b.
Rs.200.
c.
Rs.100.
d.
Rs.150.
e.
Rs.50.
256. Market supply and demand equations for product XYZ are
Qs = 20,000 + 30P Qd = 40,000 – 20P A perfectly competitive firm produces product XYZ. The Total Cost function of the firm is TC = 1000 + 200Q + Q2. The profit maximizing output for the firm is
156
a.
200
b.
800
c.
100
d.
50
e.
400.
Part II
257. For a firm operating in a perfectly competitive market the Total Cost function is TC = Q3/3 – 5Q2 + 40Q. If the current market price is Rs.16. What is the profit maximizing output? a. 4 units. b. 10 units. c. 6 units. d. 24 units. e. 40 units. 258. The market price faced by a firm in a perfectly competitive market is Rs.50. Marginal Cost for the firm is given by MC = 10 + 2Q. What is the profit maximizing output? a. 50 units. b. 20 units. c. 10 units. d. 200 units. e. 100 units. 259. For a perfectly competitive industry supply and demand functions areQs = 1,000 + 2P
Qd = 3,500 – 3P A firm operating in the industry has the following cost function. TC = 500Q – 15Q2 + Q3 What will be the profits earned by the firm at the current equilibrium price? a. Rs.100. b. Rs.200. c. Rs.300. d. Rs.500. e. Rs.600. 260. What is the long run equilibrium price of a product in a perfectly competitive industry where supply and demand functions areQs = 1000 + 2P Qd = 3500 – 3P The firm operating in the industry has the following cost function: TC = 500Q – 15Q2 + Q3 a. Rs.500.75 b. Rs.445.75 c. Rs.450.75 d. Rs.470.75 e. Rs.443.75. 261. The market supply and demand functions for a product are given by Qs = 3,000 + 20P and Qd = 13,500 – 50P The industry supplying the product is perfectly competitive. An individual firm has Fixed Costs of Rs.500 per period. Its Average Variable Cost function is AVC = 150 – 18Q + Q2. What is the maximum profit that can be earned by the firm? a. Rs.180. b. Rs.243. c. Rs.364. d. Rs.323. d. Rs.225. 157
Microeconomics
262. Styto Garments Ltd., is a producer of readymade shirts for men. The company has hired an economist to determine the market demand and supply functions for their product. The economist after months of research has understood that the garments industry is perfectly competitive and the market demand and supply functions are as follows: Qs = 3000 + 200P Qd = 13500 – 500P Where, Qs = Quantity supplied. Qd = Quantity demanded P = Price of one shirt Styto Garments have fixed costs of Rs.150 per period. Its marginal cost function is given by
MC = 15 – 4Q +
3Q 2 10
What is the number of shirts Styto Garments should produce in order to maximize profits? a.
18.
b.
15.
c.
11.
d.
13.
e.
17.
263. Tribhuvan Enterprises is a small firm engaged in the manufacture of office furniture. The firm is operating under conditions of perfect competition. The cost function of the firm is estimated as follows:
TC = 720Q – 168Q2 + 14Q3 What is the average cost of the firm, if the firm is producing 10 units of output? a.
Rs.420.
b.
Rs.440.
c.
Rs.380.
d.
Rs.390.
e.
Rs.400.
264. The market demand for a product is given by the following function: P = 950 – Qd
where, P = Price per unit in Rs. and Qd = Quantity of the product sold in units. The marginal cost and average cost are constant and equal to Rs.50. If the firm producing the commodity is under perfectly competition. What are the equilibrium price and output for the industry?
158
a.
Rs.90 and 1000 units.
b.
Rs.50 and 900 units.
c.
Rs.100 and 900 units.
d.
Rs.50 and 1000 units.
e.
Rs.25 and 50 units.
Part II
265. A hair dresser, operating in a perfectly competitive market, charges Rs.20 per dressing. His Total Cost function is given by TC = 5625 + 5Q + 0.01Q2 (Assumption – operating expenses are similar to equal of 100 other firms) The optimal output for the firm is a. 200 dressings/month b. 350 dressings/month c. 250 dressings/month d. 300 dressings/month e. None of the above. 266. If the optimal number of dressings is 750, the maximum economic profit that can be earned by the hair dresser is a. 150 b. 0 c. 700 d. 750 e. 125. 267. For a firm the demand and Marginal Revenue functions are estimated to be P = 80 – 0.0008Q and MR = 80 – 0.0016Q respectively. If the firm is operating under monopolistic conditions with a Marginal Cost = Average Cost = 20, the optimal market price would be
a. 60 b. 50 c. 20 d. 80 e. 100. Based on the following information answer the questions 268 to 269. Units for month
Price per unit
Total Revenue
Marginal Revenue
Total Cost
Marginal Cost
0
5.00
0.00
–––
0.00
–––
1
4.80
4.80
4.80
3.75
3.75
2
4.60
9.20
4.40
7.45
3.70
3
4.40
13.20
4.00
11.10
3.65
4
4.20
16.80
3.60
14.70
3.60
5
4.00
20.00
3.20
18.00
3.30
6
3.80
22.80
2.80
20.90
2.90
7
3.60
25.20
2.40
23.80
2.90
8
3.40
27.20
2.00
27.20
3.40
9
3.20
28.80
1.60
30.70
3.50
10
3.00
30.00
1.20
35.00
4.30
268. What is the optimal output level for the firm if the firm is operating in a perfectly competitive industry and the market price is 3.40?
a.
9 units.
b.
7 units.
c.
8 units.
d.
9 units.
e.
None of the above. 159
Microeconomics
269. What is the optimal output level for the firm if the firm is operating in a monopolistically competitive industry?
a.
4 units.
b.
7 units.
c.
5 units.
d.
6 units.
e.
8 units.
Based on the following information answer the questions 270 to 271. The cost function for a firm is given by C = 15 + Q2. The firm sells output in a perfectly competitive market and other firms in the industry sell output at a price a Rs.200. 270. What price should the manager of the firm put on the product?
a. b. c. d. e.
100. 200. 15. 40. 10.
271 What level of output should be produced to maximize profits?
a. b. c. d. e.
200 units. 10 units. 20 units. 100 units. 150 units.
272. The market demand and the supply functions for a particular good in a perfectly competitive market are Qd = 80,000 – 9,000P Qs = 20,000 + 6,000P Where P is given in Rupees. The price to be charged by the firm in order to maximize profits, assuming TC = 10 + 2Q, is a. Rs.5
b.
Rs.8
c.
Rs.6
d.
Rs.7
e.
Rs.4.
273. The short run costs for different levels of output is given as
Q
0
20
40
60
TC 80 200 260 300 The total revenue of the firm is 4Q.
80
100
120
140
150
160
180
320
340
370
420
453
500
720
The level of output at which the total profit is maximized is a. b. c. d. e.
160
720 180 147 150 170.
Part II
274. The cost schedule of a firm operating under a perfectly competitive market is given below:
Quantity (units) 50
Total cost (Rs.) 505
51 52 53 54 55 56 57
507 510 514 519 525 532 540
The current market price of the good and output of the industry are Rs.4 and 148824 units respectively. If all the firms in the industry have identical cost functions, the number of firms in the industry is a. 2808 b. 2862 c. 2756 d. 3204 e. 3124. 275. Ralcorp Ltd., is operating in a perfectly competitive market. The Average Variable Cost function of Ralcorp is AVC = 300 – 40Q + 2Q2 The firm has an obligation to pay Rs.500 towards lease rental irrespective of the output produced. What is the price below which the firm has to shut-down its operation in the short run? a. Rs.300. b. Rs.100. c. Rs.225. d. Rs.210. e. Rs.150. 276. Rajdoot Toy House, which manufactures various toys for kids, operates under conditions of perfect competition. The price elasticities of demand and supply for toys are estimated to be 3 and 2 respectively. Currently, the equilibrium price of toys is Rs.100. If the government imposes a specific sales tax of Rs.10 per unit, the new equilibrium price will be a. Rs.109 b. Rs.106 c. Rs.104 d. Rs.105 e. Rs.100. 277. The Long run Average Cost function of a firm operating under perfect competition is estimated to be
LAC = 20 – 250Q + 10Q2 If the current market price of the good produced by the firm is Rs.20, the long run equilibrium output of the firm is a.
14.0
b.
12.5
c.
20.0
d.
18.5
e.
16.0. 161
Microeconomics
278. A perfectly competitive industry comprises of 150 firms. Of which, 50 are located in Chennai, while remaining 100 are in Hosur. All the output is sold only at Hyderabad. The cost of transporting one unit of output from Hosur to Hyderabad is Rs.8 and Rs.12 from Chennai to Hyderabad. The cost function of all the firms in the industry (excluding transportation cost) is identical and is estimated as
C = 100 + Q
2
If the industry demand function is Qd = 2,020 – 10P, what is the equilibrium output for the industry? a. 1,450 units. b. 1,528 units. c. 2,720 units. d. 1,700 units. e. 1,620 units. 279. The demand function for a good is estimated to be Q = 100 – 2P. The Total Cost function of the firm is given by TC = 50 + 2Q. If the firm produces 12 units, profits made by the firm are a. Rs. 352 b. Rs. 426 c. Rs. 454 d. Rs .472 e. Rs. 502. 280. A firm operating under perfect competition has the following cost functions:
MC = 75 – 20Q + 1.5Q2 AVC = 75 – 10Q + 0.5Q2 The price below which the firm shutdown its operation in the short run is a.
Rs.20
b.
Rs.25
c.
Rs.40
d.
Rs.50.
e.
Rs.10.
281. A firm in a perfectly competitive industry is producing 100 units, its profit-maximizing quantity. The market price of the good is Rs.2, and Total Fixed Costs and Total Variable Costs are Rs.50 and Rs.40 respectively. The firm’s economic profit is
a.
Rs.200
b.
Rs.80
c.
Rs.100
d.
Rs.110
e.
Rs.90.
282. Long run Average Cost function of a firm under perfect competition is LAC = 100 – 20Q + 2Q2. If this is a constant cost industry and the industry demand function is P = 100 – 0.1Q. How many firms are there in the industry when the industry is at equilibrium?
162
a.
Infinite.
b.
50.
c.
100.
d.
500.
e.
10.
Part II
283. In a perfectly competitive market supply and demand functions are
Qs = 1000P + 500 Qd = 5000 – 500P If Variable Cost function of a firm is VC = 103Q – 0.5Q2, profit maximizing output for the firm is a.
2,500 units
b.
500 units
c.
4,000 units
d.
1,000 units
e.
100 units.
284. In a perfectly competitive industry the goods demand function i.e., D = 7,000 – 500P and goods supply function i.e., S = 4,000 + 250P.
The quantity and its costs of production for a firm are given below. Quantity
Total Cost
0
40.0
10
100.0
20
130.0
30
150.0
40
160.0
50
170.0
60
185.0
70
210.0
75
226.5
80
250.0
90
360.0
Find out how many break even points are there in this given schedule. a.
0
b.
3
c.
2
d.
4
e. 5. 285. Beta, a shoe manufacturer, is operating in a perfectly competitive industry. The Total Cost function of Beta is estimated to be TC = 200 + 300Q – 40Q2 + Q3 Industry supply function for shoes is Qs = 100 + 2P If profit maximizing output for Beta is 50 units, equilibrium output for the industry is a. 2667 Units b. 3800 Units c. 7700 Units d. 8100 Units e. 2800 Units. 163
Microeconomics
286. There are 100 firms, with identical cost functions, in a perfectly competitive industry. The demand function for the industry is estimated to be Qd = 2000 – 200P
If the cost function of a firm is TC = 200 – 50Q + 2Q2 equilibrium price of the product is a.
9.93
b.
3.33
c.
16.35
d.
14.98
e.
18.10.
Market Structure II: Monopoly 287. The Total Cost function for a monopolist is given by the equation TC = 900 + 40Q2. The demand function for the good produced by the monopolist is given by 2Q = 48 – 0.08P. The profit maximizing price for the monopolist is
a.
Rs.434
b.
Rs.485
c.
Rs.600
d.
Rs.115
e.
Rs.585.
288. Average Cost (AC) takes the following values for the corresponding levels of output
Q = 50; the AC = 15 Q = 200; the AC = 6.5 Q = 250; the AC = 5.5 If the firm sells to the high income market 50 units of Q at a price P1 = 10, and to the low income market 200 units at a price P2 = 5, the amount of profit made by the firm is a.
Rs.250
b.
Rs.125
c.
Rs.150
d.
Rs.500
e.
Rs.1500.
289. The cost and demand function of a monopolist is given by TC = 125 + 5Q2 and P = 100 – 5Q respectively, the maximum profit that can be earned by the monopolist is
164
a.
Rs.100
b.
Rs.275
c.
Rs.125
d.
Rs.225
e.
Rs.250.
Part II
290. A monopolist practicing third degree price discrimination has segmented the total market for his product into three sub markets with the following price elasticities of demand.
Market
Price elasticity
1
1.5
2
2.5
3 4.0 If the profit-maximizing price charged in market 2 is Rs. 50, what are the profit maximizing prices for market 1 and market 3? a.
Rs.30 and Rs.90 respectively.
b.
Rs.60 and Rs.90 respectively.
c.
Rs.90 and Rs.40 respectively.
d.
Rs.50 and Rs.30 respectively.
e. Rs.90 and Rs.90 respectively. Based on the following information answer the questions 291 to 293. Indexpo Ltd., is an export oriented trading firm. Index exports handicrafts to Europe and North America. The total demand function faced by indexpo is P = 140 – Q/0.15 further the market research team at indexpo estimated individual demand functions for north America and Europe to be PA = 100 – 10QA PE = 220 – 20QE respectively. Indexpo is actively considering a proposal for discriminating so as to maximize its total profits. The cost function of Indexpo is TC = 400 + 20Q. 291. The objective of Indexpo is to maximize its profits. What is the profit earned by Indexpo if it does not exercise price discrimination? a. Rs.220 b. Rs.100 c. Rs.130 d. Rs.140 e. Rs.800. 292. If the objective of indexpo is to maximize Total Revenue how many units should it export without exercising price discrimination? a. 21.5 units
b.
21 units
c.
10.5 units
d.
10.0 units
e.
20 units.
293. If Indexpo exercises price discrimination and aims to maximize profits, what is the total profit earned by Indexpo?
a.
Rs. 240.
b.
Rs. 220.
c.
Rs. 360.
d.
Rs. 340.
e.
Rs. 260.
165
Microeconomics
294. The demand equation for a monopolist is given by P = 50 – 2Q. Marginal cost for the monopolist is Rs.10. Compared to pricing under perfectly competitive market, what is the effect on income redistribution because of monopoly pricing?
a.
Rs.200 (favorable to the producers).
b.
Rs.200 (favorable to the consumers).
c.
Rs.150 (favorable to both of them).
d.
Rs.150 (unfavorable to both of them).
e.
None of the above.
Based on the following information answer the questions 295 to 296. Nixon Thomas Corporation is the sole producer of a particular type of radiotherapy equipment. The demand curve for its product is P = (8300 – Q)/2.1 and its total cost function is TC = 2200 + 480Q + 20Q2 where P is price in rupees. 295. What output should be chosen if he wants to maximize his profit?
a.
60.
b.
20.
c.
100.
d.
10.
e.
None of the above.
296. The price to be charged by him if the profit maximizing output is 10 units?
a.
Rs.100.
b.
Rs.60.
c.
Rs.90.
d.
Rs.120.
e.
Rs.10.
297. The long run supply curve for a particular type of kitchen knife is a horizontal line at a price of Rs.4 each. The demand curve for such a kitchen knife is QD = 50 – 2P. What is the equilibrium output of such knives?
a.
50.
b.
40.
c.
42.
d.
52.
e.
51.
298. Davidson & Co., has two factories with marginal cost functions of MC1 = 20 + 2Q1 and MC2 = 10 + 5Q2 where MC1 is Marginal Cost in the first factory and MC2 is the Marginal Cost in the second factory, Q1 and Q2 are the output in the first and the second factory respectively. If Davidson & Co., is minimizing its costs and is producing 5 units of output in the first factory, how many units of output is it producing in the second factory?
166
a.
30.
b.
20.
c.
5.
d.
4.
e.
10.
Part II
Based on the following information answer the questions 299 to 301. Nixon Thomas Corporation is the sole producer of a particular type of radiotherapy equipment. The demand curve for its product is P = (8300 – Q)/2.1 and its total cost function is TC = 2200 + 480Q + 20Q2 where P is price in rupees. 299. What will be the expression for the firm’s Marginal Revenue curve? a. MR = 3052 – 0.952Q.
b.
MR = 3952 – 0.952Q.
c.
MR = 3952 – 09.52Q.
d.
MR = 3952 – 0.476Q.
e.
MR = 3952 Q – 0.476Q2.
300. To maximize profit how many radiotherapy equipment should the firm produce and sell per month?
a.
8.04.
b.
8.48.
c.
84.8.
d.
24.8.
e.
None of the above.
301. What will be the firm’s monthly profit if the firm’s profit maximizing output is 80 units?
a.
Rs.144520.
b.
Rs.391222.
c.
Rs.347224.
d.
Rs.391212.
e.
None of the above.
302. The price of a product is Rs.20. If its elasticity of demand is 1.6, its Marginal Revenue would be
a.
1.6
b.
3.2
c.
4.5
d.
6.4
e.
7.5.
303. Cost function of a monopolist is TC = 500 + 20Q2
The demand for the monopolist is P = 400 – 20Q. What is the profit maximizing output? a.
50 units.
b.
40 units.
c.
5 units.
d.
20 units.
e.
80 units.
304. A local electricity supplier faces the following demand function. P = 200 – 4Q
The Marginal Cost of the firm is MC = 4Q. What is the profit maximizing price for the firm? a.
Rs.12.24.
b.
Rs.10.67.
c.
Rs.133.32.
d.
Rs.16.67.
e.
Rs.123.32. 167
Microeconomics
305. A firm faces the following demand function. Q = 2000 – 50P
What is the output to be produced if the objective of the firm is to maximize Total Revenue? a.
400 units.
b.
10,000 units.
c.
800 units.
d.
1000 units.
e.
Data insufficient.
306. Demand function of a monopolist is given by P = 110 – 4Q
Marginal cost for the monopolist is constant and is equal to Rs.10 if the industry converts into a perfectly competitive industry. What would be the equilibrium output? a.
25 units.
b.
10 units.
c.
15 units.
d.
20 units.
e.
30 units.
307. For a company Total Revenue and Total Cost functions are given by
TR = 300Q – Q2/2 and TC = 500 + 60Q + Q2. What is the profit maximizing price? a.
Rs.250
b.
Rs.400
c.
Rs.240
d.
Rs.260
e.
Rs.300.
308. The Plant Manager of a firm estimates the Total Revenue to be TR = 1000Q – Q2 and Total Cost to be TC = –200Q – Q2 + Q3. What is the profit maximizing price for the firm?
a.
Rs.1000.
b.
Rs.980.
c.
Rs.900.
d.
Rs.880.
e.
Rs.700.
309. A monopolist faces a demand function of Q = 200 – 2P. He has two plants manufacturing the same product. Cost functions of the two plants are:
C1 = 10Q1 C2 = 0.25Q 22 .
What is the profit maximizing output for the Monopolist?
168
a.
90 units.
b.
100 units.
c.
120 units.
d.
70 units.
e.
150 units.
Part II
310. The manager of Biswas Glass Company estimates that the demand function for its product is given by the equation Q = 300 – 0.5P,
where, Q = Quantity demanded P = Price per unit The Total Cost function is estimated to be TC = 5,000 + 60Q + Q2 What is the economic profit earned by the firm at the equilibrium output level? a.
37,800.
b.
19,300.
c.
18,500.
d.
56,300.
e.
44,250.
311. Alpha Co., is a monopolist having Govt. license to produce and sell Eco., a pollution reducing device when fitted to two wheelers can reduce the pollutants released into air by a half.
The demand function for Eco., is Q = 53 – P The Total Cost function of Alpha for Eco. is TC = 5Q What is the maximum possible profit that can be earned by the firm? a.
Rs.600.
b.
Rs.816.
c.
Rs.756.
d.
Rs.576.
e.
Rs.722.
312. The demand function for a monopolist’s product is given by P = 100 – 2Q. If the Total Cost function of the firm is TC = 10 + 2Q, the profit maximizing price for the monopolist is
a.
98
b.
54.5
c.
25.5
d.
55.5
e.
24.5.
Based on the following information answer the questions 313 and 314.
Rahul Ltd., a monopolist, aims at profit maximization. The Fixed Cost of the firm is Rs.200 and its Average Variable Cost is constant at Rs.30 per unit. Rahul Ltd., sells goods in Karnataka and Andhra Pradesh. The estimated demand functions for the good in Karnataka and Andhra Pradesh are: PK = 40 – 2.5QK PA = 120 – 10QA where,
PK = price charged by Rahul Ltd. in Karnataka PA = price charged by Rahul Ltd. in Andhra Pradesh QK = quantity of goods demanded in Karnataka QA = quantity of goods demanded in Andhra Pradesh.
169
Microeconomics
313. If price discrimination is not practised, the output produced by Rahul Ltd., to maximize sales revenue is
a.
14 units
b.
6.5 units
c.
12 units
d.
4.5 units
e.
9 units.
314. If price discrimination is practised by Rahul Ltd., the profit maximizing output will be
a.
14 units
b.
6.5 units
c.
12 units
d.
4.5 units
e.
9 units.
315. In Hyderabad city, there are eight popular construction companies. Data pertaining to the sale proceeds (no. of flats sold) of eight construction companies in the year 2003 is given below:
Name of the construction company
No. of flats sold in the year 2003
Modi Constructions
500
Legend Constructions
300
Hima Sai constructions
450
Kartikeya Constructions
120
Aditya constructions
100
Ranga Prasad Constructions
80
Happy Home constructions
125
Jayabheri constructions
580
The four-firm concentration ratio of the construction industry is a.
0.711
b.
0.811
c.
0.611
d.
0.511
e.
0.411.
316. The demand function of a monopolist is estimated to be Q = 100 – 10P
If the Marginal Revenue is Rs.4. What is the price elasticity of demand for the good?
170
a.
6.33.
b.
2.33.
c.
4.44.
d.
5.12.
e.
6.12.
Part II
317. A monopolist effectively segmented the market into two sub markets – X and Y. The Total Revenue functions in two sub markets are given by:
TRX = 20QX – 0.01Q2X ; TRY = 32QY – 0.02Q2Y The Marginal Cost of the monopolist is constant at Rs.6. If the monopolist practices price discrimination, profit-maximizing prices are a.
PX = Rs. 700 and PY = Rs. 650
b.
PX = Rs. 650 and PY = Rs. 700
c.
PX = Rs. 19 and PY = Rs. 13
d.
PX = Rs. 13 and PY = Rs. 19
e.
PX = Rs. 500 and PY = Rs. 525.
318. A monopolist can sell 5 units of a product when the price is Rs.87.50. If the price is
decreased to Rs.75, he can sell 6 units. Marginal Revenue of the monopolist if the price decrease is affected is a.
Rs.15.00
b.
Rs.14.00
c.
Rs.12.50
d.
Rs.17.50
e.
Rs.20.00.
319. In a monopoly, the price is Rs.20. If the Marginal Revenue is Rs.10, the value of Lerner Index is a. 50 b. 0.20 c. 0.50 d. 20 e. 10. Based on the following information, answer the questions 320 and 321.
Demand functions of a monopolist in two effectively segmented markets are: Qa = 1,000 – 50Pa Qb = 800 – 25Pb Total Cost function of the monopolist is TC = 500 + 10Q. 320. If the monopolist does not practice price discrimination, sales maximizing price is
a.
Rs.17
b.
Rs.900
c.
Rs.12
d.
Rs.525
e.
Rs.15.
321. If the monopolist practices price discrimination, profit maximizing prices are
a. b. c. d. e.
Rs.15 in both the markets Pa = Rs.250 and Pb = Rs.275 Pa = Rs.275 and Pb = Rs. 250 Pa = Rs. 21 and Pb = Rs. 15 Pa = Rs.15 and Pb = Rs.21. 171
Microeconomics
Based on the following information, answer 322 and 323.
Following is the sales data for motorbikes in India. Firm A B C D E F Total Sales
Sales 12,000 21,021 43,102 24,226 921 402 1,01,672
322. The value of 4-firm concentration ratio is
a.
0.91
b.
0.82
c.
0.75
d.
0.77
e.
0.98.
323. The value of Herfindahl Index is
a.
0.35
b.
0.44
c.
0.30
d.
0.20
e.
0.55.
324. Ampro is a monopolist operating in two distinct markets – A and B. The cost of producing one unit of the product is constant at Rs.10. At profit maximizing prices the absolute price elasticities of demand in the markets A and B are 2 and 5, respectively. The absolute value of slopes of the demand curves in markets A and B are 1 and 0.5, respectively. If Ampro is maximizing profit, total output is
a.
5 units
b.
15 units
c.
20 units
d.
12.5 units
e.
10 units.
Market Structure III: Monopolistic Competition 325. A firm is operating in monopolistic competition with the following demand and cost functions.
P = 11,100 – 30Q TC = 400,000 + 300Q – 30Q2 + Q3 What is the short run equilibrium output and price for the firm?
172
a.
56 units and Rs.9,100.
b.
66 units and Rs.9,100.
c.
60 units and Rs.9,300.
d.
50 units and Rs.9,000.
e.
60 units and Rs.9,000.
Part II
326. Long run demand and cost functions of a firm are given by
P = 5 – 0.002Q AC = 6 – 0.004Q + 0.000001Q2 What are the equilibrium output and price for the firm? a.
10,000 units and Rs.6.
b.
100 units and Rs.5.
c.
1000 units and Rs.3.
d.
100 units and Rs.2.
e.
None of the above.
327. The demand and cost functions of a firm in a monopolistically competitive industry is given by
P = 5 – 0.002Q AC = 6 – 0.004Q + 0.000001Q2 If the output produced by the firm is 1000 units, the economic profit earned by the firm is a.
Rs.1998
b.
Rs.2000
c.
Rs.2122
d.
Rs.2421
e.
Rs.1224.
328. Long run cost function of a firm operating in a monopolistically competitive market is given by
AC = 6 – 0.004Q + 0.000001Q2 If the firm is producing equilibrium level of output the economic profit earned by the firm is a.
Rs.0
b.
Rs.100
c.
Rs.1000
d.
Rs.150
e.
Data insufficient.
329. A firm operating in a monopolistically competitive market is faced by the following demand and cost functions
P = 350 – Q TC = 355Q – 2Q2 + 0.05Q3 What are the equilibrium price (P) and output (Q) for the firm? a.
P = 356.67 and Q = 3.83.
b.
P = 346.67 and Q = 3.33.
c.
P = 350.07 and Q = 10.
d.
P = 340.00 and Q = 10.
e.
Either (b) or (d) above.
173
Microeconomics
330. A firm operating in monopolistically competitive market is faced by the following demand and cost functions.
P = 350 – Q TC = 355Q – 2Q2 + 0.05Q3 What is the economic profit earned by the firm when the output is 10 units? a.
2.
b.
0.
c.
7.
d.
10.
e.
None of the above.
331. A firm in a monopolistic competition faces the following total revenue function:
TR = 500 + 50A – A2 A = units of advertising If the cost of each advertising is 4. What is the optimal budget for advertising? a.
82.
b.
92.
c.
72.
d.
23.
e.
32.
332. A firm in a monopolistic competition faces the following total revenue function: TR = 500 + 50A – A2 A = units of advertising If the cost of each advertising is 4 and if you get quantity discounts for purchase of advertising and the MCA = 60 – 3A. What is the profit maximizing number of advertisements? a. 50. b. 10. c. 60. d. 20. e. 40. 333. A firm operating in a monopolistically competitive market faces the following demand function. P = 8,000 – 4Q Long run average cost function of the firm is LAC = 8,000 – 7Q + 0.002Q2 What is the profit at the profit maximizing output? a. Rs.40. b. Rs.10. c. Rs.0. d. Rs.100. e. Rs.120.
174
Part II
334. A monopolistically competitive firm has the following Cost and Revenue functions:
TC = 3000 + 30Q – 20Q2 + Q3 TR = 30Q – 2Q2 If the firm is maximizing profits at the current level of output, what would be the total cost of the firm? a.
2,208.
b.
824.
c.
1,062.
d.
944.
e.
878.
335. The Total Revenue and Total Cost functions of Nike Shoe Company are
TR = 400Q –
2 Q2 , TC = 600 +70Q + Q 2
What is the profit maximizing output for the firm? a.
100 units.
b.
110 units.
c.
140 units.
d.
180 units.
e.
200 units.
336. The profit function of a firm, operating in a monopolistic market, is given by
π=
2 Q3 – 5Q + 24Q 3
What is the profit maximizing output for the firm? a.
4 units.
b.
5 units.
c.
8 units.
d.
9 units.
e.
12 units.
337. A firm operating in a monopolistic competition has the following demand function:
P = 1,000 – Q If the Marginal Cost of the firm is constant at Rs.10, the equilibrium output in the long run is a.
720 units
b.
990 units
c.
525 units
d.
495 units
e.
690 units.
175
Microeconomics
338. Demand function faced by a monopolistically competitive firm is Q = 1500 – 0.20P.
Long run cost curve for the firm is TC = 7500Q – 3Q2 – 0.02Q3. If the firm is in long run equilibrium, the output is a.
1500 units
b.
7500 units
c.
100 units
d.
250 units
e.
750 units.
339. Fixed Cost for a firm is Rs.100 and Variable Cost is VC = 2Q2 – 5Q. The demand function faced by the firm is P = 100 – Q. If average profit at the current output is Rs.40, price charged by the firm is
a.
Rs.100
b.
Rs.40
c.
Rs.80
d.
Rs.60
e.
Rs.50.
340. Zenith Bros. is a pioneer in manufacturing of luxury soaps. The demand function faced by Zenith Bros. is estimated to be P = 16000 – 8Q.
The long run average cost function of the firm is LAC = 16000 – 14Q + 0.004Q2 Assuming that Zenith Bros., operate under a monopolistically competitive market, the excess capacity of the firm at long run equilibrium is a.
1750 units
b.
1900 units
c.
250 units
d.
350 units
e.
1500 units.
Market Structure IV: Oligopoly 341. In a Duopoly the Industry demand function is
P = 100 – 0.5Q Cost functions of the two firms are C1 = 5Q1 C2 = 0.5Q22
What is the Cournot’s equilibrium output for the industry?
176
a.
70 units.
b.
110 units.
c.
80 units.
d.
150 units.
e.
175 units.
Part II
342. The demand for spring water is given by P = 1000 – Q What is price in a Cournot’s Duopoly, assuming the cost of production to be zero? a. Rs.666.67. b. Rs.333.33. c. Rs.1000. d. Rs.1666.67. e. Rs.1115. 343. The demand for spring water is given by P = 1000 – Q Assume that the cost of production to be zero. What is the equilibrium price for the industry if there are four firms in the industry? a. Rs.800. b. Rs.200. c. Rs.100. d. Rs.1000. e. None of the above. 344. Suppose two firms in a duopoly market with a demand function P = 100 – 0.5Q and cost functions C1 = 5Q1 and C2 = 0.5Q22 collude and form a cartel with the aim of joint profit maximization. What is the profit made by the firms?
a. b. c. d. e.
Rs.5250. Rs.4100. Rs.6250. Rs.5000. Rs.6150.
345. The demand function for a monopolist company is Q = 53 – P and the Total Cost function for the company is TC = 5Q. If the prime objective of the company is to maximize sales revenue, what is the output to be produced by the firm?
a. b. c. d. e.
53 units. 28 units. 23 units. 48 units. 26.5 units.
346. Two companies, Sweta Ltd., and Moti Ltd., are duopolists producing identical products. The market demand for the products is given by the following demand function:
P = 600 – QS – QM, where QS and QM are the quantities sold by the respective firms and P is the selling price. Total Cost functions for the two companies are: TCS = 25,000 + 100QS TCM = 20,000 + 125QM Assuming that the firms act independently as in the Cournot model, what is the long run equilibrium output for the industry? a. b. c. d. e.
300 units. 310 units. 325 units. 275 units. 250 units.
177
Microeconomics
347. Alpha Co., and Beta Co., are the two firms operating in a duopoly. The cost functions of Alpha Co., and Beta Co. are TCA = 10QA and TCB = 0.5QB2. If the demand function for the industry is Q = 200 – 4P, what is the Cournot’s equilibrium output for the industry?
a.
64 units.
b.
91 units.
c.
79 units.
d.
82 units.
e.
53 units.
348. A profit-maximizing monopolist sells 600 units of a scarce commodity every year. The monopolist has lost its dominance over the market with the entry of a new player. If the industry is transformed into a duopoly, what would be the profit maximizing output of the industry?
a.
1800 units.
b.
1250 units.
c.
980 units.
d.
800 units.
e.
650 units.
349. The market demand function for a good is P = 1,000 – Q
If the Marginal Cost remains constant at Rs.25, the industry output in a Cournot’s duopoly is a.
750 units
b.
650 units
c.
675 units
d.
725 units
e.
700 units.
350. If the equilibrium output in a perfectly competitive industry is 2,100 units. What could be the equilibrium output for the industry in a duopoly market?
a.
1,500 units.
b.
1,400 units.
c.
1,800 units.
d.
2,100 units.
e.
1,750 units.
351. The industry demand function for a product in a duopoly is P = 500 – 2Q. The reaction functions of the two firms are: Q1 = 380 – 2Q2 Q2 = 200 – Q1 Equilibrium price of the product is a. Rs.100 b. Rs.180 c. Rs.200 d. Rs.380 e. Rs.400.
178
Part II
352. Market demand for a good under the oligopoly market is estimated to be Qd = 100 – P. Firm X is a dominant firm in the industry and the supply function of all other firms is Qso = P – 20. If the dominant firm has a constant marginal cost of Rs.20, what will be the market price of the good?
a. Rs.80. b. Rs.60. c. Rs.40. d. Rs.20. e. Rs.10. 353. In an oligopoly industry, market shares of four firms are 30%, 30%, 25% and 15% respectively. Eight-firm concentration ratio for the industry is a. 15 b. 16 c. 40 d. 60 d. 100. 354. There are two players, Ramco and Tamco, in a market. The reaction functions of Ramco and Tamco are QR = 50 – 0.5QT QT = 60 – QR Where, QR is quantity produced by Ramco and QT is quantity produced by Tamco. If the market is transformed into a perfectly competitive market, the output for the industry would be a.
40 units
b.
50 units
c.
60 units
d.
70 units
e.
90 units.
179
Part II: Solutions Supply and Demand Analysis 1.
(a) Demand function is a linear one in the form of Q = a + bP Where, a = quantity demanded when the price is zero. b = price co-efficient P = price Q = quantity demanded Q = a + bP Therefore, Δ Q = b Δ P Or, b =
ΔQ ΔP
From the demand schedule b=
ΔQ Δp
where Δ Q is the change in quantity demanded Δ P is the change in price
When price increases from Rs.9 to Rs.10 ΔP =1
Δ Q = –2
b
= ΔQ/ΔP =
−2 = –2 1
Q = a – 2P. By putting the value of “b” in any of the combinations we can derive the value of ‘a’ 18 = a – (2 x 9) Or, a = 36 The demand function is therefore Q = 36 – 2P. 2.
(a) The maximum quantity that can be demanded is when the price of the good is zero. Q
= 34 – 2P = 34 – (2 x 0) = 34 units.
3.
(a) The theoretical maximum price is the price at which quantity demanded is zero.
4.
Q = 34 – 2P 0 = 34 – 2P Or, 2P = 34 P = 17. (a) Demand function: Qd = a + bP b = ΔQd/ΔP where ΔQ is the change in quantity demanded ΔP is the change in price b = (32 – 36)/(10 – 9) = – 4/1 = –4 Q = a – 4P
180
Part II
By putting the value of “b” in any of the combinations we can derive the value of ‘a’ 36
=
a – 4(9)
a
=
72
Therefore the demand function is Q = 72 – 4P. 5. (a) From the supply schedule for one rupee increase in the price, supply increases by onelakh liters. Therefore, Q = P. 6. (e)
Q
= 2P – 100
0
= 2P – 100
2P
= 100
P
= 50.
7. (d) At equilibrium, Qd = Qs Qd = 100 – 3P Qs = 2P – 20 At equilibrium, 100 – 3P = 2P – 20; 5P = 120 P = 24 When P = 24, Q = 100 – 3(24) = 28 units. 8. (a) When P
= 20,
Qd
= 100 – 3(20) = 40 units
Qs
= 2(20) – 20 = 20 units
Shortage = 40 – 20 = 20 units. 9. (c) When we know what is the initial price and the latest price, we have to use the following formula for computing price elasticity of demand. Ep = ΔQ/ΔP x P1/Q1 Where P1 and Q1 are initial price of the good and quantity demanded respectively. = (8 – 12)/(6 – 5) x 5/12 = (1.67) ep
= 1.67
[Since price elasticity measured is absolute value and negative sign is implicit]. 10. (c) When we know what is the initial price and the latest price, we have to use the following formula for computing price elasticity of demand. ep = ΔQ/ΔP x P1/Q1 Where P1 and Q1 are initial price of the good and quantity demanded respectively. eP = (12 – 8)/(5 – 6) x 6/8 = 3. 11. (e) When we do not know the initial and latest price, we go for arc price elasticity of demand where we take average of price and quantity demanded. Formula for arc elasticity is eP =
ΔQ P1 + P2 × ΔP Q1 + Q 2
P1 = 12; Q1 = 21 P2 = 13; Q2 = 18 ΔP = 1; ΔQ = −3 181
Microeconomics
−3 12 + 13 −3 x 25 × = 1 21 + 18 39
ep
=
ep
= –1.92.
12. (d) When we need to compute price elasticity of demand at a particular point (price), we use point price elasticity of demand.
Qd
= 100 – 0.5P
∂Q = –0.5 (by differentiating Q with respect to P) ∂P ep
=
∂Q ∂P
×
P = –0.5 x 10/95 = (0.052). Q
13. (a) When we need to compute price elasticity of demand at a particular point (price), we use point price elasticity of demand.
P = 100 – Q or Q = 100 – P When the price is Rs. 60 Q = 100 – 60 = 40 ep =
∂Q P x = –1 x 60/40 = (1.5) Q ∂P
ep = 1.5 [Since price elasticity measured is absolute value and negative sign is implicit]. 14. (a) Arc price elasticity, eP =
ΔQ ( P1 + P2 ) × ΔP ( Q1 + Q 2 )
P1 = 7; Q1 = 20 P2 = 8; Q2 = 30 ΔP = 1; ΔQ = 10 Applying it to the formula we get
150 10 ( 7 + 8 ) = = 3. × 1 ( 20 + 30 ) 50
15. (c) Formula for arc price elasticity is
ePS =
ΔQ ( P1 + P 2 ) × ΔP ( Q1 + Q 2 )
For a decrease in the price from Rs.10 to Rs.9 P1 = 10; Q1 = 50 P2 = 9; Q2
= 40
ΔP = –1; ΔQ = –10 Applying it to the formula we get eps
182
−10 (10 + 9 ) 190 × = = 2.11. −1 ( 50 + 40 ) 90
Part II
16. (b) When we need to compute price elasticity of demand at a particular point (price), we use point price elasticity of supply.
The formula for point price elasticity of supply is ePS =
∂Q ∂P
×
P Q
Supply function is Qs = 500P – 1000 When the price is Rs. 10 the quantity supplied, Qs = 500 × 10 − 1000 = 4000. ePS =
∂Q ∂P
×
P = 500 x 10/4000 = 1.25. Q
17. (e) At MSP of Rs.7.5 the quantity supplied is 5.5 million tons. Thus, the FCI need to procure 5.5 million tons of wheat. 18. (a) At price Rs.7.5, the FCI procured 5.5 million tons. To dispose all the stock, the FCI should sell at Rs.4.5 where quantity demanded is 5.5 million tons. 19. (a) When we know the old price and new price, we use the formula ΔQ/ΔP x P1/Q1 to determine the price elasticity of demand.
When the price increases from Rs. 40 to Rs. 60, the price elasticity of demand is =
(80 − 120 ) /120 ( 60 − 40 ) / 40
=
−0.33 = – 0.67 0.5
[Since price elasticity measured is absolute value and negative sign is implicit]. 20. (a) Cross elasticity of demand =
Percentage change in demand for product A Percentage change in price of product B
When we are not given with direction of price movement, we consider average price. In other words, we use arc price elasticity of demand.
(80 − 100 ) ( 40 − 20 ) 100 + 80 2
=
÷
−
100 + 20 2 20 20 0.22 ÷ =− = − 0.33 90 30 0.67
(Note: since the cross elasticity of demand is negative the goods are complimentary). 21. (b) To calculate income elasticity of demand, we need to take incomes where prices remain constant.
Price
Quantity
Income
20
50
12,000
20
40
10,000
Income elasticity of demand =
% change in quantity demanded % change in money income
= ΔQ/ΔI x (I1 + I2)/(Q1 + Q2) 50 − 40 + 40 50 = = 1.22. 12, 000 − 10, 000 12, 000 + 10, 000
183
Microeconomics
22. (c) To compute price elasticity of demand, we need to find the change in quantity demanded that changed only because of change in the price of the good. At prices 20 and 12, income remained at 30,000. It means that quantity demanded changed only because of changed in the price of the good.
Price
Quantity sold
Income
20
1000
30,000
12
1600
30,000
Since we do not know what the initial and latest prices are, we go for arc price elasticity of demand. The price elasticity of demand = ΔQ/ΔP x (P1 + P2)/(Q1 + Q2) = 600/(8) x 32/2600 = 0.923. 23. (d) ep = ΔQ/ΔP x P1/Q1 = 500/1.5 x 8.5/2000 = 1.42. 24. (a) ep = ΔQ/ΔP x P1/Q1 = 500/1.5 x 10.0/1500 = 2.22. 25. (c) The formula to be used here is arc price elasticity of demand since we do not know the price movement. ΔD 500 D + D 3500 ( 1 2) ( ) = = 1.76. ΔP 1.5 ( P1 + P2 ) (18.5 )
26. (e) Cross elasticity of demand between X and Y is calculated by the following formula as we know the initial and latest prices of good Y.
ec = =
ΔQx/ΔPy x Py1/Qx1 −10 5 × = 2. 25 −1
27. (d) Cross elasticity of demand between X and Z is calculated by the following formula as we know the initial and latest prices of good Z.
ec = ΔQx/ΔPz x Pz1/Qx1 =
−5 2.40 × = −0.80. 25 0.60
28. (e) Arc cross elasticity of demand between good X and Y = ΔQx/ΔPy x (Py1 + Py2)/(Qx1 + Qx2) = 25/0.5 x (3.5 + 4)/(425 + 450) = 0.42.
As the result is positive we conclude that the goods are substitute in nature. 29. (d) Arc cross elasticity of demand between good Y and Z = ΔQy/ΔPz x (Pz1 + Pz2)/(Qy1+ Qy2)
We take Z prices at Rs.4.75 and Rs.5.25, as the price of Y is remained constant at Rs.4.50. = –150/0.5 x (4.75 + 5.25)/(350 + 500) = –0.364.
As the result is negative we conclude that the goods are complementary in nature. 30. (d)
The data relevant for price elasticity Price
Quantity sold
Income
4
150
5000
4
125
4500
ep = (125 – 150)/(4500 – 5000) x (5000 + 4500)/ (150 + 125) = 1.72 or 19/11. 184
Part II
31. (b) Income elasticity of demand (ei) =
%ΔQ %ΔI
% Δ income = – 2 ei = 1.5 (given) Therefore % ΔQ = – 2 x 1.5 =–3% Therefore decrease in per capita income caused the sales to decline by 3%. 32. (c) The cross elasticity of demand exy =
%ΔPy
%ΔQx %ΔPy
(Petrol) = 10
exy = – 0.30 Therefore %ΔQx = –0.30
× 10 = –3
Therefore increase in price of petrol causes the sales to decline by 3%. 33. (a) Total decline in sales of cars = 20%
Decline caused by decrease in per capita income and increase in price of petrol = 3 + 3 = 6% Therefore balance 20 – 6 = 14 % decline in car sales is caused by increase in price of cars. Price elasticity of demand (ep) =
%ΔQ −14 = = −2.8 5 %ΔP
Therefore price elasticity of demand for cars is 2.8. 34. (d) Q = 40000 – 2 PT – 2I + 4PC
PT = 350, I = 10000, PC = 400 Therefore Q = 40000 – (2 x 350) – (2 x 10000) + (4 x 400) = 20900 Price elasticity eP =
∂Q ∂P
×
P = –2 Q
Therefore eP = –2 x 350/20900 = – 700/20900 = – 7/ 209 = – 0.033. 35. (b) Income elasticity et = ∂Q × I ∂I Q
Income elasticity et =
∂Q = −2 ∂I
ex = −2 x
10000 = −0.96 20900
Since eI < 0 watches produced by time is an inferior good.
185
Microeconomics
36. (a) Price elasticity of demand Ed =
∂Q ∂P
×
P Q
Product Lam: Given the demand function Q1 = 100 – 4P1 At P1 = 20, Q1 = 100 – (4 x 20) = 20 ∂Q1 = −4 ∂P1 E d = −4 x
20 = −4 20
Since the absolute value of Ed is >1, demand is elastic. Product Tom: Given the demand function Qt = 500 – 20Pt At Pt = 5, Qt = 1500 – (20 x 5) = 1400 ∂Qt = −20 ∂Pt Ed = −20 x
5 1 =− 1400 14
Since the absolute value of Ed is <1, demand is in elastic. Product Pom: Given the demand function PP = 50 – 0.1QP 0.1QP = 50 – PP QP
= 500 – 10PP
At PP = 20, QP
= 500 – (10 x 20) = 20 = 300
∂QP = −10 ∂PP Ed = −10 x
20 2 =− 300 3
Since the absolute value of Ed is <1, demand is inelastic. 37. (e) The demand function is Qd = 2,50,000 – 35P
When price is Rs.2,000 per unit, Qd
= 2,50,000 – 35(2,000) = 2,50,000 – 70,000 = 1,80,000 units
When price is Rs.3,000 per unit, Qd
186
= 2,50,000 – 35(3,000) = 2,50,000 – 1,05,000 = 1,45,000 units
Part II
( P1 + P 2 ) Q 2 − Q1 2 Arc elasticity of demand is = EP = × P2 − P1 ( Q1 + Q 2 ) 2 5000 5 −35000 2 = −35 x = −0.538. = × 325000 1000 325 2
38. (c) Point elasticity of demand at a given price is EP =
∂Q ∂P
×
P Q
From the given demand function Qd = 25000 – 35P ∂Q = − 35 ∂P Therefore, point elasticity of demand at a price of Rs.2000 = − 35 ×
2000 = −0.389. 180000
39. (a) When quantity demanded is equal to zero we have 250,000 – 35P = 0 or P =
2,50, 000 35
Therefore P = Rs.7142.86. Theoretical maximum quantity that the consumers will be willing to purchase when price is equal to Zero. Hence theoretical maximum quantity is Qd = 250000 – 35(0) Qd = 250000 units. 40. (e) The elasticity of demand is unity when the marginal revenue is equal to zero, assuming demand curve to be linear.
Given the demand function Q = 250000 – 35P or 35P = 250000 – Q or P = 250000/35 – Q/35 Therefore TR = P x Q =
250000 Q2 Q− 35 35
Marginal Revenue (MR) =
∂TR ∂Q
250000 2 − Q 35 35
setting MR = 0, we have 250000 2 − Q=0 35 35 250000 − 2Q = 0
Q=
2,50, 000 = 1,25,000 units. 2
Taking Q = 125,000 in the equation, 187
Microeconomics
Qd
= 250000 – 35P, we have
125000 = 250000 – 35P (or) P=
250000 − 125000 = 3571.43 35
Thus elasticity of demand will be unity at a price of Rs. 3571.43. 41. (d) At equilibrium, Qd = Qs
13500 – 500P = 3000 + 200P 700P = 10500 P 42.
= 15.
(c) If the government imposes specific sales tax at the rate of Rs.10 per unit, the supply function becomes
Q = 3000 + 200(P – 10) Equating supply and demand functions we have 13500 – 500P = 3000 + 200(P – 10) 13500 – 500P = 3000 + 200P – 2000 13500 – 500P = 1000 + 200P 700P = 12500 P = 12500/700 = Rs. 17.86. 43. (d) When lump sum tax is imposed there would not be immediate change in the equilibrium price. Equilibrium price will be Qd = Qs
13500 – 500P = 3000 + 200P 700P = 10500 P
= 15
Q
= 3000 + (200 x 15)= 6000
Therefore equilibrium Q = 6000 P
= Rs.15.
