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Microeconomic answer

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Chapter 1

1. You win $100 in a basketball pool. You have a choice between spending the money now or putting it away for a year in a bank account that pays 5 percent interest. What is the opportunity cost of spending the 100$ now?

Answer: By spending the money right away the opportunity cost is 5 percent of 100 dollars that is 5 dollars plus the 100$ itself. So the total opportunity cost is $105.

2. The company that you manage has invested $5 million in developing a new product, but the development is not quite finished. At a recent meeting, your salespeople report that the introduction of competing products has reduced the expected sales to $3 million. If it would cost $1 million to finish development and make the product, should you go ahead and do so? What is the most that you should pay to complete development?

Answer: Those $5 million that you have invested is called sunk cost and not relevant anymore. The important thing is to earn profit at the margin. So it is wiser to spend the $1 million and finished the project, because you could still get $2 million marginal profit. It is better than no sales at all and have $5 million losses. So the most important thing is the profit you can earn at the margin not the total profit you get.

Chapter 2

1. Draw a circular flow diagram. Identify the parts of the model that correspond to the flow of goods and services and the flow of dollars for each of the following activities. a. Martin earns $15 per hour working in a factory.

b. Matilda spends $6 for a pizza
c. Madeline’s bakery pays $500 for the rent of its shop
d. Maria purchases a new pair of earrings for $200

2.Imagine a society that produces military goods and consumer goods, which we’ll call “guns” and “butter.” a. Draw a production possibilities frontier for guns and butter. Using the concept of opportunity cost, explain why it most likely has a bowed out shape. b. Show a point that is impossible for the economy to achieve. Show a point that is feasible but efficient. c. Imagine that the society has two political parties, called hawks (who wants strong military) and the doves who wants smaller military. Show a point on your production possibilities frontier that the hawks might choose and a point the doves might choose. d. Imagine that an aggressive neighbouring country reduces the size of its military. As a result, both hawks and the doves reduce their desired production of guns by the same amount. Which party would get the bigger “peace dividend”, measured by the increase in butter production? Explain answer:
a. The diagram have bowed out shaped due to the difference between resources characteristic. Some resources are best suited to gun production such as gunsmith, but not so efficient at producing butter that it won’t have to lose much butter production to increase gun by one unit. It also applies true for resources better suited for butter production.
b. Point A is possible but not efficient, while point C is impossible to achieve.
c. Hawks will most likely choose point E to B, while Doves will most likely choose point D to B
d. Doves will surely get bigger peace dividend showed with greater increase in butter production by cutting gun production. It is because in point D for example, the opportunity cost of car is highest and causing the frontier to be steeper.

6. Classify each of the following statements as normative or positive, explain: a. An increase in the minimum wage will increase the rate of teenage unemployment. b. The government should raise the tax on tobacco to reduce the quantity of cigarettes sold. c. An increase in the rate of growth of the money supply will lead to a rise in the price level. d. An increase in the interest rate will cause a decline in investment. e. The government should provide health care to anyone who does not have health insurance.

Answer: a. Positive statement. It explained the relationship between wage increase and teenage unemployment. b. Normative because it is an opinion instead of pure fact.
c. Positive statement because it is an economic reality statement. d. Positive statement because it is an economic reality statement e. Normative statement. Again because it an opinion or value judgment.

Chapter 3

4. a. The opportunity cost to produce 1 car is 15 bushels of wheat and 1/15 car to produce one bushel of wheat. We could tell from the data that the opportunity cost of producing 30 bushels of wheat is two cars, and the opportunity cost of producing 2 cars is thirty bushels of wheat. b. If every worker produced 1 car then those workers can still each produce 15 bushels. Therefore they can produce and consume 150,000,000 bushels. c. Canada should accept the deal because their entire work force will be working and they will get more wheat than they would have otherwise. If Canada produce only cars (20 million cars), they have a total consumption of 10 million cars and 200 bushels of wheat. This was an unattainable point without trade.

6. a. Without trade, price of 1 white socks in Boston is 1 red socks and in Boston price of 1 white sock is 2 red socks. b. Chicago has comparative advantage in the production of red socks, Boston have absolute advantage in red socks. c. Boston will imports white socks and exports red sock, while Chicago will import Red socks and export white socks d. The highest price of red socks that will make both cities better off is 1 white socks for 1 red socks, the lowest price is 1 red socks for 3 white socks

8. a. True. This is the Ricardian idea of comparison advantage, the idea that production is based on opportunity costs within the country b. False. You can’t be comparatively better at producing A if you’re actually comparatively better at producing B, because these opportunity costs are based on each other. c. False because even country with absolute advantage still better off because of trade. d. False: Just because something is good for a nation, it doesn’t mean everyone benefits from it.

Chapter 4

a. Cold snap causes a shortage of oranges supply, this cause the price of oranges to rise. Oranges is the ingredient to make orange juices. The supply of orange juice will decrease due to higher price of oranges. This will shift supply to the left, price increase and quantity decrease b. A lot of people escape to cold weather in England to Caribbean. When the weather turns warm, they come back to England. This will shifts the demand curve to the left, which lowers the rents in Carribean hotel. c. Supply of oil will decrease due to war in middle east. Supply shifts left, increasing the price. 
The increased price of gas influences the market for used Cadillacs. Gas is a complement good to Caddilacs. When the price of the gas rises, the demand for used Cadillacs will fall. This shifts the demand curve left, lowering price. People would want cars that are more fuel efficient. They will sell their Cadillacs, increasing the supply of used Cadillacs as well. Supply shifts right, further lowering the price.

2. False because an increase in demand means a shift of the demand curve to the right, it will increase both price and quantity supplied.

The equilibrium point would be 145 hamburgers with the price level of $1.5 per hamburger. If the price is above the equilibrium price, it will be more supply than demand. The hamburger sellers will try to to sell with lower price, until the equilibrium price is reached again. If the price is set under the market price, it will be more demand than supply. Buyers will try to buy goods and offer higher price, until the equilibrium is reached again.

3. a. The supply curve is vertical because of the he constant quantity supplied due to fixed number of seats at any price. b. The equilibrium point would be 8000 tickets at the price of $8 per ticket. c. The new equilibrium price would $12 with equilibrium quantity remains the same. The demand curve will shifts to the right while supply curve remains the same.

Chapter 5

1. a. Mystery novels have more elastic demand than required textbooks, because mystery novels have close substitutes and are a luxury good b. Beethoven recordings have more elastic demand than classical music recordings in general. Beethoven recordings are a narrower market than classical music recordings, so it’s easy to find close substitutes for them. c. Heating oil during the next five years has more elastic demand than heating oil during the next six months. Goods have a more elastic demand over longer time horizons.

2. a. Price elasticity for business travelers is [(100/3900/2)/(50/450/2)]= 0.05/0.22 = 0.23 and the price elasticity for vacationers is [(800 – 600)/700] / [(250 – 200)/225] = 0.29/0.22 = 1.32. b. The price elasticity of demand for vacationers is higher than the elasticity for business travelers because vacationers have more flexible mode of transportation unlike business travelers that have tighter schedule.

6. a. The price increased 20%, with a 4.3% decrease in demand. = .215 b. They will have increased revenue.
c. Because there are other factors may have had an effect on the demand change.

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