ECON 002 - Principles of Microeconomics
Drake University, Fall 2016
William M. Boal

EXAM 2 ANSWER KEY

Version A

I. Multiple choice

(1)d. (2)b. (3)b. (4)a. (5)c. (6)a. (7)b. (8)c. (9)b. (10)d. (11)a. (12)c. (13)a. (14)b. (15)b. (16)c.

II. Problems

(1) [Calculating elasticities: 2 pts] Using arc-elasticity formula: (ΔQ/Qavg) / (ΔP/Pavg) = -2 .

(2) [Using price elasticity of demand: 10 pts]

  1. inelastic.
  2. decrease.
  3. 6 percent.
  4. increase.
  5. 9 percent.

(3) [Using income elasticities: 10 pts]

  1. necessary good.
  2. increase.
  3. 4 percent.
  4. decrease.
  5. 1 percent.

(4) [Welfare effects of international trade: 18 pts]

  1. $5.
  2. import.
  3. 6 million.
  4. increase.
  5. $18 million.
  6. decrease.
  7. $12 million.
  8. increase.
  9. $6 million.

(5) [Welfare effects of market controls: 18 pts] Price ceiling = $3.

  1. $4.
  2. 60 thousand pounds.
  3. excess demand.
  4. 30 thousand pounds.
  5. decrease.
  6. $70 thousand.
  7. increase.
  8. $40 thousand.
  9. $30 thousand.

(6) [Quota: 4 pts]

  1. $5 per liter.
  2. $4 per permit.

(7) [Welfare effects of tax or subsidy: 18 pts] Tax = $5: at equilibrium, the demand curve must be higher than the supply curve by $5. Both consumers and producers lose from the tax, but the government gains revenue.

  1. 4 million bottles.
  2. $2 per bottle.
  3. $7 per bottle.
  4. decrease.
  5. $6 million.
  6. decrease.
  7. $24 million.
  8. $20 million.
  9. $10 million.

III. Critical thinking [3 pts]

(1) Speculators disagree with the blogger. If they expected the price of petroleum to rise quickly to $200, they would buy petroleum now at its low price of $50, store it, and resell it in six months for $200. By doing so, they would drive up the price today to almost $200 (that is, $200 less the cost of speculation including storage costs). Since the price today remains at $50, speculators must not expect the price to rise so quickly in the near future.

(2) A maximum price on children's vitamins would decrease the amount of vitamins sold and decrease the number of children who take vitamins. A maximum price, or price ceiling, pushes price below the equilibrium price. The quantity demanded increases and the quantity supplied decreases, causing excess demand (a shortage). Because the quantity supplied decreases, the quantity actually sold decreases. (Full credit requires a graph showing demand, supply, and a horizontal line at the price ceiling, below the equilibrium price. The quantity sold before and after the price ceiling should be marked.)

Version B

I. Multiple choice

(1)c. (2)a. (3)a. (4)b. (5)e. (6)b. (7)a. (8)c. (9)c. (10)c. (11)b. (12)b. (13)b. (14)a. (15)a. (16)e.

II. Problems

(1) [Calculating elasticities: 2 pts] Using arc-elasticity formula: (ΔQ/Qavg) / (ΔP/Pavg) = -1.5 .

(2) [Using price elasticity of demand: 10 pts]

  1. elastic.
  2. decrease.
  3. 7 percent.
  4. decrease.
  5. 2 percent.

(3) [Using income elasticities: 10 pts]

  1. luxury or superior good.
  2. increase.
  3. 6 percent.
  4. increase.
  5. 1 percent.

(4) [Welfare effects of international trade: 18 pts]

  1. $4.
  2. export.
  3. 12 million.
  4. decrease.
  5. $16 million.
  6. increase.
  7. $40 million.
  8. increase.
  9. $24 million.

(5) [Welfare effects of market controls: 18 pts] Price floor = $6.

  1. $4.
  2. 60 thousand pounds.
  3. excess supply.
  4. 60 thousand pounds.
  5. increase.
  6. $110 thousand.
  7. decrease.
  8. $140 thousand.
  9. $30 thousand.

(6) [Quota: 4 pts]

  1. $8 per liter.
  2. $2 per permit.

(7) [Welfare effects of tax or subsidy: 18 pts] Subsidy = $12: at equilibrium, the supply curve must be higher than the demand curve by $3. Both consumers and producers gain from the subsidy, but the government pays.

  1. 12 million bottles.
  2. $7 per bottle.
  3. $4 per bottle.
  4. increase.
  5. $11 million.
  6. increase.
  7. $22 million.
  8. $36 million.
  9. $3 million.

III. Critical thinking

Same as Version A.

[end of answer key]