44. (b) Substituting the value of P = 30 in the demand function
Q
= 20000 – 300P we have
Q
= 20000 – 300 (30) = 20000 – 9000 = 11000 units
Point price elasticity (eP) =
∂Q ∂P
= −300 ×
×
P Q
30 = −0.818 . 11000
45. (b) At P = 30; Q = 11000 units
At P = 20; Q = 20000 – (300 x 20) = 20000 – 6000 = 14000 units. The arc price elasticity of demand of demand is given by the following formula eP
188
=
Q 2 − Q1 P 2 + P1 × P 2 − P1 Q 2 + Q1
Part II
Putting the values we get eP
=
14000 − 11000 20 + 30 × 20 − 30 14000 + 11000
=
300 50 × = –0.6. −10 25000
46. (a) QX = 15000 – 3000PX + 7Y + 300 PC
At the current values of PX = Rs.5, Y = Rs.6000 and PC = Rs. 6 the quantity demanded is 15000 – 3000 (5) + 7 (6000) + 300(6) = 43800 units. Price elasticity of demand =
dQ X P × dPX Q X
From the given demand function
dQ X = –3000 dPX
Therefore the price elasticity of demand = −3000 ×
5 = −0.3425. 43800
47. (b) Income elasticity of demand =
Where
dQX Y × dY QX
dQ X = 7 (from the given demand function). dY
Income elasticity of demand 7x
6000 = 0.9589. 43800
48. (c) Cross elasticity of demand Where dQ X = 300 dPC
=
P dQ X x C dPC QX
Therefore cross elasticity of demand = 300 x 6/43800 = 0.041. 49. (a) Arc elasticity of demand of X between prices Rs.17.5 to Rs.20, eP =
=
ΔQ P1 + P 2 × ΔP Q1 + Q 2 −500 Rs.17.5 + 20 × = −0.652. 2.5 6000 + 5500
50. (a) Income elasticity of demand between incomes Rs.1,050 and Rs.1,250 is computed below as in this range of income both the prices of X and I remained constant. ey =
1000 1050 ΔQ I = × = 0.954. × ΔI Q 200 5500
51. (b) The cross price elasticity of demand for X is found between the price of Y ranging from Rs.22.5 and Rs.25.0 because during this range the price of X and income of the consumer remained constant. The cross price elasticity of demand of X is: ec =
ΔQX PY × ΔPY QX
=
500 22.5 × = 0.818 or 0.82. 2.5 5500
189
Microeconomics
52. (c) The demand function is in linear form of
Q
= a + bP
ΔQ = bΔP
ΔQ =
ΔQ ΔP
For a change in price from 5 to 6 ΔQ = −5
Therefore b =
−5 = –5 1
Where, P = 5, Q is 25 Therefore, 25 = a – (5 x 5) i.e., a = 50 The demand function Q = 50 – 5P. 53. (a)
Q = 500 – 3P + 2(20) + 0.1(6000) Q = 500 – 30 + 40 + 600 = 1110 Q = 1110 The price elasticity of demand (when single price is given) is given by dQ/dP x P/Q = – 3 ×
10 = –30/1110 = –0.027. 1110
54. (d) Q = 1110 eI = dQ/dI x I/Q = 0.1 x 6000/1110 = 600/1110 = 0.54. 55. (d) Q = 1110 eC = dQ/dPr x Pr/Q = 2 x 20/1110 = 0.036. 56. (d) Income elasticity of demand = dQ/dI x I/Q = 0.04 x 10000/1600 = 0.25. 57. (c) When the quantity to be sold is 20 the price to be set is given by if P = 2000 – 50 (20) = 2000 – 1000
P = 1000. 58. (b) If the price is set at Rs.500 the number of goods will be sold is calculated by applying it the value of the demand function. i.e., 500 = 2000 – 50Q
1500 = 50Q Q = 30 units. 59. (c) The price elasticity of demand is given by the formula = dQ/dP x P/Q
50Q = 2000 – P Q = 40 – 0.02P = –0.02 x 500/30 = 0.333 When price is Rs.500, the output is 1500/50 = 30 units. 60. (b) dQ/dP x P/Q = –1
0.02 x P/Q = 1 or, 0.02P/(40 – 0.02P) = 1 Or, 40 = 0.04P P = 40/0.04 = 1000.
190
Part II
61. (d) In calculating the are elasticity of demand, only consider consecutive months when there was a change in advertising but no change in the prices of sports and formal shoes. August – September EA =
ΔQ A 2 +A1 x ΔΑ Q 2 + Q1
4,500 − 5,500 9, 200 − 10,000 = 2.4 x 9, 200 − 10,000 4,500 +5,500
January – February EA =
ΔQ A 2 +A1 x ΔΑ Q 2 + Q1
4,000 − 5,000 7,850 +8,350 = 3.6 x 7,850 − 8,350 4,000 +5,000
On average E A =
(2.4+3 − 6) = 3. 2
62. (b) In calculating the arc price elasticity of demand only consider consecutive months when there was a change in the price of sports shoes, but no change in advertising and the price of formal shoes. July – August EP =
=
ΔQ P +P x 2 1 ΔP Q 2 + Q1 5,500 − 4,500 24 + 26 = −2.5 x 24 − 26 5,500 + 4,500
November – December Ep =
=
ΔQ P2 +P1 x ΔP Q 2 + Q1 15,000 − 5, 000 20 + 25 = −4.5 x 20 − 25 15,000 + 5,000
April – May Ep =
=
ΔQ P2 + P1 x ΔP Q 2 + Q1 4,000 − 6, 000 26 + 24 = −5 x 26 − 24 4,000 + 6,000
On average Ep = [( – 2.5) + (– 4.5) + (–5)]/3 = – 4. 63. (c) In calculating the arc cross price elasticity of demand we only consider consecutive months when there was a change in the price of formal shoes, but no change in advertising and the price of sports shoes. September – October Ep =
=
ΔQ P2 +P1 x ΔP Q 2 + Q1 3,500 − 4,500 46 +50 =3 x 46 − 50 3,500 + 4,500
191
Microeconomics
May – June E px =
=
ΔQ P2 +P1 x ΔPx Q 2 + Q1 5,000 − 4, 000 57 + 51 = −2. x 57 − 51 5,000 + 4,000
On average Epx =
(3 + 2) = 2.5 . 2
64. (d) The supply function is represented by
Q = a + bP ΔQ = bΔP b=
ΔQ ΔP
For a change in price from 50 – 100 (ΔP) = 50 ΔQ = 25
∴ b = 25/50 = 0.5
When P = 50, Q = 25 ∴ 25
= a + (0.5 x 50) a =0
Therefore the supply function is Q = 0.5P. 65. (d) The price elasticity with initial price quantity combination P1 and P2
eP =
Q 2 − Q1 P1 × P2 − P1 Q1
For a price movement between Rs.3 and Rs.5 we have P1 = 5 and P2 = 3; Q1 = 10 and Q2 = 30. The price elasticity for a price movement from Rs.5 to Rs.3 is eP =
30 − 10 3−5
×
5 10
eP = –5. 66. (d) P2 +P1 Q 2 − Q1 × 2 eP = P2 − P1 Q 2 +Q1 2 8
eP =
30 − 10
× 2 = −2. 40 3−5 2
67. (b)
eP
192
=
50 − 30 1− 3
×
3 30
= −1.
Part II
68. (c)
eP =
30 − 50 3 −1
×
1 50
= − 0.2.
69. (b) 10 − 30 5−3
×
3 30
= −1.
70. (c) P1 = Rs.10
P2 = Rs. 20 Q1 = 40 units Q2 = 20 units So
20 − 40 20 − 10
×
10 40
= − 0.5.
71. (b) The slope of the demand curve is
Slope = ΔP/ΔQ = –36. 72. (b) Quantity demanded is found by substituting different values to P
For a price of Rs.80 the quantity demanded will be Q = 145 – 0.5(80) = 145 – 40 = 105. 73. (b) We have QD = 145 – P or P = 145 – QD
Total revenue (TR) = P x QD Or TR = (145 – QD)QD TR = 145QD – QD2 As marginal revenue is defined as the amount of change of TR for every unit of change in quantity demanded we have MR = 145 – 2 QD The value of MR when the price is Rs. 80 is 145 – 2(65) = 15 Alternatively, MR = P(1 – 1/ep) = 80(1 – 1/ep) = 14.95. Where ep = –1 x 80/65 = 1.23. 74. (d) Income elasticity of demand is given as ey =
∂Q m ∂Y
×
Y Qm
Differentiating the demand function with respect to Y we have
∂Q m ∂Y
= 0.5
From the demand functions we have Qm = 6000 – 6(140) + 8(120) + 0.5(8000) Qm = 6000 – 840 + 960 +4000 = 10120 Substituting the values of
∂Q m ∂Y
, Y, and Qm for ey we have
ey = 0.5 x 8000/10120 = 0.395.
193
Microeconomics
75. (a)
∂Q m PrmB × ∂PrmB Q m
Differentiating Qm with respect to PrmB we have
∂Q m ∂PrmB
= 8. As we have already calculated the
value of Qm as 10120. Cross elasticity of demand will be ec = 8 × 120/10120 = 0.095 (approximately) The value of cross elasticity of demand depicts that both the raw materials are substitutes. ∂Q H
76. (b) Income elasticity of demand is given as follows ey =
∂Y
×
Differentiating the demand function with respect to Y we have
Y QH
∂Q H ∂Y
= 0.15
From the demand functions we have QH = 5850 – 6(125) + 2(70) + 0.15(8000) QH = 5850 – 750 + 140 +1200 = 6440 Substituting the values of
∂Q H
∂Y ey = 0.15 x 8000/6440 = 0.186.
, Y, and QH for ey we have
77. (b) The cross price elasticity of demand for honey
Differentiating QH with respect to PJ we have
∂Q H ∂PJ
∂Q H ∂PJ
×
PJ QH
= 2. As we have already calculated the
value of QH as 6440. Cross elasticity of demand will be ec = 2 × 70/6440 = 0.02 (approximately) The value of cross elasticity of demand is positive and hence we can conclude that honey and jam are substitutes for Arthur John. 78. (a) ΔQ/ΔP x P1/Q1 = 3250/4.5 x 18/2000 = 6.5. 79. (e) Market demand is the sum of the individual demands.
Thus Qm = Q1 + Q2 + Q3 = (30.00 – 1.00P) + (22.50 – 0.75P) + (37.50 – 1.25) The result is Qm = 90.00 – 3.00P. The market demand function is Qm = 90.00 – 3.00P. 80. (c) The price elasticity would be
EP = –3% / 2% = –1.5 The relationship is negative which indicates the inverse relationship between the quantity demanded and price of the good. 81. (c) Using the market demand equation given below we come to know that quantity demanded is 4000000 of footballs at a price of Rs.2. Similarly it is determined that the quantity demanded is 3000000 footballs at a price of Rs.3 per ball.
The market demand function can be used to determine
Q/ P
In this each one rupee increase in price causes a 1000000 decrease in quantity, it is known that demanded Q/ P = –1000 000. Thus the price arc elasticity is EP= – 1000000 x
194
2+3 4000000 + 3000000
= −0.71
Part II
Which means that one percent increase in price will reduce the quantity demanded by 0.71percent. 82. (b) Q = 12,000 – 250(10) + 5(1000) + 500(11) = 20,000 units
Price elasticity of demand, Ep = 250 x 10/20000 = 0.125 That means, if price increases/falls by 1%, the quantity demanded will decrease/increase by 0.125%. Thus, if price falls by 10%, the quantity demand will increase by 1.25%. Alternatively, At price Rs.10: Q = 12,000 – 250(10) + 5(1000) + 500(11) = 20,000 units At price Rs.9: Q1 = 12,000 – 250(9) + 5(1000) + 500(11) = 20,250 units Thus, percentage increase in quantity demanded = (20250 – 20000)/20000 x 100 = 1.25%. 83. (a) Q = 12,000 – 250(10) + 5(1000) + 500(11) = 20,000 units Thus, 20,000 = 12,000 – 250P + 5(1,000) + 500(9.9) 250P = 12,000 + 5,000 + 4,950 – 20000 P = 1950/250 = Rs.7.8. 84. (a) At price Rs.15, Qd = 260 – 2(15) = 230 units Qs = 20 + 10(15) = 170 units Hence, shortage = 230 – 170 = 60 units. 85. (d) When price is Rs.75, demand is 10 units When price is Rs.70, demand is 12 units If the demand is linear, then Q = a + bP Where, b = Change in quantity demanded/Change in price = (12 – 10)/(70 – 75) = 2/(–5) = –0.4. Thus, Q = a – 0.4P At Rs.75, 10 = a – 0.4(75) or, a = 40 Thus, demand function = Q = 40 – 0.4P The maximum quantity can be demanded when the price is zero. Hence, maximum quantity demanded = 40 – 0.4(0) = 40 units. 86. (b) When price increases from Rs.20 to 30 (by 25%), the quantity demanded will decrease by 37.5% i.e., by 3000 x .375 = 1125 units. Price effect = Income effect + Substitution effect. As income effect is 0.5 x substitution effect, price effect = 1.5 x substitution effect = 1125. Thus, substitution effect = 1125/1.5 = 750. 87. (b) For all straight line demand is elastic in the upper left portion than in the lower right portion. This is consequence of the arithmetic properties of the elasticity measure. The demand becomes inelastic once the elasticity is unitary elastic. The demand is unit elastic when MR = 0.
TR = 100Q – 2Q2 MR = 100 – 4Q When
MR = 0, 100 – 4Q = 0 or, Q = 25
When Q = 25, P = 100 – 2(25) = 50. Thus, the range of prices where the demand is inelastic is Rs.0 to Rs.50. Note: price cannot be negative.
195
Microeconomics
88. (c) The market for a product consists of all the individuals who demand the good. Therefore, by summing up the demand of all the individuals in the market, we can get the market demand at a particular price.
Price of Ali Basha Chetan Total the good 100 0 0 0 0 90 3 1 0 4 80 5 2 1 8 70 6 4 2 12 Arc price elasticity of demand for the good = Δ Q/ Δ P x (P1 + P2)/(Q1 + Q2) = (8 – 4)/(80 – 90) x (80 + 90)/(8 + 4) = 4/(–10) x 170/12 = (5.67). 89. (d) Cross-elasticity of demand = Change in quantity demanded/Change in price of related good x Average price of related good/Average quantity demanded = (50 – 100)/(4 – 5) x (5 + 4)/(100 + 50) = 50 x 9/150 = 3. 90. (e) Income elasticity of demand = Change in quantity demanded/Change in income x Average Income/Average quantity demanded = (200 – 50)/(12000 – 10000) x (12000 + 10000)/(200 + 50) = 150/2000 x 22000/250 = 6.6. 91. (a) At equilibrium, Qs = Qd 4Qd = 100 – P Qd = 25 – 0.25P 2Qs = P – 40 Qs = 0.5P – 20 25 – 0.25P = 0.5P – 20 or 45 = 0.75P P = 60 and Q = 10. 92. (a) Price-elasticity of demand = ΔQ/ΔP × P/Q = (200 – 300)/(20 – 12) × 12/300 = –0.5. 93. (b) When tax is imposed, buyer and seller share the tax based on the opposite ratios of their elasticities. Thus,
Ed = –80P/Q Es = 40P/Q Ratio of Es: Ed = 1: 2 Burden on consumer = 12 x 1/3 = 4 Earlier equilibrium price: 5,800 – 80P = 1,000 + 40P 4800 = 120P P = 40 Thus, new price = 40 + 4 = Rs.44. 94. (d) Q = 10,000 – 1500(5) + 2(5000) + 200(8) = 21,600 – 7,500 = 14,100 Income elasticity of demand: dQ/dY × Y/Q = 2 × 5000/14100 = 0.709. 95. (e) At equilibrium, Qs = Qd
400 + 15P = 600 – 10P 25P
= 200
P
=8
Since, price ceiling is above the equilibrium price of Rs.8, there would not have any affect on demand and supply of the good. 196
Part II
96. (d) When price is Rs.75, demand is 10 units When price is Rs.70, demand is 12 units
If the demand is linear, then Q = a + bP Where, b
= Change in quantity demanded/Change in price = (12 – 10)/(70 – 75) = 2/(–5) = –0.4.
Thus, Q = a – 0.4P At Rs.75, 10 = a – 0.4(75) a = 40 Thus, demand function = Q = 40 – 0.4P The maximum quantity can be demanded when the price is zero. Hence, maximum quantity demanded = 40 – 0.4(0) = 40 units. 97. (c)
Equilibrium price is determined, when Demand = Supply
D = S = 400, when the price is Rs. 14.00 So, the answer is (c). 98. (b) Qs
=
400P – 500
Qd
=
1500 – 100P
Equilibrium price is determined when Qs = Qd. 400P – 500 = 1500 – 100P or, 500P
= 2000
or, P
= 4
When P = 4, Qs = 400(4) – 500 = 1600 – 500 = 1100. 99. (d): Elasticity of demand, ed =
From the demand function, ed = – 100 x
dQ P x dP Q
dQ = 100 dP
4 = – 0.36 100
100. (a) Elasticity of supply, es =
From the supply function, we get, es = 400 x
4 = 1.45. 1100
101. (e) Income elasticity of demand = ey =
=
% change in demand % demand in income
12 = 2.4. 5
As the value of ey is 2.4 i.e., greater than 1, it is a case of luxurious goods. Here, the percentage increase in the quantity demand is greater than the percentage increase in income. 197
Microeconomics
102. (c) Promotional elasticity using are method is
EA
=
103. (c)
ΔQ ΔA
=
⎛ A1 + A 2 ⎞ ⎜ ⎟ ⎝ Q1 + Q 2 ⎠
−5, 000 ⎛ 1, 00000 + 150, 000 ⎞ 5000 250000 ⎜ ⎟ = 50, 000 × 55, 000 = 0.45. −50, 000 ⎝ 25, 000 + 30, 000 ⎠
Qd = 10,000 – 4P Qs = 2,000 + 6P
Equilibrium price is determined where, Qs
=
Qd
3,000 + 6P
=
10,000 – 4P
6P + 4P
=
10,000 – 3,000
10P
=
7000
P
=
700.
If the govt. imposes a sales tax of Rs.100 per units Qs
=
3,000 + 6 (P – 100)
=
3,000 + 6P – 600
=
2400 + 6P.
∴Equilibrium price is determined, when Qs = Qd ∴ 2400 + 6P
=
10,000 – 4P
6P + 4P
=
10,000 – 2400
10P
=
7600
P
=
760
∴ Change in Price = 760–700 = Rs.60 (increase). 104. (e) Qd
=
1000
ep
=
1.25
ey
=
2.00
ed
=
% change in Q % change in P
1.25 =
% change in Q 10
% change in Q = 12.5% =
% change in Q % change in Y
2.00 =
% change in Q 14
ey
∴ % change in Q = 14.00% ∴ Net effect is = 14.00 – 12.5 = 1.5% 1000 × 1.5% = 15 ∴ Demand for apple is expected to be = 1000 + 15 = 1015 boxes per week.
198
Part II
105. (a) At the existing level of 250 advertising messages the quantity sold of brand X will be
Q
=
50,000 – (2 x 3,000) + (3 x 3,500) + (50 x 250) – (20 x 500)
=
50,000 – (6,000) + (10,500) + (12,500) – (10,000)
=
57,000
The profits at the level of sales of 57,000 units will be 57,000 x (3,000 – 1,500) – (250 x 250) = 8,54,37,500 When the advertising message of brand X are raised from 250 to 375, the advertising messages of brand Y will increase from 500 to 625. The quantity sold of brand X after the increase in messages will be Q = 50,000 – (2 x 3,000) + (3 x 3,500) + (50 x 375) – (20 x 625) = 60,750 When the quantity sold is 60,750, the profits will be 60,750 x (3,000 – 1,500) – (375 x 250) = 9,10,31,250 Change in profits: 91031,250 – 85437500 = 5593,750 106. (e) Equilibrium price is where Qd = Qs 0.2Qs = P + 20 or, Qs = 5P + 100 0.1Qd = 40 – P or, Qd = 400 – 10P At equilibrium, 5P + 100 = 400 – 10P 15P = 300 P = 300/15 = 20 When price floor is less than the equilibrium price, it will not have any affect on the market. 107. (a) Demand for the industry = (130 – 0.2P) + (50 – 0.4P) + (70 – 0.4P – 0.05P2)
= 250 – P – 0.05P2 Supply of the industry = (100 + 0.5P) + (50 + 0.5P) + (50 + 1.5P + 0.1P2) = 200 + 2.5P + 0.1P2 At equilibrium Qd = Qs 250 – P – 0.05P2
= 200 + 2.5P + 0.1P2
or, 50 – 3.5P – 0.15P2 = 0 This is a quadratic equation in the form of ax2 + bx + c = 0 Where x = [–b ± (b2 – 4ac)0.5]/2a Thus, P = –33.33 (or) 10 Since price cannot be negative, equilibrium price = Rs.10.
Consumer Behavior Analysis 108. (a) The consumer will be in equilibrium when MU A PA = MU B PB 3 A 9 B
=
2 ; 4B = 6A 4
Therefore A = 4/6B = 2/3B 199
Microeconomics
Since the consumer intends to spend Rs. 4000, 4000 = PA.A + PB.B 2 4000 = 2× B+4B 3
4000 =
4B+12B 3
Therefore 16B = 12000 B = 750 A = 2/3B = 750 x 2/3 = 500 Therefore the consumer consumes 500 units of A and 750 units of B. Amount spend on good A = 500 x 2 = Rs.1000 and B = 750 x 4 = Rs.3000. 109. (c) MUX =
∂U = 1.5 X.5Y ∂X ∂U = X1.5 ∂Y
MUY
=
PX PY
=3 =4
The consumer can maximize his satisfaction by equating
MUX PX = MUY PY
1.5 X 0.5 Y 3 = X1.5 4 1.5Y 3 = X 4 6Y = 3X
Therefore X = 27 Given the budget of Rs.100 PX. . X + PY . Y = 100 (3 x 2Y) + 4Y = 100 10Y = 100 Y
= 10
X
= 2Y = 20
Expenditure on Good X = 3 x 20 = Rs.60. Good Y = 4 x 10 = Rs.40. 110. (c) MUX =
MUY = PX PY
∂U =Y+1 ∂X
∂U = X +1 ∂Y
= 10 = 15
Therefore consumer can maximize his total utility by equating
200
MUX PX = MUY PY
Part II
(Y+1) 10 = (X+1) 15
15Y + 15 = 10X + 10 10X
= 15Y + 5
Given the budget of Rs. 1000 PX . X + PY . Y = 1000 10X + 15Y
= 1000
15Y + 5 + 15Y = 1000 Therefore 30 Y = 995 Y = 33.17 X = 1.5Y + 0.5 = 50.26 Therefore the optimum spending on good X = (50.26 x 10) = Rs. 502.60 Y = (33.17 x 15) = Rs. 497.55. 111. (c) 15000 = 600X + 25Y
Since X = Y, 625X = 15000 or, X = 24. Where Rs.600 is the cost of the footwear and Rs.25 is the cost of the socks. 112. (b)
MU b MU a = Pb Pa 30 45 = Pb Pa
45Pb = 180 Pb = 4 The price of the banana is Rs.4 113. (c) The area of the triangle formed by the Y axis demand curve & the tine drawn at market price
Consumer surplus =
1 x 400 x 40 = 8,000 2
114. (a) Total utility = U = 10XY
MUY = dU/dY = 10X Therefore if Margoschis consumes 200 units of X, marginal utility of Y is 10 x 20 = 200. 115. (a)
MU x MU y 175 MU y = = MUy = 280 = ; 25 40 x y
116. (b) Ratio of prices of X and Y = Px/Py = Absolute slope of the budget line = 0.25.
or, 0.25Py = Px or, Py = 4Px Budget constraint: 100 = Px . Qx + Py . Qy We know that Qx = Qy (Given) 100 = Px . Qx + 4Px . Qx 100 = 5Px . Qx or, Px Qx = 20 (Amount spent on good X). 201
Microeconomics
117. (e) When the market price is Rs.4, the consumer surplus =
1 x 32 x 16 = 256. 2
118. (a)
MRSxy =
ΔY −1 = = 0. 5 . ΔX 2.0
119. (c)
Reason :
MU A MU B = PA PB 600 900 = PA 120
∴ PA =
600 = Rs.80. 7. 5
120. (c) The consumer would consume the good up to a point where MU = P.
TU = 12X1.5 MU = 18X0.5 = 63 X0.5 = 3.5 or, X = 12.25. 121. (b) Slope of the budget is equal to Px/Py = 4/6 = 0.6666. 122. (a) Price effect = Income effect + Substitution effect
1000 = 900 + Substitution effect Thus, substitution effect = 100. 123. (c) MUx/Px = MUy/Py
300/12
= MUy/30
9000/12
= 750.
124. (b) Budget =Px x Qx + Py x Qy = 0 + 2Qy = 20. 125. (c) Consumer surplus is the difference between the amount of money actually paid by the consumer for certain quantity of this commodity and the amount that he would be willing to pay for this quantity rather than do without it.
∴ Consumer surplus = (100 × 10) – (100 × 9) = 1000 – 900 = Rs.100. P 126. (b) Slope of the budget line = x Py If the prices of both the goods is the same, slope of the budget line will be 1. 202
Part II
127. (c) The consumer will be in equilibrium, when MU A MU B
=
U
= 10A0.5 B0.5
MUA
=
∂U = 5A–0.5 = ∂A
5
MUB
=
∂U = 5B–0.5 = ∂B
5
PA
= 10
PB
= 5
MU A MU B
=
5 A
×
PA PB
A B
PA PB
10 B = 5 5 =
10 5
B A
=
100 50
B A
= 2
2A
= B
or, A
= 2B
B A
When A = 1, B =
1 = 0.5. 2
∴ the answer is (c). 128. (c) Price of the coke is Rs.9.
The customer would consume 3 cokes since at this level, MU = P. 129. (a) The consumer will allocate this expenditure in such a way so as to maximize his total MU x MU y MU z = = utility. In this case his total utility is maximized when Px Py Pz
Units
MU/P X
Y
Z
1
6
6
8
2
5
5
7
3
4
3
5
4
3
2
4
5
1
1.33
3
The common
MU is 5. P
203
Microeconomics
Therefore, the consumer can maximize the total utility by consuming 2 units of X, 2 units of Y and 3 units of Z. With this allocation MU of last rupee spent on any good is same. Allocation of expenditure (income) is Qty x Price = Expenditure Good X
2 x 5 = 10
Good Y
2x3=6
Good Z
3x1=3
Total
19
130. (b) From the utility schedule: Cheese
Fish
Meat
Con-sumption (kg)
MU
MU/P
MU
2
60
3.00
80
2.00
130
2.60
3
40
2.00
50
1.25
120
2.40
4
35
1.75
40
1.00
100
2.00
5
25
1.21
35
0.875
80
1.60
6
20
1.00
30
0.75
60
1.20
MU/P
MU
MU/P
30 0.60 10 0.50 20 0.50 Maximum utility can be achieved by the consumer by allocating his spending in such a way so that MU per one rupee spent on each good is same. 7
MU = 2.00 is common for all Cheese, Fish and Meat. Therefore, the P family consumes 3kg Cheese, 2 kg Fish and 4 kg Meat.
From the above table
Total utility at this consumption level is 170 + 160 + 510 = 840. 131. (c) Assuming your objective to be maximizing your total points in the Economics exams, you can do so by equalizing the marginal points you get for both the papers.
Hours of study
Marginal points Micro economics
Macro economics
1
25
12
2
20
10
3
10
9
4
8
7
5
7
5
By spending 3 hours on Microeconomics and 2 hours on Macroeconomics, you equate the marginal points you get from both the papers. This way you can maximize (you can check with any other study plan) your points.
204
Part II
132. (b) Maximum utility can be achieved by the consumer by allocating his spending in such a way that MU per one rupee spent on each good should be same. From the table MU/P = 4.00 is common for all juices. Hence, Mr. Vinod should consume 3 bottles of apple juice, 2 bottles of mango juice and 4 bottles of orange juice. Thus, total utility = 340 + 330 + 1020 = 1690.
Consumption 1 2 3 4 5 6 7
Apple Juice MU MU/P 140 7.0 120 6.0 80 4.0 70 3.5 50 2.5 40 2.0 20 1.0
Mango Juice MU MU/P 170 4.25 160 4.0 90 2.25 80 2.0 70 1.75 60 1.5 40 1.0
Orange Juice MU MU/P 320 6.4 260 5.2 240 4.8 200 4.0 160 3.2 120 2.4 60 1.2
Production Analysis 133. (c) Total Productivity (TP) = 15L2 – L3 TP can be maximized when MPL = 0
Therefore,
∂TP = 30L − 3L2 = 0 ∂L
L (30 – 3L) = 0 L = 0 or L = 10 Therefore output can be maximized by employing 10 labors. 134.(a ) TP = 15L2 – L3
APL =
15L2 − L3 = 15L – L2 L
APL will be maximized by employing L to the extent at which first derivation of APL = 0 Therefore dAPL/dL = 15 – 2L = 0 Therefore L = 7.5 Therefore by employing 7.5 labors APL can be maximized. 135. (d) APL = 15L – L2
When L = 7.5 APL = (15 x 7.5) – (7.5) 2 = 56.25. 136. (a) When the average productivity is at maximum APL = MPL
Maximum APL = 56.25 Therefore MPL = 56.25 Other way of deriving MPL is ∂TP = 30L – 3L2 = (30 x 7.5) – 3(7.5)2 = 56.25. ∂L
137. (c) The decrease in Marginal Productivity (MP) is called diminishing returns.
The production function is Q = −
K3 + 2K 2 + 12K beyond the point at which MPK is maximum, 3
diminishing returns to capital input exist. From the above production function, MPK 205
Microeconomics
∂Q 3K 2 = − + 4K + 12 3 ∂K
= −K 2 + 4K + 12 MPK is maximum when
∂MPK =0 ∂K
∂MPK ∂ 2 Q = = −2K + 4 ∂K ∂K 2 Therefore –2 K + 4 = 0
K= 2 When capital input is 2 MPK is maximum. Hence beyond 2 units of capital input diminishing returns to capital exist. 138. (b) Optimum decision rule for the firm would be
MPL PL = MPK PK
MP = marginal productivity P
= Price (i.e.) cost for the form
L
= Labor
K
= Capital
MP L =
∂Q K = ∂L 2 L
MPK =
L ∂Q = ∂K 2 K
PL
=2
PK =4 For optimization the firm should equate K 2 L K 2 L K L
÷ × x
L
=
2 K 2 K L K L
2 4
= 2/4 =
2 4
K 2 = L 4 2L = 4K L = 2K Given the budget constraint, the labor and capital that can be optimally used are L.PL + K.PK = 80 2L + 4K = 80 2.2K + 4K = 80 (since L = 2K) 8K = 80 K = 10 L = 20 Therefore the optimum input of labor is 20 and capital 10 units. Since the maximum output that can be achieved with the given budget constraint
Q 206
=
L× k
=
20 × 10 = 14.14 units.
Part II
139. (a) When the target output is 90.50 units L× K
Q = 90.50 =
= 2K × K (Since L = 2K) ⎛ MPL PL ⎞ = ⎜ Note that optimum decision rule for the firm would be ⎟ MPK PK ⎠ ⎝
Taking square on both sides,
( 90.50 )
2
(
=
2K × K
)
2
8190.25 = 2K2 K2 = 4095.125 Therefore K = 63.99 = 64 L = 2K = (2 x 64) = 128 The minimum possible cost = (2 x 128) + (4 x 64) = Rs. 512. 140. (c) The cost function is C = 3L + 9K Therefore cost of labor (PL) = 3 Cost of capital (PK) = 9 The optimal decision rule is MPL PL = MPL PK ∂Q 4 MPL = = ∂L L ∂Q 8 MPK = = ∂K K Therefore
MPL 4 8 = ÷ MPL L K
=
4 K 4 × = L 8 2L
There fore to optimize K/L = 3/9 9K = 6L L/K = 9/6 = 3/2 Therefore the optimum input combination is L/K = 3/2. 141. (e) The production function of the form is represented as Q = 2K1/2. L1/2 the marginal ⎛1
⎞
∂Q 1 1 ⎜ −1⎟ production function of labor is MPL= = 2 K 2 L⎝ 2 ⎠ ∂L 2
MPL = K1/2. L–1/2
Then =
K L
MPK =
∂Q ∂K
= 2 2( 12 ) K1/2–1L1/2 Assuming that K is fixed at 9 hence MRPL = P. MPL
207
Microeconomics
K 9 = 6× L L
=P =
18 L
MRP is the revenue generated by employing one additional unit of input. When the output sold at a constant price, MRP = P x MP otherwise MRP = (MR x MP) the optimal output of labor is where marginal benefit generated by labor is equal to marginal cost of labor. i.e. MRPL = W 18 L
= 2 (or)
2 L = 18 (or) L=
18 = 9 (or) 2
L = 81. Therefore 81 units of labor should be employed. 142. (b) MRP is the revenue generated by employing one additional unit of input. When the output sold at a constant price, MRP = P x MP otherwise MRP = (MR x MP) the optimal output of labor is where marginal benefit generated by labor is equal to marginal cost of labor.
i.e., MRPL = W MRPL = W would be
18 = 3 (or) L
3 L = 18 (or) L=
18 = 6 (or) 3
L = (6)2 = 36. 143. (c) The marginal product of labor function for mine and mint co. is given by the equation ⎛K⎞ MPL = 10 ⎜ ⎟ ⎝L⎠
0.5
Hence the MRPL, when K is 100 units is 0.5
200 ⎛ 100 ⎞ MRPL = P. MPL = 2 x 10 x ⎜ ⎟ = L L ⎝ ⎠
Equating MRPL and W we have, 200 L
= 10
10 L = 200 L
= 20
L
= (20)2
= 400 units. No, the current level of labor force is not at the optimum level, there is idle capital equipment hence more labor can be employed to increase production. 208
Part II
144. (b) When K = 1 and L = 1 Q=2+3+1 =6 When K = 2 and L = 2 Q = (2 x 2) + (3 x 2) + (2 x 2) = 4 + 6 + 4 = 14 That is when inputs are doubled the output more than doubled. Hence the production function describes increasing returns to scale. 145. (b) α = 0.6, β = 0.5, α + β = 0.6 + 0.5 = 1.1.
Therefore, this production function describes increasing returns to scale since α + β > 1. 146. (a) when K = 1 and L = 1 Q = 100+3+2 = 105 When K = 2 and L = 2 Q = 100 + 6 + 4=110 Therefore this production function plan describes decreasing returns to scale the output increase by less than the proportion by which the inputs are increased. 147. (c) Q = 5Ka Lb, where a + b = 1. The production function describes a constant returns to scale since a + b = 1. 148. (a) This is a decreasing return to scale since K/L will be a constant when both K and L are increased by the same proportion that is when inputs are doubled. Output still remains the same. 149. (d) The production function of Microlite pedal boats is Q = 20 K0.5. L0.5
⎛K⎞ ⎛1⎞ MPL = 20 ⎜ ⎟ L0.5 −1K 0.5 = 10 ⎜ ⎟ 2 ⎝L⎠ ⎝ ⎠
0.5
⎛1⎞ ⎛L⎞ MPK = 20 ⎜ ⎟ K 0.5−1L0.5 = 10 ⎜ ⎟ ⎝2⎠ ⎝K⎠
0.5
Under the condition of equilibrium we have MPL w (or) = MPK r 0.5
⎛K⎞ 10 ⎜ ⎟ ⎝ L ⎠ = 4 (or) 0.5 5 ⎛L⎞ 10 ⎜ ⎟ K ⎝ ⎠
K/L = 4/5 or K = 0.8L This is the equation for expansion path. 150. (c) If the firms use 25 units of capital and 25 units of labor. The output for each firm will be
Firm A
= QA = 100K0.8L0.2 = 100(25) 0.8 (25) 0.2 = 100 x 25 = 2500 units.
151. (c) If the firms use 25 units of capital and 25 units of labor. The output for each firm will be
Firm B
= QB = 100K.5L0.5 = 100(25) 0.5 (25) 0.5 = 100 x (5)(5) = 2500 units.
209
Microeconomics
152. (c) Firm A
QA = 100K0.8L0.2 ∂K 0.8–1 0.2 -0.2 0.2 ∂Q = (100 x 0.8)K L = 80K L = MPK ∂L = (100 x 0.2)K0.8L0.2–1 = 20K0.8L-0.8 = MP L ∂Q
The efficient production function requires that the isoquant function be tangent to the iso cost MPL MPK we get, function. Hence by equating the values of = w r 20 × 250.8 × 25−0.8 80 × 250.2 × 25−0.2 = i.e., 20 = 80 1 1
Since the
MPL MPK ≠ , the input combinations are not efficient for Firm A. w r
For Firm B
QB = 100 x K0.5 L0.5 ∂K = 100 x 0.5 x K 0.5−1 x L0.5 = 50 K–0.5L0.5 = MPK ∂Q ∂L = 100 x 0.5 x K 0.5 L0.5−1 ∂Q
= 50K0.5 L-0.5 = MPL
MPL MPK for efficient input combination. = w r Hence, 50 x 250.5 25–0.5 = 50 x 25–0.5 x 250.5 ⇒ 50 = 50 MPL MPK = , the input combination for firm B is efficient. W r
Since,
153. (b) The production function is Q = 30 K0.7 L0. 5 and input price r = 20 and w = 30.
MPL =
∂Q = 30 × 0.5 × K 0.7 L0.5−1 = 15K 0.7 L−0.5 ∂L
MPK =
∂Q = 30 × 0.7 × K 0.7 −1L0.5 = 21K −0.3 L0.5 ∂K
Optimum input combination requires that
MPL w = MPK r
15K 0.7 L−0.5 w or = 21K −0.3 L0.5 r 15K 0.7 L0.5 =
15K = K =
w 21K −0.3 L0.5 ) or ( r
w 21L expansion path r
w 7 30 7 × L = × L = 2.1L . r 5 20 5
154. (d) The rate of output is Q = 20 x 200.1 x 500.9 = 912.44 units.
210
Part II
155. (e) First stage of production function ends when APL is highest and second stage ends when MPL = 0
APL is highest when APL = MPL Q = 9L2 – 0.5L3 APL =
Q = 9L – 0.5L2 L
MPL =
∂Q = 18L – 1.5L2 ∂L
By equating APL to MPL 9L – 0.5L2 = 18L – 1.5L2 9L – L2
=0
9 –L
=0
Therefore, L
=9
Therefore first stage of production is over the range of labor input 0-9. At the end of the second stage of production function =0
MPL
18L – 1.5L2 = 0 18-1.5L
=0
Therefore L = 12 Therefore, second stage of production function is over the range of labor input 9 < L ≤ 12 and the third stage is when L > 12 where MPL < 0. A rational firm would operate only in the second stage of production function. This is because of increasing APL in the first stage and negative MPL in the third stage. 156. (c) The optimum input of labor is when MRPL = W
MRPL = MPL x P = (18L – 1.5L2) x 4 = 72 L – 6L2 wage rate (w) = 120 Therefore 72L – 6L2 = 120 72 L – 6L2 – 120 = 0 −b ± b 2 − 4ac 2a
L=
A = – 6; b = 72; c = –120 Therefore L= L=
−72 ± 722 − 4 ( −6 × −120 )
2 × −6
−72 ± 48 −12
Therefore L = – 120 / – 12 (or)
−24 = 10. −12
211
Microeconomics
157. (a) Production function Q = 4L2 + 6 K2 – 2LK Optimum input combination is MPL w = MPK r
Where ∂Q = 8L − 2K ∂L ∂Q = 12K − 2L MPK = ∂K
MPL =
Therefore,
8L − 2K 10 = 12K − 2L 10 8L − 2K = 12K − 2L 10L = 14K L = 1.4K
This is the optimum proportion of inputs. The budget constraint is 720= 10L + 10K 720=10 ×1.4K + 10K (since L = 1.4K) Therefore 24K = 720 K = 30 L = 1.4 K = 1.4 x 30 = 42 Output Q = 4 x 422 + 6 x 302 – 2 x 42 x 30 = 9936. 158. (d) Optimum input combination is MPL w = MPK r
Where ∂Q = 8L − 2K ∂L ∂Q MPK = = 12K − 2L ∂K MPL =
Therefore,
8L − 2K 10 = 12K − 2L 10 8L − 2K = 12K − 2L 10L = 14K L = 1.4K
720 = 15L + 15K 720 = 15 ×1.4K + 15K (since L = 1.4K) Therefore, K = L
720 = 20 36
= 1.4 × 20 = 28
output Q = 4 × 282 + 6 × 202 − 2 × 28 × 20 = 4416. 212
Part II
159. (d) TP = 150L2 – 10L3
TP can the maximized when MPL = 0 Therefore
∂TP = 300L – 30L2 = 0 ∂L
300L – 30L2 = 0 L(300 – 30L) = 0 L = 0 or L =
300 = 10 30
∴ L = 10 Therefore by employing 10 labor TPL can the maximized. 160. (d) MPL / PL = MPK /PK
480/40 = 360/ r r = 30. 161. (d) MPL = 20K0.5 /L0.5
MPL = 20(100)0.5 /L0.5 = 200/L0.5 To maximize profits, the firm should hire labor until MRPL = wage. Since P = MR = 3, we have MRPL = MR x MPL = 3 x 200/L0.5 = 600/L0.5. When MRPL = wage, 600/L0.5 = 100 L0.5 = 6 or, L = 36. 162. (b) a.
When K = 1 and L = 1 Q = 5(1) + 7(1) + (1)(1) = 13 When K = 2 and L = 2 Q = 5(2) + 7(2) + (2)(2) = 28 That is when inputs are doubled, output more than doubles. Hence the production function describes increasing returns to scale.
b.
When K =1 and L = 1 Q = 8(1/1) = 8 When K = 2 and L = 2 Q = 8(2/2) = 8 This is decreasing returns to scale since K/L will be constant when both K & L are increased by same proportions.
c.
This is the case of constant returns to scale since α + β = 1. (i.e., 0.3 + 0.7 =1).
163. (a) Efficient input combination: MPL/w = MPK/r
MPL = ∂ TP/ ∂ L = 15K0.5/L0.5 MPK = ∂ TP/ ∂ K = 15L0.5/K0.5 Thus, (15K0.5/L0.5)/30 = (15L0.5/K0.5)/20 Or, 30K0.5/L0.5 = 45L0.5/K0.5 30K = 45L K
= 1.5L 213
Microeconomics
= 30K0.5L0.5
Q
180 = 30(1.5L)0.5L0.5 180 = 45L Or, L = 4 If L = 4, K = 1.5 x 4 = 6 Cost = 6 x 20 + 4 x 30 = Rs.240. 164. (c) TPL
MPL
= 10L – L2 = 10 – 2L
Marginal returns become negative, once MPL equals zero. Thus, 10 – 2L = 0 Or, L = 5. 165. (d) The MRTS is equal to the ratio of the marginal productivities of the two products – MPL/MPK
6K0.3L-0.7/6K-0.7L0.3 K0.3L-0.7/K-0.7L0.3 K/L. 166. (b) Efficient allocation of L and K:
MPL/w = MPK/r 0.75K0.75/(L0.25 × 8) = 0.75L0.75/(K0.25 × 5) 5K
= 8L
or, L = 5/8K. 167. (b) APL = 30L – L2
TPL = APL × L = 30L2 – L3 TPL can be maximized when MPL = 0 Therefore, ∂TPL / ∂ L = 60L – 3L2 = 0 L (60 – 3L) = 0 L =0 or L = 20. ∴Output can be maximized by employing 20 labors. ∴ Maximum possible TPL = 30(20)2 – (20)3 = 12,000 – 8,000 = 4,000 units. 168. (a)
When L, K and R =1
When L, K and R = 2
Nature of returns to scale
262
274
Decreasing returns to scale
100
200
Constant returns to scale
1
2
Constant returns to scale
169. (a) The maximum product rule is given by MPL/w = MPK/r. This equation stands true only when the firm employs 3 units of labor and 4 units of capital. Budget: 12 × 3 + 6 × 4 = Rs.60.
214
Part II
170. (d) Q = 250L0.5
To maximize profits, the firm should hire labor until MRPL = wage, where MRPL = MPL × MR = 125/L0.5 × 2 250/L0.5 = 25 or, 10 = L0.5 or, L = 100 units. 171. (b) Q
K
= 50K0.5 L0.5 = 4L
∴Q
= 50(4L)0.5 L0.5
2000
= 50 x 2L
Or, L
= 20
Hence, K = 20 x 4 = 80. 172. (c) The production function for a firm Q = 100L – 0.02L2
APL =
Q 100L − 0.02L2 = 100 – 0.02L. = L L
When L = 10, APL = 100 – 0.02 (10) = 100 – 0.2 = 99.8. 173. (d)
I.
Q = K1/2 + L1/2 When K = 1 and L = 1, Q = (1)1/2 + (1)1/2 = 2 When K = 2 and L = 2, Q = (2)1/2 + (2)1/2 = 2.82 When inputs are doubled, output are less than doubled. It is a case for decreasing returns to scale.
II.
Q = 2K + 3L When K = 1 and L = 1, Q = 2 + 3 = 5 When K = 2 and L = 2, Q = 4 + 6 = 10 When inputs are doubled, output are also doubled. ∴ It is a case of constant return to scale.
III. Q = 3K1/2 L1/2 When K = 1 and L = 1, Q = 3 (1)1/2 (1)1/2 = 3 When K = 2 and L = 2, Q = 3 (2)1/2 (2)1/2 = 6 ∴ It is a constant return to scale. IV. Q = K1/2 L2/3 When K = 1 and L = 1, Q = (1)1/2. (1)2/3 = 1 × 1 = 1 When K = 2 and L = 2, Q = (2)1/2 (2)2/3 = 1.41 × 1.58 = 2.23 ∴ It is an increasing return to scale. Hence, the answer is (d). 174. (c) MRTSL,K =
Q
MPL MPK
= 10K0.5 L0.5
MPL =
∂Q 5 = 5L0.5 – 1 = 5(L)–0.5 = 0.5 ∂L L
215
Microeconomics
MPK =
∂Q 5 = 5K0.5 –1 = 5(K)–0.5 = 0.5 ∂K K
5 L0.5 5 K 0.5 K 0.5 K = 0.5 = . ∴MRTSL,K= 50.5 = 0.5 × 5 L L L K
175. (d) Production function = Q = 50 K0.4 L0.4
Budget constraint 1000 = 40L + 50K Expansion Path L = 1.25K Putting the values of L = 1.25 K in the budget constraint, we can get 1000 = 40 (1.25K) + 50K or, 50K + 50K = 1000 or, 100K = 1000 or, K = 10. When K = 10, L = 12.5 ∴ The maximum possible output for the firm is Q = 50 (10)0.4 × (12.5)0.4 = 345 units. 176. (b) To operate efficiently, the firm has to allocate the budget such that MPL/w = MPK/r.
MPL = ∂TPL/∂Q = 2 MPK = ∂TPK/∂Q = 1 Thus, MPL/w = 2/100 = 0.02 And, MPK/r = 1/100 = 0.01. As MPL/w is more than MPK/r, it is clear that the marginal productivity of labor for one rupee is more than that of capital. Hence, the firm can produce cost minimizing output by using labor input.
Analysis of Costs 177. (c) Bake box: Accounting Profit
Total Revenue
85000
Total costs: Raw materials
38000
Utilities
3000
Promotion
4000
Labor
10000 55000
216
PBT
30000
Tax
9000
PAT
21000
Part II
178. (c) Bake box: Economic Profit
Total revenue
85000
Economic costs: Raw materials
38000
Utilities
3000
Promotion
4000
Labor
10000
Interest (foregone)
750
Salary (foregone)
12000
Rent (foregone)
9000
Tax
9000
Economic profit
85750 –750
179. (d) Cost function of Amchi Bike Co., is
TC = 60000 – 400Q + Q2 Revenue function is TR = 400Q – Q2 At break-even point TC = TR 400Q – Q2 = 60000 – 400Q +Q2 800 Q – 3 Q2 – 60000 = 0 This is a quadratic equation in the form of ax2 + bx + c = 0 Where, X=
−b ± b 2 − 4ac 2a
Q
=
100 or 300
Therefore the breakeven output is 100 or 300. 180. (e) At break-even point, TR = TC.
Q (levels)
P
TR
TC
Total profits (Rs)
0
4
0
0
–80
20
4
80
200
–120
40
4
160
260
–100
60
4
240
300
–60
80
4
320
320
0 (Break even point)
100
4
400
340
60
120
4
480
370
110
140
4
560
420
140
150
4
600
453
147
160
4
640
500
140
180
4
720
720
0 (Break even point)
181. (a) TVC = 5 x 600 = Rs.3000.
Since the output produced when 5 units of labor is employed is 2400 units, the average variable cost per unit is 3000/2400 = 1.25.
