Microeconomics Answers

(Hicks decomposition) A consumer spends an income of m on two goods x1 and x2. The price of x1 is p1, and the price of x2 is p2. Draw pictures and use the Hicks decomposition to illustrate the income effect and substitution in the following two cases.

(i) Initially, the consumer spends all his money on x2. Show how an increase in p1 affects the consumer’s choice.

(ii) Initially, the consumer purchases both goods. Show how an increase in p1 affects the consumer’s choice of x2 if x2 is inferior goods.

The market for durian in Kuala Terengganu is competitive and has the following demand schedule:

Price

1

2

3

4

5

6

7

8

9

10

11

12

13

Quantity Demanded

1200

1100

1000

900

800

700

600

500

400

300

200

100

Compute each seller’s total cost and average total cost for selling 1 to 6 durians.

Suppose that unusually hot weather causes the demand curve for ice cream to shift to the right. Why will the price of ice cream rise to a new market- clearing level?

SupposedemandforinkjetprintersisestimatedtobeQx=1000—5Px +10P— 2Pz+0.1M.Ifownprice(Px)=80,relatedprices,P=50,Pz=150,andincome,M= 20,000; answer the following:

The Pristine River has two polluting firms on its banks. European Industrial and Creative Chemicals each dump 100 tonnes of effluent into the river each year. The cost of reducing effluent emissions per tonne equals €300 for European Industrial and €200 for Creative. The government wants to reduce overall pollution from 200 tonnes to 40 tonnes per year. a. If the government knew the cost of reduction for each firm, what reductions would it impose to reach its overall goal? What would be the cost to each firm and the total cost to the firms together? b. In a more typical situation, the government would not know the cost of pollution reduction at each firm. If the government decided to reach its overall goal by imposing uniform reductions on the firms, calculate the reduction made by each firm, the cost to each firm and the total cost to the firms together.

Mick loves playing rock music at high volume. Luciano loves opera and hates rock music. Unfortunately, they are next-door neighbors in an apartment building with paper-thin walls. a. What is the externality here? b. What command-and-control policy might the landlord impose? Could such a policy lead to an inefficient outcome? Could such a policy lead to an inefficient outcome? c. Suppose the landlord lets the tenants do whatever they want. According to the Coase theorem, how might Mick and Luciano reach an efficient outcome on their own? What might prevent them from reaching an efficient outcome? 

Consider the market for fire extinguishers. a. Why might fire extinguishers exhibit positive externalities? b. Draw a graph of the market for fire extinguishers, labelling the demand curve, the social value curve, supply curve and the social cost curve. c. Indicate the market equilibrium level of output and the efficient level of output. Give an intuitive explanation for why these quantities differ. d. If the external benefit is €20 per extinguisher, describe a government policy that would result in the efficient outcome. 

The world price of wine is below the price that would prevail in France in the absence of trade. a. Assuming that French imports of wine are a small part of total world wine production, draw a graph for the French market for wine under free trade. Identify consumer surplus, producer surplus and total surplus in an appropriate table. b. Now suppose that an outbreak of phyloxera (a sap sucking insect which damages grape vines) in California and South America destroys much of the grape harvest there. What effect does this shock have on the world price of wine? Using your graph and table from part (a), show the effect on consumer surplus, producer surplus and total surplus in France. Who are the winners and losers? Is France better or worse off?

Suppose the government pays $10 subsidy per tonne of wheat produced. Show how the subsidy affects consumer surplus, producer surplus, government revenue/expenditure and total surplus. Does the subsidy cause deadweight loss?

The total cost function of a monopolistic producer of two goods is TC = 3x + xy + 4y, where x and y denote the number of units of good 1 and good 2, respectively.

If p₁ and p₂ denote the corresponding prices, then the demand function of each good is p₁ = 60 − x + y and p₂ = 40 + 2x − y. Find the maximum profit if the firm is contracted to produce a total of 200 goods.