217
Microeconomics
182. (c) The first derivative of total cost function is the marginal cost function. Thus, the marginal cost function will be equal to 3Q2– 12Q + 600. 183. (a) The first derivation of TVC (= 50Q – 10Q2 + Q3) is the marginal cost function (i.e.) MC = 50–20Q + 3Q2
Marginal cost is minimum when the dMC/dQ = –20 + 6Q = 0 or Q = 20/6. 184. (e) Average variable cost is the ratio between the total variable cost and quantity; ∂AVC AVC = TVC/Q = =50-10Q+Q2. The average variable cost is minimum when = 0 or ∂Q ∂AVC = –10+2Q =0 or Q = 5. ∂Q 185. (b) Cost function of race bike is
TC = 80,000 – 600Q + 2Q2 Revenue function is TR = 400Q – Q2 At break even point TC = TR 400Q – Q2 = 80,000 – 600Q + 2Q2 1000Q – 3Q2 = 80,000 1000Q – 3Q2 – 80,000 = 0 This is a quadratic equation of the form of ax2 + bx + c = 0 where, b 2 − 4ac 2a
x = −b ±
In the equation 1000Q – 3Q2 – 80,000 = 0 a = –3 b = 1000 c = – 80,000 ∴ Q = −b +
b 2 − 4ac 2a
Q = – 1000 +
(or) − b −
b 2 − 4ac 2a
(1000) 2 − (4 x − 3 x − 80, 000) (2 x − 3)
or = – 1000 – =
(1000) 2 − (4 x − 3 x − 80, 000) (2 x − 3)
− 800 −1200 or −6 −6
∴ Break even point/output is 133.33 (or) 200 units. 186. (a) LTC = Q3 – 2Q2 – 6Q
In the long run, the firm would optimize by producing at the lowest average cost. When AC = MC the AC will be lowest or, when dAC/dQ = 0 AC = Q2 – 2Q – 6 dAC/dQ = 2Q – 2 = 0 or, Q = 1. 218
Part II
187. (d) Fixed cost is the cost that remains the same whatever may be the changes in the output level. In the firm 200 remains constant, hence is the fixed cost of the firm. 188. (b) MC = ∂TC/∂Q = 5 – 0.08Q + 0.003Q2. 189. (c) AC = TC/Q = 200/Q + 5 – 0.04Q + 0.001Q2. 190. (c) MC = ∂TC/∂Q = 17 – 18Q + 3Q2. 191. (c) Profit function ( π ) = TR – TC
TR = PQ = 20Q ∴ π = 20Q – [16 + 17Q – 9Q2 + Q3] = 3Q – 16 + 9Q2 – Q3
192. (e)
π
= 3Q + 9Q2 – Q3 – 16.
Q=
FC P − AVC
Q=
10,000 10,000 = = 50 units . 900 − 700 200
193. (d) Total revenue = Fixed cost + Profit + variable cost
= VC + FC + π = [10,000 x 4] + 1,00,000 = Rs.1,40,000 Price (P) = 194. (d) Δπ
Total Revenue 1,40,000 = Rs.14 = Sales 10,000
= ΔQ x (P − AVC) = 1,000 x (14 – 4) = 10,000
∴ Profit will increase by Rs.10,000. 195. (b) AVC = TVC/Q
TVC
= 200Q – 9Q2 + 0.25Q3
AVC
= 200 – 9Q + 0.25Q2.
196. (e) π = 13Q + 9Q2 – Q3 – 30
TC
= 30 + 17Q – 9Q2 + Q3
TR will be P x Q = 30Q Profit π = TR – TC = 30Q – (30 + 17Q – 9Q2 + Q3) = 30Q – 30 – 17Q + 9Q2 – Q3 = 13Q + 9Q2 – Q3 – 30. 197. (a) TC = Q3 – 20Q2 – 240Q
AC = TC/Q = Q2 – 20Q – 240 MC = ∂TC/∂Q = 3Q2 – 40Q – 240 219
Microeconomics
AC will be minimum, where AC = MC ∴
Q2 – 20Q – 240 = 3Q2 – 40Q – 240 2Q2 – 20Q = 0 2Q = 20 Q = 10
AC will be minimum when the output is 10 units. 198. (c) Given the demand function Q = 1,20,000 – 10,000P
P
=
1,20,000 − Q 10, 000
P = 12 – 0.0001Q TR = PQ Total Revenue = (PQ) = 12Q – 0.0001Q2 function TC = 12000 + 1.5Q Profit = TR – TC = (12Q – 0.0001Q2) – (12000 + 1.5Q) = 10.5Q – 0.0001Q2 – 12000. 199. (b) The first derivative of total revenue function is “Marginal Revenue” MR =
∂TR = 12 − 0.0002Q ∂Q
Q
= 1,20,000 – 10,000P
P
=
1,20,000 − Q 10, 000
P = 12 – 0.0001Q TR = PQ Total Revenue = (PQ) = 12Q – 0.0001Q2 function. 200. (c) Average Cost (AC) = AFC + AVC = 12000/Q + 1.50. 201. (e) The given demand function is Px = 120 – 1.5Qx Total Revenue (TR) = Price (P) x Quantity (Q) Thus, TR = (120 – 1.5Qx)Qx = 120Q x − 1.5Q 2x Thus, the total revenue function is 120Q x − 1.5Q 2x
Therefore marginal revenue function can be derived by the first differentiation of the total revenue function. dTR Marginal revenue function is = 120 – 3Qx dQ Average revenue = TR/Q Thus the average revenue function is
120Q x Q2 − 1.5 x Qx Qx
The average revenue is equal to price = 120 – 1.5Qx. 202. (b) Q = 2500; MC = 100 + 0.004 (2500) = 110. 203. (d) 200 = 100 + 0.004Q = 25000.
220
Part II
204. (c)
MCa MCb 5 2.50 = ⇒ = Pa Pb Pa 10 ⇒ 2.50 Pa = 50
Pa =
50.00 = 20 2.50
205. (d) Total cost for producing 500 units = 500 x 5 = 2500
Total Variable Cost (TVC) = 2500 – Total Fixed Cost = 2500 –500 = Rs.2,000 Average variable cost = 2000/500 = Rs.4 Total cost for producing 750 units = 750 x 4 + 500 = Rs.3,500 Total Revenue (TR) = 750 x 10 = 7,500 Thus, total profit = 7500 – 3500 = Rs.4,000. 206. (b) TC (when 10 units of output) = 10 x 10 = 100
TC (when 11 units of output) = 11 x 11 = 121 MC = (121 – 100) = 21. 207. (c)
Profit = TR – TC
TR = P x Q P = 100 – Q Hence, TR = (100 – Q) Q = 100Q – Q2 Hence, profit = 100Q – Q2 – (100 – 5Q + 2Q2) = – 100 + 105Q – 3Q2 Average profit function: –100/Q + 105 – 3Q Thus, if current output is 2 units, average profit will be –100/2 + 105 – 3(2) = –50 + 105 – 6 = 49. 208. (d) At break-even, TR = TC
TR = P x Q = 5Q Thus, 5Q = 2850 + 3.5Q or, 1.5Q = 2850 or, Q = 2850/1.5 = 1900 units. 209. (e) All the cost functions represent short run since we have fixed cost components in all the cost functions. 210. (b) AC = 500/Q + 10 + 5Q + 25Q2
TC = 500 + 10Q + 5Q2 + 25Q3; where, 500 = fixed cost and 10Q + 5Q2 + 25Q3 = TVC. 211. (b) AC = TC/Q = 18 – 0.30Q + 0.010Q 2
AC is minimum when ∂AC/∂Q = 0 – 0.30 + 0.020Q = 0 0.020Q = 0.30 Q = 15. 212. (b) Total cost of producing four units of output = 6 + 5 + 4 + 5 = 20. Thus, the average cost of the firm = 20/4 = 5. 213. (e)
(
200Q − 9Q 2 + 0.25Q3 TVC = Q Q
a.
AVC =
b.
MC =
c.
TVC = 200Q – 9Q2 + 0.25Q3.
(
)
= 200 – 9Q + 0.25Q2
)
∂TC = ∂ 1000 + 200Q − 9Q 2 + 0.25Q3 / ∂Q = 200 – 18Q + 0.75Q2 ∂Q
221
Microeconomics
= 100 – 3Q + 5Q2
214. (c) TC
MC = –3 + 10Q If Q = 5, MC = –3 + (10 × 5) = 47. 215. (c) AC
= 100/Q + 20 + 4Q
TC = 100 + 20Q + 4Q2 = 20Q + 4Q2
TVC
At output 15, TVC
= 20(15) + 4(15)2 = 300 + 900 = Rs.1200.
216. (e) All the cost functions represent short run since we have fixed cost components in all the cost functions. 217. (e) A firm earns normal profits, when TR = TC
TR = P × Q = 30Q – 3Q2 TC = 6Q 30Q – 3Q2 = 6Q = 3Q2
24Q or, Q
= 8 units.
218. (a) AC
= Q2 – 40Q – 480
dAC/dQ = 2Q – 40 = 0 2Q
= 40
or, Q
= 20 units.
219. (c) Average variable cost = (3500 – 2500)/(250 – 200) = 20
Fixed cost = 12500 – 200 × 20 = 8,500 or, Fixed cost = 13500 – 250 × 20 =Rs.8,500. 220. (c) When Q = 4, MC = 12Q – 4 = 12(4) – 4 = 44. 221. (d) Opportunity cost of an hour of coaching for Sachin Tendulkar is equal to the best opportunity forgone because of coaching i.e., acting Rs.30,000. 222. (b) Marginal cost = Change in the total cost as a result of producing one additional unit of output.
Thus, marginal cost of producing third unit is equal to total cost of producing three units ‘minus’ total cost of producing two units = 190 – 150 = Rs.40. 223. (c) The cost function of the firm is TC = 500 + 10Q – 0.25Q3
TFC = 500 ∴ Average Fixed Cost = AFC = When Q = 100, AFC =
500 Q
500 = 5. 100
224. (d) LTC = Q3 – 40Q2 + 450Q
LAC =
LTC = Q2 – 40Q + 450 Q
LAC will be minimum, where
or, 222
∂ ( Q 2 − 40Q + 450 ) ∂Q
=0
∂LAC =0 ∂Q
Part II
or, 2Q – 40 = 0 or, 2Q
= 40
or, Q
=
40 = 20 2
When Q = 20, LAC = (20)2 – 40 (20) + 450 = 400 – 800 + 450 = 50. 225. (b) TC
= 300 + 10Q ∂TC = 10. ∂Q
MC =
226. (d) Variable cost for producing 500 units ⇒ 20,000 – 15,000 = 5,000
Average Variable Cost = 5,000/500 = 10 Total Cost = Fixed Cost + Total Variable Cost Fixed Cost = Total Cost – Total Variable Cost = 15,000 – (10 x 1,000) = 15,000 – 10,000 = 5,000. 227. (c) TC = 1,000 + 200Q – 9Q2 + 0.25Q3
Marginal cost function = dTC/dQ = 200 – 18Q + 0.75Q2. 228. (d) At breakeven output, TR = TC
PQ
= 1,00,000 + 200Q
250Q = 1,00,000 + 200Q 250Q – 200Q = 1,00,000 50Q = 1,00,000 Q
= 2,000.
229. (a) The Total Variable Cost function for the first year is
TVC = AVC x Q = (0.5 + 0.0025Q)Q = 0.5Q + 0.0025Q2 At a volume of 20,000 units estimated total cost is TC = TFC + TVC = 50,000 + 0.5Q + 0.0025Q2 = 50,000 + 0.5(20,000) + 0.0025(20,0002) = 1,060,000 Estimated Average Cost is AC = TC/Q =
1, 060, 000 = Rs.53. 20,000
230. (b) If actual Total Cost is 848,000 at a volume of 20,000 units, actual Average Total Costs is
AC = TC/Q = 848,000/ 20,000 = 42.40 per unit.
223
Microeconomics
231. (b) To find the minimum point on the Average Cost curve, we differentiate the AC function with respect to Q and set the equation equal to zero.
i.e.,
∂ (AC) ∂ ⎛ 10 ⎞ = = ⎜ +15 − 2Q + 0.1Q 2 ⎟ = 0 (or) – 10Q–2 – 2 + 0.2Q = 0 ∂Q ∂Q ⎝ Q ⎠
Multiplying both sides of the equation by Q2 and dividing by 0.2 we have Q3 – 10Q2 – 50 = 0 Solving the above equation we have Q = 10.46 units substituting the value of Q = 10.46 units in the AC function gives the value of Rs.5.98. 232. (d) The Total cost of producing 10 units of output is
C = 20 + 3(10)2 = 320 Fixed Costs are those costs that do not vary with output, thus Fixed Costs are 20. Variable Costs are the cost that vary with output, namely VC = 3Q2; thus VC = 3(10)2 = 300. Average Variable Costs = 300/10 = 30. 233. (b) Q (420) –6500 = 15000
420 Q = 15000 + 6500 420 Q = 21500 Q = 51.2 units. 234. (b) Q(470) – 6500 = 15000
Q = 45.74 units. 235. (e) Since Q(500) – 6500 = 15000
Q = 43 units. 236. (c) Revenue = Profits + Total Cost
= –10Q2 + 200Q – 200 + (200 + 10Q) = –10Q2 + 210Q Revenue will be maximum, when ∂R/∂Q = 0 ∂R/∂Q = –20Q + 210 = 0 or, Q = 210/20 = 10.5. 237. (a) MC = ∂TC/∂Q
where, TC = TFC + TVC TVC = AVC x Q = (20 – 10Q + 0.25Q2) Q = 20Q – 10Q2 + 0.25Q3 Thus, TC = 100 + 20Q – 10Q2 + 0.25Q3 Then, MC = ∂TC/∂Q = 20 – 20Q + 0.75Q2 MC will be minimum when ∂MC/∂Q = 0 ∂MC/∂Q = –20 + 1.5Q = 0 or, 1.5Q = 20 or, Q
= 20/1.5 Q
= 13.33.
Market Structure I: Perfect Competition 238. (b) In long run equilibrium price equals the minimum value of average cost. Therefore the minimum value of average cost is needed to be found.
The Average Cost (AC) is minimum when dAC/dQ = 0 TC = 25000 + 150Q + 3Q2 224
Part II
AC = TC/Q =
25000 + 150 + 3Q Q
dAC −25000 = +3= 0 dQ Q2
⎛ 25000 ⎞ Thus Q = ⎜ ⎟ ⎝ 3 ⎠
0.5
= 91.3
AC = 25000/91.3 + 150 + 3(91.3) = 697.7. Thus, the long run equilibrium price = Rs.697.7. 239. (c) At equilibrium, P = MC
150 + 6Q = 900 Q = 125 units. 240. (c) Equilibrium price is the price where the quantity demanded is equal to the quantity supplied. Therefore by making the equations QS = QD
10000P = 25000 – 15000P 10000P + 15000P = 25000 25000P = 25000 P = 1. Thus, equilibrium output = 10000 x 1 = 10,000. The equilibrium quantity is 10000. 241. (a) Under a Perfectly Competitive market the firm can sell any amount of output as long as its price is at the market price. Therefore the optimal output is found by its Marginal Cost behavior.
The optimal output for a Perfectly Competitive Firm will be the one where Marginal Cost equals Price. Marginal cost equals MC =
dTC = 4 + 4Q dQ
Setting marginal cost equal to price we have 4 + 4Q = 24 We have 4Q = 20 Q=5 Thus the optimal output level is 5. 242. (b) Profit = Total Revenue (TR) – Total cost (TC).
TR = PQ = 24Q TC = 200 + 4Q + 2Q2 TR – TC = 24Q – 200 – 4Q – 2Q2 = – 200 + 20Q – 2Q2 At output level of 5 units, the firm incurs a loss of Rs.150. 243. (d) Equilibrium price is the price where the quantity demanded is equal to the quantity supplied. Therefore by making the equations QS = QD
80000 + 5000P = 140000 – 10000P 15000P = 60000 P =4 Therefore the equilibrium price is Rs.4. 244. (a) Cost function of R. K. Enterprises is TC = 240Q – 20Q2 +Q3
MC = 240 – 40Q + 3Q2 MR = P = 640 225
Microeconomics
R.K Enterprises can maximize profit by equating MR = MC For a Perfectly Competitive Firm, Marginal Revenue is equal to Price. Therefore 640 = 240 – 40Q + 3Q2 3Q2– 40Q– 400 = 0 Q = 20 or –6.67. But negative value does not make sense therefore profit maximizing output is 20 units. 245. (e) AC = TC/Q = 240 – 20Q + Q2
When Q = 20 = 240 – (20 x 20) +202
AC
= Rs.240. 246. (a) Profit (π) = TR – TC
TR = PQ Therefore for R.K. Enterprises (π) = (640 x 20) – [(240 x 20) – (20 x 202) + 203] = 12800 – 4800 = Rs.8000. 247. (b) When a tax of Rs.325 per chair is imposed on the R.K Enterprises
TC = 240Q – 20Q2 + Q3 + 325Q = –20Q2 + Q3 + 565Q MC = 565 – 40Q + 3Q2P The profit maximizing output is 640 = 565 – 40Q + 3Q2 3Q2 – 40Q –75 = 0 Q = 15 or –1.67 Therefore the profit maximizing output Q = 15 chairs. 248. (b) Profit (π) = TR – TC
TR = (15 x 640) = Rs.9600 TC = 565Q – 20Q2 +Q3 = Rs.7350 (π) = 9600 – 7350 = Rs.2250.
249. (d) Each firm would maximize profit by equating MC and price.
Cost function for a firm located at a Faridabad, CF = 0.52F + 6QF (i.e.,) (Rs.6 is transportation cost) MCF = QF + 6 For a firm located at Jaipur CJ = 0.5Q2 + 10QJ MCJ = QJ + 10 To maximize profits P = MC Therefore P = MCF = QF + 6 and QF = P – 6 for a Faridabad firm. P = MCF = QJ + 10 and QJ = P – 10 for a Jaipur firm. Industry supply QS = 50QF + 50QF (50 firms at Faridabad and 50 at Jaipur) = 50 (P – 6) + 50 (P – 10) QS
= 100P – 800
Industry demand QD = 1600 – 20P 226
Part II
At equilibrium QS = Q D 100P – 800 = 1600 – 20P Therefore, P = Rs. 20. 250. (d) Output supplied by a firm at Faridabad
QF = P – 6 = 20 – 6 = 14 units Output supplied by a firm at Jaipur QJ = P – 10 = 20 – 10 = 10 units. 251. (d) After the tax of Rs.2 per unit coming from Faridabad
CF
= 0.5Q 2F + 6QF + 2QF = 0.5Q 2F + 8QF
MCF = QF + 8 After the subsidy of Rs. 2 per unit coming from Jaipur, = 0.5Q 2J + 10QJ – 2QJ = 0.5Q 2J + 8QJ
CJ
AMCJ = QJ + 8 Therefore cost functions are equalized by this tax and subsidy. Therefore MC = Q + 8 for each firm in the industry. To maximize profits for each firm P = MC = Q + 8 Q=P–8 Industry supply = QS = 100Q = 100P – 800 Demand, Qd = 1600 – 20P At equilibrium Qd = Qs 1600 – 20P = 100 P – 800 2,400
= 120P
P
= 20.
252. (c) The firm will be forced to shut down its operations, if the price is less than the minimum Average Variable Cost.
from Total cost function TC = 200 + 150Q – 20Q2 + Q3 Marginal Cost is the first derivative of the Total Cost function. MC = d(TC)/dQ = 150 – 40Q + 3Q2 From the Total Cost function, Total Variable Cost function can be derived as TVC = 150Q – 20Q2 + Q3 ∴
Average variable cost =
=
TVC Q
150Q − 20Q 2 + Q3 = 150 – 20Q + Q2 Q
227
Microeconomics
Since the Average Variable Cost will be minimum at its intersection with Marginal Cost, at minimum variable cost AVC = MC 150 – 20Q + Q2 = 150 – 40Q + 3Q2 150 – 20Q + Q2 – 150 + 40Q –3Q2 = 0 20Q – 2Q2 = 0 2Q(10 – Q) = 0 Which has roots Q = 0; and Q = 10 Disregarding the root associated with a zero output the average variable cost is minimum at an output of 10 units. ∴ AVC = 150 – 20 (10) + 102 = 150 – 200 + 100 = Rs.50 Thus, it is not viable for the firm to produce output at any price less than Rs.50 in the short run. 253. (a) Market equilibrium price in perfect competition is
Demand function
= Supply function
20000 – 400P
= 14000 + 200P
6000
= 600P
P
= 6000/600
Equilibrium price
= 10
A firm operating in a perfectly competitive industry accepts the price decided by the market forces. 254. (c) A firm can maximize profit by equating MC and MR
∴ For Pens and Pens MR = 10 MC = ∂TC/∂Q = 2 + 0.02Q ∴10 = 2 + 0.02Q Q
= 8/0.02 = 400
∴Pens and Pens can maximize profit by producing 400 units. 255. (e) When the price falls below Average Variable Cost (AVC) the firm would close down the operations, therefore the shutdown point is where P is equivalent to the least possible average variable cost.
TC = 5,000 + 150Q – 20Q2 + Q3 VC = 150Q – 20Q2 + Q3 AVC= VC/Q = 150 – 20Q + Q2 At the lowest level AVC is equivalent to MC MC = 150 – 40Q + 3Q2 ∴ 150 – 20Q + Q2 = 150 – 40Q + 3Q2 2Q2 – 20Q = 0 2Q (Q – 10) = 0 ∴Q = 10 or 0 ∴The AVC is lowest when the output is 10. AVC= 150 – (20 x 10) + 102 = 50 AVC= 150 – (20 x 10) + 102 = 50 ∴If the price falls below 50, the firm will shut down operations. 228
Part II
256. (c) For the industry
Supply Qs = 20,000 + 30P Demand Qd = 40,000 – 20p Equilibrium price (P) is 20,000 + 30P = 40,000 – 20P 50P = 20,000 P = 400 For the firm MR = P = 400 To maximize profit MR
= MC
MC
= 200 + 2Q
∴ 400 = 200 + 2Q Q
= 100.
257. (c) P = MR = 16
TC = Q3/3 – 5Q2 + 40Q MC =
∂TC = Q2 – 10Q + 40 ∂Q
To maximize profit MR = MC 16 = Q2 – 10Q + 40 Q2 – 10Q + 24 = 0 Q = 6 or 4 Since both the values are positive, we need to check for the second order condition for maximizing profits i.e., the slope of MC should be positive (i.e.) ∂ 2 TC ∂Q 2
∴
∂ 2 TC ∂Q 2
If Q = 6,
If Q = 4
>0
= 2Q – 10 ∂ 2 TC ∂Q 2 ∂ 2 TC ∂Q 2
= (12 – 10) > 0
= (8 – 10) < 0
∴ The profit maximizing output is 6 units. 258. (b) MR = 50
MC = 10+ 2Q To maximize profit, MR = MC 50 = 10 + 2Q Q = 20 ∴The profit maximizing output is 20 units. 229
Microeconomics
259. (d) TC = 500Q – 15Q2 + Q3 MC = 500 – 30Q + 3Q2 P = MR = 500 To maximize profits MR = MC ∴500 = 500 – 30Q + 3Q2 3Q = 30 Q = 10 units. Profit ( π ) = TR – TC = (500 x 10) – [(500 x 10) – (15 x 102) + 103] = Rs.500. 260. (e) Long-term equilibrium price is the price at which the firm just break even. This is the maximum point on the LAC curve. LAC = TC/Q = 500 – 15Q + Q2 Minimum point on LAC is where slope of LAC is zero. ∂LAC = − 15 + 2Q = 0 ∂Q
∴Q = 7.5 LAC = 500 – (15 x 7.5) + 7.52 = Rs. 443.75. 261. (c) Market demand function (Qd) = 13,500 – 50P Supply function (Qs) = 3,000 + 20P. Market will be in equilibrium at the price at which Qd = Qs 13,500 – 50P = 3,000 + 20P 10,500 = 70P P = Rs.150 Since the industry is operating under perfect competition all the firms are price takers. Hence, for each firm P = AR = MR Given the AVC function of the firm AVC = 150 – 18Q + Q2 VC = 150Q – 18Q2 + Q3 ∂VC = 150 – 36Q + 3Q2 MC = ∂Q The firm will be in equilibrium at the output at which MR = MC 150 = 150 – 36Q + 3Q2 2 36Q – 3Q = 0 12Q – Q2 = 0 Q(12 – Q) = 0 Q = 12 units. Thus, the profit maximization output is 12 units. Profits earned by the firm at that output is measured by (TR – TC) TR = (P x Q) = 150 x 12 = Rs.1,800 TC = FC + VC = 500 + 150(12) – 18(12)2 + (12)3 = 500 + 1,800 – 2,592 + 1,728 = Rs.1,436 ∴ π = 1,800 – 1,436 = Rs.364 Therefore, profit earned by the firm is Rs.364. 230
Part II
262. (d) The equilibrium price for the industry can be found out by equating the market demand and supply functions.
(i.e.) 3,000 + 200P = 13,500 – 500P 700P = 10,500 P = Rs.15 As the market is assumed to be perfectly competitive P = AR = MR = Rs.15 The equilibrium quantity (i.e.) no. of shirts to be produced in order to maximize profits can be determined by equating MC with MR. 3Q 2 3Q 2 =15 or − 4Q = 0 10 10
(i.e.,) 15 − 4Q + Q (3Q – 40) = 0
Q = 40/3 as Q = 0 Therefore 40/3 = 13.33 (i.e.,) approximately 13 shirts are to be produced to maximize profits. 263. (b) Average cost = Total cost/Total output
Total cost when the output is 10 units will be = 720 (10) – 168(10)2 + 14 (10)3 = 7,200 – 16,800 + 14,000 = Rs. 4,400 Average cost = Rs.4400/10 = Rs.440. 264. (b) Under perfect competition, in the long run industry will be in equilibrium when all the firms are earning normal profits (i.e.,)
Price = Average cost ∴ 50 = 950 – Qd or Qd = 900 units Thus under perfect competition, equilibrium price is Rs.50 and equilibrium output = 9000 units. 265. (e) In perfect competition, equilibrium condition is given by P = MC as P = MR = AR in perfect competition.
MC
= dTC/dQ = 5 + 0.02Q
20
= 5 + 0.02Q
0.02Q = 15 Q = 750 dressings/month. 266. (b) Profit (π) = TR – TC
= 20Q – 5625 – 5Q – 0.01Q2 = 20(750) – 5625 – 5(750) – 0.01(7502) = 0. 267. (b) P = 80 – 0.0008Q
MR = 80 – 0.0016Q The profit maximizing activity level is the output aimed by setting marginal revenue equal to marginal cost, or marginal profit equal to zero. MR = MC
231
Microeconomics
80 – 0.0016Q = 20 0.0016Q = 60 Q = 37,500 The optional market price, P = 80 – 0.0008 (37,500) = 50. 268. (c) In a perfectly competitive industry
P = MR so the optimal activity level occurs where P = MC. Here P = MC = 3.40 at Q = 8 units. 269. (a) A monopolistically competitive firm maximizes profits by setting MR = MC. Here MR = MC = 3.60 at Q = 4 units / months and P = 4.20 per unit. 270. (b) Since the firm competes in a perfectly competitive market, it must charge the same price charged by other firms charge. Thus the manager should price the product at Rs.200. 271. (d) To find the profit maximizing output we must equate price with marginal cost
MC = 2Q P
= MC
200 = 2Q So the profit maximizing output is 100 units. 272. (e) The equilibrium price of the good in the perfectly competitive market can be determined by equating the demand and the supply curve equations as follows:
∴ Qd = Qs or 80,000 – 9,000P = 20,000 + 6,000P = 60,000 = 15,000P P = Rs.4. 273. (d) The total profit is maximized when the revenue overrides the revenue and remaining in the downswing until a breakeven point is reached.
Q (levels) P TR 0 4 0 20 4 80 40 4 160 60 4 240 80 4 320 100 4 400 120 4 480 140 4 560 150 4 600 160 4 640 180 4 720 274. (a) Under perfect competition,
TC 0 200 260 300 320 340 370 420 453 500 720
Total profits (Rs) – 80 – 120 – 100 – 60 0 60 110 140 147 (total profit maximized) 140 0
P = MR = AR = MC Thus, 4 = MC This possible only when the quantity of output produced is 53 units. Thus, profit maximizing output = 53 units. If industry output is 1,48,824 units, the number of identical firms would be 1,48,824/53 = 2,808. 275. (b) A firm will shut down its operations if the price is less than average variable cost. Since under perfect competition, price is also equal to marginal revenue, the firm will continue operations in the short run so long as price is at least equal to average variable cost. Thus the minimum price, which the firm will shut down, is the minimum average variable cost.
AVC = 300 – 40Q + 2Q2 232
Part II
Minimum average variable cost: ∂AVC/∂Q = 0 Thus, –40 + 4Q = 0 or, Q = 10 When the firm is producing 10 units, then AVC = 300 – 40(10) + 2(100) = 100. Thus, if price falls below Rs.100. 276. (c) If the Government imposes specific sales tax of Rs.10 per unit, the distribution of tax burden between buyers and sellers is in the ratio of elasticity of supply to elasticity of demand. Thus, the tax burden borne by the buyer is 10 x 2/5 = 4. If tax burden borne by the buyer is Rs.4, it means that the new equilibrium price will increase from Rs.100 to Rs.104 (Rs.100 + Rs.4). 277. (b) The firm operating in a perfectly competitive industry earns only normal profits in the long run because of free entry and exit of the firms. The firm operating at its minimum average cost can only prevail in the market. Thus, the equilibrium condition in the long run is when the firm is operating at Min. LAC.
If AC = 20 – 250Q + 10Q2 LTC = 20Q – 250Q2 + 10Q3 LMC =
∂LTC = 20 – 500Q + 30Q2 ∂Q
LAC is minimum, when MC = AC Thus, 20 – 500Q + 30Q2 = 20 - 250Q + 10Q2 or, 250Q = 20Q2 or, 12.5Q = Q2 or,
Q = 12.5.
278. (d) Each firm would maximize profit by equating MC and price.
Cost function for a firm located at Chennai Cc
= 100 + Qc2 + 12Qc
MCc = 2Qc + 12 Cost function for a firm located at Hosur Ch
= 100 + Q 2h + 8Qh
MCh = 2Qh + 8 To maximize profits, P = MC Thus, P = MCc = 2Qc + 12 or, Qc = 0.5P – 6 P = MCh = 2Qh + 8 or, Qh = 0.5P – 4 Industry supply, Qs = 50Qc + 100Qh
(50 firms in Chennai and 100 firms in Hosur)
Qs = 50(0.5P – 6) + 100(0.5P – 4) Qs = 25P – 300 + 50P – 400 = 75P – 700 At equilibrium, Qd = Qs 75P – 700 = 2020 – 10P 85P or,
= 2720 P
or, Q
= 32. = 2020 – 10(32) = 1700 units. 233
Microeconomics
279. (c) TR = P × Q
or, (50 – 0.5Q) Q or, 50Q – 0.5Q2 Thus, profit at output 12 units is 50 × 12 – 0.5 × 12 × 12 – 50 – 2 × 12 = 454. 280. (b) The minimum price below which the firm is shut down its operation is the minimum Average Variable Cost.
The Average Variable Cost will be equal to price or Marginal Revenue at the minimum point on Average Variable Cost curve. ∴MC = AVC. 75 – 20Q + 1.5Q2 = 75 – 10Q + 0.5Q2 1.5Q2 – 0.5Q2 – 20Q + 10Q = 0. Q2 –10Q = 0 Q(Q–10) = 0 Q =10. At Q = 10, AVC = 75 – 10(10) + 0.5 (10)2 = 75 – 100 +50 = Rs.25. 281. (d) TR = P × Q = 2 × 100 = 200
TC = TFC + TVC = 50 + 40 = 90 ∴ Economic profit
= TR – TC = 200 – 90 = Rs.110.
282. (c) LAC =100 – 20Q + 2Q2
P = 100 – 0.1Q In the long run, all firms operate at the lowest of their average cost curves. So,
∂ (LAC) =0 ∂Q
– 20 + 4Q = 0 4Q = 20 Q = 5. (Firm’s output) At Q = 5, LAC =
100 – 20(5) + 2(5)2
=
100 – 100 + 50
=
50
At equilibrium, LAC = P When P = 50, 50 = 100 – 0.1Q –0.1Q = –50 Q = 500 (Industry’s output) ∴ No. of firms=
234
Industry 's output 500 = = 100. Firm 's output 5
Part II
283. (e) Qs = 1000P + 500
Qd = 5000 – 500P ∴ The equilibrium price can be determined by equating Qs = Qd ∴ 1000p + 500 = 5000 – 500p or, 1500p = 4500 or, P = 3 = MR. Variable cost of the firm is given as 103Q – 0.5Q2 ∴ MC = 103 – Q ∴ Probit maximizing output for the firm is determined where, MR = MC or, 3 = 103 – Q or, Q = 103 – 3 = 100. 284. (c) In a perfectly competitive market the price of the goods is determined by demand and supply condition for the industry.
D=S 7,000 – 500P =
4,000 + 250P
3,000
=
750P
P
=
3, 000 750
P
=
4
In a perfectly competitive market a firm is a price taker. Quantity Price Total Cost Total Revenue 0 4 40.0 0 10 4 100.0 40 20 4 130.0 80 30 4 150.0 120 40 4 160.0 160 50 4 170.0 200 60 4 185.0 240 70 4 210.0 280 75 4 226.5 300 80 4 250.0 320 90 4 360.0 360 Number of BEPS are two at quantity 40 and 90.
Total Profit –40 –60 –50 –30 0 30 55 70 73.5 70 0
Remarks
BEP
BEP
285. (c) To maximize profits, a perfectly competitive firm produces an output where P = MC
MC = ∂TC/∂Q = 300 – 80Q + 3Q2 P = 300 – 80Q + 3Q2, where Q = 50 units (given) Hence, P = 300 – 80(50) + 3(50)2 = 300 – 4000 + 7500 = 3800 Thus, total industrial production is equal to (100 + 2 x 3800) = 7700. 286. (b) For a firm operating in a perfectly competitive industry, the MC curve above the AVC curve is the supply curve of the firm.
MC = ∂TC/∂Q = – 50 + 4Q = P or, 4Q = P + 50 235
Microeconomics
or, Q = 0.25P + 12.5 There are 100 firms, hence Qs = 100 x Q = 25P + 1250 Equilibrium price is where, Qs = Qd 2000 – 200P = 25P + 1250 or, 225P = 750 or, P = 3.33.
Market Structure II: Monopoly 287. (b) The demand function can be rewritten as follows
2Q – 48 = –0.08P 48 – 2Q = 0.08P 600 – 25 = P Total Revenue (TR) = PQ = 600Q – 25Q2 The equation of the marginal revenue is the first order derivative of the Total Revenue equation with respect to Q. Similarly Marginal Cost is the derivative of the Total Cost with respect to Q. That is MR =
∂ (TR) ∂Q
and MC =
= 600 – 50Q
∂ (TC) ∂Q
= 80Q
For maximum profit the following condition must be fulfilled MR =MC 80Q = 600 – 50Q Q = 4.6 units. Substituting the value of Q into the demand equation gives 2(4.6) = 48 – 0.08P 9.2 – 48 = –0.08P 48 – 9.2 = 0.08P P = 600 – 115 P = 485 The profit-maximizing price is given by Rs. 485. 288. (b) The firms total revenue is R = R1+R2 = Q1P1+ Q2P2
50(10) +200(5) = 500+1000 TR = 1500 The Total Cost is (AC) (Q) = (AC) (Q1+Q2) = (5.5) (250) TC
= 1375
Profit = Rs.125. 289. (c) For the monopolist TC = 125 + 5Q2
MC =
∂TC ∂Q
= 10Q
TR = PQ = (100 – 5Q) Q = 100Q – 5Q2 MR = 236
∂TR ∂Q
= 100 − 10Q
Part II
To maximize profits MR =MC 100 − 10Q = 10Q
Q = 5 units. The profit maximizing output for the monopolist is 5 units. Price P = 100 – 5Q = 100 – 5(5) = 100 – 25 = Rs.75 The price is Rs.75 per unit. Profit = TR –TC TR = 100(5) – 5(5)2 and TC = 125 + 5(5)2 TR = 500 – 125 = 375 and TC = 125 + 125 = 250 TR – TC = 375 – 250 = 125. 290. (c) To maximize profits the monopolist should equate Marginal Cost (MC) to marginal Revenue (MR) in each of the three markets
MC = MR1 = MR2 = MR3
⎡ ⎢⎣
⎤ ⎥ e P ⎥⎦
⎡ ⎢⎣
⎤ = 30 2.5 ⎥⎦
MR = P ⎢1 −
MR2 = 50 1 −
1
1
MR1 = MR2 = MR3 = 30 Market 1
⎡ ⎢⎣
MR1 = 30 = P1 1 −
1 ⎤
1.5 ⎥⎦
P1 = 30/0.33 = Rs. 90 Market 3
⎡ ⎢⎣
MR3 = 30 = P3 1 −
1 ⎤
4.0 ⎥⎦
P3 = 30/0.75 = Rs. 40 Profit maximizing prices for markets 1 and 3 are Rs. 90 and Rs. 40 respectively. 291. (d) Demand function is
P
= 140 – Q/0.15
TR = PQ = 140Q – Q2/0.15 MR =
∂TR ∂Q
=140 −
2Q 0.15
TC = 400 + 20Q MC =
∂TC ∂Q
= 20
To maximize profits indexpo should equate MC and MR. 140 – 2Q/0.15 = 20 237
Microeconomics
2Q = 0.15 x 120 Q
= 9 units
P
= 140 – 9/0.15 = Rs. 80
Profit (π) = TR – TC = PQ – (400 + 20Q) = 80 x 9 – (400 + 20Q) = 720 – 580 = Rs.140. 292. (c) Total Revenue will be maximum when MR = 0
2Q = 21 Q
= 10.5 units Indexpo should export 10.5 units, if it would like to maximize total revenue.
293. (e) With the price discrimination, profit maximizing objective requires that
MC = MRA = MRE MRA =
∂TR A ∂Q A
TRA = PA x QA = 100QA – 10Q2 MRA = 100 – 20QA TRE = PE x QE 2
= 220QE – 20 Q E MR E =
∂TR E = 220 − 40Q E ∂Q E
By equating MRA = MC 100 – 20QA = 20 20QA = 80 QA = 4 units By equating MRE = MC 220 – 40QE = 20 40QE = 200 QE = 5 units. Output sold in north America QA PA = 100 – (10 x 4) = 60 units. Output sold in Europe QE = 5 units PE = 220 – (20 x 5) = 120 units. Total profit (π) = TR – TC = TRA + TRE – TC TRA = PA x QA =60 x 4 =Rs. 240 TRE = PE x QE =120 x 5 =Rs. 600 profit = 240 + 600 – (400 + 20 x 9 ) = 840 – 580 = Rs.260. 294. (a) For the monopolist P = 50 – 2Q
P 238
= 50 – 2Q
Part II
TR = PQ = 50Q – 2Q2 MR = 50 – 4Q MC = 10 The monopolist can maximize profits by equating MC and MR. 50 – 4Q = 10 Q = 10 P = 50 – 2Q = 30 Under perfect competition P
= MC P = 10
For Q = 10 Expenditure by consumer under monopoly is P x Q = (10 x 30) = Rs.300 Under perfectly competitive market P x Q = (10 x 10) = Rs.100 Income distributed in favor of producers because of monopoly pricing is (300–100) = Rs.200. This is a loss of consumer surplus in favor of producers. 295. (d) The Marginal Revenue must be equal to Marginal Cost to maximize profits.
The demand curve is given by P = 100 – Q and the total revenue (TR) = PQ TR = 100Q – Q2 MR =
dTR = 100–2Q dQ
Therefore, at equilibrium Thus marginal revenue equals marginal cost 100 – 2Q = 60 + 2Q So Q = 10. 296. (c) When the profit maximizing output is 10, applying it to demand curve equation we get Rs.90. 297. (c) Since the equation for the supply curve is P = 4, the long run equilibrium output can be determined by finding the value of QD if P = 4. (Because this is the value where the supply and demand curves intersect). Thus, since QD = 50 – 2P. The equilibrium output is 50 – 2(4) or 42 lakhs of knives per year. 298. (d) If the firm is producing 5 units in the first factory the marginal cost in the first factory becomes MC1 = 20 + 2 x 5 which is equal to 30. Thus if the firm is minimizing the marginal costs, marginal cost in the second firm must also equal 30
This means that 10 + 5Q2 = 30 Therefore 10 + 5Q2 = 30 Q2 = 4 Thus the second plant must produce 4 units. 299. (b) Total Revenue (TR) = Price x Quantity = (PQ)
P = (8300–Q)/2.1 = 3952 – 0.476Q TR = PQ Therefore (3952 – 0.476Q)Q = 3952Q – 0.476Q2 239
Microeconomics
MR = 3952 – 0.952Q. 300. (c) Maximum profit is reached when MC = MR
From the equation TC = 2200 + 480Q + 20Q2, we understand that the marginal cost MC = 480 + 40Q. If MC = MR 480 + 40Q = 3952 – 0.952Q 40.952Q = 3472 Q = 84.8 Thus the firm would produce 84.8 equipments per month. If Q = 84.8, P = 3952 + 0.476(84.8) = 3,912. Thus the price should be Rs. 3912. 301. (a) The firms monthly profits = TR – TC
= 80(3,914) – [2200+480(80) +20(80)2] = Rs.144520. Industry demand QD = 1600 – 20P P = Rs.20. 302. (e) Marginal Revenue (MR) = AR x e – 1/e
The average revenue is said to be Rs.20. MR = 20 x
1.6 − 1 = 7.5. 1.6
303. (c) For the monopolist
TC = 500 + 20Q2 MC =
∂TC = 40Q ∂Q
TR = PQ = (400 – 20Q)Q = 400Q – 20Q2 MR =
∂TR = 400 − 40Q ∂Q
To maximize profits MR = MC ∴ 400 – 40Q = 40Q
Q
=
400 = 5 units 80
∴The profit maximizing output for the monopolist is 5 units. 304. (c) Demand curve for the firm is P = 200 – 4Q
TR = PQ = (200 – 4Q) Q = 200Q – 4Q2 MR = 200 – 8Q To maximize profits the firm should equate MC and MR MC = 4Q MC = MR 4Q = 200 – 8Q 240
Part II
Q
= 200/12 = 16.67 units
Price P = 200 – 4Q = 200 – (4 x 16.67) = Rs. 133.32. 305. (d) Demand curve for the firm is
Q
= 2,000 – 50P
50P = 2,000 – Q P
= 40 – 0.02Q
The objective of the firm is to maximize revenue, revenue is maximized when MR is zero. ∴TR = PQ
= (40 – 0.02Q) Q = 40Q – 0.02Q2 MR = 40 – 0.04Q Revenue is maximized when MR = 0 ∴ 40 – 0.04Q = 0
Q = 40/0.04 = 1,000 units ∴ By producing 1,000 units, the firm can maximize its revenue. 306. (a) Perfect competition assumes price to be equivalent to MC. Since the MC is 10 the price should also be 10.
When P = 10 Q=
(110 − P) 100 = = 25 units 4 4
∴ if the market is perfectly competitive price is Rs.10 and output is 25 units. 307. (d) TR = 300Q – Q2/2 MR = 300 – Q TC = 500 + 60Q + Q2 MC = 60 + 2Q To maximize profits MC = MR 60 + 2Q = 300 – Q 3Q = 240 Q = 80 (profit maximizing output)
P
⎞ Q2 TR ⎛ / Q ⎟⎟ = ⎜⎜ 300Q − Q 4 ⎝ ⎠ = 300 – Q/2
=
= 300 – 40 = Rs. 260 ∴ Profit maximizing price is Rs.260. 308. (b) The plant manager can maximize his profits by equating MC and MR
TR = 1,000Q – Q2 MR = 1,000 – 2Q TC = – 200Q – Q2 + Q3 MC = – 200 – 2Q + 3Q2 241
Microeconomics
To maximize profits MC = MR –200 – 2Q + 3Q2 = 1,000 – 2Q 3Q2 = 1,200 Q2
= 400
Q
= 20 units
Price (P) = TR/Q 1,000Q − Q 2 = 1,000 − Q Q = 1,000 – 20 = Rs. 980
= ∴P
∴ The profit maximizing price is Rs.980 and quantity is 20 units. 309. (a) Demand curve of the monopolist is given as
Q
= 200 – 2P
2P P
= 200 – Q = 100 – 0.5Q
TR = PQ = 100Q – 0.5Q2 MR = 100 – Q = 100 – (Q1 + Q2) Q Q1
= Q 1 + Q2 = output from plant one
Q2
= output from plant two
To maximize profits, this MR should be equal to MC of each plant. C1 = 10Q1 MC1 = 10 C2
= 0.25Q 22
By solving for Q1 and Q2 Q1 Q2
= 70 units = 20 units
∴ Q = 90 units
Profit maximizing output for the monopolist is 90 units. 310. (b) The demand function of Biswans Glass company is
Q
= 300 – 0.5P
Q + 0.5P = 300 0.5P = 300 – Q P
= 600 – 2Q
Total Revenue (TR) = P x Q = (600 – 2Q)Q = 600Q – 2Q2 Marginal Revenue (MR) =
∂TR = 600 – 4Q ∂Q
Total Cost is given by the function
242
Part II
TC = 5,000 + 60Q + Q2 Marginal Cost (MC) =
∂TC = 60 + 2Q ∂Q
Equating marginal revenue to marginal cost, we get the equilibrium output Thus, => 600Q – 2Q2 6Q = – 540 Q = 540/6 = 90 units P = 600 – 2Q = 600 – 2(90) = Rs.420 And hence the economic profit earned, at above output level is π
= TR – TC
TR = 420 x 90 = Rs. 37,800 TC = 5,000 + 60Q + Q2 = 5,000 + (60 x 90) + (90)2 = 5,000 + 5,400 + 8,100 = Rs. 18,500 Thus, π = Rs. 37,800 – Rs. 18,500 = Rs. 19,300. 311. (d) Average cost of production is constant at Rs.5
∴ TC = 5Q; MC = 5
Demand function for Eco is Q = 53 – P P = 53 – Q TR = PQ = 53Q – Q2 ∴ MR =
∂TR = 53 – 2Q ∂Q
Alpha Co., can maximize profit by equating MR to MC ∴ 53 – 2Q = 5
2Q = 48
243
Microeconomics
Q = 24 P = 53 – 24 = 29 Profits ( π ) = TR – TC = PQ – 5Q = (29 x 24) – (5 x 24) = Rs. 576. 312. (e) Using the Marginal Revenue formula for linear inverse demand and the formula for Marginal Cost we see that
MR = 100 – 2 x 2 x Q = 100 – 4Q MC = 2 Next we set MR = MC in order to find the profit maximizing level of output 100 – 4Q = 2; 4Q = 98; Q = 24.5. 313. (a) When price discrimination is not practiced by the monopolist, PK = PA.
PK
= 40 – 2.5QK
2.5QK = 40 – PK QK
= 16 – 0.4PK
PA
= 120 – 10QA
10QA = 120 – PA QA
= 12 – 0.1PA
Total output sold by the monopolist = Q = QA + QK Thus, Q = 16 – 0.4PK + 12 – 0.1PA Q = 28 – 0.5P TR= P x Q = P(28 – 0.5P) = 28P – 0.5P2 Maximum TR: ∂TR / ∂Q = 0 ; 28 – P = 0; or, P = 28 When P = 28, Q = 28 – 0.5(28) = 14 units. 314. (b) When price discrimination is practiced,
MRK = MC; MRA = MC When PK = 40 – 2.5QK TRK = PK x QK = (40 – 2.5QK)QK = 40QK – 2.5QK2 MRK = 40 – 5QK Thus, profit maximizing output in Karnataka: 40 – 5Qk = 30; QK = 2 TRA = QA x PA = (120 – 10QA)QA = 120QA – 10Q 2A MRA = 120 – 20QA Thus, profit maximizing output in Andhra Pradesh: 120 – 20QA = 30 QA = 90/20 = 4.5 Thus, profit maximizing total output for the monopolist = 2 + 4.5 = 6.5 units. 244
Part II
315. (b) The four firm concentration ratio for the construction company in Hyderabad city
=
sale of flats of popular 4 construction companies/ total sale of flats by the construction companies in the Hyderabad city.
=
(580 + 500 + 450 + 300)/ (500 + 300 + 450 + 120 + 100 + 80 + 125 + 580)
=
1830/2255 = 0.811.
316. (b) 10P
or, P
= 100 – Q = 10 – 0.1Q
TR = 10Q – 0.1Q2 MR = ∂TR/∂Q = 10 – 0.2Q = 4 or, 0.2Q = 6 or, Q
= 30
When Q = 30, P = 10 – 0.1(3) = 7. When P = 7, Elasticity of demand = ∂Q/∂P × P/Q = –10 × 7/30 = (2.33). 317. (d) The profit maximizing output can be determined when MR = MC.
In market X, TR = 20 QX – 0.01 Q 2x ∴ MR = 20 – 0.02QX ∴ Profit maximizing output can be determined when MR = MC.
20 – 0.02QX = 6 QX = 700 When QX = 700, PX = 20 – 0.01(700) = Rs.13. In market Y, TR = 32QY – 0.02 Q 2y ∴ MR = 32 – 0.04QY ∴ Profit maximizing output can be determined when MR = MC.
32– 0.04QY = 6 QY = 650 When QY = 650, PY = 32 – 0.02(650) = Rs.19. 318. (c) When price is Rs.87.50 and Q = 5 units,
the Total Revenue of the Monopolist = P × Q = Rs.87.50 × 5 = Rs.437.50 When P = Rs.75 and Q = 6 units, TR = Rs.450.00 If the price decrease is affected, the MR = 450 – 437.50 = Rs.12.50.
245
Microeconomics
319. (c) In monopoly, the learner Index P − MR = (∴MR = MC) P
When P = 20 and MR = 10, Learner Index 20 − 10 10 = = = 0.50. 20 20 320. (c) Qa=
Qb
1,000 – 50Pa
=
800 – 25Pb
TC =
500 + 10Q.
If the monopolists does not practice price discrimination, then
Q
Qa
=
1,000 – 50Pa
Qb
=
800 – 25Pb
2Q
=
1,800 – 75P
= 900 – 37.5P
37.5P = 900 – Q P
= 24 – 0.2Q
TR
= 24Q – 0.2Q2
MR
= 24 – 0.4Q
Sales maximization is possible, when MR = 0 ∴ 24 – 0.4Q = 0
Q
= 60
∴P
= 24 – 0.2 (60) = 24 – 12 = Rs.12.
321. (e) If the monopolist practices price discrimination, then, profit maximizing output can be determined independently in both the markets by equating MR = MC In Market A:
Qa
=
1000 – 50Pa
50Pa
=
1000 – Qa
Pa
=
20 – 0.02 Qa
TR
=
20Qa – 0.02Qa2
∴ MR
=
20 – 0.04Q
∴ Profit maximizing output can be determined when MR = MC ∴ 20 – 0.04Q = 10
– 0.04Q Q
= 10 = 250
When Q = 250, Pa = 20 – 0.02(40) = 20 – 5 = Rs.15. In Market B:
Qb
=
25Pb = Pb
246
=
800 – 25Pb 800 – Qb 32 – 0.04Qb
∴TR =
32Q – 0.04Qb2
∴MR =
32 – 0.08Qb
Part II
∴ Profit maximizing output can be determined, when MR = MC ∴ 32 – 0.08Qb = 10
– 0.08Qb Qb
= 22 = 275
When Qb = 275, Pb = 32 – 0.04 (275) = 32 – 11 = Rs.21. 322. (e) 4–Firm concentration ratio =
=
Sales of top 4 − firms Sales of all the firms in the industry 12, 000 + 21, 021 + 43,102 + 24, 226 = 0.98 12, 000 + 21, 021 + 43,102 + 24, 226 + 921 + 402
As the index is close to one it indicates greater concentration and less competition in the industry. It is not a perfectly competitive market. In the market, 4-firm concentration ratio is close to 1. The market is oligopoly. n
323. (c) Herfindahl Index = Σ Si2 i=1
Si = Share of ith firm in total industry Firm
Market Share (Si)
Market Share (Si)
(Si2 )
A
12,000
0.12
0.0144
B
21,021
0.21
0.0441
C
43,102
0.42
0.1764
D
24,226
0.24
0.0576
E
921
0.009
0.00081
F
402
0.004
0.000016
Total sales
1,01,672
0.292597
If H–I, is 1, the market is a pure monopoly market. If H–I is 0, it’s a perfectly competitive market. 324. (b) A monopolist maximizes his profits when MC = MR.
MR = P (1 – 1/|ep|) Thus, for market A. the profit maximizing condition is MC = MRA 10 = MRA = PA (1 – 1/2) = 0.5P PA = 20 Similarly, for market B, the profit maximizing condition is where MRB = MC = PB (1 – 1/|ep|): 10 = MRB = PB (1 – 1/5) = 0.8P PB = 12.5 Price elasticity of demand (Ep) = ∂Q/∂P x P/Q = 1/slope of the demand curve x P/Q Thus, for market A: 1/1 x 20/Q = 2 Q = 10 For market B: 1/0.5 x 12.5/Q = 5 Q=5 Thus, the profit maximizing output for the firm is 10 + 5 = 15. 247
Microeconomics
Market Structure III: Monopolistic Competition 325. (c) Demand function of the firm is
P
= 11,100 – 30Q
∴ Total Revenue (TR) = PQ
= 11,100Q – 30Q2 MR = 11,100 – 60Q Total Cost = 4,00,000 + 300Q – 30Q2 + Q3 MC = 300 – 60Q + 3Q2 The profit maximizing output will be where MC = MR ∴ 11,100 – 60Q = 300 – 60Q + 3Q2
3Q2 = (11,100 – 300) Q2
= 10,800/3 = 3,600
Q
= 60 units
P
= 11,100 – (30 x 60) = Rs. 9,300
∴ Equilibrium output is 60 and price is Rs. 9,300. 326. (c) A firm in monopolistic competition will be in long run equilibrium when the price is equal to the average cost.
∴ For the firm P = AC
5 – 0.002Q = 6.00 – 0.004Q + 0.000001Q2 0.000001Q2 – 0.002Q + 1 = 0 ∴ Q = 1,000
P = 5.00 – 0.002Q = 3 ∴ Equilibrium price is Rs.3 and output is 1,000 units. 327. (a) P = 5 – 0.002Q
AC = 6 – 0.004Q + 0.000001Q2 Profit = (P – AC) Q = Rs.1998. 328. (a) In the long run, a firm in monopolistic competition will not earn any economic profit since price is driven down to the level of average cost. 329. (b) The demand function is
P = 350 – Q ∴TR = 350Q – Q2
MR = 350 – 2Q Cost function is TC = 355Q – 2Q2 + 0.05Q3 MC = 355 – 4Q + 0.15Q2 at profit maximizing output MC = MR 355 – 4Q + 0.15Q2 = 350 – 2Q 248
Part II
0.15Q2 – 2Q + 5 = 0 ∴ Q = 10 or 3.33
P = 350 – Q If Q = 10; P = 340 Q
= 3.33; P = 346.67.
330. (b) Economic profits are TR – TC
if Q is 10 profits are (340 x 10) – (355 x 10 – 2 x 102 + 0.05 x 103) = 0. 331. (b) Revenue function TR = 500 + 50A – A2
∴ MRA (Marginal Revenue from Advertising) = 50 – 2A MCA = 4 ∴ The optimum level of advertising is 50 – 2A = 4 ∴ A = 23 Optimal budget for advertising = (23 x 4) = 92. 332. (b) If you get quantity discounts MCA = 60 – 3A at profit maximizing advertising = MCA MRA 50 – 2A = 60 – 3A
∴A = 10 The profit maximizing advertisings are 10 units. 333. (c) P = 8,000 – 4Q
At long run equilibrium, P = AC 8000 – 4Q = 8000 – 7Q + 0.002Q2 3Q = 0.002Q2 Q
= 1500
At Q = 1500, the economic profits for the firm is zero. 334. (a) The profit maximizing output is where MC = MR
30 – 40Q + 3Q2 = 30 – 4Q 3Q2
= 36Q
Q
= 12
At output of 12 units, Total Cost = 3000 + 30(12) – 20(12)2 + (12)3 = 3000 + 360 – 2880 + 1728 = Rs.2208. 335. (b) Profit maximizing output is determined where MR = MC.
MR
= 400 – Q
MC
= 70 + 2Q
∴400 – Q = 70 + 2Q
– 3Q
= – 330
Q
= 110 units.
249
Microeconomics
336. (a) d π /dQ = Q2 – 10Q + 24 = 0
Q = 6 or 4 Since booth the values are positive, we need to check for the second order condition for maximizing profits, d2 π /dQ2 = 2Q – 10 If Q = 6, d2 π /dQ2 > 0 If Q = 4, d2 π /dQ2 < 0 Therefore, profit maximizing output is 4. 337. (b) The equilibrium output in the long run is determined where P = AC
Note that when MC is constant at Rs.10, AC would also be Rs.10. 1,000 – Q =10 Q
= 1000 – 10 = 990 units.
338. (c) Demand function of the monopolistically firm is given as Q = 1500 – 0.20P
0.20P
=
1500 – Q
P
=
7500 – 5Q
TR
=
7500Q – 5Q2
∴ MR
=
7500 – 10Q
TC
=
7500Q – 3Q2 – 0.02Q3
AC
=
7500 – 3Q – 0.02Q2
The long run equilibrium can be determined, when AC = AR 7500 – 3Q – 0.02a2
= 7500 – 5Q
– 3Q + 5Q – 0.02Q2 = 0 2Q – 0.02Q2
= 0
Q(2 – 0.02Q)
= 0
– 0.02Q
= –2
Q
= 100.
339. (c) FC
=
100
VC
=
2Q2 – 5Q
TC
=
100 + 2Q2 – 5Q
P
=
100 – Q
TR
=
100Q – Q2
Profit
=
TR – TC
=
100Q – Q2 – 100 – 2Q2 + 5Q
=
–3Q2 + 105Q – 100
=
3Q2 – 105Q + 100
Average profit = 3Q – 105 + 3Q2 – 105Q + 100 = 40Q 3Q2 – 65Q + 100 = 0
250
a
= 3
b
= – 65
c
= 100
100 = 40 Q
Part II
Q
=
− b ± b 2 − 4ac 2a
=
65 ± (−65) 2 − 4 × 3 × 100 2×3
=
65 ± 4225 − 1200 6
=
65 ± 55 6
∴Q =
65 + 55 120 = = 20 6 6
At Q = 20, P = 100 – 20 = Rs.80. 340. (c) The long run equilibrium of a monopolistically competitive firm is where P = LAC.
16000 – 8Q = 16000 – 14Q + 0.004Q2 0.004Q2 = 6Q 0.004Q = 6 or, Q = 1500 units. Optimum output is where the LAC is minimum. Min. LAC is where ∂LAC/∂Q = 0 –14 + 0.008Q = 0 Q = 14/0.008 = 1750 units. Excess capacity = 1750 – 1500 = 250 units.
Market Structure IV: Oligopoly 341. (b) The market demand curve is
P
= 100 – 0.5Q = 100 – 0.5(Q1 + Q2)
[Since it’s a duopoly Q = Q1 + Q2] Profits π of the duopolists are PQ – C
π 1 = PQ1 – C1 = [100 – 0.5 (Q1 + Q2)] Q1 – 5Q1 = 100Q1 − 0.5Q12 − 0.5Q1Q 2 − 5Q1 = 95Q1 − 0.5Q12 − 0.5Q1Q 2
π 2 = PQ2 – C2
= [100 − 0.5 (Q1 + Q 2 )]Q2 − 0.5Q 22 = 100Q 2 − 0.5Q1Q 2 − 0.5Q 22 − 0.5Q 22 = 100Q 2 − Q 22 − 0.5Q1Q 2 To maximize profits ∴
∂π =0 ∂C
∂π1 = 95 − Q1 − 0.5Q 2 = 0 ∂Q1 ∂π2 = 100 − 2Q 2 − 0.5Q1 = 0 ∂Q 2
251
Microeconomics
Q1
= 95 – 0.5Q2
Q2
= 50 – 0.25Q1 - - - -
---------
(1)
- - - - - (2)
By putting equations (2) in (1) Q1
= 95 – 0.5 [50 – 0.25Q1]
Q1
= 95 – 25+ 0.125Q1
0.875Q1 = 70 Q1
= 80 units
Q2
= 50 – (0.25 + 80) = 30 units
∴ Cournot’s equilibrium output for the industry Q = Q1 + Q2 = 110 units. 342. (b) Demand function is
P = 1,000 – Q Marginal Cost = (MC) = 0 If the market has been a perfectly competitive market, the output would have been 1,000 since MC = 0 Output in a Cournot’s duopoly when MC = 0 ⎛ n ⎞ Qn = Qc ⎜ ⎟ ⎝ n+1 ⎠
n = Number of firms in the industry Qc = output if the market had been a competitive one ⎛ 2 ⎞ ∴ Q2 = 1,000 ⎜ ⎟ = 666.67 units ⎝ 2+1 ⎠
Price (P2) = 1,000 – 666.67 = Rs. 333.33. 343. (b) Demand function is
P = 1,000 – Q Marginal Cost = (MC) = 0 If the market has been a perfectly competitive market, the output would have been 1,000 since MC = 0 Output in a Cournot’s duopoly when MC = 0 ⎛ n ⎞ Qn = Qc ⎜ ⎟ ⎝ n+1 ⎠
n = Number of firms in the industry Qc = output if the market had been a competitive one Since, n = 4 ∴Q4 = 1000 x 4/5 = 800 units
P4
= 1,000 – 800 = Rs.200.
344. (b) The market demand is
P = 100 – 0.5 (Q1 + Q2) Costs of the colluding firms are C1 = 5Q1 C2 = 0.5Q 22
252
Part II
The aim of the castle is profit maximization profit of the castle is π= π1 + π2 Therefore π
= P(Q1 + Q2) – C1 – C2 = [100 – 0.5(Q1 + Q2)] (Q1 + Q2) – 5Q1 – 0.5Q2 = 95Q1 − 100Q 2 − 0.5Q12 − Q 22 − Q1Q 2
To maximize profits ∂π = 95 − Q1 − Q 2 = 0 ∂Q1 ∂π = 100 − Q1 − 2Q 2 = 0 ∂Q 2
Solving for Q1 and Q2 Q1 = 90 units Q2 = 5 units ∴ Price = 100 – 0.5 (90 + 5) = Rs. 52.5 Industry (joint) profits are π = (95 x 90) + (100 x 5) – (0.5 x 902) – (5)2 – (90 x 5) = Rs. 4,525 Industry profits are (3,200 + 900) = Rs. 4,100. 345. (e) If the firm would the to maximize sales MR =0 ∴ 53 – 2Q = 0 Q = 26.5. 346. (c) The market demand for the product is P = 600 – Qs – Qm
The firm are assumed to act independently as in a Cournot model. That is, Sweta Ltd., believes that output by Moti Ltd., will remain constant and Moti Ltd., believes that output by Sweta Ltd will remain constant. With this assumption both the firms decide about their profit maximizing output independently by equating. Marginal Cost (MC) to Marginal Revenue (MR) Equilibrium output for Sweta Ltd., Sweta Ltd., can maximize profit by producing Qs where, MCs = MRs TCs = 25,000 + 100Qs MCs =
∂TCs = 100 ∂Qs
TRs = P x Qs = (600 – Qs – Qm) Qs = 600Qs – Q2s – Qs Qm MRs =
∂TR s = 600 – 2Qs – Qm ∂Qs
Therefore to maximize profit 100 = 600 – 2Qs – Qm 2Qs + Qm = 500
…(1)
Equilibrium output for Moti Ltd. 253
Microeconomics
TCm = 20,000 + 125Qm ∂TCm = 125 ∂Q m
MCm =
TRm = P x Qm = (600 – Qs – Qm)Qm 600Qm – QsQm – Q2m MR m =
∂TR m = 600 − Qs − 2Q m ∂Q m
Therefore to maximize profit MCm = MRm 125 = 600 – Qs – 2Qm Qs + 2Qm = 475
…(2)
Solving (1) and (2) (1) x 2 = 4Qs + 2Qm = 1000
…(3)
(2) x 1 = Qs + 2Qm = 475
…(4)
3Qs = 525 Subtracting (4) form (3) Qs
= 175 units
Qm = 150 units P
= 600 – 175 – 150 = Rs.275
Therefore price charged by both the firms P is 275 and profit maximizing outputs are Qs
= 175 units and
Qm = 150 units. 347. (b) Alpha Co., and Beta Co., are the two firms operating in a market. The cost functions of Alpha Co., and Beta Co., are CA = 10QA and CB = 0.5QB2. If the demand function of the industry is Q = 200 – 4P, what is the Cournot’s equilibrium output for the industry?
Q
= 200 – 4P
Or, 4P = 200 – Q Or, P = 50 – 0.25Q But, we know that Q = QA + QB Hence, P = 50 – 0.25QA – 0.25QB Thus, TRA = P x QA = QA(50 – 0.25QA – 0.25QB) Thus, TRA = 50QA – 0.25QA2 – 0.25QAQB Thus, MRA = 50 – 0.5QA – 0.25QB MRA = MCA 50 – 0.5QA – 0.25QB = 10 40 – 0.5QA
= 0.25QB
160 – 2QA
= QB
TRB = P x QB = QB(50 – 0.25QA – 0.25QB) TRB = 50QA – 0.25QB2 – 0.25QAQB MRB = 50 – 0.5QB – 0.25QA But, MRB = MCB 254
Part II
50 – 0.5QB – 0.25QA = QB 50 – 0.25QA = 1.5QB 50 – 0.25QA = 1.5(160 – 2QA) 50 – 0.25QA = 240 – 3QA 2.75QA = 190 QA = 69 QB = 160 – 2(69) = 22 Q = QA + QB = 69 + 22 = 91 units. 348. (d) Applying Cournot’s approach, the output of the industry consisting of one firm can be found out using the formula:
= Qp {n/(n + 1)}
Qn
where Qp is he output under perfect competition. Thus, 600
= Qp (1/2)
Qp
= 1200
Thus, if there are two firms, the output of the industry will be = 1200 (2/3) = 800 units. 349. (b) At equilibrium, MR1 = MC and MR2 = MC
P
= 1000 – Q1 – Q2
TR1 = (1000 – Q1 – Q2) Q1 = 1000Q1 – Q12 – Q1Q2 MR1 = 1000 – 2Q1 – Q2 At equilibrium, 1000 – 2Q2 – Q1 = 25 Similarly, MR2 = 1000 – 2Q2 – Q1 At equilibrium, 1000 – 2Q2 – Q1 = 25 (or) 2000 – 2Q1 – 4Q2 = 50 1000 – 2Q1 – Q2
=
25
2000 – 2Q1 – 4Q2
=
50
=
–25
(–)
(–)
(–)
1000
+ 3Q2
3Q2
= 975
Q2
= 325
Thus, Q1 = 325 Thus, Q 350. (b) Qn
= Q1 + Q2 = 325 × 2 = 650 units. = Qp{n/(n + 1)} = 2100 x 2/3 = 1400 units.
351. (a) By solving the reaction functions of the firms, the industry output can be derived.
Q1
=
380 – 2Q2
…(I)
Q2
=
200 – Q1
…(II)
Putting the equation (II) in (I) Q1
=
380 – 2 (200 – Q1) 255
Microeconomics
Q1
=
380 – 400 + 2Q1
– Q1 = – 20 or, Q1
= 20.
∴ Q2
= 200 – 20 = 180.
∴ The equilibrium output for the industry Q = Q1 + Q2 = 20 + 180 = 200.
P = 500 – 2(200) = Rs.100. 352. (c) MC = 20
Qd = 100 – P Qso = P – 20 Given the market demand curve and the aggregate supply curve of the smaller firms, the dominant firm can calculate its own demand curve. Supply of the dominant firm = Qs = 100 – P – (P – 20) = 100 – P – P + 20 Q = 120 – 2P. –2P
= Q – 120
2P
= 120 – Q
P
= 60 – 0.5Q
TR
= 60Q – 0.5Q2
MR
= 60 – Q
When the demand curve of the dominant firm is known, it will set its price by equating MR = MC. MR
= 60 – Q
60 – Q = 20 – Q = 20 – 60 Q = 40 When Q = 20, P = 60 – 0.5(40) = 60 – 20 = Rs.40. 353. (e) The concentration ratio is the percentage of total industry sales made by the four (or sometimes eight) largest firms of an industry.
∴ Eight-firm concentration ratio = 30 + 30 + 25 + 15 = 100%. 354. (e) Given, QR = 50 – 0.5QT and QT = 60 – QR
Thus, QT = 60 – (50 – 0.5 QT) QT
= 60 – 50 + 0.5 QT
0.5 QT
= 10
QT = 20 When QT = 20, QR = 50 – 0.5(20) = 40 Thus, Qn = 40 + 20 = 60 Qn = Qp (n/n+1) Where, Qp = Total output in perfect competition n = Number of competitive firms in the market Thus, 60 = Qp (2/3) Qp = 60 × 3/2 = 90.
256
Part III
Part III: Model Question Papers (with Suggested Answers) The model question paper consists of two parts – A and B. Part A is intended to test the conceptual understanding of the students. It contains around 40 multiple-choice questions carrying one point each. Part B contains problems with an aggregate weightage of 60 points. Students are requested to note that this is an indicative format of the question paper in general and that the ICFAI University reserves the right to change, at any time, the format and the pattern without any notice. Hence, the students are advised to use the model question papers for practice purposes only and not to develop any exam-related patterns out of these model question papers. The suggested answers given herein do not constitute the basis of evaluation of the students’ answers in the examination. These answers have been prepared by the faculty members of the ICFAI University with a view to assist the students in their studies. And, they may not be taken as the only answers for the questions given.
Model Question Paper I Time: 3 Hours
Total Points: 100 Part A: Basic Concepts (40 Points)
Answer all the questions. Each question carries one point. 1. When people have very little time to respond to price changes, demand becomes
2.
a.
More elastic
b.
Less elastic
c.
Unitary elastic
d.
Time does not affect price elasticity of demand
e.
Time affects price elasticity, but not in a predictable fashion.
3.
The average total cost will be minimum at a point where a. Marginal cost and average fixed cost curves intersect b. Marginal cost and average variable cost curves intersect c. Marginal cost and average cost curves intersect d. Marginal cost is minimum e. Average variable cost is minimum. Which of the following is true with respect to average fixed cost? a. It is a bell shaped curve. b. As the quantity increases it approaches zero. c. If the quantity is measured in fractions of units which approach zero, it approaches infinity. d. Both (a) and (b) above. e. Both (b) and (c) above.
4.
Which of the following is/are false? a.
Marginal cost is the slope of the total cost curve.
b.
Marginal cost is the ratio of the change in total cost to a unit change in the quantity.
c.
Marginal cost at a point could be measured by the slope of the tangent drawn at the point on the MC curve.
d.
Both (a) and (b) above.
e.
Both (b) and (c) above. 257
Microeconomics
5. Which of the following is false? a.
Short run is the period in which no costs are variable.
b.
Long run is the period in which all costs are variable.
c.
Fixed cost changes after a period of time.
d.
Total cost and variable cost differ by a constant amount.
e.
Capital costs are said to be fixed and materials costs, variable, in the short run.
6. Which of the following best describes substitution rule? a.
If the price of one factor input falls while prices of others do not change, the firms will lose if they do not substitute that factor input with any of the remaining factors.
b.
If the price of one factor input falls and the prices of other factor inputs do not change, the firms will profit by substituting the cheaper factor for all other factors.
c.
If the price of one factor input rises and the prices of other factor inputs do not change, the firms will profit by substituting the cheaper factors for all other factors.
d.
If the prices of all factor inputs rise except one, the firms will profit by substituting all other factor inputs with this factor input.
e.
None of the above.
7. Which of the following is/are true? a.
The total cost curve is bell shaped.
b.
Opportunity cost is the value of the good or service forgone.
c.
Economic costs include only the out-of-the-pocket costs.
d.
Both (a) and (c) above.
e.
Both (b) and (c) above.
8. If the quantity changes by 3% and the supply curve is unit elastic, the price changes by a.
3%
b.
1%
c.
6%
d.
–1%
e.
Quantity changes with respect to price and not price with respect to quantity.
9. Which of the following equations is correct in a monopoly, if the price elasticity of demand is e, price is P and the marginal revenue per unit is MR? a.
e = MR/P.
b.
e = P/MR.
c.
e = P/(P – MR).
d.
e = (P – MR)/P .
e.
e = MR/(P – MR).
10. Which of the following is false in a first degree price discrimination in a monopoly?
258
a.
The monopolist will be able to extract the entire consumers’ surplus.
b.
The price of each unit will be different.
c.
By following first degree price discrimination, the monopolist earns more than what he could otherwise earn at a single price per unit.
d.
The price of the first unit will be less than that of the subsequent units.
e.
It is another name for perfect price discrimination.
Part III
11. There is a popular belief that the reading habits of people cannot be easily changed over a period of time. Considering it to be true, the price elasticity of demand for newspapers should be a.
More than 1
b.
Less than 1
c.
Equal to 1
d.
Equal to zero
e.
Equal to infinity.
12. Which of the following statements is true? a.
Capital enhances the productivity of labor.
b.
Labor enhances the productivity of capital.
c.
An increase in the market wage rate for labor would induce firms to adopt more capitalintensive technologies.
d.
Most goods and services can be produced in a number of ways using alternative technologies.
e.
All of the above.
13. Which of the following is/are false with reference to a centralized cartel? i.
It exists in a monopolistic industry.
ii.
It is a cartel that makes decisions for its member firms.
iii.
It leads to monopoly.
iv.
It can exist even in a perfect competition also.
a.
Only (iv) above.
b.
Both (i) and (iii) above.
c.
Both (i) and (iv) above.
d.
Only (i), (ii) and (iv) above.
e.
Only (ii), (iii) and (iv) above.
14. Which of the following is true for a profit-maximizing monopolistic firm when the industry is in long run equilibrium? a. The firm can never produce at the lowest point on its long run average cost curve. b. The firm always produces at the lowest point on its long run average cost curve. c. The firm can sometimes produce at the lowest point on its long run average cost curve. d. It depends on its market share in the industry. e. It depends on the type of the product and the industry. 15. In a game theory, the ‘maximin’ strategy refers to a. Maximizing the pay-offs b. Minimizing losses c. Minimizing the maximum pay-off of the opponent d. Maximizing the minimum pay-off e. Maximizing the losses of the opponent. 16. In a game theory, the ‘minimax’ strategy refers to a. b. c. d. e.
Maximizing the pay-offs Minimizing losses Minimizing the maximum pay-off of the opponent Maximizing the minimum pay-off Maximizing the losses of the opponent.
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Microeconomics
17. A strictly determined game is one in which a.
The gains of one player equal the losses of another player
b.
The gains of one player will not equal the losses of another player
c.
The maximin equals minimax
d.
The maximin does not equal minimax
e.
No single player takes undue advantage.
18. In constant returns to scale, if the capital is increased by 8% and the land is held constant, the output a.
Increases by 8%
b.
Increases by more than 8%
c.
Increases by less than 8%
d.
Will be constant
e.
Will decrease.
19. In which of the following cases the price elasticity of demand will not be high? a.
Longer the time period.
b.
Higher the price of the product relative to one’s budget.
c.
Larger the number of substitutes.
d.
Larger the number of applications.
e.
Greater the extent to which the product is a luxury.
20. ‘Market period’ refers to a.
The period in which the producers of a good cannot change the quantity produced in response to a change in price
b.
The period in which the producers of a good can change the quantity produced in response to a change in price
c.
The time it takes for the market to attain equilibrium state
d.
The time it takes for the consumers to respond to a change in the price
e.
The time it takes to develop, produce and market a good.
21. A price ceiling refers to the a.
Maximum price a seller charges for a product/service
b.
The price at which the profits of the seller are maximized
c.
The legal price a seller may charge for a product/service
d.
The maximum price the consumers are affordable to pay
e.
The maximum price the consumers are willing to pay.
22. A producer will be in equilibrium when he
260
a.
Maximizes the income for a given total outlay
b.
Maximizes the output for a given total outlay
c.
Maximizes the profits for a given total outlay
d.
Minimizes the costs for a given total revenue
e.
Minimizes the expenditure for a given output.
Part III
23. The law of diminishing marginal utility indicates that a.
The usefulness of a good decreases if it is excessively consumed
b.
Since the life period of a good decreases as its usage increases, the satisfaction derived from it will diminish
c.
The gains in satisfaction will decline as successive units of a given product are consumed
d.
A goodwill cease to deliver utility beyond a certain time period
e.
All of the above.
24. Which of the following can be inferred from the utility maximizing rule? a.
A consumer must try to maximize his utility no matter what the price of the good is.
b.
Utility will be maximized when the largest possible amount of a good is consumed.
c.
As the price of a good decreases, the utility derived from it will increase.
d.
The consumer’s money income should be allocated in such a way that the last rupee spent on each product bought yields the same amount of marginal utility.
e.
A consumer maximizes the utility when he buys goods at low prices.
25. In which of the following units, satisfaction is measured sometimes? a.
Same as the units of the quantity purchased.
b.
Rupees.
c.
Utils.
d.
Kilograms.
e.
It is immeasurable since it is related to a person’s psychology.
26. In economic terms, the value of which of the following will increase more when labor productivity increases? a.
Money.
b.
Time.
c.
Food.
d.
Health.
e.
All commodities.
27. “Utility is maximized when the last rupee spent on each extra unit gives the same amount of extra satisfaction.” This statement is consistent with which of the following curves? a.
Demand curve.
b.
Supply curve.
c.
Isocost curve.
d.
Production possibility frontier.
e.
Isoquants.
28. An explicit cost can be defined as the a.
Payments to the non-owners of the firm for the resources they supply
b.
Money payments and the self-employed resources could have earned in their best alternative employment
c.
Costs which the firm incurs but does not disclose
d.
Costs which do not change over a period of time
e.
Costs which change in relation to a fixed change in the consumption.
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Microeconomics
29. In which of the following situation(s) productive efficiency occurs? i.
When a good is produced in a least costly way.
ii.
When the marginal product per rupee of each input is the same.
iii.
When the production takes place at the output where average total cost is at a minimum.
iv.
When the profits are at a maximum.
a. Only (i) above. b. Only (ii) above. c. Only (iii) above. d. Only (i), (ii) and (iii) above. e. All of (i), (ii), (iii) and (iv) above. 30. The elasticity of the long run supply curve for a constant cost industry will be a.
Greater than 1
b.
Less than 1
c.
Equal to 1
d.
Equal to zero
e.
Equal to infinity.
31. Which of the following conditions must be met to ensure that a firm has the ability to exercise price discrimination? a.
Perfect competition.
b.
The ability to differentiate between consumers.
c.
Market power.
d.
Consumers unable to resell the product.
e.
All of the above except (a).
32. If the demand curve for product B shifts to the right as the price of product A declines, it can be concluded that a.
A and B are substitutes
b.
A and B are complementary goods
c.
A and B are not related goods
d.
A is a superior and B an inferior good
e.
B is a superior and A an inferior good.
33. The difference between the total utility derived from the consumption of a good and the amount of money actually paid for it is called a. Marginal utility b. Average utility c. Consumer surplus d. Producer surplus e. None of the above. 34. When per capita income increase, proportion of income spent on good X increases. It implies that good X is
262
a.
A normal good
b.
An inferior good
c.
A Giffen good
d.
A necessity
e.
A luxury.
Part III
35. Which of the following is true of the average fixed cost curve? a.
It always declines as the output increases.
b.
It is U-shaped, if there are increasing returns to scale.
c.
It is U-shaped, if there are decreasing returns to scale.
d.
It intersects MC curve at the minimum point of the MC.
e.
None of the above.
36. The marginal revenue product is a.
The selling price of the last unit of output
b.
The incremental total revenue resulting from the use of an additional unit of input
c.
Used in determining marginal physical product
d.
Harder to determine in pure competition than in oligopoly
e.
Harder to determine in pure competition than in monopoly.
37. In monopolistic competition, marginal revenue is a.
Less than price
b.
Equal to price
c.
Greater than price
d.
Always greater than zero
e.
Both (c) and (d) above.
38. In which of the following cases will total revenue increase? a.
When demand is elastic and price rises.
b.
When demand is elastic and price decreases.
c.
When demand is inelastic and price decreases.
d.
When demand is perfectly elastic and price rises.
e.
When demand is unitary elastic and price decreases.
39. Which of the following is not true? a.
Two types of collusions under oligopoly are tacit, as in price leadership and explicit, as in cartel formation.
b.
An assumption made by the kinked demand curve analysis is, if a firm increases the price of its product others will probably ignore this.
c.
A situation of a few buyers is called oligopsony.
d.
Under oligopoly, equilibrium price is equal to marginal cost.
e.
Under oligopoly, the firms may produce standardized or differentiated products.
40. Total Utility is maximum when a.
Marginal utility is zero
b.
Marginal utility is at its maximum
c.
Average utility is maximum
d.
Average utility is zero
e.
None of the above.
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Microeconomics
Part B: Problems (60 Points) Solve all the problems. Points are indicated against each problem. 41. Demand and supply functions for rice are estimated as follows: Qd = 7 – P/3 Qs = 3 + P/3 Where, Q = Quantity in million tons P = Price in Rs. per kg What are the equilibrium price and quantity of rice? a. Rs.6 and 5mt. b. Rs.5 and 4mt. c. Rs.7 and 6mt. d. Rs.8 and 7mt. e. None of the above. (2 points) 42. The demand and supply functions for rice are Qd = 7 – P/3 and Qs = 3 + P/3 respectively. The government announces a Minimum Support Price (MSP) of Rs.7.5 per kg and would like to release rice to the market only through Food Corporation of India (FCI). Accordingly, FCI procures rice at the MSP and offloads the same at a price that clears the procured stock. What is the profit/loss to FCI because of this transaction? a. Loss Rs.1500 crore. b. Loss Rs.1550 crore. c. Loss Rs.1600 crore. d. Loss Rs.1650 crore. e. Loss Rs.1700 crore. (2 points) 43. Demand curve faced by a monopolist is P = 250 – Q. Cost function of the monopolist is C = 100 + 50Q. The maximum possible profit earned by the firm is a.
Rs.9,900
b.
Rs.9,950
c.
Rs.9,850
d.
Rs.9,800
e.
Rs.9,825. (2 points)
44. Bajaja Ltd., a monopolist, can effectively segment the market into two sub-markets with the demand functions: P1 = 300 – 2Q1 and P2 = 200 – 2Q2. If price discrimination is allowed, what is the maximum possible profit that can be earned by the monopolist a.
Rs.10,225
b.
Rs.10,500
c.
Rs.10,525
d.
Rs.10,350
e.
None of the above. (3 points)
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Part III
45. A firm uses two variable inputs Labor (L) and Raw material (M). At the current level of inputs, marginal productivities of the two inputs are MPL = 50 and MPM = 40. Current wage rate is Rs.40 and price of raw material is Rs.30 per unit. Is the firm operating efficiently? If current input combination is not efficient, what would you advise the firm? a.
No; to increase the input of raw materials.
b.
Yes.
c.
No; to increase the input of labor.
d.
No; to increase both raw materials and labor input.
e.
No; to decrease both raw material and labor input. (2 points)
46. In a perfectly competitive industry there are 100 firms with identical cost functions. The cost function is C = 10 + 0.1Q2 + Q and the market demand function is Qd = 4,000 – 400P. What is the maximum possible profit earned by the firm? a. Rs.100. b. Rs.80. c. Rs.60. d. Rs.30. e. None of the above. (3 points) 47. The industry demand and supply functions are Qs = 500P – 250 and Qd = 4000 – 400P. If the government gives a subsidy of 0.5 per unit, what is the proportion of the benefit of subsidy that is passed on to consumers? a. 60%. b. 58%. c. 56%. d. 54%. e. 52%. (2 points) 48. A firm faces the following average variable cost function. AVC = 200 – 9Q + 0.25Q2. Fixed costs are Rs.150. What is the minimum possible average variable cost? a. Rs.118. b. Rs.119. c. Rs.120. d. Rs.121. e. Rs.122. (2 points) 49. The average variable cost function of a manufacturing unit is AVC = 200 – 9Q + 0.25Q2. Fixed costs are Rs.150. What is the minimum possible marginal cost? a. Rs.92. b. Rs.93. c.
Rs.94.
d.
Rs.95.
e.
Rs.96. (2 points)
265
Microeconomics
50. Demand schedule of Product ‘X’ over last four years is: Year
Price of ‘X’ (PX)
Quantity purchased of ‘X’ (QX)
Real income (Rs.)
Price of related good ‘Y’ (PY)
1
0.95
200
11,000
0.65
2
1.10
100
11,000
0.65
3
1.10
190
11,500
0.65
4
1.10
200
11,500
0.90
What are the values of price, income and cross-elasticity coefficients (use Arc-elasticity)? a.
– 4.55, 13.97 and 0.159 respectively.
b.
– 3.45, 13.97 and 0.159 respectively.
c.
– 4.55, 12.95 and 0.122 respectively.
d.
– 3.45, 12.95 and 0.122 respectively.
e.
None of the above. (3 points)
51. Home Needs Ltd. produces two products Lam and Tom. The demand functions for these products are estimated as follows: Q1 = 100 – 4Pl Qt = 1500 – 20Pt Where, Q1 and Qt represent quantities demanded of the products Lam and Tom respectively and P1 and Pt represent price per unit of the products Lam and Tom respectively. Currently, Home Needs Ltd. sells the products at the prices P1 = 20 and Pt = 5. i.
What is the price elasticity of demand for Lam at current price?
ii.
What is the price elasticity of demand for Tom, if the price of tom is Rs.5?
a.
(i) –3 and (ii) – (1/14).
b.
(i) –4 and (ii) – (1/14).
c.
(i) –3 and (ii) – (1/15).
d.
(i) –4 and (ii) – (1/16).
e.
(i) –4 and (ii) – (1/15). (2 points) 1/2
1/2
52. Suppose that the production function of a firm is Q = 100L K and that k = 100, P = Re.1, W = Rs.50 and R = Rs.40. What should be the quantity of labor that the firm should hire in order to maximize its total profits? a.
80 units.
b.
90 units.
c.
100 units.
d.
110 units.
e.
120 units. (2 points)
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Part III
53. Racing Cycles Ltd. operates under conditions of perfect competition. The Total Cost (TC) function of the firm is estimated as follows: TC = 200 + 150Q – 20Q2 + Q3 Where, Q is quantity. What is the price below which the firm will be forced to shutdown its operations? a.
Rs.40.
b.
Rs.45.
c.
Rs.50.
d.
Rs.55.
e.
Rs.60. (2 points)
54. Beta, a shoe manufacturer, is operating in a perfectly competitive industry. The total cost function of Beta is estimated to be TC = 200 + 300Q – 40Q2 + Q3 Industry supply function for shoes is Qs = 100 + 2P. If profit maximizing output for Beta is 50 units, equilibrium output for the industry is a. 2,667 units b. 3,800 units c. 7,700 units d. 8,100 units e. 2,800 units. (2 points) 55. There are 100 firms, with identical cost functions, in a perfectly competitive industry. The demand function for the industry is estimated to be Qd = 2000 – 200P If the cost function of a firm is TC = 200 – 50Q + 2Q2, equilibrium price of the product is a. b. c. d. e.
Rs.9.93 Rs.3.33 Rs.16.35 Rs.14.98 Rs.18.10. (2 points)
56. The demand and supply functions for a product are Qd = 4200 – 100P Qs = 3000 + 20P If the government imposes a specific tax of Rs.10 per unit, new equilibrium price of the product would be a.
Rs.11.67
b.
Rs.20.00
c.
Rs.12.32
d.
Rs. 8.33
e.
Rs.18.33. (2 points) 267
Microeconomics
57. Vinod has a monthly income of Rs.340. Being an addict to fruit juices, he spends all his income on Apple, Mango and Orange juices. The prevailing prices of Apple, Mango and Orange juices are Rs.20, Rs.40 and Rs.50 per bottle, respectively. The total utility schedule of Vinod is given below: Bottles Consumed
Total Utility (Utils) Apple Juice
Mango Juice
Orange Juice
1
140
170
320
2
260
330
580
3
340
420
820
4
410
500
1020
5
460
570
1180
6
500
630
1300
7 520 670 The maximum total utility Mr. Vinod can attain is
1360
a.
1,160 utils
b.
1,690 utils
c.
1,580 utils
d.
1,910 utils
e.
2,550 utils. (3 points)
58. The demand function for Delco Communications’ cell phones is estimated to be Q = 23500 – 10P + 5 Pc + 2.5I + 0.5A Where, Q = Demand for Delco cell phones per year (in units) P = Price of each Delco cell phone (Current price is Rs.5,000) Pc = Price of each cell phone sold by the competitor company (Current price is Rs.4,500) I = Per capita income of the country (Current income is Rs.10,000) A = Promotional expenditure made by Delco (Current expenditure is Rs.8,000) The price elasticity of demand for Delco is a. – 2 b. 0.9 c. –1 d. –3 e. 1. (1 point) 59. The cost and profit functions of a firm are TC = 200 + 10Q Profit = – 10Q2 + 200Q – 200 If the firm aims at maximizing total revenue, the output should be a. b. c. d. e.
10.0 units 9.5 units 10.5 units 6.3 units 19.0 units. (2 points)
268
Part III
60. The production function of Ramco Ltd. is Q = 200L0.5K0.5. The current wages (w) and cost of capital (r) are Rs.50 and Rs.25, respectively. Market price of the good produced by the company is Rs.5. If Ramco Ltd. is currently using 100 units of capital (K) the quantity of labor that the firm should use to maximize its total profit is a.
10,000 units
b.
500 units
c.
5,000 units
d.
25,000 units
e.
1,000 units. (2 points)
61. Zenith Bros. is a pioneer in manufacturing of luxury soaps. The demand function faced by Zenith Bros. is estimated to be P = 16000 – 8Q. The long run average cost function of the firm is LAC = 16000 – 14Q + 0.004Q2. Assuming that Zenith Bros. operate under a monopolistically competitive market, the excess capacity of the firm at long run equilibrium is a.
1,750 units
b.
1,900 units
c.
250 units
d.
350 units
e.
1,500 units. (3 points)
62. Total cost of production for a firm to produce 100 units is Rs.1,500 and to produce 150 units it is Rs.2,000. Assuming the average variable cost to be constant, fixed cost for the firm is a.
Rs.100
b.
Rs.500
c.
Rs.1,000
d.
Rs.1,500
e.
Insufficient data. (1 point) 2
3
63. The short run production function of a firm is estimated to be Q = 18L – L . The output is sold at a price of Rs.8 per unit and the wage rate is Rs.40 per unit of labor. If the firm is a rational entity, it would employ labor in the range of a.
0 to 6
b.
0 to 9
c.
6 to 9
d.
6 to 12
e.
9 to 12. (3 points)
269
Microeconomics
64. In an industry, there are only three consumers – A, B and C and three firms – X, Y and Z. The demand functions for the three consumers are: QA = 130 – 0.2P QB = 50 – 0.4P B
QC = 70 – 0.4P – 0.05P2 P
The supply functions for the three firms are: QX = 100 + 0.5P QY = 50 + 0.5P QZ = 50 + 1.5P + 0.1P2 P
The equilibrium price of the product is a.
Rs.10.00
b.
Rs.15.00
c.
Rs.5.00
d.
Rs.3.33
e.
Rs.33.33. (2 points)
65. A consumer consumes three units of a product. Marginal utilities derived from the three units are Rs.200, Rs.175 and Rs.150, respectively. If the price of the good is Rs.100 per unit, the consumer surplus is a. Rs.50 b. Rs.75 c. Rs.100 d. Rs.225 e. Rs.525. (1 point) 66. Ampro is a monopolist operating in two distinct markets – A and B. The cost of producing one unit of the product is constant at Rs.10. At profit maximizing prices, the absolute price elasticities of demand in the markets A and B are 2 and 5, respectively. The absolute value of slopes of the demand curves in markets A and B are 1 and 0.5, respectively. If Ampro is maximizing profit, total output is a. 5 units b. 15 units c.
20 units
d.
12.5 units
e.
10 units. (3 points)
67. The demand function for a product is P = 20 – 2Q. If the current market price is Rs.10, what is the price elasticity of demand? a.
–1.
b.
–2.
c.
1.5.
d.
–3.
e.
None of the above. (1 point)
270
Part III
68. The Total Cost (TC) schedule of a firm is Output (Units)
TC (Rs.)
1
100
2
150
3
190
4
250
5 Marginal cost of the third unit is a.
Rs.30
b.
Rs.40
c.
Rs.150
d.
Rs.60
e.
Rs.190.
340
(1 point) 69. The demand and supply functions of a product are given by Supply function : P = 0.2Qs – 20 Demand function : P = 40 – 0.1Qd If the government enforces a price floor of Rs.10 for the product a.
Excess supply of the product will be 150
b.
Excess supply of the product will be 300
c.
Shortage of the product will be 150
d.
Shortage of the product will be 300
e.
Price floor will not have any affect on the market. (1 point)
70. A firm has a production function of the form Q = K + 2L, where Q is output, K is the capital input and L is the labor input. If both wage rate and cost of capital are equal to Rs.100 per unit, the cost minimizing output a.
Is achieved by producing at any point along the isoquant
b.
Is achieved by using labor input only
c.
Is achieved by using the capital input only
d.
Is impossible to achieve
e.
Is achieved by using labor and capital in equal amounts. (1 point)
271
Model Question Paper I Suggested Answers Part A: Basic Concepts 1. (b) The time frame allowed for the consumers to respond to price changes is one of the factor determining the price elasticity of a good. In the long run, demand becomes more elastic, because customers have more time to find substitutes and adjust their consumption patterns. 2. (c) Marginal cost curve intersects the average total cost curve at its minimum point. So, the average total cost would be minimum when MC and AC curves intersect. 3. (e) The average fixed cost curve is a monotonically decreasing function of the level of output. Since the total fixed cost is constant, the AFC falls with every increase of output. Consequently, the shape of the AFC turns out to be rectangular hyperbola. It approaches zero TFC when output increases. When output is zero, AFC = =∞ ∂ 4. (c) Marginal cost at a point could be measured by the slope of the tangent drawn at the point on the TC curve. 5. (a) Short run is a period during which one of the factors of production is considered to be constant and the others are variable. Usually, it is assumed that the capital is fixed in the short run. 6. (b) The reduction of costs by substituting the cheaper factor to the other factors is called the substitution rule. 7. (b) The opportunity cost of a resource can be defined as the value of the resource in its next best use, that is, if it were not being used for the present purpose. The total cost curve is not bell shaped. It reflects the law of diminishing marginal returns. 8. (a) Elasticity of supply = % change in the quantity supplied/% change in the price. Since the supply is unit elastic 1 = 3/% change in price % change in price = 3/1 = 3. 9. (c) The relation between the marginal revenue and the price elasticity can be given by MR = P {1 – 1/e} 1 – 1/e = MR/P 1/e = 1 – MR/P; e = P/(P – MR). 10. (d) First degree price discrimination involves charging the maximum possible price for each unit of output. The monopolist charges higher price for the first unit because the first unit gives higher marginal utility than subsequent units and hence consumers would be willing to pay more for the first unit. 11. (b) Because, the reading habits of the people can only be changed slowly, the effect on the demand for newspapers changes in less proportion to the change in price. (i.e., elasticity is less than one.) 12. (e) All the statements are true. As one input is increased by keeping the other input constant, productivity of the fixed inputs increases. If price of one factor input increases, producers tend to substitute relatively less expensive inputs for this input.
272
Part III
13. (b) Cartels imply direct agreement among the competing oligopolists. They appoint a central agency and delegate the authority to the central agency to decide on the total quantity, price and allocation of production among the members. Cartels do not exist in perfect competition or monopolistic competition as there will be very large number of sellers. 14. (a) Although prices equal average costs in the long run equilibrium under monopolistic competition, they do not equal the minimum possible average cost. 15. (d) Maximin strategy specifies that each player in the game will select the option that maximizes the minimum possible profit or other desirable outcome. 16. (c) If the player selects an option so as to minimize his pessimistic pay-offs, it is referred to as minimax strategy. 17. (c) At equilibrium, where maximin equals mini-max if one of the two firms plays its minimax (maxi-min) strategy, the other is motivated to employ its maxi-min(mini-max) strategy in order to achieve its largest market share. So, the game is strictly determined at equilibrium point where the maxi-min equals minimax. 18. (c) If the output increases by the same proportion as the inputs. We call it as constant returns to scale. But here the land is held constant, hence, if the capital is increased by 8%, the output should increase less than 8%. 19. (d) Greater the time lapse since a price change the more elastic is the demand. Higher the proportion of the income spent on a good, the greater is the price elasticity of demand, the closer the substitutes for a good or a service, the more elastic is the demand for it. Luxuries are goods that usually have many substitutes and so have elastic demands. The larger number of applications of a good makes the elasticity of demand for the good less elastic. 20. (a) Marketperiod is also referred to as very short run period. It is the period in which the producers cannot change the supply of a good in response to the price changes. 21. (c) Price ceiling is the legally established maximum price that sellers may charge. 22. (b) The production function of a firm can be given as Q = f(L,K). The firm will be in equilibrium when it maximizes the output given its total cost outlay. 23. (c) The Law of Diminishing Marginal Utility states that, as the consumption of a commodity is increased the marginal utility derived from consuming more of that commodity will decline. So, the gains in satisfaction will decline as successive units of a given product are consumed. 24. (d) The utility maximizing rule states that, given the income of the consumer and the market prices of the goods, the marginal utility of the last rupee spent on each good should be same if the consumer wants to maximize his total utility. MU1/P1 = MU2/P2 = MU3/P3 = ........... = MUn/Pn = MUm 25. (c) According to the cardinalist approaches, utility can be measured in subjective units, like utils. 26. (b) Labor productivity is the average output produced by a worker during a specific time period. It is usually measured in terms of output per hour worked. So, if the labor productivity increases, the value of labor time increases. 27. (a) It is known that when the price of the good falls, the consumer buys more of the good so as to equate the marginal utility to the lower price. It follows therefore that the quantity demanded of a good varies inversely with the price; the quantity rises when the price falls and vice versa, other things remaining the same. The law of demand is derived from the law of diminishing marginal utility. Since, the given statement explains about the utility maximizing rule it is consistent with the demand curve. 273
Microeconomics
28. (a) Explicit costs are the payments made by a firm towards purchase of productive resources. 29. (d) A situation is defined as efficient if it is impossible to make any one better off without making someone worse off. Efficient production takes place when marginal cost of producing the commodity is equal to marginal benefit of consuming it. At this level, the average total cost is minimum. 30. (e) Constant cost industry is the one for which factor prices and costs of production remain constant as market output is expanded. Thus, the long run supply curve would be horizontal. For a horizontal line elasticity is equal to infinity. 31. (e) Perfect competition prevails when the following conditions are fulfilled: i. Large number of buyers and sellers. ii. All the firms produce identical product. iii. Perfect knowledge on the part of buyers and sellers regarding market prices. iv. Freedom of entry and exit for all the firms. v. Absence of transport costs. vi. Perfect mobility of the factors of production. The above conditions ensure that a single price prevails throughout the market. Hence, price discrimination is not possible under perfect competition. All other conditions are required for price discrimination. Hence, correct answer is (e). 32. (b) If goods A and B are substitutes, as the price of A decreases, demand for B will decrease. Hence, demand curve for B will shift to the left. If goods A and B are complementary goods, both are consumed together. If price of ‘A’ decreases, quantity demanded of A increases which is in turn induces consumption of B. Hence, the demand curve of B will shift to the right. If A and B are not related, demand curve of B will not be influenced by change in price of A. 33. (c) Utility derived from consumption of last unit is marginal utility. Average utility is utility per unit of consumption. Producer surplus is the difference between the price a producer gets and the price at which he is willing to sell the product. Consumer surplus is the difference between what the consumer is willing to pay, i.e., total utility derived and what he actually pays. 34. (e) For good X, income elasticity of demand (eI) > 1 since proportion of income spent on the good increase as income increases. Based on income elasticity, a good can be classified as an inferior (eI < 0), or normal good (eI > 0). A normal good can further be classified as a necessity (0 < eI < 1), or a luxury (eI > 1). Based on this classification, good ‘X’ is a luxury. Though good X is a normal good, more appropriate answer would be (e). 35. (a) AFC =
FC . As Q increases, AFC always declines. Other options are not true. Q
36. (b) The additional revenue generated by employing one more unit of impact is Marginal Revenue Product (MRP). MRP = MP × P, if the product is sold at a constant price. 37. (a) In imperfect competition, the demand curve is downward sloping where the marginal revenue curve bisects the y-axis and the demand curve and hence MR < P. % ΔQ > 1. 38. (b) When the demand is elastic, e p = % ΔP ∴
%ΔQ > %ΔP % Δ TR = % Δ Q + % Δ P (approximately)
∴
For a decrease in price, TR will increase as % Δ Q > % Δ P if ep > 1.
39. (d) When the demand curve is downward sloping MR < P. To maximize profit, the firm equates MR to MC. Therefore, under oligopoly P > MC. All other options are true. 274
Part III
∂TU = MU = 0. When MU or AU is maximum, ∂Q the TU will not be maximum. When AU is zero TU is also Zero.
40. (a) Total Utility (TU) will be maximum when
Part B: Problems 41. (a) At equilibrium, Qd = Qs 7–
P 3
=3+
P 3
2P
=4 3 P = Rs.6 kg Q = 5 mt Hence, the answer is (a). 7.5
42. (d) If MSP is Rs.7.5 kg Qs = 3 +
3
= 5.5 mt
Procurement cost for FCI = Rs.(7.5 x 1000) x 5.5 ml. (1 million = 10,00,000) = Rs.4125 crore If FCI would like to dispose of this stock, the price should be, P
5.5 = 7 – P
3
= Rs.4.5 kg
If FCI sell 5.5 ml @ Rs.4.5 kg so as to sell all the stock procured Total revenue = Rs.(5.5 × 1000) × 4.5 ml = Rs.2475 crore Loss for FCI on this transaction = Rs.(4125 – 2475) cr. = Rs.1650 crore. 43. (a) Demand function P = 250 – Q TR = PQ = 250Q – Q2 MR =
∂TR ∂Q
= 250 – 2Q
Cost function TC = 100 + 50Q MC =
∂TC = 50 ∂Q
To maximize profit MR = MC ∴ 250 – 2Q = 50 Q = 100 P = 250 – 100 = 150 Profit of the non-discriminating monopolist = TR – TC = (100 x 150) – (100 + 50 x 100) = Rs.9,900. 275
Microeconomics
44. (c) With price discrimination, P1
= 300 – 2Q1
TR1
= 300Q1 – 2Q12 ∂TR 1
MR1 =
∂Q1
= 300 – 4Q1
P2
= 200 – 2Q2
TR2
= 200Q2 – 2Q 2
2
∂TR 2
MR2 =
∂Q 2
= 200 – 4Q2
To maximize profits, the discriminating monopolist should equate MR1= MC and MR2 = MC. ∴
300 – 4Q1 = 50 Q1 = 62.5 200 – 4Q2 = 50 Q2 = 37.5 Prices in the sub-markets are P1 = 300 – (2 x 62.5) = 175 P2 = 200 – (2 x 37.5) = 125 Q1 = 62.5; P1 = 175 Q2 = 37.5; P2 = 125 Profit of the discriminating monopolist =
(TR1 + TR2) – TC
=
(62.5 x 175 + 37.5 x 125) – 5100 = Rs.10,525.
45. (a) To operate efficiently, the firm should equalize the MP of last rupee spent on all inputs. That is,
MP
1
P
=
MP
1
2
P
= …………=
MPn Pn
2
MP
L
∴ To ensure efficiency MP
L
W
=
50 40
= 1.25,
W
MP
M
P
M
=
=
MP
M
P
M
40 30
= 1.33
The firm is not operating efficiently since
MP
L
W
≠
MP
M
P
M
It is advisable for the firm to increase the input of raw materials since
MP
L
W
>
MP
M
P
. By
M
increasing input of raw materials, MPM will decline and MPL will increase and equilibrium can be restored.
276
Part III
46. (d) Cost functions, C = 10 + 0.1Q2 + Q
MC =
∂C
= 0.2Q + 1
∂Q
In a perfectly competitive market, supply curve of a firm is nothing but MC curve above AVC. Therefore, Supply curve of a firm is MC =
0.2Q + 1 = P
P
=
0.2Q + 1
Q
=
5P – 5
Since there are 100 firms in the industry, industry supply function is Qs
=
100Q
=
100(5P – 5) = 500P – 500
Equilibrium for the industry is where Qs = Qd ∴
500P – 500 900P P
= 4000 – 400P = 4500 = 5
Under perfect competition all the firms are price takers and marginal revenue of the firm is equal to industry equilibrium price. To maximize profits, a firm should equate MC to MR. ∴ 0.2Q + 1 = 5 Q=
4 0.2
= 20
∴ Profit maximizing output for a firm is 20. Profit for a firm is = TR – TC = PQ – (10 + 0.1Q2 + Q) = (5 x 20) – [10 + (0.1 x 202) + 20] = Rs.30. 47. (c) The buyers and sellers share the subsidy in the ratio of Es and Ed respectively. The price elasticity of supply = ∂Qs/∂P x P/Qs = 500 (P/Qs) The absolute price elasticity of demand = ∂Qd/∂P x P/Qd = 400 (P/Qd) Since at equilibrium, Qs = Qd, the ratio of Es and Ed = 500:400 or 5:4. Thus, the buyers’ share of subsidy is 0.5 x 5/9 = 0.28. Hence, the proportion of benefit of subsidy passed onto the consumers = 0.28/0.5 = 56%. 48. (b) AVC = 200 – 9Q + 0.25Q2
Minimum possible AVC is where ∂AVC ∂Q
∂AVC ∂Q
=0
= –9 + 0.50Q
∴ –9 + 0.50Q = 0 Q = 18 AVC = 200 – (9 x 18) + (0.25 x 182) = Rs.119. 277
Microeconomics
49. (a) AVC = 200 – 9Q + 0.25Q2 VC = Q x AVC = 200Q – 9Q2 + 0.25Q3; Fixed cost = 150 ∴ TC = FC + VC = 150 + 200Q – 9Q2 + 0.25Q3
MC =
∂TC ∂Q
= 200 – 18Q + 0.75Q2
Minimum possible MC is where ∂MC ∂Q ∂MC ∂Q
=0 = –18 + 1.5Q
∴ –18 + 1.5Q = 0 Q = 12 MC = 200 – (18 x 12) + (0.75 x 122) = Rs.92. P +P ΔQ 50. (a) Arc price elasticity (ep) = x 1 2 ΔP Q1 + Q2 For Product ‘X’ P1 = 0.95; P2 = 1.10; ΔP = 0.15; ∴ ep =
−100 0.15
Q1 = 200 Q2 = 100 ΔQ = 100 x
(0.95 + 1.10) (200 + 100)
= – 4.55 Arc income elasticity (eI) = I1 = 11,000; I2 = 11,500; ΔI = 500; ∴ eI =
ΔQ ΔI
x
I +I 1
Q +Q 1
Q1 = 100 Q2 = 190 ΔQ = 90
90 (11,000 + 11,500) x 500 (100 + 190)
= 13.97 Arc Cross elasticity (eXY) =
(P + P2Y ) ΔQx x IY ΔPy (Q1X + Q 2X )
P1Y = 0.65;
Q1X = 190
P2Y = 0.90;
Q2X = 200
ΔP = 0.25; Y
ΔQX = 10
∴ eXY
=
10 0.25
x
= 0.159. 278
2
(0.65 + 0.90) (190 + 200)
2
Part III
51. (b) Price elasticity of demand
Ed =
∂Q P × ∂P Q
Product Lam: Given the demand function Ql = 100 – 4Pl At Pl = 20, Ql = 100 – (4 x 20) = 20 ∂Q1 =–4 ∂P1
Ed
=–4x
20
=–4 20 Since the absolute value of Ed is > 1, demand is elastic. Product Tom: Qt = 1500 – 20Pt At Pt = 5, Qt = 1500 – (20 x 5) = 1400 ∂Q t = –20 ∂Pt
5 1 =− 1400 14 Since the absolute value of Ed is < 1, demand is inelastic. Ed
= –20 x
52. (c) Substituting the value of K (K = 100) we have,
Q = 100L1/2 x 1001/2 = 100 x 10 x L1/2 = 1000L1/2 Then, we find the equation of MP of labor (MPL). MPL = ∂Q/∂L = ∂(1000L1/2)/∂L = 500L–1/2 To maximize profits the firm should hire labor until MRPL = w. Since P = MR = Re.1, we have MRPL = MR x MPL = Re.1 x 500L–1/2 = Rs.50 = w. Then, L = (500/50)2 = 100 units. 53. (c) The firm will be forced to shutdown its operations if the price is less than the minimum average variable cost.
From the total cost function TC = 200 + 150Q – 20Q2 + Q3 Marginal cost is the first derivative of the total cost function MC =
d(TC) = 150 – 40Q + 3Q2 dQ
From the total cost function, total variable cost function can be derived as TVC = 150Q – 20Q2 + Q3 TVC Average variable cost = Q =
150Q − 20Q 2 + Q 3 Q
= 150 – 20Q + Q2 279
Microeconomics
Since the average variable cost will be minimum at its intersection with marginal cost, the minimum average variable cost is where, AVC = MC ∴150 – 20Q + Q2 = 150 – 40Q + 3Q2 150 – 20Q + Q2 – 150 + 40Q – 3Q2 = 0 20Q – 2Q2 = 0 2Q(10 – Q) = 0 Which has the roots Q = 0 and 10. Disregarding the root associated with a zero output, the average variable cost is minimum at an input of 10 units. AVC = 150 – 20(10) + 102 = 150 – 200 + 100 = Rs.50 Thus, it is not viable for the firm to produce output at any price less than Rs.50. 54. (c) To maximize profits, a perfectly competitive firm produces an output where P = MC
MC =
∂TC = 300 – 80Q + 3Q2 ∂Q
P = 300 – 80Q + 3Q2, where Q = 50 units (given) Hence, P = 300 – 80(50) + 3(50)2 = 300 – 4000 + 7500 = 3800 Thus, total industrial production is equal to (100 + 2 x 3800) = 7,700 units. 55. (b) For a firm operating in a perfectly competitive industry, the MC curve above the AVC curve is the supply curve of the firm.
MC =
∂TC = – 50 + 4Q = P ∂Q
Or, 4Q = P + 50 Or, Q = 0.25P + 12.5 There are 100 firms, hence Qs = 100 x Q = 25P + 1250 Equilibrium price is where Qs = Qd 25P + 1250 = 2000 – 200P Or, 225P = 750 Or, P = Rs.3.33. 56. (a) When a specific tax is imposed, the tax burden is shared by the buyers and sellers in the ratio of there opposite elasticities of price i.e., B:S ::: Es:Ed.
Ed =
∂Q P P x = – 100 x ∂P Q Q
Es =
∂Q P P x = 20 x ∂P Q Q
Taking the absolute figures, the ratio of Es:Ed ::: 20:100 Or, 1:5 Burden on buyers = 10 x 1/6 = 1.67 Equilibrium price before imposition of tax: 3000 +20P = 4200 – 100P 280
Part III
or, 120P = 1200 P = 10. Equilibrium price after imposition of tax: = 10 + 1.67 = 11.67. Alternatively, when tax is imposed, the supply function becomes Qs = 3000 + 20(P – 10) Thus, at equilibrium, 3000 + 20 (P – 10) = 4200 – 100P 4200 – 3000 + 200 =120P or, P = 1400/120 = Rs.11.67. 57. (b) Maximum utility can be achieved by the consumer by allocating his spending in such a way that MU per one rupee spent on each good should be same. From the table MU/P = 4.00 is common for all juices. Hence, Mr. Vinod should consume 3 bottles of apple juice, 2 bottles of mango juice and 4 bottles of orange juice. Thus, total utility = 340 + 330 + 1020 = 1690. Apple Juice Mango Juice Orange Juice Consumption MU MU/P MU MU/P MU MU/P 1 140 7.0 170 4.25 320 6.4 2 120 6.0 160 4.00 260 5.2 3 80 4.0 90 2.25 240 4.8 4 70 3.5 80 2.00 200 4.0 5 50 2.5 70 1.75 160 3.2 6 40 2.0 60 1.50 120 2.4 7 20 1.0 40 1.00 60 1.2 58. (a) At current market prices, Q = 23500 – 10(5,000) + 5(4,500) + 2.5(10,000) + 0.5(8,000) = 25,000.
Thus, price elasticity of demand (Ep) =
∂Q P ⎛ 5, 000 ⎞ x = −10 ⎜ ⎟ = –2 ∂P Q ⎝ 25, 000 ⎠
59. (c) Revenue = Profits + Total Cost
= – 10Q2 + 200Q – 200 + (200 + 10Q) = – 10Q2 + 210Q Revenue will be maximum, when
∂R =0 ∂Q
∂R = – 20Q + 210 = 0 ∂Q Or, Q =
210 = 10.5 units. 20
60. (a) Substituting the value of K (K = 100) we get 200 L0.5 (100)0.5 = 2000 L0.5.
To maximize profits, the firm should hire labor until MRPL = W. Since, P = MR = Rs.5, we have MRPL = MR x MPL = 5 x 1000/L0.5 5000/L0.5 = 50 100 = L0.5 or, L
= 10,000 units.
61. (c) The long run equilibrium of a monopolistically competitive firm is where P = LAC.
16000 – 8Q 2
= 16000 – 14Q + 0.004Q2
or, 0.004Q
= 6Q
or, 0.004Q
= 6
or, Q
= 1,500 units. 281
Microeconomics
Optimum output is where the LAC is minimum. Minimum LAC is where
∂LAC =0 ∂Q
– 14 + 0.008Q = 0 Or, Q = 14/0.008 = 1750 units. Excess capacity = 1750 – 1500 = 250 units.
ΔTC 500 62. (b) AVC = ΔQ = 50 = 10 TVC where Q = 100 is 10 × 100 = 1000 FC = TC – TVC = 1500 – 1000 = Rs.500. 63. (e) First stage of production function ends when APL is highest and second stage ends when MPL = 0. APL is highest when APL = MPL.
Q = 18L2 – L3 APL =
Q = 18L – L2 L
MPL =
∂Q = 36L – 3L2 ∂L
By equating APL and MPL, 18L – L2 = 36L – 3L2 2L2 = 18L Or, L = 9 Thus, first stage of production is over the range of labor input 0 to 9. At the end of the second stage of production function, MPL = 0 36L – 3L2 = 0 Or, L = 12. Thus, the second stage of production function is over the range of labor input 9 < L < 12. A rational firm would operate only in the second stage of production function. This is because of increasing APL in the first stage and negative MPL in the third stage. 64. (a) Demand for the industry = (130 – 0.2P) + (50 – 0.4P) + (70 – 0.4P – 0.05P2) = 250 – P – 0.05P2 P
2
P
Supply of the industry = (100 + 0.5P) + (50 + 0.5P) + (50 + 1.5P + 0.1P ) = 200 + 2.5P + 0.1P2 At equilibrium Qd = Qs 250 – P – 0.05P2 = 200 + 2.5P + 0.1P2 P
P
2
Or, 50 – 3.5P – 0.15P = 0 P
This is a quadratic equation in the form of ax2 + bx + c = 0 Where, x = [–b ± b 2 − 4ac ]/2a Thus, P = – 33.33 (or) 10. Since, price cannot be negative, equilibrium price = Rs.10. 65. (d) Consumer surplus = (200 – 100) + (175 – 100) + (150 – 100) = Rs.225.
282
Part III
66. (b) A monopolist maximizes his profits when MC = MR.
MR = P (1 – 1/|ep|) Thus, for market A. the profit maximizing condition is MC = MRA 10 = MRA = PA (1 – 1/2) = 0.5P or, PA = 20 Similarly, for market B, the profit maximizing condition is where MRB = MC = PB (1 – 1/|ep|): B
B
10 = MRB = PB (1 – 1/5) = 0.8P B
B
or, PB = 12.5 B
Price elasticity of demand (Ep) = Thus, for market
∂Q P 1 x = ∂P Q Slope of the demand curve
×
P Q
A :1 =2 1 x 20 Q
or, Q = 10 For market
B :1 =5 0.5 x 12.5 Q
or, Q = 5 Thus, the profit maximizing output for the firm is 10 + 5 = 15 units. 67. (a) Price elasticity of demand =
∂Q P x ∂P Q
Given P = 10 Demand function: P = 20 – 2Q or, 2Q = 20 – P or, Q = 10 – 0.5P Thus,
∂Q P −0.5 x 10 x =– = –1. ∂P Q 5
68. (b) Marginal cost = Change in the total cost as a result of producing one additional unit of output. Thus, marginal cost of producing third unit is equal to total cost of producing three units ‘minus’ total cost of producing two units = 190 – 150 = Rs.40. 69. (e) Equilibrium price is where Qd = Qs
0.2Qs or, Qs 0.1Qd or, Qd
= = = =
P + 20 5P + 100 40 – P 400 – 10P
At equilibrium, 5P + 100 = 400 – 10P 15P P
= 300 = 300/15 = 20
When price floor is less than the equilibrium price, it will not have any affect on the market.
283
Microeconomics
70. (b) To operate efficiently, the firm has to allocate the budget such that
MPL =
∂TPL =2 ∂Q
MPK =
∂TPK =1 ∂Q
Thus,
MPL 2 = 0.02 = w 100
And,
MPL 1 = 0.01. = w 100
MPL MPK = w r
MPK MPL , it is clear that the marginal productivity of labor for one rupee is more than w r is more than that of capital. Hence, the firm can produce cost minimizing output by using labor input.
As
284
Model Question Paper II Time: 3 Hours
Total Points: 100 Part A: Basic Concepts (40 Points)
Answer all the questions. Each question carries one point. 1.
2.
3.
4.
5.
If the quantity changes by 4% and the demand curve is inelastic, the price changes by a.
1%
b.
2%
c.
3%
d.
4%
e.
More than 4%.
A saddle point in game theory refers to a.
A point after which no player gets any profits irrespective of his/her strategy
b.
A point after which no player gets any losses irrespective of his/her opponent’s strategy
c.
The solution or outcome of a strictly determined game
d.
It is another name for dominant equilibrium
e.
It is another name for Nash equilibrium.
A zero sum game is one in which a.
The gains of one player equal the losses of another player
b.
The gains of one player will not equal the losses of another player
c.
The maximin equals minimax
d.
The maximin does not equal minimax
e.
The Nash equilibrium and the dominant equilibrium are the same.
If land and capital are the only inputs and if both are increased by 11% in decreasing returns to scale, the output a.
Decreases by 11%
b.
Increases by less than 11%
c.
Decreases by more than 11%
d.
Remains unchanged
e.
Decreases by less than 11%.
Which of the following is not true with regard to market period? i.
Perfect inelasticity of supply.
ii.
Perfect inelasticity of demand.
iii.
All resources are fixed resources.
iv.
Equilibrium between supply and demand.
a.
Both (i) and (iii) above.
b.
Both (ii) and (iv) above.
c.
Both (i) and (iv) above.
d.
Only (i), (ii) and (iii) above.
e.
Only (ii), (iii) and (iv) above. 285
Microeconomics
6. ‘Short run’ can be defined as a.
A sample production of a small quantity
b.
A period of time in which the producers of a good can change the output by varying some but not all the resources they employ
c.
A period of time in which the producers of a good can change the output by varying of all the resources they employ
d.
A period of time in which the producers of a good cannot change the quantities of the resources they employ
e.
A period of time long enough for firms to enter or leave an industry.
7. Which of the following is/are true with regard to price floors and ceilings? i. They are fixed by the government. ii. They set things right and make markets more efficient. iii. Market equilibrium will be restored. iv. They cause unintended distortions. a. Both (i) and (ii) above. b. Both (ii) and (iii) above. c. Both (i) and (iv) above. d. Both (iii) and (iv) above. e. Only (i), (iii) and (iv) above. 8. An increasing cost industry is one in which a. Costs of production are very high b. An expansion of the industry causes prices of relevant resources to rise c. Prices are high compared to the budgets of consumers d. Price of a good is phenomenally higher than its cost of production e. The long run supply curve will be perfectly elastic. 9. An implicit cost can be defined as the a.
Payment to the non-owners of the firm for the resources they supply
b.
Money payment, the self-employed resources could have earned in their best alternative employment
c.
Costs which the firm incurs but does not disclose
d.
Costs which do not change over a period of time
e.
None of the above.
10. Which of the following are not included in calculating the accounting profits? a.
Semi-fixed costs.
b.
Variable costs.
c.
Fixed costs.
d.
Explicit costs.
e.
Implicit costs.
11. The difference between economic profit and accounting profit is
286
a.
Selling and administration expenses
b.
Depreciation
c.
Explicit cost
d.
Implicit cost
e.
There is no difference.
Part III
12. Which of the following is true in case of a long run average cost curve (envelope curve)? i.
The output is taken on the X-axis and the unit costs are taken on the Y-axis.
ii.
The curve is U-shaped since economies of scale are followed by diseconomies of scale.
iii.
The curve is dome-shaped since diseconomies of scale are followed by economies of scale.
iv.
The lowest point of the curve coincides with the lowest point of one of the short run AC curves.
a.
Both (i) and (ii) above.
b.
Both (i) and (iii) above.
c.
Only (i), (ii) and (iv) above.
d.
Only (i), (iii) and (iv) above.
e.
Both (ii) and (iv) above.
13. Economies of scale refer to a.
The forces which reduce the average cost of producing a good as the firm expands the size of its plant
b.
The forces which reduce the marginal cost of producing a good as the firm expands the size of its plant
c.
The forces which increase the average cost of producing a good as the firm expands the size of its plant
d.
The forces which increase the marginal cost of producing a good as the firm expands the size of its plant
e.
The forces which keep constant, the average cost of producing a good as the firm expands the size of its plant.
14. The following is not a case of imperfect competition. a.
The seller can affect the price of the good
b.
The ‘invisible-hand’ property of the markets is violated
c.
The society moves inside PPF
d.
The resources are put into inefficient allocation
e.
A buyer cannot affect the price and quantity equilibrium.
15. The following factor does not result in the shifting of supply curve for software packages. a.
Increase in the number of software development firms
b.
Increase in the wages of computer professionals
c.
Government tariffs on software exports and imports
d.
Fall in the prices of software packages
e.
All of the above result in the shifting of the curve.
16. The following factor does not result in the shifting of demand curve for calculators. a.
Cheaper availability of computers
b.
Rise in the prices of Integrated Circuit (IC) chips
c.
Fall in the prices of calculators
d.
Increase in the number of science students
e.
Incorporation of arithmetic functions in other electronic devices.
287
Microeconomics
17. Which of the following is true with reference to a straight-line demand curve? a.
The slope of the curve is equal to its elasticity.
b.
The elasticity increases as one moves down the curve.
c.
The elasticity is zero at the mid-point of the curve.
d.
At any point on the curve, the elasticity is the ratio of the length of the lower portion to the length of the upper portion.
e.
The elasticity is less than 1 in the upper half of the curve.
18. Assume that live telecast is available on TV for an exciting cricket match. If the ticket rates in the stadium are increased and other factors are held constant, the total revenue for the stadium management is likely to a.
Increase
b.
Decrease
c.
Remain the same
d.
Information is insufficient
e.
None of the above.
19. Which of the following statements about Marginal Rate of Substitution (MRS) is not true? a.
The MRS is equal to the ratio of marginal utilities of the goods consumed.
b.
The MRS is constant for perfectly substitutable goods.
c.
The MRS is equal to the slope of the indifference curve.
d.
The MRS is the rate at which one good can be substituted for the other, while the total utility remains constant.
e.
The MRS is generally equal to price ratio of the goods.
20. Which one of the following elasticities measures a movement along the curve? a.
Labor elasticity of supply.
b.
Income elasticity of demand.
c.
Cross elasticity of supply.
d.
Price elasticity of demand.
e.
Cross elasticity of demand.
21. When the prices of both substitute and complement of a good rise, the demand for the good a.
Rises
b.
Falls
c.
Neither rises nor falls
d.
First rises then falls
e.
May rise or fall or remain unchanged.
22. In India, a near perfect competition exists in the following industry.
288
a.
Cement
b.
Soaps and detergents
c.
Dental care products
d.
Rice farming
e.
Consumer electronics.
Part III
23. A consumer can maximize his total utility if he allocates his money income so that a.
Marginal utility of each product consumed is equal
b.
Gain in marginal utility from the last rupee spent on each product purchased is the same
c.
Elasticity of demand is the same for all the products purchased
d.
Total utility gained from each product consumed is the same
e.
Marginal utility of each product consumed is zero.
24. The output level at which the firm’s total revenues equal its total costs is called a.
Shutdown point
b.
Break even point
c.
Profit point
d.
Zero-sum point
e.
Net-of-loss point.
25. Which of the following is not a measure to prevent monopoly? a.
Promoting competition from foreign firms.
b.
Removal of government constraints to competition.
c.
Encouraging small firms to compete with established ones.
d.
Imposing tariffs on imports.
e.
Offering tax concessions to new firms.
26. In a monopolistic competition, a product can be differentiated from its related products in all the following features except a.
After sale service
b.
Location
c.
Advertising
d.
Time
e.
All these features differentiate the products.
27. Which of the following main feature differentiates monopolistic competition from all other forms of competition? a.
Price.
b.
Quantity demanded.
c.
Quantity supplied.
d.
Product differentiation.
e.
Elasticities of supply and demand.
28. Which of the following describes allocative efficiency? a.
Allocation of right amount of resources to the product.
b.
Allocation of right persons to right assignments.
c.
Allocation of right amounts of resources to right persons.
d.
Setting target efficiency levels to different tasks.
e.
None of the above. 289
Microeconomics
29. Natural oligopoly occurs when a.
The existing firms do not let others to enter the market
b.
The average costs of individual firms fall over a large enough range so that a few firms can produce the total quantity sold at the lowest average cost
c.
Consumers are reluctant to try the brands of others
d.
Very few firms have control over the raw materials
e.
Very few firms have control over the distribution network.
30. A kinked demand curve occurs in an oligopoly when a firm a.
Increases its price and others follow it
b.
Increases its price and others do not follow it
c.
Decreases its price and others follow it
d.
Decreases its price and others do not follow it
e.
Both (b) and (c) above.
31. In a perfectly competitive industry if the demand increases in the short run a.
The output of each firm will decrease and its profit will rise
b.
The output and profit of each firm will remain constant
c.
The output of each firm will increase and its profit will not change
d.
The output and profit of each firm will increase
e.
The output of each firm will increase and its profit will decline.
32. A perfectly competitive industry is in long run equilibrium. If property taxes increase, which of the following will happen in the short run? a. Price will fall and industry output will increase. b. Price will not change and industry output will fall. c. Price will rise and industry output will fall. d. Price and industry output will fall. e. Price and industry output will not change. 33. Which of the following is not a legal barrier to entry? a. Franchise. b. Government license. c. Patent. d. Innovation. e. Copy rights. 34. Which of the following is a benefit of first degree price discrimination by a monopolist? a. A larger output than produced by a single-price monopolist. b. A lower marginal cost than that incurred by a single-price monopolist. c. Smaller profits than those earned by the single-price monopolist. d. Zero economic profits in the long run. e. A larger consumer surplus than under single-price monopoly. 35. In monopolistic competition, the demand curve for a firm’s product is negatively sloped because of a. Barriers to entry b. No barriers to entry c. Product differentiation
290
d.
Economies of scale
e.
Diseconomies of scale.
Part III
36. If a perfectly competitive firm finds itself operating at loss in the short run, it will a.
Reduce the size of its plant to lower fixed costs
b.
Raise the price of its product
c.
Shutdown
d.
Continue to operate as long as it covers variable cost
e.
Continue to operate as long as it covers its fixed cost.
37. Cartel agreements tend to be unstable because a.
Cartel agreements tend to lower profits
b.
A firm can increase its profits by cheating on the agreement
c.
Agreements become unnecessary as the number of firms in the cartel increases
d.
Cutting output and raising prices will benefit each firm in the cartel
e.
Cartels are not legally permitted.
38. Dead weight loss refers to a.
The transfer of resources from buyers to sellers
b.
The decrease in total surplus that results from a tax
c.
The increase in producer surplus that results from a tax
d.
The decrease in government revenue that occurs when a tax rate is increased beyond its optimum
e.
The decrease in consumer surplus that results from a tax.
39. Which of the following costs should not be considered while making decisions in the short run? a.
Implicit costs.
b.
Hidden costs.
c.
Variable costs.
d.
Sunk costs.
e.
Opportunity costs.
40. Suppose the firm in the following diagram operates in a monopolistically competitive market. In the long run we would expect
a.
Firms to enter the market, and the firm’s demand curve to shift to the left
b.
Firms to enter the market, and the firm’s demand curve to shift to the right
c.
Firms to exit the market, and the firm’s demand curve to shift to the left
d.
Firms to exit the market and the firm’s demand curve to shift to the right
e.
No entry or exit of firms. 291
Microeconomics
Part B: Problems (60 Points) Solve all the problems. Points are indicated against each problem. 41. The cost function for a scooter manufacturer is TC = 100 + 75Q – 10Q2 + Q3. The price at which the firm is forced to shutdown its operations is a. b. c. d. e.
Rs.25 Rs.50 Rs.75 Rs.100 Rs.125. (2 points)
42. Global Net, an internet café, estimated the demand for net browsing of a typical customer to be Q = 100 – 4P Where, Q = number of browsing hours per month P = Price per an hour of browsing Global Net is considering offering monthly membership to individuals, who can browse the internet at a concessional price of Rs.15 per hour. What is the maximum monthly membership fee a typical customer would pay? a.
Rs.300.
b.
Rs.350.
c.
Rs.200.
d. e.
Rs.250. Rs.100. (2 points) 2
2
43. Production function of a firm is Q = K + L + 10KL. Slope of the isocost line for the firm is – 0.25. What is the optimum combination of labor and capital inputs? a.
L = 17K.
b.
L = 18K.
c.
L = 19K.
d.
L = 20K.
e.
L = 21K. (3 points)
44. The firm has the following production function: Q = K2 + L2 + 10KL The slope of the isocost line for the firm is – 0.25. Assuming the wage rate to be Rs.5, what is maximum possible output if cost outlay for the firm is Rs.1,150? a.
50,400 units.
b.
51,200 units.
c.
54,600 units.
d.
55,200 units.
e.
None of the above. (2 points)
292
Part III
45. Fine Pens Ltd. is a company operating in a monopolistically competitive market manufacturing ball point pens with technological collaboration from a German firm. The current monthly demand function for the firm is estimated to be Q = 22,000 – 2,000P. Monthly fixed costs for the firm are Rs.12,000. Average variable cost is constant at Rs.5. What is the maximum possible profit for Fine Pens Ltd.? a.
Rs.6,000.
b.
Rs.6,250.
c.
Rs.6,500.
d.
Rs.6,600.
e.
Rs.6,800. (2 points)
46. A monopolist faces a demand function of Q = 600 – P. Cost function of the monopolist is TCM = 20,000 + 125QM. If the monopolist is producing the profit maximization output, what are the maximum possible profits of the monopolist? a.
Rs.36,406.25.
b.
Rs.35,205.75.
c.
Rs.32,103.25.
d.
Rs.36,701.75.
e.
Rs.33,301.75. (2 points)
47. The demand function of a monopolist is estimated to be Q = 600 – P. The cost function of the monopolist is TC = 20,000 + 125Q. If the monopolist wants to maximize sales revenue, the profit earned by him at that level is a.
Rs.31,000
b.
Rs.31,500
c.
Rs.32,000
d.
Rs.32,500
e.
Rs.33,000. (2 points)
48. A monopolist faces a demand function of Q = 600 – P. Cost function of the monopolist is TCM = 20,000 + 125QM. Suppose, another firm with the cost function (TCD) = 25,000 + 100QD enters the industry, what is the maximum possible profit earned by each firm? (You may assume that Cournot model applies to the industry) a.
Firm M = Rs.2,500 and Firm D = Rs.5,625.
b.
Firm M = Rs.2,750 and Firm D = Rs.6,250.
c.
Firm M = Rs.2,250 and Firm D = Rs.5,500.
d.
Firm M = Rs.2,300 and Firm D = Rs.3,500.
e.
None of the above. (3 points)
293
Microeconomics
49. A firm operating in a monopolistically competitive market has the following demand function. Q = 22,000 – 2,000P Monthly fixed costs for the firm are Rs.12,000. Average variable cost is constant at Rs.5. The firm is planning an advertising campaign at a cost of Rs.5,000. Consequently, the demand function is expected to change to Q = 25,000 – 2000P. What would be the new profits, if the firm produces profit maximizing output? a.
Rs.10,795.
b.
Rs.10,055.
c.
Rs.11,125.
d.
Rs.12,275.
e.
Rs.13,365. (2 points)
50. The demand and supply functions for a farm product are Qd = 15,000 – 200P and Qs = 3,000 + 200P respectively. If the government imposes a specific sales tax at the rate of Rs.2 per unit, what will be the change in equilibrium price? a.
Price increases by Rs.2.
b.
Price increases by Re.1.
c.
Price decreases by Re.1.
d.
Price decreases by Rs.2.
e.
Price increases by Rs.3. (2 points)
51. For a consumer, Marginal Utilities of two goods consumed, A and B, are MUA = 22 – x MUB = 21 – 2y Where, x is the amount spent on product A, and y is the amount spent on B. Assume that the consumer has only Rs.100 to spend on both products A and B. How is the amount best allocated between A and B, if the price of B is half the price of A? a.
x = Rs.76 and y = Rs.24.
b.
x = Rs.64 and y = Rs.26.
c.
x = Rs.50 and y = Rs.50.
d.
x = Rs.26 and y = Rs.64.
e.
x = Rs.24 and y = Rs.76. (2 points)
52. Which of the following production functions denotes decreasing returns to scale? a.
Q = 2K +3L + KL.
b.
Q = 20K0.6L0.5.
c.
Q = 100 + 3K + 2L.
d.
Q = 5Ka + Lb, where a + b = 1.
e.
None of the above. (2 points)
294
Part III
53. Moonlight, a domestic appliance manufacturer, has estimated demand function for its fully automatic washing machines to be Q = 1,66,000 – 100PM + 75PC + 2.5I + 0.02A – 200C Where, Q = Demand for Moonlight fully automatic washing machines per year (in units) PM = Price of Moonlight washing machine PC = Price of a competing brand I = Per capita income of the country A = Annual promotional expenditure on this model by Moonlight C = Operating cost per load of wash for this model The current values of the variables are as follows: PM = Rs.10,000 PC = Rs.11,000 I
= Rs.20,000
A
= Rs.5,00,000
C
= Rs.5.
What are the values of price and cross elasticities of demand for Moonlight’s washing machine? a.
–20 and 16.5 respectively.
b.
–20 and 15.5 respectively.
c.
–15 and 15.5 respectively.
d.
–15 and 16.5 respectively.
e.
–20 and 14.5 respectively. (2 points)
54. A firm’s average variable cost function is AVC = 20 – 10Q + 0.25Q2. If the fixed cost is 100, the output at which the marginal cost will be minimum is a.
13.33 units
b.
15.33 units
c.
26.67 units
d.
30.00 units
e.
20.00 units. (2 points)
55. There are two players, Ramco and Tamco, in a market. The reaction functions of Ramco and Tamco are QR = 50 – 0.5QT QT = 60 – QR Where, QR is quantity produced by Ramco and QT is quantity produced by Tamco. If the market is transformed into a perfectly competitive market, the output for the industry would be a. b. c. d. e.
40 units 50 units 60 units 70 units 90 units. (3 points)
295
Microeconomics
Questions 56-57 are based on the following information: In an industry there are only six firms. Sales data for the six firms is given below: Name of the Firm
Sales Volume
Alpha
4,000
Beta
16,200
Gamma
20,400
Delta Epsilon Kappa
5,000 400 1,000
56. The 4-firm concentration ratio for the industry is a.
0.32
b.
0.22
c.
0.57
d.
0.89
e.
0.97. (1 point)
57. The value of Herfindahl Index for the industry is a.
0.67
b.
0.33
c.
0.59
d.
1.01
e.
0.97. (3 points)
58. The production function of a firm is Q = 50KL + L + 2K. Input prices are Labor (w) = Rs.10 Capital (r) = Rs.20. If the firm’s budget constraint is Rs.1,000, what is the efficient allocation of budget? a.
Rs.500 on labor and Rs.500 on capital.
b.
Rs.333 on labor and Rs.667 on capital.
c.
Rs.667 on labor and Rs.333 on capital.
d.
Rs.200 on labor and Rs.800 on capital.
e.
Rs.800 on labor and Rs.200 on capital. (3 points)
59. Two companies, Alpha and Beta Ltd., are duopolists producing a homogenous product and face identical demand functions. The demand function faced by Alpha is PA = 100 – QA Where, QA is total quantity sold by Alpha and PA is price per unit Total cost functions of Alpha and Beta Ltd. are: TCA = 100 + 20QA TCB = 200 + 30QB
296
Part III
If Alpha is enjoying price leadership through low cost, what is the amount of profit sacrificed by Beta Ltd. to avoid a price war? a.
Rs.1,025.
b.
Rs.25.
c.
Rs.2,400.
d.
Rs.125.
e.
Rs.2,275. (3 points)
Questions 60-61 are based on the following information: Mr. Khan took over his father’s business of table manufacturing. Earlier, he used to work in a bank for a salary of Rs.3,000 per month. Mr. Khan saw good growth in the business and in the process of expansion he even occupied premises which used to fetch him a rent Rs.5,000 per month. He also employed five men at a salary of Rs.1,000 per month each. He proposed to spend an amount of Rs.2,000 per month towards promotional expenditure. Raw material costs incurred for manufacturing a table works out to be 25Q2 and the price of a table is Rs.2,000. 60. If table making business is in a monopolistically competitive market, how many tables should Mr. Khan produce to maximize his profits? a. 25 units. b. 40 units. c. 144 units. d. 60 units. e. 100 units. (1 point) 61. If Mr. Khan is producing 50 tables per month, his accounting and economic profits are a. Rs.30,500 and Rs.22,500, respectively b. Rs.30,500 and Rs.10,500, respectively c. Rs.27,500 and Rs.22,500, respectively d. Rs.27,500 and Rs.10,500, respectively e. None of the above. (2 points) Questions 62-63 are based on the following information: A cloth merchant, who supplies cotton cloth in both Andhra Pradesh and Tamil Nadu, has the following demand functions: Andhra Pradesh : PA = 600 – QA Tamil Nadu
: PT = 400 – QT
The average cost function of the merchant is estimated to be AC =
15, 000 + 100. Q
62. If price discrimination is illegal, what is the profit maximizing price of the merchant? a.
Rs.180.
b.
Rs.250.
c.
Rs.275.
d.
Rs.300.
e.
Rs.400. (2 points) 297
Microeconomics
63. If price discrimination is legalized, what is the maximum possible profit the monopolist can earn? a.
Rs.1,24,640.00.
b.
Rs.65,000.00.
c.
Rs.70,000.00.
d.
Rs.1,24,840.00.
e.
Rs.1,24,862.50. (3 points)
64. Alok, a premier toy manufacturer, recorded an increase in sales by 10 percent. During the year, Alok reduced the prices by 10 percent. Per capita income in the economy increased by 2.5 percent and the competitor, Blok, reduced the prices of his toys by 5 percent. Income elasticity of demand for the toys is estimated to be 2 and cross-price elasticity between Alok toys and Block toys is estimated to be 0.5. Given the situation, what is the price elasticity of demand for Alok toys? a. b. c. d. e.
7.50. 0.75. – 7.50. – 0.75. 2.50. (2 points)
65. The marginal production function for a firm is estimated to be 120 + 20L −
30 2 L = MP 12
What is the number of labor the firm has to employ to maximize its APL? a. b. c. d. e.
4 units. 5 units. 6 units. 7 units. 8 units. (2 points)
66. For a product, the demand curve is linear with a slope of – 0.5. When the price is Rs.0, quantity demanded is 10 units. If the current market price of the product is Rs.3, the quantity demanded is a. 4.0 units b. 8.5 units c. 11.5 units d. 16.0 units e. 8.0 units. (1 point) 67. Average productivity of labor for a firm is 25 when labor employed is 50 units. When labor employed is increased to 52 units, average productivity of labor declines to 24 units. At current input level the marginal productivity of labor is a. b. c. d. e.
– 1 unit – 2 units 1 unit 2 units None of the above. (1 point)
298
Part III
Questions 68 and 69 are based on the following information: The demand function for a good produced by Amex India Ltd. is given by Q = 12,000 – 250P + 5Y + 500Pc Where, P = price of the good Y = per capita income Pc = price of the related good Q = quantity of good demand for Amex India Ltd. The current price charged by Amex India for the good is Rs.10. Price of the related good is Rs.11 and per capita income is Rs.1,000. 68. If the marketing manager of Amex India Ltd. proposed to reduce the price of the good by 10 percent, the change in sales volume will be a.
0.125 percent
b.
1.25 percent
c.
10 percent
d.
2.5 percent
e.
None of the above. (1 point)
69. Suppose the price of the related good is reduced by 10 percent, what should be the new price charged by Amex to retain the sales at the current level? a.
Rs.7.80.
b.
Rs.10.20.
c.
Rs.11.75.
d.
Rs.8.40.
e.
Rs.6.90. (1 point)
70. The market demand and supply functions for a good are: Qd
=
260 – 2P
Qs
=
20 + 10P
If the government announces a price ceiling of Rs.15, which of the following is true? a.
The shortage in the market is 60 units.
b.
The surplus in the market is 60 units.
c.
The surplus in the market is 240 units.
d.
The shortage in the market is 12 units.
e.
There will be no shortage/surplus as price ceiling is equal to the equilibrium price. (1 point)
299
Model Question Paper II Suggested Answers Part A: Basic Concepts 1. (e) For an inelastic demand curve, the % change in the quantity/% change in the price would be less than one. It implies that % change in price must be greater than % change in the quantity. Hence (e) is the correct answer. 2. (c) A saddle point in game theory refers to solution or outcome of a strictly determined game. 3. (a) In a zero sum game, the gains of one player equal the loss of another player. 4. (b) If the output increases in lesser proportion to the increase in inputs then it is called decreasing returns to scale. Since it is in a decreasing returns to scale, the output increases by less than 11%. 5. (b) Market period refers to very short period where all resources are fixed and the supply cannot be changed in response to price changes. Supply is perfectly inelastic in market period but not demand. 6. (b) Short run is a time period of insufficient length to permit decision-makers to adjust fully to a change in market conditions. The producers can change the output by varying some factors like labor and raw material but they will not have time to expand the size of their plants or to install additional heavy equipment. 7. (c) Price floors are the legally established minimum price that the buyers must pay for a good or resource, price ceiling is a legally established maximum price the sellers may charge. Price floors may create surplus in the system, while price ceiling results in shortage. They in other words cause disequilibrium. 8. (b) An increasing cost industry is one for which costs of production rise as output increases. 9. (b) Implicit costs are the opportunity costs associated with a firm’s use of resources that it owns. It is the money payment, the self-employed resources could have earned in their best alternative employment. 10. (e) No allowance is made for the opportunity cost of the equity capital or other implicit costs while computing accounting profits. 11. (d) Accounting profit – Implicit cost = Economic profit. 12. (c) LAC curve is drawn by taking output on X-axis and unit costs on Y-axis. The curve is U shaped. As we proceed downwards along the curve, the minimum point of SAC curve gradually approaches to the point of tangency between the SAC and LAC. Finally, at the lowest point of the curve, the minimum point of the SAC curve coincides with the minimum point of LAC. 13. (a) Economies of scale refer to the reductions in the firm’s per unit costs that are associated with the use of large plants to produce a large volume of output. 14. (e) In the imperfect competition, input and output prices are unaffected by the actions of any individual. 15. (d) Except (d) all result in the shifting of the supply curve for software industries. Fall in the prices of software packages only leads to a movement along the curve. 16. (c) Fall in the prices of the calculators increases the demand for the calculators. It is a movement along the curve. 17. (d) The elasticity of demand at a point on a straight-line demand curve is the ratio of the length of the lower portion of the curve to the length of the upper portion of the curve.
300
Part III
18. (b) Total revenue of the stadium decreases because the people try to opt for the live telecast on the Television as it is cheaper than watching the match in the stadium. 19. (e) MRSxy = MUx/MUy. If X and Y are perfectly substitutable, MUx/MUy remains constant. Slope of the indifference curve at any point is its MRS. And MRS is the rate of substitution of one good for the other, keeping the total utility constant. MRS is equal to price ratio of the goods only at the equilibrium point. Hence the answer is (e). 20. (d) Since the price elasticity of demand measures the change in quantity demanded to a change in price, it also measures the movement along the demand curve. 21. (e) When prices of both substitute and complement of a good rise, the demand for the good may rise of fall or remain unchanged depending situation. 22. (d) Rice farming can be said to be facing a near perfect competition in India. 23. (b) Equi-marginal utility principle states that to maximize total utility. MU N MU X MU Y = =----------= , which means for each commodity, MU for the PX PY PN last rupee spent on the good must be same.
24. (b) Break even point is the point at which the firms revenues are just sufficient to meet the total costs. 25. (d) Except (d) all other measures prevent monopoly. Imposing tariffs on imports make the imports costly and decrease competition for the domestic industries. 26. (e) Product differentiation may be in the quantity, customer service, location and accessibility and advertising. So, all the given features differentiate the products. 27. (d) Product differentiation is the important aspect of monopolistic competition, which differentiates it from all other firms of competition. 28. (a) Allocative efficiency is the condition achieved when resources are allocated in ways allowing the maximum possible benefit from their use. 29. (b) The statement given refers to natural oligopoly. 30. (e) In oligopoly it is assumed that when an individual seller increases the price of his product other sellers will not increase their prices. On the other hand, when a single seller reduces the price, others also reduce the price. Kinked demand curve is based on this assumption. 31. (d) In a perfectly competitive industry if the demand increases in the short run, price of the product also increase. This increase in price also increase the output and profit of each firm in the industry. In the below graph, when price is P, the firm is just breaking even. When demand increase, industry price increase to P′ and the price taking firm produces more and earns economic profits.
32. (e) Property tax is a fixed cost for the firm. Change in the fixed cost does not change the price and output of the industry in the short run. Industry supply curve is the summation of marginal cost curves above average variable cost curves of all the firms in the industry. Change in fixed cost (property tax) does not change variable cost and marginal cost of the firm and hence industry supply function remains same in the short run. 301
Microeconomics
33. (d) Except Innovation all others are legal barriers to entry. 34. (a)
Under first degree price discrimination, MR cure of the monopolist is the same as the demand curve. In the above graph, single price monopolist will produce Q by equating MR and MC. By following the same rule, first degree price discriminating monopolist will produce Q′ . Answer is (a) since Q′ > Q. 35. (c) The distinguishing feature of monopolistic competition is product differentiation. Even though there are no entry barriers, each firms’ product is considered to be unique because of differentiation. This gives the firm control over price of the product, which leads to a negatively sloped but highly elastic demand curve. 36. (d) A perfectly competitive firm in the short run continues to operate as long as the price is greater than the Average Variable Cost (AVC). If P < AVC, the firm will shutdown in the short run. The firm cannot change fixed costs. The firm also does not have any control over price. Hence the answer is (d). 37. (b) Cartels are aimed at increasing profits. But for any individual firm, the incentive of huge profits by breaking away from or cheating the Cartel and charging a price less than the Cartel price make Cartels unstable. 38. (b) When tax is imposed, some part of consumers’ and producer’ surpluses are last for the economy. This loss is not a transfer of surplus from one sector of the economy to the other sector. This is a net loss and decrease in total surplus for the economy, which is defined as deadweight loss. 39. (d) Sunk cost are costs which are already incurred and does not influence the current decision-making. All other costs are relevant for decision-making. 40. (a) In monopolistic competition, entry and exit of firms is relatively free, which ensures only normal profits in the long run. For the firm, current price is greater than ATC. These economic profits attract entry of other firms into the industry which also decrease the market share of the firm. Decrease in the market share shifts the demand curve to the left.
Part B: Problems 2
3
41. (b) TC = 100 + 75Q – 10Q + Q
Shutdown price is the price where AVC is minimum i.e., AVC = MC MC = 75 – 20Q + 3Q2 AVC = (75Q – 10Q2 + Q3)/Q
= 75 – 10Q + Q2
Therefore, AVC
= MC 2
75 – 10Q + Q = 75 – 20Q + 3Q2 10Q Q
302
= 2Q2 = 5
Part III
When, Q
= 5 = 75 – 10(5) + (5)2
AVC
= 75 – 50 + 25 = Rs.50 Thus, price when AVC is minimum is Rs.50, which is nothing but the price below which the firm has shutdown its operations. 42. (c)
Q
= 100 – 4P
4P
= 100 – Q
P
= 25 – 0.25Q
If price (P) is Rs.15, Q = 40 The maximum membership fees a customer would pay is equal to consumer surplus. If the price is Rs.15 per hour, Consumer surplus is
1 x 10 x 40 = Rs.200. 2
∴ Maximum monthly membership fee is Rs.200. 43. (c) Production function is Q = K2 + L2 + 10KL Input combination would be optimum when MPK MPL = w r MPL MPK
=
w r
Where, w is wage rate r is cost of capital. MPL =
∂Q = 2L + 10K ∂L
MPK =
∂Q = 2K + 10L ∂K
Slope of isocost line = – 0.25 = ∴
w −r
w −r
= 0.25
MPL MPK
=
2L + 10K 2K + 10L
= 0.25
2L + 10K
= 0.5K + 2.5L
w r
0.5L
= 9.5K
L
= 19K
Optimum input combination L = 19K.
303
Microeconomics
44. (d) Cost constraint C
=
w. L + r. K
C
=
Rs.1,150
=
0.25, r =
∴C =
5L + 20K
w r
w = 20 0.25
Optimum input combination L = 19K ∴
1,150
= (5 × 19K) + 20K
115 K
= 1150
K
= 10; L = 190 = K2 + L2 + 10KL
Output Q
= 102 + 1902 + (10 x 10 x 190) = 55,200 units. 45. (a) FC
= 12,000
AVC = 5 TVC = 5Q TC
= FC + TVC = 12,000 + 5Q
MC
= 5
Demand function Q = 22,000 – 2,000P P = 11 – 0.0005Q TR = PQ = 11Q – 0.0005Q2 MR = 11 – 0.001 Q To maximize profits, MC
= MR
5
= 11 – 0.001Q
Q
= 6,000
P
= 11 – (0.0005 × 6,000) = Rs.8
Profit = TR – TC = (6,000 × 8) – (12,000 + 5 × 6,000) = Rs.6,000. 46. (a) QM P
= 600 – P = 600 – QM
TRM = 600QM – Q 2M MRM =
∂TR M = 600 – 2Q M ∂Q M
TCM = 20,000 + 125QM MCM =
304
∂TC M = 125 ∂Q M
Part III
To maximize profits, MR = MC 600 – 2QM = 125 QM =
600 − 125 = 237.5 2
P
= 362.5
Profits = TR – TC = (362.5 × 237.5) – (20,000 + 125 × 237.5) = Rs.36,406.25. 47. (d) To maximize sales, MR = 0 QM = 600 – P P
= 600 – QM
TRM = 600QM – Q 2M MRM =
∂TR M = 600 – 2QM ∂Q M
∴ 600 – 2QM = 0 QM = 300 P Profits
= 300
= TR – TC = (300 x 300) – (20,000 + 125 x 300) = Rs.32,500.
48. (a) i.
The demand function P = 600 – Q If two firms share the market Q
= Q1 + Q2 = QM + QD
∴ P = 600 – (QM + QD) TRM = PQM = 600QM – Q 2M – QMQD MRM = 600 – 2QM – QD TRD = PQD = 600QD – Q 2D – QDQM MRD = 600 – 2QD – QM ii.
MCM = 125 MCD = 100 To maximize profits, each firm should equate MR to MC ∴ 600 – 2QM – QD = 125 600 – 2QD – QM
...(1) = 100...(2)
(2) x 2 1200 – 4QD – 2QM = 200...(3) (3) – (1)
600 – 3QD
= 75
QD
= 175
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Microeconomics
QM = 150 P
= 275
Profit (π) = TR – TC Profit of first firm (πM) = (150 × 275) – (20,000 + 125 × 150) = Rs.2,500 Profit of the second firm (πD) = (175 × 275) – (25,000 + 100 × 175) = Rs. 5,625. 49. (c) Q P
= 25,000 –2,000 P = 12.5 – 0.0005Q
TR = 12.5Q – 0.005Q2 MR = 12.5 – 0.001Q FC = (12,000 + 5,000) = Rs.17,000 MC = 5 To maximize profits, MR = MC 12.5 – 0.001Q = 5 Q = 7,500 P = 12.5 – (0.0005 × 7,500) = 8.75 Profit
= TR – TC = (7,500 × 8.75) – (17,000 + 5 × 7,500) = Rs.11,125.
50. (b) The buyers and sellers share the tax in the ratio of Es and Ed respectively. The price elasticity of supply =
P ∂Qs × = 200 Qs ∂P
The absolute price elasticity of demand =
⎛ P ⎞ ⎜ ⎟ ⎝ Qd ⎠
⎛ P ⎞ ∂Q d P × = 200 ⎜ ⎟ ∂P Qd ⎝ Qd ⎠
Since at equilibrium, Qs = Qd, the ratio of Es and Ed = 200:200 or 1:1. Thus, the buyers’ share of tax is 2 x 1/2 = 1. Thus, after the imposition of tax, the consumer has to pay Re.1 extra. 51. (a) The best allocation =
MU A MU B = PA PB
MUA = 22 – x MUB = 21 – 2y x + y = 100 B
But we know that PB = B
PA 2
Therefore, 22 − x 21 − 2y = PA PA 2 22 − x 21 − 2(100 − x) = PA PA 2 306
Part III
22 – x = 2 (21 – 200 + 2x) 22 – x = 4x – 358 380 = 5x x = Rs.76 Therefore, y = 100 – 76 = Rs.24. 52. (c) To determine whether returns to scale are increasing, decreasing or constant, let us double the inputs (K and L) and find the impact on output. If the output is also double, the returns to scale are considered constant. If the output is more than double, the returns to scale are considered increasing. If the output is less than double, the returns to scale are considered decreasing. a. Given the production function Q = 2K + 3L + KL Doubling the inputs K and L Q* = 2(2K) + 3(2L) + 2K2L = 4K + 6L + 4KL = 2(2K + 3L + KL) + 2KL = 2Q + 2KL Thus, doubling of inputs has resulted in more than doubling of output. Hence, returns to scale are increasing. b. Given the production function Q = 20K0.6 L0.5 Doubling the inputs K and L Q* = 20 (2K)0.6 (2L)0.5 = 20 × 20.6+0.5 K0.6 L0.5 = 20 × 21.1 K0.6 L0.5 = (20 K0.6 L0.5 ) 21.1 = 21.1 Q Thus, doubling of inputs has resulted in increasing the output by more than double. Hence, production is subject to increasing returns to scale. c.
Given the production function Q = 100 + 3K + 2L Doubling the inputs K and L Q* = 100 + 3(2K) + 2(2L) = 100 + 6K + 4L = 2(100 + 3K + 2L) – 100 = 2Q – 100 Thus, doubling of inputs has resulted in less than doubling of output. Hence, returns to scale are decreasing.
d.
Given the production function Q = 5Ka Lb, where a + b = 1 Let ‘a’ and ‘b’ be 0.5 and 0.5. Doubling the inputs K and L Q* = 5(2K)0.5 (2L)0.5 = 5 × 20.5+0.5 K0.5 L0.5 = 5 × 21.0 K0.5 L0.5 = (5 K0.5L0.5)21.0 = 21.0 Q = 2Q Thus, doubling of inputs has resulted in increasing the output by just double. Hence, production is subject to constant returns to scale. Thus, the answer is (c).
307
Microeconomics
53. (a) Q = =
1,66,000 – (100 × 10,000) + (75 × 11,000) + (2.5 × 20,000) + (0.02 × 5,00,000) – (200 × 5) 50,000 units
Price elasticity of demand (ep) = ∂Q = –100, ∂P
P = 10,000
∴ep = –100 ×
10,000 = –20 50,000
∂Q P × ∂P Q
Cross elasticity of demand (exy) = ∂Q x = 75, ∂Py
Py = 11,000
∴ exy = 75 ×
11,000 = 16.5. 50,000
54. (a) MC =
Py ∂Q x × ∂Py Qx
∂TC ∂Q
Where, TC = TFC + TVC TVC = AVC × Q = (20 – 10Q + 0.25Q2) Q = 20Q – 10Q2 + 0.25Q3 Thus, TC = 100 + 20Q – 10Q2 + 0.25Q3 Then, MC =
∂TC = 20 – 20Q + 0.75Q2 ∂Q
MC will be minimum when
∂MC =0 ∂Q
∂MC = –20 + 1.5Q = 0 ∂Q Or, 1.5Q = 20 Or, Q = 20/1.5 Q = 13.33 units. 55. (e) Given, QR = 50 – 0.5QT and QT = 60 – QR Thus, QT = 60 – (50 – 0.5 QT) QT = 60 – 50 + 0.5 QT 0.5 QT = 10 Q, QT = 20 When, QT = 20, QR = 50 – 0.5 (20) = 40 Thus, Qn = 40 + 20 = 60 ⎛ n ⎞ Qn = Qp ⎜ ⎟ ⎝ n +1 ⎠
Qp = Total output in perfect competition n = Number of competitive firms in the market Thus, 60 = Qp (2/3)
Where,
308
Part III
Qp = 60 × 3/2 = 90 units. 56. (e) 4-firm concentration ratio
=
Sales of top 4 firms Total sales of the industry
= (20400 + 16200 + 4000 + 5000)/(4000 + 16200 + 20400 + 5000 + 400 + 1000) =
45, 600 = 0.97. 47, 000
57. (b) Herfindahl Index = Sum of Squares of firms’ share = 0.3262 = 0.33.
Market share (%)
Square of market share (%)
4,000
0.0851
0.0072
Beta
16,200
0.3446
0.1188
Gamma
20,400
0.4340
0.1883
5,000
0.1063
0.0113
400
0.0085
0.0000
1,000
0.0212
0.0004
Name of the firm
Market share
Alpha
Delta Epsilon Kappa
47,000
0.3262
58. (a) To operate efficiently, the firm should equalize the MP of last rupee spent on all inputs. MPK MPL = That is, w r
MPL = 50K + 1 MPK = 50L + 2 Thus,
MPL w
=
MPK r
(50L + 2) (50K + 1) = 20 10
Or, 100K + 2
= 50L + 2
Or, 100K
= 50L
Or, L
= 2K
Budget constraint: 10L + 20K = 1000 Or, 20K + 20K = 1000 40K
= 1000
K
= 25
And, L
= 25 × 2 = 50.
Allocation of budget: (10 × 50) = Rs.500 = Labor (20 × 25) = Rs.500 = Capital. 59. (b) To avoid price war, Beta Ltd. should charge same price as charged by the leader, Alpha Ltd. Alpha charges a price where it maximizes its profits. It is possible when MRA = MCA.
PA = 100 – QA When Beta charges same price, it sells the same quantity of output as Alpha i.e., QA = QB. B
Thus, PA = 100 – QA Or, TRA = (100 – QA)QA = 100QA – QA2
309
Microeconomics
Thus, MRA = 100 – 2QA At equilibrium, 100 – 2QA = 20 Or, QA =
80 = 40 2
Or, PA = 100 – 40 = 60. Thus, price charged by Beta is also Rs.60. Thus, total revenue of Beta = 60 × 40 = 2400 And, total cost = 200 + 30(40) = 1400. Profits = 2400 – 1400 = 1000. The profit maximizing output for Beta is where MRB = MCB B
TRB = (100 – QB)QB = 100QB – B
B
B
B
Q2B
MRB = 100 – 2QB B
B
At equilibrium, 100 – 2QB = 30 B
Or, QB = 70/2 = 35. B
And, PB = 100 – 35 = 65. B
Total revenue of beta at price Rs.65 = 65 x 35 = 2275 Total cost = 200 + 30 (35) = 1250 Profits = 2275 – 1250 = 1025 Hence, profits sacrificed = 1025 – 1000 = Rs.25. 60. (b) To maximize profits, a monopolistically competitive firm should produce an output where MR = MC. Total cost in economics includes both accounting costs and opportunity costs. Thus,
Total Cost (TC) = (3000 + 5000 + (1000 × 5) + 2000) + 25Q2 = 15000 + 25Q2 Thus, MC = 50Q Total Revenue (TR) = 2000Q Thus, MR = 2000 Or, 50Q = 2000 Or, Q = 40 units. 61. (a) Total revenue: 2000 × 50 = 100,000
Total economic cost
= 3000 + 5000 + (1000 x 5) + 2000 + 25Q2 = 15000 + 25(50)2 = 77,500.
Economic profit = 100,000 – 77,500 = Rs.22,500. Total accounting cost = (1000 × 5) + 2000 + 25Q2 = 7000 + 62500 = 69,500. Accounting profit
= 100,000 – 69,500 = Rs.30,500.
62. (d) When price discrimination is not allowed, then PA = PT and QA + QT = Q (total output). It can be written as
QA = 600 – PA = 600 – P QT = 400 – PT = 400 – P Or, Q = QA + QT = 600 – P + 400 – P = 1000 – 2P Or, P = 500 – 0.5Q At profit maximization, MR = MC MC =
310
∂TC ∂Q
Part III
⎛ 15, 000 ⎞ Where, TC = AC × Q = ⎜ ⎟ Q = 15000 + 100Q ⎝ Q + 100 ⎠ And, MC = 100
TR = (500 – 0.5Q) Q = 500Q – 0.5Q2 Thus, MR = 500 – Q At equilibrium, MR = MC 500 – Q
= 100
Or, Q
= 400
Or, P
= 500 – 0.5 (400) = Rs.300.
63. (c) When price discrimination is permitted,
At equilibrium, MRA = MC and MRT = MC TRA = (600 – QA)QA = 600QA – QA2 MRA = 600 – 2QA Thus, at equilibrium in Andhra Pradesh, MRA = MC or, 600 – 2QA = 100 Or, 2QA = 500 Or, QA = 250 and PA = 600 – QA = 600 – 250 = 350. TRT = (400 – QT) QT Or, 400QT – QT2 MRT = 400 – 2QT At equilibrium in Tamil Nadu MRT = MC, 400 – 2QT = 100 Or, 2QT
= 300
Or, QT
= 150
and PT
= 400 – QT = 400 – 150 = 250.
Thus, total equilibrium output for the monopolist is 250 + 150 = 400. Profit = (PA × QA + PT × QT) – TC = (350 × 250 + 250 × 150) – (15,000 + 100 × 400) = (87,500 + 37,500) – 55,000 = Rs.70,000. 64. (d) Increase in sales because of increase in per capita income = 2 × 2.5 = 5 percent
Decline in sales because of reduction in prices of competitor’s goods = 0.5 × – 5 = 2.5 percent Thus, increase in sales because of decline in price = 10 – 5 – (–2.5) = 7.5 Price elasticity of demand =
=
65. (c) If MP = 120 + 20L –
then TP
% Change in Quantity demand % Change in Price 7.5 = –0.75. − 10
30 2 L , 12
= 120L + 10L2 – (10/12) L3
(Note: To find TP just use the method of derivative oppositely). Thus, AP = [120L + 10L2 – (10/12)L3]/L = 120 + 10L – (10/12)L2
311
Microeconomics
AP will be maximum when
∂AP =0 ∂L
⎛ 20 ⎞ i.e., 10 – ⎜ ⎟ L = 0 ⎝ 12 ⎠ Or, 10
=
20 L 12
Or , 120 = 20L Or, L
= 6 units.
66. (a) Demand function: Q
When market price
= 10 + 1/(–0.5)P = 10 – 2P = Rs.3, quantity demand = 10 – 2(3) = 4 units.
67. (a) TP (when labor = 50 units) = 50 × 25 = 1250
TP (When labor = 52 units) = 52 × 24 = 1248 Thus, MP =
(1248 − 1250) −2 = = –1 unit. (52 − 50) 2
68. (b) Q = 12,000 – 250(10) + 5(1000) + 500(11) = 20,000 units
Price elasticity of demand, E P = 250 ×
10 = 0.125 20, 000
That means, if price increases/falls by 1%, the quantity demanded will decrease/increase by 0.125%. Thus, if price falls by 10%, the quantity demand will increase by 1.25%. Alternatively,
At price Rs.10: Q = 12,000 – 250(10) + 5(1000) + 500(11) = 20,000 units At price Rs.9: Q1 = 12,000 – 250(9) + 5(1000) + 500(11) = 20,250 units Thus, percentage increase in quantity demanded =
(20, 250 − 20, 000) × 100 = 1.25%. (20, 000)
69. (a) Q = 12,000 – 250(10) + 5(1000) + 500(11) = 20,000 units
Thus, 20,000 =12,000 – 250P + 5(1,000) + 500 (9.9) 250P = 12,000 + 5,000 + 4,950 – 20000 P = 70. (a) At price Rs.15,
Qd = 260 – 2(15) = 230 units Qs = 20 + 10(15) = 170 units Hence, shortage = 230 – 170 = 60 units.
312
1950 = Rs.7.8. 250
Part III
Model Question Paper III Time: 3 Hours
Total Points: 100 Part A: Basic Concepts (40 Points)
Answer all the questions. Each question carries one point. 1. Average product of a variable input is a. The total product divided by the price of the product b. The same as marginal product when marginal product is maximum c. The total product divided by the amount of variable input used d. The same as total product when marginal product is zero e. The amount of additional output that can be produced by using one more unit of the variable input. 2. A non-zero-sum game is one in which a. The maximin does not equal minimax b. The sum of the pay-offs of each combination of strategies is not equal to zero c. The profit will not be maximum for any strategy d. The loss will not be minimum for any strategy e. It is another name for non-cooperative equilibrium. 3. From kinked demand curve one can infer that a. Oligopoly prices remain stable b. Oligopoly prices remain firm even during recession c. Oligopolies lead to perfect competition in the long run d. Oligopolies lead to monopoly in the long run e. None of the above. 4. ‘Long run’ can be defined as a period of time a. Long enough to enable producers of a good to change the quantities of all the resources they employ b. Long enough to recover the cost of production of a good c. Long enough to recover fixed costs d. In which equilibrium is established e. Not enough to enter or exit an industry. 5. A price floor refers to the a. Minimum price fixed by the government b. Price which is below the equilibrium price c. Price below which producers are unable to supply d. Price which is agreed by all the consumers e. 6.
Minimum price at which a producer breaks even.
A constant cost industry can best be defined as one in which a.
The costs are always constant
b.
The prices are always constant
c.
An expansion has no effect on the prices, the firm pay for the resources and hence no effect on their cost schedules
d.
The long run supply curve will be perfectly inelastic
e.
The long run demand curve will be perfectly elastic.
313
Microeconomics
7.
8.
9.
A consumer will be in equilibrium when, a.
Given the personal income and price constraints, he minimizes his total expenditure
b.
His total income is equal to his total expenditure
c.
His expenditure is equal to his total utility
d.
The demand and supply curves intersect
e.
Given the personal income and price constraints, he maximizes the total utility from his expenditure.
Diseconomies of scale refer to a.
The forces which reduce the average cost of producing a good as the firm expands the size of its plant
b.
The forces which reduce the marginal cost of producing a good as the firm expands the size of its plant
c.
The forces which increase the average cost of producing a good as the firm expands the size of its plant
d.
The forces which increase the marginal cost of producing a good as the firm expands the size of its plant
e.
The forces which keep the average cost of producing a good, constant as the firm expands the size of its plant.
The elasticity of the long run supply curve for a decreasing cost industry will be a.
Greater than 1
b.
Less than zero
c.
Equal to 1
d.
Equal to zero
e.
Equal to infinity.
10. Assuming all other things to be constant, the demand for inferior goods increases in the following cases a.
When the price of the good rises
b.
When the income of people falls
c.
Depends on the supply of the goods
d.
When the income of people rises
e.
None of the above.
11. The income elasticity of demand for a good is negative when the quantity of the good bought______ for a decrease in income. a.
Decreases
b.
Increases
c.
Remains unchanged
d.
Any of the above depending on the quantity
e.
It cannot be negative as the parameters are taken in absolute terms.
12. If the proportion of expenditure on a good in the monthly budget of a family is very less, then
314
a.
The good will have a unit elasticity of demand
b.
The good will have an inelastic demand
c.
The good will have a high elasticity of demand
d.
The elasticity depends on the quantity consumed
e.
None of the above.
Part III
13. Which of the following is a movement along the supply curve? a.
A fall in the output of rice because of a rise in the prices of pesticides and fertilizers.
b.
An increase in supply of air travel because of the liberalization of the aviation sector.
c.
A rise in the price of sugar leading to an increased production of sugarcane.
d.
A rise in the wages for workers in the software industry leading to an increase in the supply of software professionals.
e.
None of the above.
14. A production function describes a.
The amount of output one gets from a given amount of input
b.
The change in input price for a change in the output
c.
The level of output a firm should optimally produce at each price level
d.
The relationship between quantity demanded and income
e.
The relationship between quantity demanded and price.
15. Which of the following main features differentiate monopolistic competition from all other forms of competition? a.
Price determination.
b.
Industry demand.
c.
Industry supply.
d.
Product differentiation.
e.
Determination of profit maximizing output.
16. Which of the following statements about Marginal Rate of Substitution (MRS) is not true? a.
The MRS is equal to the ratio of marginal utilities of the goods consumed.
b.
The MRS is constant for perfectly substitutable goods.
c.
The MRS is equal to the slope of the indifference curve.
d.
The MRS is the rate at which one good can be substituted for the other, while the total utility remains constant.
e.
The MRS is generally equal to price ratio of the goods.
17. You can buy any amount of rice at Rs.10 per kg in the local market. The supply curve for rice is a.
Vertical
b.
Downward sloping
c.
Horizontal
d.
Upward sloping
e.
Data insufficient.
18. To manufacture a PC, you require a keyboard and a monitor. If you measure keyboard on the X-axis and monitor on the Y-axis, the shape of the Isoquant will be a.
Convex to the origin
b.
Concave to the origin
c.
Downward sloping straight line
d.
Upward sloping straight line
e.
L-shaped.
315
Microeconomics
19. Which of the following may not happen in a perfectly competitive market? a.
Highest efficiency.
b.
Best utilization of resources.
c.
Highest consumption level.
d.
Fair distribution of income.
e.
Highest utility level.
20. Which of the following is/are true? a.
Economic profits are always greater than accounting profits.
b.
Economic profits are always lesser than accounting profits.
c.
Economic profits are always equal to accounting profits.
d.
Accounting profits include implicit costs.
e.
Economic profits exclude explicit costs.
21. The minimum efficient scale refers to a.
The smallest level of output at which a firm can minimize long run average cost
b.
The smallest level of output at which a firm can minimize long run marginal cost
c.
The smallest level of output at which a firm can minimize short run average cost
d.
The smallest level of output at which a firm can minimize short run marginal cost
e.
The smallest level of output at which a firm can minimize both explicit and implicit costs.
22. In the case of a Giffen good, which of the following is true? a.
The good is a normal good.
b.
The good is inferior and the substitution effect outweighs the income effect.
c.
The good is inferior and the income effect outweighs the substitution effect.
d.
The good is normal and the income effect outweighs the substitution effect.
e.
The good is normal and the substitution effect outweighs the income effect.
23. In a pure monopoly, the slope of MR curve will be ____ times the demand curve. a. 0.5 b. 1 c. 1.5 d. 2 e. They do not follow any particular rule. 24. If marginal product is equal to average product, then which of the following is true? a. Marginal product is increasing. b. Marginal product is decreasing. c. Average product is increasing. d. Average product is decreasing. e. Average product is not changing. 25. Which of the following is true in the third stage of the three stages of production? a. The total product curve has an increasing slope. b. The marginal product curve has a positive slope. c. The marginal product curve lies below the average product curve. d. Total product increases. e. Marginal product is positive. 316
Part III
26. Which of the following is false for a pure monopolist? a. The industry demand curve will be the firm’s demand curve. b. The firm is the industry. c. The firm should lower its price in order to sell more units. d. When the firm sells more units its revenues increase. e. The MR curve for any straight-line demand curve will be a straight-line. 27. If the monopolist incurs losses in the short run, in the long run a. He will get profits b. He breaks even c. He will go out of business d. Either (b) or (c) above. e. Either (a) or (b) or (c) above. 28. When unions set high standards of wages, the employment level a. Rises b. Remains at the equilibrium point c. Falls d. First falls then rises e. First rises then falls. 29. Which of the following is not a sequel to the fulfillment of the demand for a wage raise by a labor union? a.
Higher unemployment.
b.
Distorted resource allocation.
c.
Inflation.
d.
Losing of jobs by existing workers.
e.
Slowing down of recruitment process by the employers.
30. Which of the following is true when a labor union succeeds in raising the wage levels of the workers beyond competitive levels? a.
Income will flow from the capital to the labor.
b.
Income will flow from the non-unionized labor to the unionized labor.
c.
Income will flow from the workers of other industries to the unionized labor of one industry.
d.
Income will flow from the company’s profits to the workers.
e.
Income will flow from the company’s sales to the workers.
31. Which of the following can be regarded as an exception to the law of demand? a.
Cases of snob appeal.
b.
Cases in which consumer judges quality by price.
c.
Cases of Giffen goods.
d.
Both (a) and (c) above.
e.
All of (a), (b) and (c) above.
32. If the demand curve has a constant slope, the elasticity of demand a.
Is equal to the slope
b.
Is greater than the slope
c.
Is less than the slope
d.
Increases at higher prices
e.
Increases at larger quantities. 317
Microeconomics
33. If marginal utility of the last unit of commodity q1 consumed is twice the marginal utility of the last unit of q2 consumed, then the consumer will be in equilibrium if a.
The price of q1 is one fourth of the price of q2
b.
The price of q1 is one half of the price of q2
c.
The price of q1 is equal to the price of q2
d.
The price of q1 is twice the price of q2
e.
Insufficient information.
34. A monopolist can determine a.
Price
b.
Output
c.
Both (a) and (b) above
d.
Either (a) or (b) above
e.
Neither (a) nor (b) above.
35. Which of the following is not true? a.
If the demand for wheat is highly inelastic, bumper crop may reduce farm incomes.
b.
Supply and demand curves tend to be more elastic in the long run.
c.
In general, elasticity of demand for necessities is less than luxury goods.
d.
A producer can always increase his total revenue by increasing the price when the demand is elastic.
e.
A Giffen good is always an inferior good.
36. Which of the following is/are true? a.
The total cost curve is bell shaped.
b.
Opportunity cost is the value of the good or service in its next best alternative use.
c.
Economic costs include only the out of the pocket expenses.
d.
Both (a) and (c) above.
e.
Both (b) and (c) above.
37. Four-firm concentration ratio refers to a.
The percent of the total industry output that is accounted for by any four randomly selected firms in an industry
b.
The four largest firms in four different and important industries in an economy
c.
The number of industries in an economy which have only four firms
d.
The percent of the total industry output that is accounted by the smallest four firms
e.
The percent of the total industry output that is accounted by the largest four firms.
38. Which of the following is false in first-degree price discrimination? a.
The monopolist will be able to extract the entire consumers’ surplus.
b.
The price of each unit will be different.
c.
By following first degree price discrimination, the profit of the monopolist will be more than what he could otherwise earn at a single price.
d.
The price of the first unit will be less than that of the subsequent units.
e.
It is another name for perfect price discrimination.
39. Which of the following is true in case of a long run average cost curve? 318
Part III
i.
The output is taken on the X-axis and the unit cost is taken on the Y-axis.
ii.
The curve is U-shaped since economies of scale are followed by diseconomies of scale.
iii.
The curve is dome shaped since diseconomies of scale are followed by economies of scale.
iv.
The lowest point of the curve coincides with the lowest point of one of the short run average cost curves.
a.
Both (i) and (ii) above.
b.
Both (i) and (iii) above.
c.
Only (i), (ii) and (iv) above.
d.
Only (i), (iii) and (iv) above.
e.
Both (i) and (iv) above.
40. Which of the following is not true? a. The law of demand says, ceteris paribus, the lower the price of a good, the greater the quantity demanded of that good. b.
The law of supply says, ceteris paribus, the higher the price of a good, the greater the quantity supplied of that good.
c.
The supply curve for a highly perishable good is horizontal.
d.
The demand curve for a life saving drug is almost vertical.
e.
A fall in per capita income of the people will reduce the price of a luxury good, other things remaining the same.
Part B: Problems (60 Points) Solve all the problems. Points are indicated against each problem. 41. A monopolist has the following demand and cost functions: P = 480 – 8Q TC = 400 + 8Q2 If the monopolist is practicing first degree price discrimination, what are the profits earned by the firm (assume that the firm is producing profit maximizing output)? a.
Rs.4,000.
b.
Rs.4,400.
c.
Rs.4,800.
d.
Rs.5,200.
e.
Rs.5,600. (3 points)
42. Ramesh Products Ltd., a monopolist has two distinctly separable markets. The demand functions of the two markets are Q1 = 32 – 0.4P1 and Q2 = 18 – 0.1P2 respectively. The cost function of the monopolist is estimated to be C = 50 + 40Q. Suppose the price discrimination is not allowed, what would be the maximum possible profits earned by the monopolist? a. Rs.370. b. Rs.400. c. Rs.420. d. Rs.450. e. Rs.470. (2 points) 319
Microeconomics
43. A consumer has a monthly budget of Rs.200 for buying commodities A and B. Prices of A and B are Rs.2 and Rs.3 respectively. His utility function is U = 4QaQb. If the objective of the consumer is to maximize his utility, how the consumer should allocate his budget between good A and B? a. Rs.150 and Rs.50 respectively. b. Rs.100 and Rs.100 respectively. c. Rs.50 and Rs.150 respectively. d. Rs.75 and Rs.125 respectively. e. Rs.125 and Rs.75 respectively. (2 points) 44. A firm using only labor (L) as inputs in the production process has the following production function: Q = 75L2 – L3 What is the labor input at which the firm can maximize its total output? a. 50 units. b. 60 units. c. 70 units. d. 80 units. e. 90 units. (2 points) 45. The production function of a manufacturing unit, using only labor (L) as inputs in the production process, is estimated to be Q = 75L2 – L3. The labor input at which the firm can maximize average productivity of labor is a. 42.5 units b. 37.5 units c. 47.5 units d. 52.5 units e. None of the above. (2 points) 46. The average production function of a firm is AP = 100/L + 75L – L2. What is the output at which marginal cost will be minimum? a. b. c. d. e.
31,050 units. 31,150 units. 31,250 units. 31,350 units. 31,450 units. (2 points)
47. Following are the industry demand and supply functions of a product Demand function : QD = 250 – P – 0.05P2 Supply function : QS = 200 + 2.5P + 0.1P2 The elasticity of demand and supply at equilibrium price are a. – 0.065 and 0.1915 b. – 0.085 and 0.1915 c. – 0.085 and 0.1715 d. – 0.065 and 0.1715 e. – 0.065 and 0.2015. P
P
(3 points)
320
Part III
48. The industry demand and supply functions of a product are QD = 250 – P – 0.05P2 and QS = 200 + 2.5P + 0.1P2. The equilibrium price is Rs.10. If the government imposes a sales tax of Re.1 per unit, the proportion of tax burden shared by producers are a. 41% b. 59% c. 69% d. 51% e. 31%. (2 points) 49. Market demand for a duopoly industry is P = 120 – Q. Total variable cost functions of the two firms in the industry are TVC1 = 20Q1 and TVC2 = 40Q2 respectively. The Cournot’s equilibrium price and output for the industry are a. Rs.50 and 60 units b. Rs.60 and 70 units c. Rs.60 and 60 units d. Rs.70 and 60 units e. Rs.70 and 70 units. (3 points) 50. Market demand for a duopoly industry is P = 120 – Q. Average variable cost functions of the two firms in the industry are AVC1 = 20 and AVC2 = 40. The Cournot’s equilibrium price is Rs.60. The quantity of output sold in first market is 40 units. Assuming FC1 = 1,000 and FC2 = 100, what is the profit earned by the industry? a. Rs.700. b. Rs.800. c. Rs.900. d. Rs.1,000. e. Rs.1,100. (3 points) 51. The market demand supply figures for rice are given below: Price Rs./kg Supply Mt Demand Mt 4 6 24 8 8 20 12 10 16 16 12 12 20 14 8 24 16 4 The demand and supply functions of rice are a. Qd = 28 – P; and Qs = 4 + 0.5P respectively b. Qd = 28 – P; and Qs = 8 + 0.5P respectively c. Qd = 48 – P; and Qs = 4 + 0.5P respectively d. Qd = 48 – P; and Qs = 8 + 0.5P respectively e. None of the above. (2 Points) 52. Rubbers Ltd. is operating in a perfectly competitive firm. The firm’s total cost is given by TC = 150 + 150Q – 20Q2 + Q3. The price below which the firm will have to shutdown its operations is a. Rs.30 P
P
b.
Rs.40
c.
Rs.50
d.
Rs.60
e.
Rs.70. (2 points) 321
Microeconomics
53. ABC Ltd. which manufactures baby toys, operates under conditions of perfect competition. The market demand and supply functions are estimated as follows: Demand : Q = 13500 – 500P Supply : Q = 3000 + 200P If the government imposes a specific sales tax of Rs.10 per unit, what would be the tax burden on the buyers? a. 1.76. b. 2.86. c. 3.13. d. 4.32. e. 5.20. (2 points) 54. When the price is Rs.75, demand for a good is 10 units and when the price is Rs.70, demand is 12 units. Assuming that the demand function for the good is linear, what is the theoretical maximum possible quantity of the good that can be demanded? a. 100 units. b. 25 units. c. 5 units. d. 40 units. e. 76 units. (2 points) 55. The cost schedule of a firm operating under a perfectly competitive market is given below: Quantity (units)
Total cost (Rs.)
50
505
51 507 52 510 53 514 54 519 55 525 56 532 57 540 The current market price of the good and output of the industry are Rs.4 and 1,48,824 units respectively. If all the firms in the industry have identical cost functions, the number of firms in the industry is a. 2,808 b. 2,862 c. 2,756 d. 3,204 e. 3,124. (1 point) 56. The average cost of producing 500 units of a good is Rs.5. The firm incurs a fixed cost of Rs.500 in the form of rent paid for the building. If the current price of the good is Rs.10 and the firm increases its sales to 750 units, the profit earned by the business unit, assuming the marginal cost is constant, is a. Rs.3,500 b. Rs.7,000 c. Rs.4,500 d. Rs.4,000 e. Rs.7,500. (2 points) 322
Part III
57. The absolute price elasticity of demand of ‘Dollex’, a branded doll, is estimated to be 1.5. At present, the firm is selling 3,000 units. Income effect for Dollex is half that of substitution effect. If management increased the price of the Dollex brand from Rs.20 to Rs.25, the substitution effect for the price increase will be a.
1,125 units
b.
750 units
c.
3,000 units
d.
375 units
e.
560 units. (2 points)
58. Slope of the budget line (when good X is taken on X-axis and good Y is taken on Y-axis) is – 0.25. If a consumer with an income of Rs.100 buys equal quantities of two goods, X and Y, what would be the amount spent on good X? a. Rs.75. b. Rs.20. c. Rs.40. d. Rs.60. e. Rs.80. (2 points) 59. When 10 units of output are produced, the average cost of production (AC) is Rs.10. If AC increases to Rs.11 with an increase in output by one unit, the marginal cost of producing the 11th unit is a. Rs.11 b. Rs.21 c. Rs.10 d. Rs.13 e. None of the above. (1 point) 60. The demand function for a good is estimated to be P = 20 – 0.5Q. What would be the consumer surplus, if the market price is 4? a.
Rs.480.
b.
Rs.320.
c.
Rs.280.
d.
Rs.512.
e.
Rs.256. (2 points)
61. A manufacturing firm uses two inputs, labor and capital. The marginal product of labor (MPL) is estimated as MPL = 20K0.5/L0.5. At present, the firm is using 100 units of capital and 30 units of labor. It takes twelve months for the firm to increase the capital stock because of its specialized nature. However, the firm can vary the number of labor depending on the requirement. The current wage rate is Rs.100 per unit and cost of capital is Rs.5 per unit. If the price of the output is Rs.3 per unit, the optimal input of labor for the firm is a. 84 units b. 100 units c. 25 units d. 36 units e. 16 units. (2 points) 323
Microeconomics
62. Which of the following production function(s) signifies Constant Returns to Scale (CRS)? i.
Q = 5K + 7L + KL.
ii.
Q = 8K/L.
iii.
Q = 5K 0.3 L0.7 .
a. b. c. d. e.
Only (ii) above. Only (iii) above. Both (i) and (ii) above. Both (ii) and (iii) above. All of (i), (ii) and (iii) above. (1 point)
Questions 63 and 64 are based on the following information: Rahul Ltd., a monopolist, aims at profit maximization. The fixed cost of the firm is Rs.200 and its average variable cost is constant at Rs.30 per unit. Rahul Ltd. sells goods in Karnataka and Andhra Pradesh. The estimated demand functions for the good in Karnataka and Andhra Pradesh are: PK = 40 – 2.5QK PA = 120 – 10QA Where, PK
= price charged by Rahul Ltd. in Karnataka
PA
= price charged by Rahul Ltd. in Andhra Pradesh
QK = quantity of goods demanded in Karnataka QA = quantity of goods demanded in Andhra Pradesh. 63. If price discrimination is not practised, the output produced by Rahul Ltd. to maximize sales revenue is a. 14 units b. 6.5 units c. 12 units d. 4.5 units e. 9 units. (3 points) 64. If price discrimination is practised by Rahul Ltd., the profit maximizing output will be a. 14 units b. 6.5 units c. 12 units d. 4.5 units e. 9 units. (2 points) 65. The total cost function and demand function of a good are estimated to be TC = 100 – 5Q + 2Q2 and Q = 100 – P respectively. If the current output is 2 units, the average profit is a. Rs.98 b. Rs.100 c. Rs.49 d. Rs.105 e. Rs.65. (2 points) 324
Part III
66. The cost function of Alco & Co. is TC = 2850 + 3.5Q. If the current market price of the good produced by the firm is 5 per unit, what will be the break even output for the firm? a.
1,600 units.
b.
1,200 units.
c.
1,550 units.
d.
1,900 units.
e.
1,750 units. (1 point)
67. Which of the following cost functions signifies a long - run cost function? a.
TC = 250 + 3Q.
b.
TC = 300.
c.
TC = 50 + 100Q + 202.
d.
Both (b) and (c) above.
e.
None of the above. (1 point)
68. A monopolistically competitive firm has the following cost and revenue functions: TC = 3000 + 30Q – 20Q2 + Q3 TR = 30Q – 2Q2 If the firm is maximizing profits at the current level of output, what would be the total cost of the firm? a.
Rs.2,208.
b.
Rs.824.
c.
Rs.1,062.
d.
Rs.944.
e.
Rs.878. (2 points)
69. If the average cost function of a firm is estimated to be AC = 500/Q + 10 + 5Q + 25Q2, the fixed cost of the firm will be a.
Rs.10
b.
Rs.500
c.
Rs.5
d.
Rs.25
e.
Cannot be determined. (1 point)
70. The production function of Boomex, an auto spare parts manufacturer, is estimated to be Q = 30K0.5L0.5. If the prices of capital (r) and labor (w) are Rs.20 and Rs.30 per unit respectively, what is the minimum possible cost for producing 180 units? a.
Rs.240.
b.
Rs.280.
c.
Rs.360.
d.
Rs.320.
e.
Rs.410. (3 points)
325
Microeconomic
Model Question Paper III Suggested Answers Part A: Basic Concepts 1. (c) Average productivity =
Total productivity No. of units of the input used
2. (b) In a zero sum game, the gain of one player equals the loss of the other player and the sum of the pay-offs of each combination of strategies is equal to zero. But in non zero sum game it is not equal to zero. 3. (a) Kinked demand curve is used to explain price stickiness under oligopoly. This is because of the discontinuity in the MR curve caused by the kink in the demand curve. Even if MC curve shifts substantially within the gap of MR curve, profit maximizing price and output of the oligopolist does not change and price remain stable. 4. (a) Long run is a time period where firms get enough time to adjust fully to a market change. 5. (a) Price floor is the legally established minimum price that the buyers must pay for a good or resource. 6. (c) Constant cost industry is an industry for which factor prices and costs of production remain constant as output is expanded. Thus, the long run market supply curve of a constant cost industry remains horizontal. 7. (e) The consumer is in equilibrium when he maximizes his utility, given his income and the market prices of the commodities. 8. (c) Diseconomies of scale refer to the forces which increase the per unit costs as the firm expands. 9. (b) The market supply is inversely related to price in decreasing cost industries. It is downward sloping, so the elasticity of supply is less than zero. 10. (b) Demand for interior goods increases when the income of people falls. 11. (b) Income elasticity for an inferior good is negative. So, when income level decreases the quantity demanded for an inferior good will increase. 12. (b) Other things remaining the same, the higher the proportion of the income spent on a good, the greater is the price elasticity of demand and vice versa. So, if the proportion of expenditure on one good is less than the demand of the good will be less elastic or inelastic. 13. (d) A movement along the supply curve is caused by change in the price and resultant change in the quantity supplied. When price of labor (wages) increase, supply of labor increases. All other options lead to a shift in the supply curve. 14. (a) Production function describes the amount of output that can be obtained by employing a given amount of input. 15. (d) Profit maximizing price and output determination are same under all the market structures, that is MR = MC. Industry demand and supply are derived from individual demand and supply of the market players in the industry. The distinguishing feature of monopolistic competition is product differentiation. 16. (e) MRSxy =
MU x MU x . If X and Y are perfectly substitutable, remains constant. Slope of MU y MU y
the indifference curve at any point is its MRS. And MRS is the rate of substitution of one good for the other, keeping the total utility constant. MRS is equal to price ratio of the goods only at the equilibrium point. Hence the answer is (e).
326
Part III
17. (c) A vertical supply curve means same quantity is supplied irrespective of the price. Downward sloping supply curve means price and quantity are inversely related. Upward sloping supply curve means positive relation between price and quantity. At the constant price, the demand curve will be horizontal to the X-axis. Hence the answer is (c). 18. (e) To assemble a PC, we require one monitor and one keyboard. These are used in fixed proportion. Hence, the isoquant is L-shaped. Other shapes of isoquants are not relevant for the example. 19. (d) Highest efficiency, best utilization of resources, highest consumption level, maximum utility happen in a perfectly competitive market. But fair distribution of income may not happen. 20. (b) Accounting profit – Implicit cost = Economic profit. So, accounting profits are always greater than economic profits. 21. (a) The minimum efficient scale refers to the level of production where the firm earns normal profits. It is possible at minimum long run average cost. 22. (c) Price effect = Income effect + Substitution effect. For any good, the substitution effect is position. That is, when a good becomes relatively cheaper, it is substituted for other goods. Income effect may be positive (normal good) or negative (inferior good) based on whether demand for the product increase or decrease when real purchasing power increase. In the case of a Giffen good, negative income effect is greater than the positive substitution effect, hence price and quantity demanded of the good are positively related. 23. (d) In a monopoly, the slope of MR Curve will be 2 times the demand curve. 24. (e) If marginal product (MP) > Average product (AP), AP is increasing. If MP < AP, AP is decreasing If MP = AP, AP is constant. 25. (c) In the third stage of production function, total production decreases, MP < 0 and lies below the AP curve. 26. (d) In monopoly, the price decreases as the sales increase as shown by the monotonically decreasing demand curve of the monopolist. So, the revenues also fall as the sales increase. 27. (e) Like a perfectly competitive firm, the monopolist either earns excess profits or incurs losses or only normal profits in the short run. 28. (c) When unions set high wage levels, the employment level falls because of the inverse relation between employment and wage level. 29. (d) Existing users will not lose jobs because of wage rise. 30. (b) Raising the wage levels high will result in the flow of income from non-unionized labor to the unionized labor. 31. (e) The law of demand says that price and quantity demanded of the product are inversely related, ceteris paribus. This does not hold good in the cases of (a), (b) and (c). Hence, the answer is (e). 32. (d) ep =
∂Q ∂Q P remains constant, ep increases as P increases or Q decreases. x . If slope ∂P Q ∂P
33. (d) For the consumer to be in equilibrium MU 2 MU1 = P2 P1
If MU1 is twice the MU2 2MU1 MU 2 , and P1 = 2P2 = P1 P2 Therefore, the answer is (d). 327
Microeconomics
34. (d) A monopolist faces a downward sloping demand curve. Given the demand curve, he can decide the price and sell the quantity taken by the market or decide the output and charge a price at which the output can be sold. This way a monopolist can control either price or output but not both the variables. 35. (d)
a.
If the demand for wheat is highly inelastic, bumper crop will lead to a sharp decline in price thereby reducing farm incomes.
b.
In the long run, both supply and demand curves tend to be more elastic since the responsiveness of producers and consumers to a price change will be more in the long run than in the short run.
c.
Demand for necessities is not as responsive to price change as the case with luxuries.
d.
If the demand is elastic, % change in Q > % change in P. For a given increase in price, decrease in Q will be more than proportionate to the increase in price thereby leading to decrease in total revenue.
e.
Price effect is the sum of income and substitution effects. For a Giffen good, the income effect is negative and more than the substitution effect thereby leading to a direct relation between price and quantity. If the negative income effect is less than the substitution effect, the good is inferior but not a Giffen good.
36. (b)
a.
Total cost curve is inverse – S shaped.
b.
Opportunity cost is the value of the best alternative foregone.
c.
Economic costs include out of pocket expenses as well as implicit costs.
37. (e) Four-firm concentration ratio is the percent of the total industry output that is accounted for by the largest four firms in the industry. 38. (d) Under first degree price discrimination, the monopolist charges the maximum possible price for each unit of output. For initial units, the willingness price will be greater, in accordance with the law of diminishing marginal utility. Hence, price will be higher for initial goods. 39. (c) Long run average cost curve (LAC)
(i), (ii) and (iv) are true and hence the answer is (c). 40. (c) The supply curve for a highly perishable good is almost vertical. All other options are true.
Part B: Problems 41. (b) Under first degree price discrimination, MR = P as change in total revenue is equal to the price at which the unit is sold. ∴ MR = P
To maximize profit MC = MR = P ∴
16Q = 480 – 8Q 24Q = 480 Q
328
= 20.
Part III
The price at which 20th unit sold is P = 480 – (8 × 20) = 320. (Each unit is sold at the maximum possible price under first degree price discrimination. ∴ All the previous units are sold at higher prices).
Profit under Price Discrimination: π = TR – TC
TR is the shaded region in the above graph. Area of the graph = (20 × 320) +
1 20 (480 – 320) 2
= 6,400 + 1,600 = 8,000. TC = 400 + (8 × 202) = 3,600 ∴ π = 8,000 – 3,600 = Rs. 4,400. 42. (b) Q1 = 32 – 0.4P1 or P1 = 80 – 2.5Q1
The demand function in market 2 is Q2 = 18 – 0.1P2 or P2 = 180 – 10Q2 We know that P1 = P2, when price discrimination is not possible and Q1 + Q2 = Q. Thus, Q = (32 – 0.4P) + (18 – 0.1P) = 50 – 0.5P or,
P = 100 – 2Q
If price discrimination is not practiced, the monopolist can maximize profit by equating MC = MR TR = PQ = 100Q – 2Q2
∴
MR = 100 – 4Q MC = 40 100 – 4Q = 40 4Q = 60 Q = 15 P = 100 – (2 × 15) = 70 For non-discriminating monopolist TR
= PQ = 70 × 15 = Rs.1,050
TC
= 50 + (40 × 15) = Rs.650
Profit = 1,050 – 650
= Rs.400. 329
Microeconomics
43. (b)
MUa = ∂U = 4Qb ∂Q a
MUb =
∂U = 4Qa ∂Q b
Pa = 2 Pb = 3 The consumer can maximize utility by equating MU a MU b
=
Pa Pb
4Qa 4Q b
= 2 3
2Qa
= 3Qb
Qb
=
2Q a 3
Given the budget of Rs.200 PaQa + PbQb
= 200
2 × Qa + 3 × Qb = 200 2Qa + 3 ×
2Qa = 200 3
4Qa = 200 Qa
= 50
Qb
=
2Qa 2 × 50 = = 33.33 3 3
Allocation of budget Commodity A: 50 × 2 = Rs.100. Commodity B: 33.33 × 3 = Rs.100. 44. (a) Production function Q = 75L2 – L3
Total output will be maximum when MPL = 0 MPL =
∂Q = 150L – 3L2 = 0 ∂L
3L
= 150
L
= 50
∴ Total output is maximum when L = 50 units. 330
Part III
45. (b) APL is maximum when APL = MPL
MPL =
∂Q = 150L – 3L2 = 0 ∂L
APL =
Q = 75L – L2 L
∴150L – 3L2 = 75L – L2 75L – 2L2 = 0 2L = 75 L = 37.5 ∴ APL is maximum when L = 37.5 units. 46. (d) AP = 100/ L + 75L – L2
TP = AP × L = (100/ L + 75L – L2) L = 100 + 75L2 – L3 MP =
∂TP = 150L – 3L2 ∂L
MC will be lowest when the MPL is highest since MC = MPL is highest when
w MPL
∂MPL =0 ∂L
∴ 150 – 6L = 0 L=
150 = 25 6
Q = 100 + 75 × 252 – 253 = 31,350 units. ∴ When the output is 31,350 units, MC is minimum. 47. (b) At equilibrium: QD = QS
250 – P– 0.05P2 = 200 + 2.5P + 0.1P2 P
250 – 200 – P – 2.5P – 0.05P2 – 0.1P2 = 0 P
2
50 – 3.5P – 0.15P = 0 P
This is a quadratic equation in the form of ax2 + bx + c = 0 Where x =
−b ± (b 2 − 4ac) 2a
In the equation 50 – 3.5P – 0.15P2 = 0, P
a = –0.15, b = –3.5, c = 50 ∴P =
3.5 + 6.5 3.5 − 6.5 (or) − 0.30 − 0.30
= –33.33 (or) 10 Since price cannot be negative, equilibrium price = 10 Elasticity of demand at equilibrium price: ed
=
∂Q d P . ∂P Q d
331
Microeconomics
Qd
ed
=
250 – P – 0.05P2
=
250 – 10 – (0.05 × 102) = 235
=
–1 – 0.1 P = –1 –1 = –2
=
⎛ 10 ⎞ –2 × ⎜ ⎟ = – 0.085 ⎝ 235 ⎠
P
∴Elasticity of demand at equilibrium price is –0.085. Elasticity of supply at equilibrium price: es = Qs
= 200 + 2.5P + 0.1P2 = 235
∂Q s = 2.5 + 0.2P = 4.5 ∂P = 4.5 ×
es
10 = 0.1915 235
Elasticity of supply at equilibrium price is 0.1915. 48. (e) With imposition of tax,
QS
= 200 + 2.5 (P – 1) + 0.1 (P – 1)2 = 200 + 2.5P – 2.5 + 0.1P2 + 0.1 – 0.2P = 197.6 + 2.3P + 0.1P2
At equilibrium QD = QS ∴ 250 – P – 0.05P2 = 197.6 + 2.3 P + 0.1P2 P
52.4 – 3.3P – 0.15P2 = 0 P
Solving for P, P
= –33.69 (or) 10.69
Therefore, P
= 10.69
Change in P
= 10.69 – 10 = 0.69
Proportion of the tax burden borne by the consumers is
0.69 × 100 = 69% 1.00
And producers bear the burden of 31%. 49. (c) Market demand is
P
=
120 – Q
P
=
120 – Q1 – Q2 (since Q = Q1 + Q2)
Each duopolist can maximize profits by equating MC and MR. TR1 = P × Q1 = 120Q1 – Q12 – Q1Q2 MR1 =
∂TR1 = 120 – 2Q1 – Q2 ∂Q1
TR2 = 120Q2 – Q1 Q22 – Q2
332
MR2 =
∂TR 2 = 120 – 2Q2 – Q1 ∂Q2
MC1 =
∂TVC1 = 20 ∂Q 2
MC2 =
∂TVC 2 = 40 ∂Q 2
Part III
For Duopolist 1, 120 – 2Q1 – Q2 = 20 ……. (1) 100 – 2Q1 – Q2 = 0 For Duopolist 2, 120 – Q1 – 2Q2 = 40 ……. (2) 80 – Q1 – 2Q2 = 0 ……. (3) Q1 = 80 – 2Q2 Substituting (3) in (1), 100 – 2(80 – 2Q2) – Q2 = 0 100 – 160 + 4Q2 – Q2 = 0 3Q2 = 60 Q2 = 20 Q1 = 80 – 40 = 40 Q = 20 + 40 = 60 ∴ P = 120 – Q = Rs.60 units. 50. (c) The total quantity sold by the firm in the two markets, Q = 120 – P = 120 – 60 = 60. Thus, if quantity sold in market is 40, then the quantity sold in the other market would be 20 units. TVC1 = 20 × Q1 and TVC2 = AVC2 × Q2 = 40 × Q2 TC1 = FC1 + TVC1 = 1,000 + 20Q1 = TR1 = =
1,000 + (20 × 40) = Rs.1,800 P × Q1 60 × 40 = Rs.2,400
π1 = TC2 = = =
2,400 – 1,800 = Rs.600 FC2 + TVC2 100 + 40Q2 100 + (40 x 20) = Rs.900
TR2 =
P × Q2
=
60 × 20 = Rs.1,200
π2 = 1,200 – 900 = Rs.300 Thus, total profit = 300 + 600 = Rs.900. 51. (a) a. The demand function is a linear one in the form of Q = a + bP Q = Quantity demanded P = Price B = Price coefficient a = Intercept i.e., quantity demanded when the price is zero ΔQ = bΔP b = ΔQ/ΔP Where, ΔQ = Change in quantity demanded and ΔP = Change in price.
When price increases from 4 to 8, ΔQ = – 4. b
= ΔQ/ΔP = – 4/4 = –1.
Thus, Q = a – 1P or a – P. By putting the value of ‘b’ in any of the combinations, we can derive the value of ‘a’. 24 = a – 4 333
Microeconomics
Thus, a = 24 + 4 = 28. Thus, demand function, Q = 28 – P b.
Let supply function be Q = a + bP When price increases from 4 to 8, supply increased from 6 to 8. Thus, b = ΔQ/ΔP = 2/ 4 = 1/2 = 0.5 Thus, Q = a + 0.5P By putting the value of ‘b’ in any of the combinations, we can derive the value of ‘a’. 6 = a + 0.5(4) Thus, a = 4 Hence, supply function = 4 + 0.5P.
52. (c)
TC = 150 + 150Q – 20Q2 + Q3 Shutdown price is the price where AVC is minimum i.e., AVC = MC MC = 150 – 40Q + 3Q2 AVC = (150Q – 20Q2 + Q3)/Q = 150 – 20Q + Q2 Therefore, AVC = MC 150 – 20Q + Q2 = 150 – 40Q + 3Q2 20Q = 2Q2 Q = 10 When Q = 10, AVC = 150 – 20(10) + (10)2 = 150 – 200 + 100 = Rs.50 Thus, price when AVC is minimum is Rs.50, which is nothing but the price below which the firm has shutdown its operations. 53. (b) The buyers and sellers share the tax in the ratio of Es and Ed respectively.
The price elasticity of supply = ∂Qs/∂P × P/Qs = 200 (P/Qs) The absolute price elasticity of demand = ∂Qd/∂P × P/Qd = 500 (P/Qd) Since at equilibrium Qs = Qd, the ratio of Es and Ed = 200:500 or 2:5. Thus, the buyers’ share of tax is 10 × 2/7 = 2.86. 54. (d) When price is Rs.75, demand is 10 units.
When price is Rs.70, demand is 12 units. If the demand is linear, then Q = a + bP. Where, b = Change in quantity demanded/Change in price = (12 – 10)/(70 – 75) = 2/(–5) = – 0.4 Thus, Q = a – 0.4P At Rs.75, 10 = a – 0.4(75) or, a = 40 Thus, demand function = Q = 40 – 0.4P The maximum quantity can be demanded when the price is zero. Hence, maximum quantity demanded = 40 – 0.4(0) = 40 units. 334
Part III
55. (a) Under perfect competition, P = MR = AR = MC Thus, 4 = MC This is possible only when the quantity of output produced is 53 units. Thus, profit maximizing output = 53 units. If industry output is 1,48,824 units, the number of identical firms would be 1,48,824/53 = 2,808. 56. (d) Total cost for producing 500 units = 500 x 5 = 2,500 Total Variable Cost (TVC) = 2500 – Total Fixed Cost = 2,500 – 500 = Rs.2,000 Average variable cost = 2,000/500 = Rs.4. Total cost for producing 750 units = 750 x 4 + 500 = Rs.3,500.
Total Revenue (TR) = 750 × 10 = 7,500. Thus, total profit = 7,500 – 3,500 = Rs.4,000. 57. (b) When price increases from Rs.20 to 30 (by 25%), the quantity demanded will decrease by 37.5% i.e., by 3,000 × .375 = 1,125 units. Price effect = Income effect + Substitution effect. As income effect is 0.5 × substitution effect, price effect = 1.5 × substitution effect = 1,125. Thus, substitution effect = 1,125/1.5 = 750 units. 58. (b) Ratio of prices of X and Y = Px/Py = Absolute slope of the budget line = 0.25. Or, 0.25Py = Px Or, Py = 4Px Budget constraint: 100 = Px. Qx + Py × Qy We know that Qx = Qy (Given) 100 = PxQx + 4PxQx 100 = 5PxQx or, PxQx = Rs.20 (Amount spent on good X). 59. (b) TC (when 10 units of output) = 10 × 10 = 100 TC (when 11 units of output) = 11 × 11 = 121 MC = (121 – 100) = Rs.21. 60. (e) When the market price is Rs.4, the consumer surplus = 1/2 × 32 × 16 = Rs.256.
61. (d) MPL = 20K0.5/L0.5 MPL = 20(100)0.5/L0.5 = 200/L0.5 To maximize profits, the firm should hire labor until MRPL = Wage. Since P = MR = 3, we have MRPL = MR × MPL = 3 × 200/ L0.5 = 600/ L0.5. When MRPL = Wage, 600/ L0.5 = 100 L0.5 = 6 or, L = 36 units.
335
Microeconomics
62. (b)
a.
When K = 1 and L = 1 Q = 5(1) + 7(1) + (1)(1) = 13 When K = 2 and L = 2 Q = 5(2) + 7(2) + (2)(2) = 28 That is when inputs are doubled, output increases more than double times. Hence, the production function describes increasing returns to scale.
b.
When K =1 and L = 1 Q = 8(1)/1 = 8 When K = 2 and L = 2 Q = 8(2)/2 = 8 This is decreasing returns to scale since K/L will be constant when both K and L are increased by same proportions. This is the case of constant returns to scale since α + β = 1. (i.e., 0.3 + 0.7 =1)
c.
63. (a) When price discrimination is not practiced by the monopolist, PK = PA.
PK = 40 – 2.5QK 2.5QK = 40 – PK QK = 16 – 0.4PK PA = 120 – 10QA 10QA = 120 – PA QA = 12 – 0.1PA Total output sold by the monopolist = Q = QA + QK Thus, Q
= 16 – 0.4PK + 12 – 0.1PA
Q = 28 – 0.5P TR = P × Q = P(28 – 0.5P) = 28P – 0.5P2 Maximum TR: ∂TR/∂Q = 0 28 – P
=0
or, P
= 28
When P = 28, Q = 28 – 0.5(28) = 14 units. 64. (b) When price discrimination is practiced,
MRK = MC MRA = MC When PK = 40 – 2.5QK TRK = PK × QK = (40 – 2.5QK) QK = 40QK – 2.5 Q2K MRK = 40 – 5QK
Thus, profit maximizing output in Karnataka: 40 – 5Qk = 30 QK = 2 TRA
= QA × PA = (QA – 10QA) 120 = 10Q 2A – 120QA
MRA = 120 – 20QA 336
Part III
65.
66.
67. 68.
Thus, profit maximizing output in Andhra Pradesh: 120 – 20QA = 30 QA = 90/20 = 4.5 Thus, profit maximizing total output for the monopolist = QK + QA= 2 + 4.5 = 6.5 units. (c) Profit = TR – TC TR = P × Q P = 100 – Q Hence, TR = (100 – Q) Q = 100Q – Q2 Hence, profit = 100Q – Q2 – (100 – 5Q + 2Q2) = –100 + 105Q – 3Q2 Average profit function: – 100/ Q + 105 – 3Q Thus, if current output is 2 units, average profit will be –100/ 2 + 105 – 3(2) = –50 + 105 – 6 = Rs.49. (d) At break even, TR = TC TR = P × Q = 5Q Thus, 5Q = 2,850 + 3.5Q or, 1.5Q = 2,850 or, Q = 2,850/1.5 = 1,900 units. (e) All the cost functions represent short run since we have fixed cost components in all the cost functions. (a) The profit maximizing output is where MC = MR 30 – 40Q + 3Q2 = 30 – 4Q or, 3Q2 = 36Q or, Q = 12 At output of 12 units, Total cost = 3000 + 30(12) – 20(12)2 + (12)3 = 3,000 + 360 – 2,880 + 1,728 = Rs.2,208.
69. (b) AC = 500/Q + 10 + 5Q + 25Q2
TC = 500 + 10Q + 5Q2 + 25Q3; Where, Rs.500 = Fixed cost and 10Q + 5Q2 + 25Q3 = TVC. 70. (a) Efficient input combination: MPL/w = MPK/r
MPL = ∂TP/∂L = 15K0.5/L0.5 MPK = ∂TP/∂K = 15L0.5/K0.5 Thus, (15K0.5/L0.5)/30
=
(15L0.5/K0.5)/20
or, 30K0.5/L0.5
=
45L0.5/K0.5
30K
=
45L
K
=
1.5L
Q
=
30K0.5L0.5
180
=
30(1.5L)0.5L0.5
180
=
45L
or, L
=
4
If L
=
4, K = 1.5 × 4 = 6
Cost
=
6 × 20 + 4 × 30 = Rs.240.
337
Model Question Paper IV Time: 3 Hours
Total Points: 100 Part A: Basic Concepts (40 Points)
Answer all the questions. Each question carries one point. 1.
2.
3.
4.
5.
338
There are several close substitutes for Bayer aspirin but fewer substitutes for a complete medical examination. Therefore, you would expect the demand for a.
Both to be equally elastic
b.
Both to be equally inelastic
c.
Medical exams to be more elastic
d.
Medical exams to be more inelastic
e.
Bayer aspirin to be more inelastic.
Constant returns to scale refer to a.
The range over which there will be a reduction in the average cost of producing a good as the firm expands the size of its plant
b.
The range over which there will be a reduction in the marginal cost of producing a good as the firm expands the size of its plant
c.
The range over which there will be an increase in the average cost of producing a good as the firm expands the size of its plant
d.
The range over which there will be an increase in the marginal cost of producing a good as the firm expands the size of its plant
e.
The range over which the long run average cost of producing a good is constant.
The elasticity of the long run supply curve for an increasing-cost industry will be a.
Greater than zero
b.
Less than 1
c.
Equal to 1
d.
Equal to zero
e.
Equal to infinity.
The expansion or contraction of demand curve means a.
Movement along the demand curve
b.
Movement along a higher demand curve
c.
Movement along a lower demand curve
d.
Movement along the curve which has resulted due to a change in the price of the substitute good
e.
Movement along the curve which has resulted due to a change in the price of the complement good.
The difference between Average Revenue and Average Cost is a.
Marginal profit
b.
Total profit
c.
Net profit
d.
Average profit
e.
Gross profit.
Part III
6. The long run Average Cost curve is influenced by the a.
Principle of constant returns to scale
b.
Principle of decreasing returns to scale
c.
Large scale economies and diseconomies of production
d.
All of (a), (b) and (c) above
e.
None of the above.
7. Which of following summarizes the equi-marginal principle? (MC = Marginal Cost; MP = Marginal Product; TC = Total Cost; MU = Marginal Utility; P = Price) a.
MC1/P1 = MC2/P2 = MCn/Pn.
b.
MP1/P1 = MP2/P2 = MPn/Pn.
c.
MU1/P1 = MU2/P2 = MUn/Pn.
d.
TC1/P2 = TC2/P2 = TCn/Pn.
e.
None of the above.
8. The income-consumption curve shows the a.
Change in the price for a change in income
b.
Change in the expenditure for a change in income
c.
Change in the cost for a change in income
d.
Change in the quantity for a change in income
e.
None of the above.
9. Which of the following conditions must be met to ensure that a firm has the ability to exercise price discrimination? a.
Perfect competition.
b.
The ability to differentiate between consumers.
c.
Market power.
d.
Consumers unable to resell the product.
e.
Only (b), (c) and (d) above.
10. If the demand curve for Product B shifts to the right as the price of Product A declines, it can be concluded that a.
A and B are substitutes
b.
A and B are complementary goods
c.
A and B are not related goods
d.
A is a superior and B an inferior good
e.
B is a superior and A an inferior good.
11. Game theory can be defined as a.
An analysis of situations involving two or more decision-makers with at least partially conflicting interests
b.
A theory that propounds the likely events
c.
A concept that makes use of advanced mathematical and statistical tools to predict things in all walks of life
d.
An analysis of how different markets will be affected due to the changes in the policies of the government
e.
An analysis of how different inter-dependent economies will be affected because of changes in one economy. 339
Microeconomics
12. If the change in the price of Commodity A brings about a change in the quantity demanded of Commodity B, the type of elasticity is called a.
Price elastiicty of demand
b.
Price elasticity of supply
c.
Cross elasticity of demand
d.
Income elasticity of demand
e.
Income elasticity of supply.
13. At the optimal level of output and price, a monopolist in the short run will, a.
Earn economic profits
b.
Break even
c.
Incurr losses
d.
Shut down of price falls below AVC
e.
Any of the above.
14. If cross elasticity of demand is less than zero for two products X and Y, then X and Y are a.
Complements
b.
Substitutes
c.
Independent goods
d.
Cross elasticity of demand cannot be less than zero
e.
None of the above.
15. Which of the following is true of the Average Fixed Cost curve? a. It always declines as the output increases. b. It is U-shaped, if there are increasing returns to scale. c. It is U-shaped, if there are decreasing returns to scale. d. It intersects MC curve at the minimum point of the MC. e. None of the above. 16. The Marginal Revenue product is a. The selling price of the last unit of output b. The incremental Total Revenue resulting from the use of an additional unit of input c. Used in determining marginal physical product d. Harder to determine in pure competition than in oligopoly e. Harder to determine in pure competition than in monopoly. 17. From kinked demand curve one can infer that a. Oligopoly prices remain stable b.
Oligopoly prices remain firm even during recession
c.
Oligopolies lead to perfect competition in the long run
d.
Oligopolies lead to monopoly in the long run
e.
None of the above.
18. Which of the following is a movement along the supply curve? a. A fall in the output of rice because of a rise in the prices of pesticides and fertilizers. b. An increase in supply of air travel because of the liberalization of the aviation sector. c. A rise in the price of sugar leading to an increased production of sugarcane. d. A rise in the wages for workers in the software industry leading to an increase in the supply of software professionals. e. None of the above. 340
Part III
19. Which of the following main features differentiate monopolistic competition from all other forms of competition? a.
Price determination.
b.
Industry demand.
c.
Industry supply.
d.
Product differentiation.
e.
Determination of profit maximizing output.
20. A consumer can maximize his total utility if he allocates his money income so that a.
Marginal utility of each product consumed is equal
b.
Gain in marginal utility from the last rupee spent on each product purchased is the same
c.
Elasticity of demand is the same for all the products purchased
d.
Total utility gained from each product consumed is the same
e.
Marginal utility of each product consumed is zero.
21. The term ‘pay-off’ in game theory refers to a.
The adverse impact on Player-2 because of the strategy of Player-1
b.
The losses different players will sustain because of a strategy
c.
The profits or utilities different players will make because of a strategy
d.
The alternative strategies that are left to Player-2 because of a strategy of Player-1
e.
The equilibrium position between two players after their strategies and counterstrategies.
22. A pay-off table in a game theory describes a.
The impact on the consumers because of the price war between two or more players
b.
The economic impact on the society because of the price war between two or more players
c.
The impact on the other players of the industry because of the price war between two players
d.
The strategies and pay-offs of a game with two or more players
e.
The impact on two players because of strategies of different players in a market.
23. Dominant strategy in a game theory refers to a.
The strategy of a player which deciminates all other players
b.
A strategy which is best for all the players
c.
A strategy which is available to all the players
d.
A strategy which is inaccessible to any of the players
e.
The best strategy a player has, irrespective of the strategies of the other player.
24. Which of the following will happen if the government sets a maximum price level where the short run MC curve cuts demand curve in a monopoly? i.
The monopolist will be forced increase his output to that level if the industry were in perfect competition.
ii.
The profits of the monopolist will come down.
iii.
The monopolist will reduce output.
iv.
The monopolist will make more profits.
341
Microeconomics
a.
Both (i) and (ii) above.
b.
Both (iii) and (iv) above.
c.
Both (i) and (iv) above.
d.
Both (ii) and (iii) above.
e.
None of the above.
25. Which of the following is true? a.
A monopolist who is in long run equilibrium will also be in the short run equilibrium.
b.
A monopolist who is in short run equilibrium will also be in the long run equilibrium.
c.
A monopolist who is in short run equilibrium may or may not be in the long run equilibrium.
d.
A monopolist who is in long run equilibrium may or may not be in the short run equilibrium.
e.
None of the above.
26. A monopolist will make profits in the long run also because of a.
High scales of economy
b.
Established brand image
c.
Blocked entry
d.
Low costs
e.
Product differentiation.
27. In India, a near perfect competition exists in the following industry. a.
Cement
b.
Soaps and detergents
c.
Dental care products
d.
Rice farming
e.
Consumer electronics.
28. Which of the following is not true? a.
Two types of collusions under oligopoly are tacit, as in price leadership and explicit, as in cartel formation.
b.
An assumption made by the kinked demand curve analysis is, if a firm increases the price of its product others will probably ignore this.
c.
A situation of a few buyers is called oligopsony.
d.
Under oligopoly, equilibrium price is equal to marginal cost.
e.
Under oligopoly, the firms may produce standardized or differentiated products.
29. The output level at which the firm’s Total Revenues equal its Total Costs is called
342
a.
Shutdown point
b.
Break even point
c.
No-profit point
d.
Zero-sum point
e.
Net-of-loss point.
Part III
30. Which of the following is true with reference to Shutdown Point in a Perfect Competition? a.
The profits of the Firm equal to its Total Costs.
b.
At that output level the price covers the average Fixed Costs of the Firm.
c.
At that output level the price covers the average Variable Costs of the Firm.
d.
At that output level the price covers the average Total Costs of the Firm.
e.
At that output level the losses of the Firm cease and its profits begin.
31. The burden of a tax is borne equally by buyers and suppliers when a.
Supply is perfectly elastic
b.
Supply is relatively more elastic than demand
c.
Supply is relatively more inelastic than demand
d.
Demand is perfectly inelastic
e.
Both demand and supply are equally elastic.
32. If a Perfectly Competitive Firm finds itself operating at loss in the short run, it will a.
Reduce the size of its plant to lower Fixed Costs
b.
Raise the price of its product
c.
Shutdown
d.
Continue to operate as long as it covers Variable Cost
e.
Continue to operate as long as it covers its Fixed Cost.
33. Which of the following is true in case of a long run average cost curve? i.
The curve is U-shaped since economies of scale are followed by diseconomies of scale.
ii.
The curve is dome shaped since diseconomies of scale are followed by economies of scale.
iii.
The lowest point of the curve coincides with the lowest point of one of the short run average cost curves.
a.
Only (i) above.
b.
Both (i) and (ii) above.
c.
Both (i) and (iii) above.
d.
Both (ii) and (iii) above.
e.
All of (i), (ii) and (iii) above.
34. Hoping to increase both Wheat Prices and the Total Revenues of Wheat Farmers, the government encourages them to restrict their production, thereby reducing the supply of wheat. If the farmers cooperate a.
Wheat prices will rise, if demand is elastic
b.
Wheat prices will rise, if demand is inelastic
c.
Wheat prices will rise, regardless of demand elasticity, but the revenues of wheat farmers will rise only if demand is elastic
d.
Wheat prices will rise, regardless of demand elasticity, but the revenues of wheat farmers will rise only if demand is inelastic
e.
None of the above.
35. Consider the following statements relating to Indifference Curves. i.
Indifference Curves intersect with each other at their mid points.
ii.
In case of perfect substitutes, the indifference curves are linear.
iii.
A convex indifference curve implies that the Marginal Rate of Substitution will be gradually increasing as we move from Y-axis to X-axis. 343
Microeconomics
Which of the above statements is/are true? a.
Only (i) above.
b.
Only (ii) above.
c.
Only (iii) above.
d.
Both (i) and (ii) above.
e.
Both (ii) and (iii) above.
36. Every point that lies to the right of the consumer’s budget constraint is a.
Undesirable
b.
Inefficient, given current income
c.
Unattainable, given the current income
d.
Inferior to the points within the constraint in terms of utility
e.
None of the above.
37. Which of the following is true? a.
When MPL is below APL, APL rises.
b.
When MPL is above APL, APL rises.
c.
APL increases as long as MPL increases.
d.
MPL > APL when APL is declining.
e.
When MPL is equal to APL, APL is minimum.
38. Which of the following is not true? a.
Depreciation is the loss in value of capital good due to wear or obsolescence and is a Fixed Cost.
b.
Wages, fuel and raw materials are examples of Variable Costs.
c.
Labor provided by the owner of a store is an example of Implicit Cost.
d.
Whenever Marginal Cost is rising, Average Cost is also rising.
e.
MC declines at first because of increasing returns in production.
39. Which of the following is true for a Giffen good? a.
The good is a normal good.
b.
The good is inferior and the substitution effect outweighs the income effect.
c.
The good is inferior and the income effect outweighs the substitution effect.
d.
The good is normal and the income effect outweighs the substitution effect.
e.
The good is normal and the substitution effect outweighs the income effect.
40. In the figure below, assume that the consumer is initially in an optimum position at point A. If price of good X falls, the substitution effect of the price change is represented by a movement from
344
Microeconomics
67. Consider the following Total Cost function TC = 1000 + 200Q – 9Q2 + 0.25Q3. Which of the following statements is/are true?
1000 + 200 – 9Q + 0.25Q2. Q
a.
The Average Variable Cost Function is
b. c. d. e.
Fixed Cost is 1000. Marginal Cost function is 200 – 9Q + 0.25Q2. Variable Cost function is 200Q – 9Q2 + 0.25Q3. Both (b) and (d) above. (1 point)
68. Consider the following Demand and Supply functions: Demand function : P = 100 – 4Q Supply function : P = 40 + 2Q. (where P = Price per unit and Q = Quantity in units). The equilibrium price and quantity are a. P = Rs.60, Q = 10 units b. P = Rs.10, Q = 6 units c. P = Rs.40, Q = 6 units d. P = Rs.20, Q = 20 units e. None of the above. (1 point) 69. If 1 unit of land and 1 unit of labor are used to make Product A (costing a total of Rs.10), and 1 unit of land and 3 units of labor are used to make Product B (costing a total of Rs.22), then a. The price of land is Rs.6 and the price of labor is Rs.4 b. The price of labor is Rs.6 and the price of land is Rs.4 c. The price of land is Rs.8 and the price of labor is Rs.2 d. The price of each input is Rs.4 e. The price of labor is 3 times the price of land, but the exact amount cannot be determined from the above. (1 point) 2 70. The Total Cost function is estimated to be TC = 100 – 3Q + 5Q . If the current output is 5 units, Marginal Cost is a. Rs.96 b. Rs.75 c. Rs.47 d. Rs.26 e. None of the above. (1 point) 71. Possible earnings of Ms. Padmini from various activities for an hour are Activity Acting
1,000
Consulting
700
Teaching
500
Writing
300
Sleeping
352
Earnings (Rs.)
0
Part III
If Ms. Padmini chooses to act for an hour instead of taking up any other activity, the Opportunity Cost of acting is a.
Zero
b.
Rs.300
c.
Rs.500
d.
Rs.700
e.
Rs.1,000. (1 point)
72. A consumer is indifferent between the combinations A and B. Combination Good X Good Y A 10 14 B 12 13 Absolute value of Marginal Rate of Substitution (MRSXY) for the consumer is a. 0.50 b. 1.00 c. 1.50 d. 2.00 e. None of the above. (1 point) 73. Marginal utilities of goods A and B are 600 and 900, and the price of good B is Rs.120. If the consumer is in equilibrium, the price of good A is a. b. c. d. e.
Rs.60 Rs.70 Rs.80 Rs.90 Data insufficient. (1 point)
353
Model Question Paper IV Suggested Answers Part A: Basic Concepts 1. (d) One of the determinants of elasticity of demand is availability of substitutes. More the number of substitutes available, more elastic the demand is. Hence, the answer is (d). 2. (e) Constant returns to scale refer to the range over which the long run average cost of producing a good is constant. 3. (a) The long run supply curve for an increasing cost industry slopes upward. The elasticity of an upward sloping supply curve would be greater than zero, but lesser than infinity. 4. (a) A movement along a demand curve refers to expansion or contraction of the demand curve. 5. (d) The difference between the Average Revenue and Average Cost is the Average Profit. 6. (c) Scale of economies determine the shape of the LAC curve and the position of the curve depends on the external economies. Changes in these external economies will result in a shift of the LAC. 7. (c) Equi-marginal principle says that MU1/P1 = MU2/P2 = MU3/P3 =.....= MUn / Pn = MUm. 8. (d) The income consumption curve shows the effect of the change in income on the equilibrium quantities purchased. 9. (e) Perfect competition prevails when the following conditions are fulfilled. i. Large number of buyers and sellers. ii. All the firms produce identical product. iii. Perfect knowledge on the part of buyers and sellers regarding market prices. iv. Freedom of entry and exit for all the firms. v. Absence of transport costs. vi. Perfect mobility of the factors of production. The above conditions ensure that a single price prevails throughout the market. Hence price discrimination is not possible under Perfect Competition. All other conditions are required for price discrimination. Hence correct answer is (e). 10. (b) Given the goods A and B are complimentaries, if the price of A decreases, demand for B will increase. Hence demand curve for B will shift to the right. 11. (a) The theory of games is a framework for analyzing the selection of strategies by persons or organization with conflicting interests in situations where pay offs depend on the choices made by each participant and the participant’s rival. 12. (c) Cross price elasticity of demand is defined as the percentage change in the quantity demanded of a good due to a percentage change in the price of another good, other things remaining constant. 13. (e) Like a perfectly competitive firm operating in the short run, the monopolist either earns excess profits or incurs losses or only normal profits. 14. (a) When two goods are complements, increase in the price of one good decreases the quantity demanded of both the goods. Here the cross elasticity of demand stands negative. 15. (a) AFC = FC/Q. As Q increases, AFC always declines. All other options are not true. 16. (b) The additional revenue generated by employing one more unit of input is Marginal Revenue Product (MRP). MRP = MP × P if the product is sold at a constant price.
354
Part III
17. (a) The kinked demand curve gives each oligopolist good reason to believe that any change in price will be for the worse. Many of the firms’ customers will stop buying its products if it raises its price. On the other hand, if it lowers its price, its sales at best will increase very modestly, as the competitive firms also lower their product prices. 18. (d) A movement along the supply curve is caused by change in the price and resultant change in the quantity supplied. When price of labor (wages) increases supply of labor also increases. All other options lead to a shift in the supply curve. 19. (d) Profit maximizing price and output determination are same under all the market structures, that is MR = MC. Industry demand and supply are derived from individual demand and supply of the market players in the industry. The distinguishing feature of monopolistic competition is product differentiation. 20. (b) Equi-marginal utility principle states that to maximize total utility. MUx/Px = MUy/Py = - - - - - - - - - - = MUn/Pn, which means for each commodity, MU for the last rupee spent on the good must be same. 21. (c) The profits or utilities made by the rival players for their strategies are called the pay-offs. 22. (d) Pay-off table or pay-off matrix shows the gain or loss from each possible strategy for each possible reaction by the rival player of the game. 23. (e) Dominant strategy refers to a situation that arises when one player has a best strategy no matter what strategy the other player follows. 24. (a) When the government sets a price ceiling where MC = AR, the monopolist will be forced to increase his output to meet the target price. In the process, the profit falls. 25. (a) For a monopolist, equilibrium condition is same in long run as well as in short run. 26. (c) Since, entry is blocked to new players a monopolist makes profits in the long run. 27. (d) Rice farming is an example for perfect competition. 28. (d) When the demand curve is downward sloping MR < P. To maximize profit the firm equates MR to MC. Under oligopoly P > MC. 29. (b) Break Even Point is the point at which the firms revenues are just sufficient to meet its Total Costs. 30. (c) Shutdown Point is the point where the price equals the minimum possible Average Variable Cost. Below the point operating losses would exceed the Fixed Cost and the firm shuts down its operations. 31. (e)
Tax burden borne by buyer Tax burden borne by seller
=
Price Elasticty of Supply (ES ) Price Elasticity of (E D ) Demand
∴Tax burden will be equally shared by suppliers and buyers when ES = ED. 32. (d) In the short run a firm cannot avoid Fixed Costs. Whether the firm undertakes production or not the Fixed Costs are incurred by the firm. Therefore, the deciding factor for the firm is whether it is able to recover its Variable Costs or not. As long as the revenue (price) is greater than the variable (Average Variable) cost it is in the interest of the firm to undertake production.
355
Microeconomics
33. (c) Long run Average Cost curve (LAC)
(i) and (iii) are true and hence the answer is (c). 34. (d) Given the demand for Wheat, price of Wheat increase if output is restricted. As Price increase, Total Revenue will increase only if ep < 1. Therefore, answer is (d). 35. (b) Two Indifference Curves (ICs) can never intersect as an IC represents a certain level of utility. Further, an IC is convex to origin and MRS decreases as we go on substituting good X for good Y. In case of perfectly substitutable goods MRS is constant and hence IC is a straight line. 36. (c) Given the income (budget) of the consumer and the prices of the goods the budget constraint (line) indicates the combinations of the two goods the consumer can buy. Utility maximizing consumer would like to reach the farthest possible indifference curve from the origin. Therefore, every point that lies to the right of the budget constraint is desirable for the consumer as he can move onto a higher indifference curve, but not attainable. 37. (a) As long as MPL > APL, APL increases and if MPL < APL, APL decreases. 38. (d) AC will be rising only if MC > AC. Option (d) is not true because MC can be rising but still less than AC, in which case AC will be decreasing. 39. (c) For a Giffen good the income effect is negative and stronger than the positive substitution effect. Hence the price effect is negative. 40. (c) The movement from A to B is price effect. From A to C it is substitution effect and from C to B it is income effect.
Part B: Problems 41. (a) Price elasticity, ep = ΔQ
=
– 100
ΔP P1 + P2 Q1 + Q2
= = =
5 10 + 15 = 25 1,000 + 900 = 1,900
∴ ep
=
−100 25 = –0.263 × 5 1,900
Cross elasticity, exy =
356
ΔQ P1 + P2 . ΔP Q1 + Q 2
ΔQ x Py1 + Py 2 . ΔPy Qx1 + Qx 2
ΔQx
=
– 50
ΔPy
=
1
Part III
Qx1 + Qx2 Py1 + Py2 exy =
= =
1,950 19
−50 19 . = – 0.487. 1 1950
42. (a) Demand function:
P
= 480 – 8Q
TR = PQ = 480Q – 8Q2 MR = 480 – 16Q Cost function: TC = 400 + 8Q2 MC = 16Q To maximize profit, MR = MC ∴ 480 – 16Q = 16Q 32Q = 480 Q = 15 P = 480 – (8 × 15) = 360 For the monopolist, profit maximizing P
= 360
Q
= 15.
TR = PQ = 15 × 360 = 5,400 TC = 400 + (8 × 152) = Rs.2,200 ∴ π = 5,400 – 2,200
= Rs.3,200.
43. (e) The demand function in market 1 is
Q1 = 32 – 0.4P1 or P1 = 80 – 2.5Q1 The demand function in market 2 is Q2 = 18 – 0.1P2 or P2 = 180 – 10Q2 The cost function is C = 50 + 40Q To maximize profits, MC = MR1 = MR2 MC = 40 TR1 = P1Q1 = 80Q1 – 2.5 Q12
MR1 = 80 – 5Q1 TR2 = P2Q2 = 180Q2 – 10 Q 22 MR2 = 180 – 20Q2 To maximize profits, MC should be equal to MR in both the markets MC
= MR1
40 = 80 – 5Q1 40 – 80 = –5Q1 Q1
=8
P1
= 80 – 2.5Q1 = 80 – (2.5 × 8) = 80 – 20 = 60 357
Microeconomics
MC
= MR2
40
= 180 – 20Q2
40 – 180 = –20Q2 Q2
=7
P2
= 180 – 10Q2
Profits
= TR – TC
= 180 – (10 × 7) = 180 – 70 = 110 For the price discriminating monopolist TR = TR1 + TR2 TR1 = P1Q1 = 60 × 8
= Rs.480
TR = P2Q2 = 110 × 7 = Rs.770 TR = 480 + 770 = 1,250 TC = 50 + 40Q = Q1 + Q2 = 15
Q
TC = 50 + (40 × 15) = Rs.650 Profits = 1,250 – 650 = Rs.600. 44. (c) TC = 18Q – 0.30Q2 + 0.010Q3
MC =
∂TC = 18 – 0.60Q + 0.030Q2 ∂Q
MC is minimum when ∴
∂MC =0 ∂Q
∂MC = – 0.60 + 0.060Q = 0 ∂Q
0.060Q = 0.60 Q = 10 units. 45. (b) MC = 18 – 0.6Q + 0.03Q2
TC = 18Q – 0.3Q2 + 0.01Q3 AC =
TC = 18 – 0.30Q + 0.01Q2 Q
AC is minimum when ∴
∂AC ∂Q
0.020Q Q
∂AC =0 ∂Q
= – 0.30 + 0.020Q = 0 = 0.30 = 15 units.
46. (b) Production function of Global Systems is Q = 100 K0.5 L0.5
MPL =
∂Q K 0.5 K 0.5 = [100 × 0.5] 0.5 = 50 0.5 ∂L L L
MPK =
∂Q L0.5 L0.5 = [100 × 0.5] 0.5 = 50 0.5 ∂K K K
Optimum input combination for Global Systems is where 358
Part III
MPL w = MPK r K 0.5 L0.5 = 10 L0.5 20 50 0.5 K 50
K 10 = L 20 K = 0.5 L (or) L = 2K If the targeted output is 7071. 7071 = 100 K0.5 (2K)0.5
2K
7071 = 100
7071
K =
100 2
= 50
L = 2K = 100 ∴ Optimum input combination for an output of 7071 units is
K = 50 L = 100 Cost of production
= w.L + r.K = 10 × 100 + 20 × 50 = Rs.2000.
47. (b) If the input prices decrease by 50%, w = 5; r = 10.
Optimum input combination does not change since input prices decrease by the same proportion. ∴ L = 2K
If the output is at 4525 4525 = 100. K0.5 (2K)0.5 4525
K
=
L
= 2K = 64.
100 2
= 32
Estimated cost = 5 × 64 + 10 × 32 = Rs. 640. 48. (c) TVC = 150Q – 12Q2 +
MC =
1 3 Q 3
3 ∂TVC = 150 – 24Q + Q2 3 ∂Q = 150 – 24Q + Q2
Price = 330 = MR To maximize profits, MR = MC
∴ 150 – 24Q + Q2 = 330 Q2 – 24Q – 180 = 0 Since it’s a Quadratic Equation, .
359
Microeconomics
Q=
− b ± b 2 − 4ac 2a
where a = 1, b = – 24, c = – 180 Q
=
= =
− b + b 2 − 4ac 2a
(or)
− b − b 2 − 4ac
(− 24)2 − (4 ×1× − 180)
24 +
2
2a (or)
24 −
(− 24)2 − (4 ×1× − 180) 2
24 + 36 24 − 36 (or) = 30 (or) – 6 2 2
∴ Profit maximizing output (Q) = 30 units. Profit (π) = TR – TC TR = PQ = 330 × 30 = Rs.9,900 TC = FC + TVC = 6,000 + (150 × 30) – 12 × 302 + π
1 3 30 = Rs.8,700 3
= 9,900 – 8,700 = Rs.1,200.
49. (b) Given, P = 150 – 6Q.
Thus, TR = PQ = (150 – 6Q)Q = 150Q – 6Q2 MR = ∂TR/∂Q = 150 – 12Q When
MR = MC
We have 150 – 12Q = 30 120 = 12Q Q = 10 units. Thus, P = 150 – 6(10) = 150 – 60 = 90. In perfect competition, P = MC = 30. When
P = 30, Q can be calculated as follows: P = 150 – 6Q 6Q = 150 – 30 = 120. Q = 120/6 = 20 units.
Thus, the dead weight loss is equal to area of triangle BCD =
360
1 × (20 – 10) × (90 – 30) = Rs.300. 2
A
Part III Consumer Surplus: Monopoly Economic Profit: Monopolist
Pm (Rs.90)
B
Dead Weight Loss
D
Pc (Rs.30)
MC1 = MR1
C
0 Qm (10 units)
Qc (20 MR2 units)
Q AR2
50. (a)
Qd = 1,66,000 – 100PM + 75PC + 2.5I + 0.02A – 200C Qd = 1,66,000 – 100(10,000) + 75(11,000) + 2.5(20,000) + 0.02(5,00,000) – 200(5) = 1,66,000 – 10,00,000 + 8,25,000 + 50,000 + 10,000 – 1,000 = 50,000. Income Elasticity = ∂Q/∂I × I/Q = 2.5 × 20,000/50,000 = 1. Promotional Elasticities = ∂Q/∂A × A/Q = 0.02 × 5,00,000/50,000 = 0.2. 51. (d) To determine whether returns to scale are increasing, decreasing or constant, let us double the inputs (K and L) and find the impact on output.
If the output also doubles, the returns to scale are constant. If the output more than doubles, the returns to scale are increasing. If the output less than doubles, the returns to scale are decreasing. a.
Given the production function Q = 2K + 3L + KL Doubling the inputs K and L Q* =
2(2K) + 3(2L) + 2K2L
=
4K + 6L + 4KL
=
2(2K + 3L + KL) + 2KL
=
2Q + 2KL
Thus doubling of inputs has resulted in more than doubling of output. Hence, returns to scale are increasing. b.
Given the production function Q = 20 K0.6 L0.5 Doubling the inputs K and L Q* =
20 (2K)0.6 (2L)0.5
=
20 x 20.6+0.5 K0.6 L0.5
=
20 x 21.1 K0.6 L0.5
=
(20 K0.6 L0.5 ) 21.1 = 21.1 Q
Thus doubling of inputs has resulted in increasing the output by more than double. Hence production is subject to increasing returns to scale. c.
Given the production function Q = 100 + 3K + 2L Doubling the inputs K and L 361
Microeconomics
Q* =
100 + 3(2K) + 2(2L)
=
100 + 6K + 4L
=
2(100 + 3K + 2L) – 100
=
2Q – 100
Thus doubling of inputs has resulted in less than doubling of output. Hence, returns to scale are decreasing. d.
Given the production function Q = 5Ka Lb, where a + b = 1 Let ‘a’ and ‘b’ be 0.5 and 0.5. Doubling the inputs K and L Q* = 5(2K)0.5 (2L)0.5 = 5 × 20.5+0.5 K0.5 L0.5 = 5 × 21.0 K0.5 L0.5 = (5 K0.5 L0.5)21.0 = 21.0 Q = 2Q Thus doubling of inputs has resulted in increasing the output by just double. Hence production is subject to constant returns to scale.
52. (a) In perfect competition, the MC above the AVC curve is the supply curve of the firm. Hence, supply function of the firm is P = MC = 4Q – 4 or Q = 0.25P – 1. If supply function of single firm is Q = 0.25P – 1, the market supply function (Qs) is (0.25P – 1)1,000 = 250P – 1,000 = Qs. Equilibrium price is where quantity demand is equal to quantity supplied. Thus, equilibrium price:
2,000 – 50P = 250P – 1,000 3,000 = 300P P = Rs.10. 53. (b) MR = P (1 + 1/ep)
Thus, P = MR/(1 + 1/ep) = 5/(1 + 1/(–2) = 5/(1/2) = 10. Note: If absolute value of price elasticity of demand is 2, then actual value of ep = –2. Thus, ep = –2 = ∂Q/∂P × P/Q = ∂Q/∂P × 10/10 = ∂Q/∂P But, we know that slope of the demand curve is ∂P/∂Q and hence is equal to 1/(–2) = –0.5. 54. (b)
Trousers Marginal purchased benefit (in Rs.)
Total benefit (in Rs.)
Expenditure on Trousers (in Rs.)
Consumer Surplus (in Rs.)
1
400
400
299
101
2
350
400 + 350 = 750
598
101 + 51 = 152
3
300
750 + 300 = 1,050
897
152 + 1 = 153
4
250
1,050 + 250 = 1,300
1,196
153 – 49 = 104
55. (b) A firm will shutdown its operations if the price is less than Average Variable Cost. Since under perfect competition, price is also equal to Marginal Revenue, the firm will continue
362
Part III
operations in the short run so long as price is at least equal to Average Variable Cost. Thus the minimum price, which the firm will shut down, is the minimum Average Variable Cost. AVC = 300 – 40Q + 2Q2 Minimum Average Variable Cost: ∂AVC/∂Q = 0 Thus, –40 + 4Q = 0 Q = 10 When the firm is producing 10 units, then AVC = 300 – 40(10) + 2(100) = 100. Thus, if price falls below Rs.100. 56. (b) Alpha Co., and Beta Co., are the two firms operating in a market. The cost functions of Alpha Co., and Beta Co., are CA = 10QA and CB = 0.5QB2. If the demand function of the industry is Q = 200 – 4P, what is the Cournot’s equilibrium output for the industry? B
Q = 200 – 4P 4P = 200 – Q P = 50 – 0.25Q But, we know that Q = QA + QB B
Hence, P = 50 – 0.25QA – 0.25QB B
Thus, TRA = P x QA = QA(50 – 0.25QA – 0.25QB) B
2
Thus, TRA = 50QA – 0.25QA – 0.25QAQB B
Thus, MRA = 50 – 0.5QA – 0.25QB B
MRA = MCA 50 – 0.5QA – 0.25QB = 10 40 – 0.5QA = 0.25QB 160 – 2QA = QB B
B
B
TRB = P × QB = QB(50 – 0.25QA – 0.25QB) TRB = 50QA – 0.25QB2 – 0.25QAQB MRB = 50 – 0.5QB – 0.25QA But, MRB = MCB 50 – 0.5QB – 0.25QA = QB 50 – 0.25QA = 1.5QB 50 – 0.25QA = 1.5(160 – 2QA) B
B
B
B
B
B
B
B
B
B
B
B
B
50 – 0.25QA = 240 – 3QA 2.75QA = 190 QA = 69 units QB = 160 – 2(69) = 22 units B
Q = QA + QB = 69 + 22 = 91 units. B
57. (d) Applying Cournot’s approach, the output of the industry consisting of one firm can be found out using the formula:
Qn = Qp {n/(n + 1)} where Qp is the output under perfect competition. Thus, 600 = Qp (1/2) Qp = 1200 Thus, if there are two firms, the output of the industry will be = 1200(2/3) = 800 units. 58. (b) For all straight line demand is elastic in the upper left portion than in the lower right portion. This is consequence of the arithmetic properties of the elasticity measure. The
363
Microeconomics
demand becomes inelastic once the elasticity is unitary elastic. The demand is unit elastic when MR = 0. TR = 100Q – 2Q2 MR = 100 – 4Q when MR = 0, 100 – 4Q = 0 Q = 25 when Q = 25, P = 100 – 2(25) = 50. Thus, the range of prices where the demand is inelastic is Rs.0 to Rs.50. Note: price cannot be negative. 59. (c) TPL = 10L – L2
MPL = 10 – 2L Marginal returns become negative, once MPL equals zero. Thus, 10 – 2L = 0 L = 5 units. 60. (c) If the Government imposes specific Sales Tax of Rs.10 per unit, the distribution of tax burden between buyers and sellers is in the ratio of elasticity of supply to elasticity of demand. Thus, the tax burden borne by the buyer is 10 × 2/5 = 4. If tax burden borne by the buyer is Rs.4, it means that the new equilibrium price will increase from Rs.100 to Rs.104 (Rs.100 + Rs.4). 61. (b) AC = TC/Q = 18 – 0.30Q + 0.010Q2
AC is minimum when ∂ AC/ ∂ Q = 0 – 0.30 + 0.020Q = 0 0.020Q = 0.30 Q = 15 units. 62. (c) The market for a product consists of all the individuals who demand the good. Therefore, by summing up the demand of all the individuals in the market, we can get the market demand at a particular price.
Price of the good Ali Basha Chetan Total 100 0 0 0 0 90 3 1 0 4 80 5 2 1 8 70 6 4 2 12 Arc price elasticity of demand for the good = ΔQ/ΔP x (P1 + P2)/(Q1 + Q2) = (8 – 4)/(80 – 90) × (80 + 90)/(8 + 4) = 4/(–10) × 170/12 = (5.67). 63. (b) The firm operating in a perfectly competitive industry earns only normal profits in the long run because of free entry and exit of the firms. The firm operating at its minimum Average Cost can only prevail in the market. Thus, the equilibrium condition in the long run is when the firm is operating at Min. LAC.
If AC = 20 – 250Q + 10Q2 LTC = 20Q – 250Q2 + 10Q3 LMC =
∂LTC = 20 – 500Q + 30Q2 ∂Q
LAC is minimum, when MC = AC 364
Part III
Thus, 20 – 500Q + 30Q 2 = 20 – 250Q + 10Q2 250Q = Q2 12.5Q = Q 2 Q = 12.5 units. 64. (d) Cross-elasticity of demand Change in quantity demanded Change in price of related good × Average price of related good = Average quantity demanded (50 − 100) 50 × 9 (4 − 5) × (5 + 4) = = 3. = 150 (100 + 50) Change in quantity demanded Change in income × Average Income 65. (e) Income elasticity of demand = Average quantity demanded (200 − 50) (12000 −10000) × (12000 + 10000) = (200 + 50) =
22,000 150 × = 6.6. 250 2,000
66. (b) Total Cost of producing four units of output = 6 + 5 + 4 + 5 = 20. Thus, the Average Cost of the firm = 20/4 = Rs.5. 67. (e)
(a) AVC =
TVC Q
200Q − 9Q2 + 0.25Q3 ) ( = = 200 – 9Q + 0.25Q
2
Q
(b) MC =
=
∂TC ∂Q
(
∂ 1000 + 200Q − 9Q2 + 0.25Q3 ∂Q
) = 200 – 18Q + 0.75Q
2
(c) TVC = 200Q – 9Q2 + 0.25Q3. 68. (a) At equilibrium, Qs = Qd
4Qd = 100 – P Qd
= 25 – 0.25 P
2Qs = P – 40 Qs
= 0.5P – 20
∴ 25 – 0.25P = 0.5P – 20 45 = 0.75 P P = Rs.60 and Q = 10 units.
365
Microeconomics
69. (b) 1 Land
+ 1 Labor = 10
1 Land
+ 3 Labor = 22
(–)
(–)
(–)
–2 Labor = – 12 labor = 6 If labor price = 6, price of land = 10 – 6 = 4. 70. (c)
TC = 100 – 3Q + 5Q2 MC = –3 + 10Q If Q = 5, MC = –3 + (10 × 5) = Rs.47.
71. (d) Ms. Padmini could have earned Rs.700/hr by consulting. If she choose acting instead, the best alternative foregone is consulting. Hence the Opportunity Cost of acting is Rs.700/hr. 72. (a) MRSXY = 73. (c)
ΔY −1 = = 0.5 . ΔX 2.0
MU A MU B = PA PB 600 900 = PA 120 ∴ PA =
366
600 = Rs.80. 7 .5
Model Question Paper V Time: 3 Hours
Total Points: 100 Part A: Basic Concepts (40 Points)
Answer all the questions. Each question carries one point. 1.
2.
3.
4.
Which of the following firms contribute to an increase in the output of an industry, which has the characteristics of perfect competition, long run equilibrium and constant cost? a.
Existing firms.
b.
New firms.
c.
Both existing and new firms.
d.
Very big firms in the industry.
e.
No increase in the output could be possible.
Which of the following represents the short run supply curve of a perfectly competitive firm? a.
The MC curve.
b.
Portion of the MC curve which is rising.
c.
Portion of the MC curve which is above AC curve.
d.
Portion of the MC curve which is above break even point.
e.
Portion of the MC curve which is above shutdown point.
If the supply of a commodity is fixed, its price in a perfect competition will be determined by the a.
Demand curve
b.
Supply curve
c.
Both supply and demand curves
d.
Government
e.
The largest suppliers.
When the supply of labor is increased a.
5.
6.
It leads to higher unemployment
b.
They can be accommodated by a decrease in the real wages
c.
They can be accommodated only by laying off the existing unskilled workers
d.
The labor unions become more powerful
e.
The immigrants will be repatriated.
Which of the following is/are the assumption(s) to find the short run equilibrium of a pure monopolist? a. He wants to maximize revenues. b. He wants to maximize profits. c. He wants to minimize costs. d. He wants to maximize outputs. e. Either (a) or (b) above. Which of the following is false with reference to a monopolist’s power? a. He has unlimited market power. b. The indirect competition for the consumer’s rupee comes from the producers of other goods. c. Threat of potential competition always exists. d. Threat of governmental intervention always exists. e.
Though theoretically false, close substitutes exist. 367
Microeconomics
7. A monopolist who faces a negatively sloping demand curve operates in the region where the elasticity of demand is a.
Less than one
b.
Equal to one
c.
Greater than one
d.
Between zero and one
e.
Zero.
8. Which of the following best summarizes a natural monopoly? a.
Government operating in some industries where the national security is warranted.
b.
A firm having control over all the natural resources of the economy.
c.
A firm having full control over those natural resources which are used in the manufacture of the goods.
d.
The economies of scale operate over a sufficiently large range of outputs and make single firm supplying the entire market.
e.
The only firm which is legally permitted to operate in a particular industry.
9. Which of the following statements is not true? a.
Every choice involves opportunity costs.
b.
Opportunity costs are the highest-valued alternatives that must be forgone when a choice is made.
c.
Opportunity costs can always be expressed in money terms.
d.
The full cost of an activity includes the opportunity costs.
e.
Economists refer to the forgone benefits of the next-best alternative as opportunity costs.
10. Non-price competition in a monopolistic market refers to a.
Offering a product free-of-cost
b.
Lowering the price of the product to an abysmally low-level compared to the competitor’s price
c.
The means other than decreasing the prices of their products which firms employ to attempt to increase the sale of their products
d.
Resorting to a price-cutting war with the rival
e.
A competition in which quantity of the good is changed instead of the price to increase the revenue.
11. The elasticity of the upper portion of the kinked demand curve for a firm in oligopoly will be_________ that of the lower portion. a.
More than
b.
Less than
c.
Equal to
d.
More than or equal to
e.
Less than or equal to.
12. From kinked demand curve one can infer that
368
i.
Oligopoly prices remain stable
ii.
Oligopoly prices remain firm even during recession
iii.
Oligopolies lead to perfect competition in the long run
iv.
Oligopolies lead to monopoly in the short run.
Part III
a.
Both (i) and (ii) above.
b.
Both (i) and (iii) above.
c.
Both (ii) and (iv) above.
d.
Both (iii) and (iv) above.
e.
All of (i), (ii), (iii) and (iv) above.
13. A dominant equilibrium is a state where a.
The demand and supply are the same
b.
Every player will be in a position to dominate others
c.
One player has a best strategy no matter what strategy the other player follows
d.
No player can improve his/her pay-off given other player’s strategy
e.
Any sensible strategy can maximize the profits of all other players.
14. Which of the following is true about Nash equilibrium? i.
It is a state in which no player can improve his/her pay-off given the other player’s strategy.
ii.
Each strategy is a best response against the other player’s strategy.
iii.
One player has a best strategy no matter what strategy the other player follows.
iv.
It is also called non-cooperative equilibrium.
a.
Both (i) and (iv) above.
b.
Both (ii) and (iii) above.
c.
Both (iii) and (iv) above.
d.
Only (i), (ii) and (iv) above.
e.
Only (ii), (iii) and (iv) above.
15. Co-operative equilibrium in game theory comes when a.
The players act in unision to find strategies that will maximize their joint pay-offs
b.
The dominant player in the industry will devise a strategy and other players follow it to maximize their profits
c.
The government will devise a strategy and all players in the industry follow it to maximize their profits d. All firms have dominant strategies to implement e. None of the above. 16. Market inefficiencies can come from a. Externalities b. Monopolies c. Imperfect information d. All of the above e. None of the above. 17. If a monopolist faces a downward sloping demand curve, which of the following is true? a. Marginal revenue is greater than price, if elasticity of demand is more than 1. b.
Marginal revenue is greater than price, if elasticity of demand is less than 1.
c.
Marginal revenue is greater than price, if elasticity of demand is equal to 1.
d.
Marginal revenue is always greater than price, irrespective of the elasticity of demand.
e.
None of the above. 369
Microeconomics
18. If the stock of a commodity like mangoes is high, the sellers will a.
Lower prices to stimulate competition
b.
Increase the prices to make up for the losses
c.
Decrease the prices to make additional sales
d.
Increase the quantity further to gain advantage in the future
e.
Increase the production next year to make up the losses this year.
19. A capitalist economy is one in which a.
Capital is abundant
b.
Capital is scarce
c.
Capital goods are owned by the government
d.
Capital goods are privately owned
e.
The economy is held partly by the government and partly by the private landlords.
20. Equilibrium position is said to have occured when a.
Prices are fixed by the government and are constant
b.
Prices are constantly rising
c.
Prices are constantly falling
d.
Prices move only in accordance with the market demand and supply
e.
The quantity the buyers want to buy at a certain price is equal to the quantity sellers are willing to sell.
21. The position and the shape of any indifference curve for a particular consumer are governed by a.
His tastes
b.
The prices of the commodities
c.
His income
d.
Both tastes and income
e.
Both tastes and prices of the commodities.
22. The position and the shape of any budget-line for a particular consumer are governed by a.
His tastes
b.
His income
c.
Both tastes and income
d.
Both prices and income
e.
Both tastes and prices.
23. If Bajaj and LML scooters are substitutes, a rise in the prices of Bajaj scooters will cause a.
A rise in the supply of Bajaj scooters
b.
A rise in the supply of LML scooters
c.
A rise in the demand for Bajaj scooters
d.
A rise in the demand for LML scooters
e.
A fall in the price of LML scooters.
24. If milk and tea are complements, a fall in the prices of milk will lead to
370
a.
A rise in the demand for tea
b.
A rise in the supply of milk
c.
A rise in the price of tea
d.
A rise in the supply of tea
e.
A fall in the demand for milk.
Part III
25. If both equilibrium price and the demand for a commodity rise simultaneously, it could be a.
An exception to the law of demand
b.
An exception to the law of supply
c.
Because of a shift in the demand curve towards right
d.
Because of a shift in the supply curve towards left
e.
Because of a shift in the demand curve towards the right and a relatively stable supply curve.
26. If the price of a good remains constant irrespective of the quantity of the goods purchased, the supply curve of the goods will be a.
Perfectly elastic
b.
Perfectly inelastic
c.
Unit elastic
d.
Elastic, but not perfect
e.
Inelastic, but not perfect.
27. The price elasticity of demand equals the a.
Slope of the demand curve
b.
Absolute change in the quantity demanded divided by absolute change in the price
c.
Absolute change in the price divided by absolute change in the quantity demanded
d.
Percentage change in the price divided by percentage change in the quantity demanded
e.
Percentage change in the quantity demanded divided by percentage change in the price.
28. A person has allocated a fixed amount to a commodity. Within certain range of prices he can neither spend more nor less of this amount, regardless of the price. His demand for the good in this price range is said to be a.
Unit elastic
b.
Highly elastic
c.
Inelastic
d.
In equilibrium
e.
Normally elastic.
29. If the marginal utility of a commodity is zero, it means a.
The commodity has no utility
b.
The total utility of the commodity has reached its maximum
c.
The consumer has reached equilibrium position with respect to the purchase of the good
d.
The total utility of the commodity is zero
e.
The producer has reached equilibrium position with respect to the purchase of the good.
30. Paradox of value occurs because a.
Prices of commodities always perfectly reflect the amount of value that they bring to the consumer
b.
It is impossible to explain tastes of people because they change from person to person
c.
Prices of commodities are not always proportional to the total satisfaction that they give us
d.
The price of a commodity cannot be explained either in terms of only demand or only supply
e.
None of the above.
371
Microeconomics
31. A consumer can maximize his total utility if he allocates his money income so that a.
Marginal utility of each product consumed is equal
b.
Gain in marginal utility from the last rupee spent on each product purchased is the same
c.
Elasticity of demand is the same for all the products purchased
d.
Total utility gained from each product consumed is the same
e.
Marginal utility of each product consumed is zero.
32. The cost advisor of a bicycle manufacturing company estimated that, output can be increased infinitely with a proportionate increase in inputs. Which of the following statements is true, if the input prices remain constant? a.
Average cost increases with the increase in output.
b.
Average cost remains constant irrespective of the level of output.
c.
Marginal cost decreases with the increase in output.
d.
Average cost decreases with the increase in output.
e.
Both (b) and (c) above.
33. Marginal rate of substitution along an indifference curve refers to the a.
Elasticity of the indifference curve
b.
Level of satisfaction to the consumer
c.
Relationship between expenditure and satisfaction
d.
Slope of the indifference curve
e.
None of the above.
34. A kinked demand curve occurs in an oligopoly when a firm a.
Increases its price and others follow it
b.
Increases its price and others do not follow it
c.
Decreases its price and others follow it
d.
Decreases its price and others do not follow it
e.
Both (b) and (c) above.
35. A monopolist reaches equilibrium when a.
P = MC
b.
P = AVC
c.
MR = MC
d.
P = MC = MR
e.
AR = AC.
36. In monopolistic competition
372
a.
Products are homogeneous
b.
Products are differentiated and no close substitutes are available
c.
Products are differentiated but are close substitutes
d.
Products are differentiated yet they are perfect substitutes
e.
None of the above.
Part III
37. Assuming labor is the only variable input, which of the following is not true in the short run? a.
When MPL is highest, MC is lowest.
b.
When APL is highest, AVC is lowest.
c.
When MPL > APL, AVC is decreasing.
d.
When MC < AVC, APL is increasing.
e.
MPL and AVC are inversely related.
38. Which of the following factors differentiate perfect competition from monopolistic competition? i.
Number of buyers and sellers.
ii.
Entry and exit barriers.
iii.
Product differentiation.
iv.
Selling activities.
a.
Both (i) and (iii) above.
b.
Both (i) and (iv) above.
c.
Both (iii) and (iv) above.
d.
Only (i), (ii) and (iv) above.
e.
All of (i), (ii), (iii) and (iv) above.
39. The difference between economic profit and accounting profit is a.
Selling and administrative expenses
b.
Depreciation
c.
Explicit costs
d.
Implicit costs
e.
There is no difference between economic profit and accounting profit.
40. Consider the following statements relating to indifference curves: i.
Indifference curves intersect with each other at their mid-points.
ii.
In case of perfect substitutes, the indifference curves are linear.
iii.
A convex indifference curve implies that the Marginal Rate of Substitution will be gradually increasing as we move from Y-axis to X-axis.
Which of the above statements is/are true? a.
Only (i) above.
b.
Only (ii) above.
c.
Only (iii) above.
d.
Both (i) and (ii) above.
e.
Both (ii) and (iii) above.
373
Microeconomics
Part B: Problems (60 Points) Solve all the problems. Points are indicated against each problem. 41.
A firm operating in a perfectly competitive industry has the following cost function: TC = 500 + 8Q + 0.035Q2 Supply and demand functions for the industry are: QS = 8,500 + 100P QD = 14,500 – 300P What are the maximum possible profits earned by the firm? a.
Rs.200.
b.
–Rs.200.
c.
Rs.150.
d.
–Rs.150.
e.
Rs.300. (3 points)
42. The profit maximizing output for a firm operating in a perfectly competitive industry is 100 units. The supply and demand functions for the industry are given by Qs = 10,000 + 200P Qd = 15,000 – 300P How many firms are there in the industry? a.
95.
b.
160.
c.
105.
d.
80.
e.
120. (3 points)
43. XYZ Co. is manufacturing a branded cooker. The product is produced at five identical plants operated by XYZ Co. with the following cost function for each of the plants: TC = 180Q – 3Q2 + 0.02Q3. Output is equally shared by all the plants. What is the profit maximizing output of each plant? a.
65 units.
b. 70 units. c.
75 units.
d. 80 units. e.
85 units. (3 points)
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Part III
44. Akash Ltd. is currently selling 210 units of product ABC. The product is produced at five identical plants operated by XYZ Co. with the following cost function for each of the plants: TC = 540Q – 9Q2 + 0.06Q3 Output is equally shared by all the plants. Akash Ltd. does not see any improvement in the demand for the product in the near future. If the firm wants to minimize its average cost, to what amount it can reduce average cost from its current level? a.
Rs.65.34.
b.
Rs.50.24.
c.
Rs.48.98.
d.
Rs.56.82.
e.
Rs.58.33. (3 points)
45. A monopolist has effectively segmented the market for his product into three markets with the following demand functions: Q1
= 1,500 – 40P1
Q2
= 1,000 – 25P2
Q3
= 500 – 20P3
Total cost function of the monopolist is estimated to be TC = 12,500 + 10Q. If the monopolist is not allowed to practice price discrimination, what are profit maximizing price and output? a.
Rs.22.65 and 1075 units.
b.
Rs.12.75 and 1075 units.
c.
Rs.22.65 and 1225 units.
d.
Rs.33.75 and 1225 units
e.
Rs.12.75 and 1225 units. (3 points)
46. A monopolist has effectively segmented the market for his product into three markets with the following demand functions: Q1 = 1,500 – 40P1 Q2 = 1,000 – 25P2 Q3 = 500 – 20P3 Total cost function of the monopolist is estimated to be TC = 12,500 + 10Q. If the monopolist practices price discrimination, what are the profit maximizing prices for each of the sub-markets? a.
P1 = Rs.13.75; P2 = Rs.25 and P3 = Rs.17.5.
b.
P1 = Rs.13.75; P2 = Rs.35 and P3 = Rs.15.5.
c.
P1 = Rs.23.75; P2 = Rs.25 and P3 = Rs.17.5.
d.
P1 = Rs.23.75; P2 = Rs.35 and P3 = Rs.15.5.
e.
None of the above. (3 points)
375
Microeconomics
47. Total cost function of a firm is given below: TC = 200Q – 9Q2 + 0.25Q3 The minimum possible Marginal Cost is a.
Rs.92
b.
Rs.96
c.
Rs.102
d.
Rs.120
e.
Rs.126. (3 points)
48. Production function for a firm is estimated to be Q = 12 KL + KL2 – (1/12)KL3 In the short run, the capital (K) is fixed at 10 units and the labor input (L) is variable. What is the maximum possible output in the short run? a.
1,400 units.
b.
1,440 units.
c.
1,420 units.
d.
1,470 units.
e.
1,450 units. (3 points) 2
49. If the total cost function of a perfectly competitive firm is TC = 100 + 300Q – 10Q +Q3, what is the minimum price below which the firm does not supply any goods to the market? a.
Rs.233.33.
b.
Rs.275.00.
c.
Rs.3.33.
d.
Rs.525.00.
e.
Rs.366.66. (2 points)
50. If the marginal production function for a firm is given by 120 + 20L −
30 2 L = MP 12
The input of labor beyond which the firm experiences diminishing marginal productivity of labor is a.
13 units
b.
14 units
c.
4 units
d.
16 units
e.
17 units. (3 points)
376
Part III
51. Flat Vision, a Television manufacturer, sells two models of TVs in the domestic market. The economy model is priced at Rs.4,500 and the Delux model at Rs.5,000. Flat vision has estimated the demand function for its economy model to be QE = 48300 – 80PE + 30PD + 40PC + 4I + 0.02A Where, PE
=
Price of the economy model
PD
=
Price of the delux model
PC
=
Price of a competing brand
I
=
Per capita income in the economy
A
=
Promotional expenditure
Current PC = 4,750, I = 10,000 and A = 85,000. What are the values of price, cross (competing brand) and income elasticities for the economic model? a.
– 5.14, 2.71 and 0.571 respectively.
b.
– 5.14, 2.71 and 0.234 respectively.
c.
– 5.14, 1.95 and 0.571 respectively.
d.
– 4.02, 2.71 and 0.234 respectively.
e.
None of the above. (3 points)
52. Jumbo Co., a calculator manufacturing company, has the following demand function: Qd = 15,000 – 5PA + 5PB + 2I B
Where, PA = Price of calculator sold by Jumbo Co. PB = Price of competing brand B
I
= Per capita income in the economy.
Currently, PA = 200, PB = 300 and I = 1,000. Presently, the company is selling 17,500 calculators. B
i.
For the next year per capita income is expected to increase by 10% and the competitor is expected to initiate a price cut to match the current price (i.e., 200). For the year, if Jumbo Co. would like to maintain the current sales of its calculators what should be the price of the calculator?
ii.
Assume that the price change as recommended above is implemented. If Jumbo Co. would like to increase its sale volume by 10%, what would be the amount of promotional expenditure required? (assume promotional coefficient of demand function to be 2)?
a.
(i) Rs.130 and (ii) Rs.875.
b.
(i) Rs.140 and (ii) Rs.875.
c.
(i) Rs.130 and (ii) Rs.725.
d.
(i) Rs.140 and (ii) Rs.725
e.
None of the above. (3 points)
377
Microeconomics
53. A firm’s cost function is TC = Q3 – 10Q2 – 1000Q. Which happens when level of output produced by the firm increases from 5 to 6 units? a.
Marginal cost will increase.
b.
Average cost will decrease.
c.
Average cost will increase.
d.
Both (a) and (c) above.
e.
None of the above. (3 points)
54. Of the production functions, which one of the following represents decreasing returns to scale? a.
Q = 2K + 3L + KL.
b.
Q = 20K0.6 L0.5.
c.
Q = 100 + 3K + 2L.
d.
Both (a) and (b) above.
e.
Both (a) and (c) above. (3 points)
55. The number of units of a commodity demanded and supplied at different prices is given below: Price (Rs.)
Number of units demanded
Number of units supplied
4.5
60
40
6.0
55
45
7.5
50
50
9.0
45
55
10.5
40
60
12.0
35
65
13.5
30
70
If the government gives a subsidy of Rs.3 per unit on this good, what would be the new equilibrium price? a.
Rs.3.0.
b.
Rs.4.5.
c.
Rs.6.0.
d.
Rs.7.5.
e.
Rs.9.0. (1 point)
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Part III
56. For a firm, Average Cost and Total Variable Cost at various levels of output are given below: Quantity (units)
Average Cost (Rs.)
Variable Cost (Rs.)
1
160
10
2
85
20
3
60
30
4
47.5
40
5
40
50
6
35
60
For the firm, Marginal Cost of producing 4th unit of output is a.
– Rs.12.50
b.
Rs.10
c.
Rs.40
d.
Rs.47.5
e.
None of the above. (1 point)
57. For a product, demand is perfectly elastic at a price of Rs.20. The supply function is Qs = 100 + 10P. If the government imposes a tax of Rs.2 per unit, change in consumer surplus is a.
Zero
b.
Rs.40
c.
Rs.300
d.
Rs.600
e.
Insufficient data. (2 points)
58. For a firm operating under a perfectly competitive market, total cost at various levels of output is given below: Quantity (units)
Total Cost (Rs.)
100
506
101
508
102
511
103
515
104
520
105 526 If the market going price of the product is Rs.5, equilibrium output for the firm is a.
101 units
b.
102 units
c.
103 units
d.
104 units
e.
105 units. (1 point)
379
Microeconomics
59. The only input used by a firm is labor. The market going wage rate is Rs.40. Currently the firm produces 100 units of output. If Marginal Productivity of labor at this output is 10 units, Marginal Cost of production for the firm is a.
Rs.0.40
b.
Rs.2.50
c.
Rs.4.00
d.
Rs.400.00
e.
None of the above. (1 point)
60. At a price of Rs.20, point price elasticity of demand for a product is 2 and the quantity demanded is 50. Absolute slope of the underlying demand curve is a.
Zero
b.
0.25
c.
1.00
d.
4.00
e.
None of the above. (1 point)
61. In an oligopoly industry, market shares of four firms are 30%, 30%, 25% and 15% respectively. Eight-firm concentration ratio for the industry is a.
15
b.
16
c.
40
d.
60
e.
100. (1 point)
62. A consumer is indifferent between the combinations A and B. Combination
Good X
Good Y
A
10
14
B
12
13
Absolute value of marginal rate of substitution (MRSXY) for the consumer is a. 0.50 b. 1.00 c. 1.50 d. 2.00 e. None of the above. (1 point) 63. A consumer spends all his income only on two goods, X and Y. Budget constraint is estimated as 100 = 4X + 12Y. Absolute value of the slope of the budget line (when good X is taken on X-axis and good Y on Y-axis) is a. Zero b. 0.33 c. 3.00 d. 8.33 e.
25.00. (1 point)
380
Part III
64. Assuming the consumer is in equilibrium consuming commodities X and Y. If marginal utility of commodity X is 175, price of the commodity X is Rs.25, and the price of commodity Y is Rs.40, the marginal utility of Y is a.
175 utils
b.
225 utils
c.
280 utils
d.
320 utils
e.
350 utils. (1 point)
65. Learner’s Measure for a monopolist whose marginal cost is zero is a.
Zero
b.
0.25
c.
0.50
d.
0.75
e.
1.00. (1 point)
66. For a product, the price elasticity of demand is estimated to be 3. If marginal revenue is Rs.5, what is the price of the product? a.
Rs.2.75.
b.
Rs.4.75.
c.
Rs.5.00.
d.
Rs.6.00.
e.
Rs.7.50. (1 point)
67. Demand function of a consumer is estimated to be Q = 40 – P. If the price is Rs.20, price elasticity of demand is a.
–4
b.
–2
c.
–1
d.
Zero
e.
1
.
4
(1 point) 68. Which of the following is an optimum input combination if expansion path of the firm is L = 5/2 K? a.
L = 0.4 and K = 1.0.
b.
L = 2.0 and K = 1.2.
c.
L = 4.0 and K = 2.0.
d.
L = 6.0 and K = 2.4.
e
L = 8.0 and K = 2.8. (1 point)
381
Microeconomics
69. Quantity demanded of a product decreases from 4,000 units to 3,000 units when price of the product increase from Rs.40 to Rs.45. If income effect is estimated to be 900, substitution effect is a. b. c. d. e.
100 133 1000 4500 None of the above. (1 point)
70. Marginal utilities of goods A and B are 600 and 900, and the price of B is Rs.120. If the consumer is in equilibrium the price of A is a.
Rs.60
b.
Rs.70
c.
Rs.80
d.
Rs.90
e.
Data insufficient. (1 point)
71. Total cost function of a firm is C = 500 + 5Q. If price of the product sold by the firm is Rs.7 per unit, the break even sales revenue is a.
Rs.100
b.
Rs.250
c.
Rs.700
d.
Rs.1,250
e.
Rs.1,750. (1 point)
72. For a product, demand is perfectly elastic at a price of Rs.20. The supply function is Qs = 100 + 10P. If the government imposes a tax of Rs.2 per unit, change in consumer surplus is a.
Zero
b.
Rs.40
c.
Rs.300
d.
Rs.600
e.
Insufficient data. (1 point)
382
Model Question Paper V Suggested Answers Part A: Basic Concepts 1. (c) In a perfect competition, all firms earn normal profits in the long run. If there is an increase in market demand at the same supply, the price will increase which attract the new firms to enter. Because the industry is a constant cost industry, the existing firms can expand output and the new firms will produce under the same long run average cost conditions. So, both existing and new firms contribute to an increase in the output of the industry. 2. (e) The portion of the marginal cost curve lying above the average variable cost curve is the short run supply curve for a perfectly competitive firm. 3. (a) In a perfect competition, price is determined by supply and demand forces. However, if the supply of a commodity is fixed, then the price is determined by the demand for that commodity. 4. (b) When supply of labor increases, the real wages decreases. 5. (e) Total profit of the monopolist = Total revenue – Total cost. To maximize the total profit, MR = MC. So, the basic assumption is to maximize the total revenue or total profit. 6. (a) ‘Monopoly power’ refers to the amount of discretion which a producer or seller enjoys in regard to the framing of his price and output policy. A monopolist can determine either his output or his price but not both. So, the unlimited market power is false with respect to monopoly. 7. (c) A profit-maximizing monopolist always want to avoid the inelastic segment of its demand curve in favor of some price-quantity combination in the elastic segment. 8. (d) The statement (d) better explains a natural monopoly. 9. (c) a. True. Whenever we make choice, we choose something over the other. Therefore, opportunity cost of the choice is the value of the alternative forgone. b. True. Opportunity cost is defined as the value of the best alternative forgone. c. False. It may not always be possible to express opportunity cost in monetary terms. d. True. In economics, costs include opportunity costs also. e. True. Opportunity cost is defined as the value of the best alternative forgone. 10. (c) If the competition arises in the issues other than price, it is referred to as non-price competition. Example, competition in the product, quality, advertising, services, etc. 11. (a) Kinked demand curve is based on the assumption that a rise in the price by one seller will not be followed by a rise in the price of the other sellers, while a fall in the price of one seller will be followed by the corresponding fall in the price by others. So, the upper section of the kinked demand curve has a higher price elasticity than the lower part. 12. (a) The kinked demand curve gives each oligopolist good reason to believe that any change in price will be for the worse. Many of the firms’ customers will stop buying its products if it raises its price. On the other hand, if it lowers its price, its sales at best will increase very modestly, as the competitive firms also lower their product prices. 13. (c) Dominant equipment is a state where each player has dominant strategy no matter what the other player follows. 14. (e) An equilibrium in which each of the players is getting the highest possible pay-off, no matter what strategy the other player chooses and has no incentive to change what he is doing, given the choice of his opponent is called Nash equilibrium. It is also called noncooperative equilibrium. 383
Microeconomics
15. (a) Cooperative equilibrium in game theory refers to an outcome in which the parties act in unison to find strategies that will optimize their joint pay-offs. 16. (d) Externalities, monopolies, imperfect information are all sources of market inefficiencies. 17. (e)
For the downward sloping demand curve ‘D’, at no point is the MR > Price, but MR = Price at P where the elasticity is infinity. 18. (c) People are induced to purchase more mangoes if they are available at a low price. So, the sellers will lower the price to make additional sales. 19. (d) In a capitalist economy all capital goods are owned by the private individuals. 20. (e) Equilibrium occurs when the quantity supplied is equal to the quantity demanded. 21. (a) The tastes of the consumer determine the position and shape of the indifference curve. 22. (d) Given the income and prices of the commodities, the budget line shows the different combinations of the goods the consumer can purchase. So, the position and shape of the budget line is determined by the income of the consumer and the prices of the commodities. 23. (d) As Bajaj scooters and LML scooters are substitutes, raise in the price of Bajaj scooters would lead to increase in demand as for the LML scooters. 24. (a) Because both are complements, change in the prices of one affects the demand for the other. So, a fall in the price of milk would increase the demand for the tea. 25. (e) If at the same supply the demand curve shifts to the right, the equilibrium price and the demand increases. 26. (a) If the price of the good is constant at any amount of supply then the supply curve must be horizontal. A horizontal supply curve represents that the supply is perfectly elastic. 27. (e) Price elasticity of demand percentage change in the quantity demanded percentage change in the price of the product. 28. (a) When the demand for the good is unitary elastic, the TR of the seller and total expenditure of the consumer remain constant irrespective of the change in prices. 29. (b) Total utility of a commodity reaches maximum, when its marginal utility reaches zero. 30. (c) The statement “Prices of commodities are not always proportional to the total satisfaction that they give us”, signifies paradox of value. 31.
(b) A consumer can Maximize Total Utility (TU) when
MU P x
x=
MU P y
y
=−−−−−=
MU
n
P n
This equilibrium condition says that to maximize total utility, marginal utility for the last rupee spent on all the goods should be equal.
384
a.
The consumer may not maximize total utility as price of all the goods may not be equal.
b.
The consumer maximize total utility as marginal utility for the last rupee spent on all goods is equal.
Part III
c.
Though elasticity of demand is same for all the goods this does not ensure maximum total utility as the above condition is not satisfied.
d.
This may not maximize total utility as irrespective of the price paid, total utility of every good is same. Further, this does not satisfy the above utility maximizing condition.
e.
Budget may not permit the consumer to reach the state of maximum total utility for each and every good at which point marginal utility is equal to zero.
32. (b) If the firm can produce higher output by a proportional increase in inputs, its average cost remains the same. This indicates that the company is experiencing Constant Returns to Scale (CRS). a. Average cost increases with the increase of output if the firm operates under decreasing returns to scale. b. Average cost remains the same if the firm operates under Constant Returns to Scale. c. When the firm operates under constant returns to scale, the marginal cost remains the same. d. Average cost decreases with the increase of output if the firm operates under increasing returns to scale. e. Is not the answer as (c) is not correct. ∂Y , which is nothing but the MRSxy. ∂X
33.
(d) Slope of indifference curve is
34.
(e) The kinked demand curve model is based on the assumption that when a firm increase its price, other firms in the industry do not follow and if the firm decrease its price other firms also decrease the price. Therefore, the answer is (e).
35. (c) A monopolist reaches equilibrium when MR = MC. 36.
(c) In monopolistic competition products are differentiated but close substitutes because of large number of sellers.
37. (e)
a.
True. MC =
w
. As the wage rate (w) is a constant, MC will be at its lowest when
AP L MPL is highest.
w . When APL is maximum, AVC is at its minimum. AP L
b.
True. AVC =
c.
True. As long as MPL > APL, APL is increasing hence, AVC is decreasing.
d.
True. When APL is increasing, MPL > APL and MC < AVC.
e.
Not True. There is no exact relation between MPL and AVC. MPL may be increasing or decreasing (but > APL) as the AVC is decreasing.
38. (c) In perfect competition and monopolistic competition there are large number of buyers and sellers and there are no exit and entry barriers. In perfect competition, products are homogeneous and there are no selling activities, whereas in monopolistic competition, the products are differentiated and selling activities exist. 39. (d) Economic profit = Accounting profit – Implicit costs. 40. (b)
i.
False. Indifference curves never intersect.
ii.
True. Slope of the indifference curve is MRS. For perfect substitutes MRS is constant. Hence for perfect substitutes, indifference curve is linear.
iii.
False. If MRS increase, the shape of the indifference is concave to the origin. Therefore, the answer is (b). 385
Microeconomics
Part B: Problems 41. (d)
QS
= 8,500 + 100P
QD = 14,500 – 300P At equilibrium QS = QD 8,500 + 100P
= 14,500 – 300P
400P
= 6,000
P
= 15
Since the firm is operating in a perfectly competitive industry, the firm is a price taker and the price is constant at 15. TC = 500 + 8Q + 0.035Q2 To maximize profits MC = MR MC =
∂TC = 8 + 0.07Q ∂Q
MR = P = 15 8 + 0.07Q = 15 Q=
7 = 100. 0.07
Profit maximizing output for the firm is 100 units. Profit (π) =
TR – TC
TR
=
PQ = 15 × 100 = Rs.1,500
TC
=
500 + (8 × 100) + (0.035 × 1002)
=
Rs.1,650
=
1,500 – 1,650 = – Rs.150.
π 42. (e)
QS
=
10,000 + 200P
QD =
15,000 – 300P
At equilibrium QS
= QD
10,000 + 200P = 15,000 – 300P 500P = 5,000 P = 10 If this is a typical firm is the industry, total number of firms (n) is the industry will be equal to n
=
Industry output Equilibrium output of single firm
QS
=
10,000 + (200 × 10)
=
12,000
∴n =
386
12, 000 = 120. 100
Part III
43. (c) For the given cost function, the optimum output is where AC is lowest.
TC = 180Q – 3Q2 + 0.02Q3 AC =
TC = 180 – 3Q + 0.02Q2 Q ∂AC =0 ∂Q
AC is minimum where
∂AC ∂Q Q
= – 3 + 0.04Q = 0
=
3 = 75 0.04
∴ For each plant optimum output is 75 units. 44. (a)
TC = 540Q – 9Q2 + 0.06Q3 For the given cost function, the optimum output is where AC is lowest. TC = 540Q – 9Q2 + 0.06Q3 AC =
TC = 540 – 9Q + 0.06Q2 Q
AC is minimum where
∂AC =0 ∂Q
∂AC = – 9 + 0.12Q = 0 ∂Q Q
= 9/0.12 = 75
∴ For each plant optimum output is 75 units.
When output by each plant is 75 units. AC = 540 – (9 × 75) + 0.06 (75)2 = Rs.202.5 Since 210 units are equally shared by all the five plants, each plant produces
210 = 42 units. 5
AC = 540 – (9 x 42) + 0.06 (42)2 = Rs.267.84 So, the firm can reduce its Average Cost (AC) by 267.84 – 202.5 = Rs.65.34. 45. (a) If the monopolist is not allowed to practice price discrimination, demand curve for the monopolist is
Q
= Q1 + Q2 + Q3 = 3,000 – 85P (Since P = P1 = P2 = P3)
P
=
3,000 − Q 85
To maximize profits, MC = MR TC =
12,500 + 10Q 387
Microeconomics
MC =
∂TC = 10 ∂Q
TR =
PQ
⎛ 3, 000 − Q ⎞ ⎜ ⎟Q 85 ⎝ ⎠
= MR =
∂TR 3,000 − 2Q = ∂Q 85
∴ To maximize profits
=
3,000 − 2Q 85
2Q =
3,000 – 850
Q
=
1,075 units
P
=
3,000 − 1,075 = Rs.22.65. 85
10
46. (c)
A price discriminating monopolist can maximize profit by equating MC = MR1, MC = MR2 and MC = MR3.
∂TC = 10 ∂Q
MC = Market I
Q1
=
1,500 – 40P1
P1
=
⎛ 1,500 − Q1 ⎞ ⎜ ⎟ 40 ⎝ ⎠
TR1 =
⎛ 1,500 − Q1 ⎞ P1Q1 = ⎜ ⎟ Q1 40 ⎝ ⎠
MR1 =
∂TR1 ⎛ 1, 500 − 2Q1 ⎞ =⎜ ⎟ 40 ∂Q1 ⎝ ⎠
To maximize profits, 10
=
2Q1 =
⎛ 1, 500 − 2Q1 ⎞ ⎜ ⎟ 40 ⎝ ⎠
1,100
Q1
=
550
P1
=
1,500 − 550 = Rs.23.75. 40
Market II
Q2
=
1,000 – 25P2
P2
=
1, 000 − Q 2 25
TR2 =
388
1, 000 − Q 2 Q2 25
Part III
MR2 =
1,000 − 2Q 2 25
To maximize profits, 10
=
1,000 − 2Q 2 25
Q2
=
1,000 − 250 = 375 2
P2
=
1,000 − 375 = Rs.25 25
Market III
Q3
=
500 – 20P3
P3
=
500 − Q3 20
TR3 =
500 − Q3 Q3 20
MR3 =
500 − 2Q3 20
To maximize profits, 10
=
500 − 2Q3 20
Q3
=
500 − 200 = 150 2
P3
=
500 − 150 = Rs.17.5. 20
47. (a)
TC = 200Q – 9Q2 + 0.25Q3 MC =
∂TC = 200 – 18Q + 0.75Q2 ∂Q
MC is minimum when ∴
∂MC = 0 ∂Q
∂MC = – 18 + 1.5Q = 0 ∂Q Q
= 12
When the Q
= 12
MC = 200 – 18Q + 0.75Q2 = 200 – (18 × 12) + (0.75 × 122) = Rs.92. ∴ Minimum possible MC = Rs.92.
389
Microeconomics
48. (b) Production function Q = 12KL + KL2 –
1 KL3 12
As the K is fixed at 10. Q = 120L + 10L2 –
10 3 L 12
Output is maximum when MPL = 0 30 2 ∂Q L =0 = 120 + 20L – ∂L 12
MPL =
It is a quadratic equation and L is equal to
− b ± b2 − 4ac 2a
Where, a
=
− 30 = – 2.5 12
b c
= =
20 120 −20 + 202 − (4 × − 2.5 ×120) (or) (2 × − 2.5)
∴L =
−20 − 202 − (4 ×− 2.5 ×120) (2 ×− 2.5) −20 − 40 −20 + 40 (or) −5 −5
=
(or) – 4 (or) 12.
=
∴ Output is maximum when L = 12. Output when L = 12 is Q
1 3 (10 ) (12 ) 12
=
120 × 12 + 10 × 122 ×
=
1,440 + 1,440 – 1,440 = 1,440 units.
∴ Maximum possible output in the short run is 1,440 units. 49. (b) The price below which the firm will be forced to shutdown its operations is the minimum price at which the firm supplies goods to the market. A firm is forced to shutdown its operation, if the price falls below Minimum AVC.
AVC =
TVC (300Q − 10Q2 + Q3 ) = 300 − 10Q + Q2 = Q Q
Min. of AVC =
∂AVC =0 ∂Q
–10 + 2Q = 0 Or, Q = 5 And, P = 300 – 10(5) + (5 × 5) = 300 – 50 + 25 = Rs.275.
390
Part III
50. (c) MP starts diminishing after reaching its maximum position. Hence, to find the number of labors at which the marginal productivity starts diminishing, we have to find the labor when MP is maximum.
MP is maximum, when ∂ (120 + 20L −
∂MP ∂MP/∂L = 0 ∂L
30 2 L ) /∂L = 0 12
60 L = 20 12
L
=
240 = 4 units. 60
51. (a) Demand function for the economy model is QE = 48,300 – 80PE + 30PD + 40PC + 4I + 0.02A Given, 4,500 PE = 5,000 PD = 4,750 PC = I = 10,000 A = 85,000 48,300 – (80 × 4,500) + (30 × 5,000) + (40 × 4,750) + (4 × 10,000) + (0.02 × 85,000) QE = = 70,000. Price elasticity of demand
∂Q P . = – 80 ∂P Q
ep
=
P Q
= 4,500 = 70,000
∴ ep = – 80 ×
4,500 = – 5.14 70,000
Cross-price elasticity of demand = 40 eEC = 4,750 PC ∴ eEC
=
40 ×
4,750 = 2.71. 70,000
Income elasticity of demand eI = 4 I = 10,000 ∴ eI = 4 × 52. (b) i. 17,500 5P or, P
10,000 = 0.571. 70,000 = = =
15,000 – 5(P) + 5(200) + 2(1,100) 15,000 + 2,200 + 1,000 –17,500 = 700 700/5 = 140.
391
Microeconomics
ii.
New Demand Function, Qd = 15,000 – 5PA + 5PB + 2I + 2A B
17,500 + 1,750 (i.e., 10% increase) = 19,250 = 15,000 – 5(140) + 5(200) + 2(1100) + 2A 19,250
= 15,000 – 700 + 1,000 + 2,200 + 2A
1,750
= 2A
A
= 875.
3
53. (c) TC = Q – 10Q2 – 1,000Q
MC will start increasing after reaching its minimum point. MC reaches its minimum point when ∂MC ∂TC ∂ (Q3 − 10Q 2 − 1, 000) = 0; MC = = = 3Q2 – 20Q – 1,000. ∂Q ∂Q ∂Q At Min. MC: 3Q2 – 20Q – 1,000 = 0 Therefore, Q = 22 [Hint: Quadratic equation = −b ±
[– (– 20) +
b 2 − 4ac 2
( − 202 − 4 × 3×−1, 000) ] 6
= (20 + 111.35)/6 = 22 or –15.205. Quantity cannot be negative; hence Minimum MC is reached when 22 units are produced] Hence, MC decreases when the firm increases its production from 5 to 6. AC = (Q3 – 10Q2 – 1,000Q)/Q = Q2 – 10Q – 1,000 AC will start increasing after reaching its minimum point. AC reaches its minimum point when ∂AC/∂Q = 2Q – 10 = 0. Thus, Q = 5 units. Hence, AC increases when the firm increases its production from 5 to 6 units. 54. (c) To determine whether returns to scale are increasing, decreasing or constant, let us double the inputs (K and L) and find the impact on output.
a.
If the output also doubles, the returns to scale are constant.
b.
If the output increases more than 2 times, the returns to scale are increasing.
c.
If the output increases less than 2 times, the returns to scale are decreasing.
a.
Given the production function Q = 2K + 3L + KL Doubling the inputs K and L Q* =
2(2K) + 3(2L) + 2K2L
=
4K + 6L + 4KL
=
2(2K + 3L + KL) + 2KL
=
2Q + 2KL
Thus, doubling of inputs has resulted in more than doubling of output. Hence, returns to scale are increasing. b.
Given the production function Q
=
20 K0.6 L0.5
Doubling the inputs K and L Q* = 392
20 (2K)0.6 (2L)0.5
Part III
=
20 × 20.6 + 0.5 K0.6 L0.5
=
20 × 21.1 K0.6 L0.5
=
(20 K0.6 L0.5 ) 21.1 = 21.1 Q
Thus, doubling of inputs has resulted in increasing the output by more than double. Hence, production is subject to increasing returns to scale. c.
Given the production function Q = 100 + 3K + 2L Doubling the inputs K and L Q* =
100 + 3(2K) + 2(2L)
=
100 + 6K + 4L
=
2(100 + 3K + 2L) – 100 = 2Q – 100
Thus, doubling of inputs has resulted in less than doubling of output. Hence, returns to scale are decreasing. 55. (c) When a subsidy of Rs.3 per unit is given, the supply will increase and the new supply schedule is given below:
Price (Rs.) Number of units demanded Number of units supplied 1.5 – 40 3.0 – 45 4.5 60 50 6.0 55 55 7.5 50 60 9.0 45 65 10.5 40 70 12.0 35 – 13.5 30 – The new equilibrium price is Rs.6.0, where the quantity demanded is equal to the quantity supplied. 56. (b) MC =
ΔTC ΔVC = ΔQ ΔQ
MC in this case is equal to Rs.10 as the change in VC is Rs.10 for each additional unit produced. 57. (a) Here, demand for the product is perfectly elastic and the demand curve will be horizontal to the X-axis. This means, the price consumers are willing to pay is the same as the consumers pay. Therefore, the consumer surplus is zero. When a tax of Rs.2 is imposed, price of the product remain the same as the demand for the product is perfectly elastic and the consumer surplus remain at zero. 58. (d)
Quantity (units) Marginal Cost (Rs.) 100 – 101 2 102 3 103 4 104 5 105 6 A firm would be maximizing profits when MR = MC. Under perfect competition MR is equal to P. Therefore, the firm would maximize profits by producing 104 units where MR = MC. 393
Microeconomics
59. (c) MC =
40 Wage rate = = Rs.4 MPL 10
60. (e) Point price elasticity of Demand (ep) = ∂Q ∂P
Since,
ep ×
=
∂Q = ∂P
P ∂Q × ∂P Q
50 Q =–2× = –5 20 P
1/Slope of the demand curve
Slope of the demand curve is
∂P 1 = = – 0.20 = |0.20|. −5 ∂Q
61. (e) Eight-firm concentration ratio for an industry is the sum of the market shares of the largest eight firms in the industry. Therefore, Eight-firm concentration ratio for the industry is
30 + 30 + 25 + 15 = 100. Hence answer is (e). 62. (a) MRSxy =
ΔY −1 = = 0. 5 . ΔX 2.0
63. (b) Given the budget constraint, 100 = 4X + 12Y,
Price of X (Px ) = 4 and Price of Y (Py) = 12 Slope of the budget line =
64. (c) At equilibrium 175 25
=
∴ MUy =
Px 4 = = 0.33. Py 12
MU y MU x = Px Py
MU y 40 175 × 40 = 280 utils. 25
∴ The answer is (c). P − MC P
65. (e) Leaner’s Measure (L) =
If MC = 0, L =
P−0 =1 P
Therefore, the answer is (e). ⎛ 1 66. (c) MR = P⎜1 − ⎜ ep ⎝
P
394
=
⎞ ⎟ ⎟ ⎠
MR ⎛ ⎜1 − 1 ⎜ ep ⎝
⎞ ⎟ ⎟ ⎠
=
5 ⎛ 1⎞ ⎜1 − ⎟ ⎝ 3⎠
= Rs.7.50.
Part III
67. (c) Q = 40 – P
When P
= 20, Q = 20 =
ep
∂Q P 20 × = –1 × = –1. 20 ∂P Q
68. (d) Expansion path indicate the optimum ratio of these two inputs.
Expansion path is L =
5 K 2
2 = 2.4 5 ∴ L = 6, K = 2.4 is the optimum input combination on the expansion path. 69. (a) Price effect = Income effect + Substitution effect If L = 6, K = 6 ×
1000 = 900 + Substitution effect ∴ Substitution effect = 100. MU A MU B = 70. (c) PA PB 600 900 = 120 PA
∴ PA =
600 = Rs.80. 7. 5
71. (e) TC = 500 + 5Q
VC = 5Q; FC = 500 AVC = BEP
=
5Q =5 Q FC 500 = = 250 (P − AVC) (7 − 5)
∴BE sales revenue = 250 x 7 = Rs.1,750. 72. (a) When the demand is perfectly elastic, entire tax burden will be borne by the producer. That means, price remains at Rs.20. When price remains same there will not be any change in consumer surplus.
395
