ECON 002  Principles of Microeconomics
Drake University, Fall 2023
William M. Boal


EXAM 3 ANSWER KEY
Version A
I. Multiple choice
(1)a. (2)b. (3)b. (4)a. (5)c. (6)c. (7)d. (8)f. (9)e. (10)b.
(11)b. (12)b. (13)a. (14)d.
II. Problems
(1) [Consumer's budget constraint: 10 pts]
 Budget line is a straight line with intercepts at 5 pizza slices and 10 arcade games.
 Not affordable (because outside budget line).
 Affordable with money left over (because inside budget line).
 Exactly affordable (because on budget line).
 1/2 pizza slice (because along budget line, to move to the right for one more arcade game, must move down 1/2 unit, giving up 1/2 pizza slice).
(2) [Consumer choice and demand: 14 pts]
 2 hamburgers and 6 gallons of gasoline.
 5 hamburgers and 6 gallons of gasoline.
 Budget line A is a straight line with intercepts at 10 hamburgers and at 15 gallons of gasoline.
 9 gallons of gasoline (at the tangency point).
 Budget line B is a straight line with intercepts at 10 hamburgers and at 5 gallons of gasoline.
 4 gallons of gasoline (at the tangency point).
 (P,Q) = ($2,9), ($6,4).
(3) [Rational choice: 10 pts]
 MC = Δ TC / Δ miles
= $6 million, $4 million, $8 million, $10 million.
 MB = Δ TB / Δ miles
= $10 million, $10 million, $4 million, $2 million.
 10 miles, where MC begins to exceed MB.
(4) [Discounting: 4 pts]
 $25 = 500 + (250/1.10) + (300/1.10^{2}).
 $50 million = $5 million / 0.10.
(5) [Shortrun cost curves and supply: 20 pts]
 $7 thousand (= 500 × SATC).
 $3 thousand (= 500 × SAVC).
 $4 thousand (= STC  SVC).
 $10 (= SMC).
 $7 (= minimum SATC).
 $4 (= minimum SAVC).
 1300 parts, using the rule P=MC.
 loss (because price is less than breakeven price).
 zero parts (because price is less than shutdown price).
 loss (profit = SFC, because firm has shut down).
(6) [Longrun competitive equilibrium: 24 pts]
 $7.
 12 million.
 $7, because price = AC in longrun equilibrium.
 $1, at intersection of new demand and shortrun supply.
 6 million.
 losses, because below longrun supply curve.
 firms exit the market to escape losses.
 $5, at intersection of new demand and longrun supply.
 4 million.
 $5, because price = AC in longrun equilibrium.
 decreased, because of exit of firms escaping losses.
 increasingcost industry, because longrun supply curve slopes up.
III. Critical thinking [4 pts]
(1) The $200 nonrefundable deposit is a sunk cost that cannot be recovered no matter what choice you make, so it should not affect your decision. Instead, you must compare the remaining $300 cost at Store A with the $350 total cost at Store B. Therefore you will buy your computer from Store A (although you may say nasty things about them on Yelp).
(2) We know that your lawnmowing business is making a profit, because average cost ($10) is less than price ($20). Nevertheless, you should downsize, because marginal cost ($30) is greater than price. If you mow one fewer lawn, you save $30 in cost while you sacrifice only $20 in revenue. Thus if you mow one fewer lawn, your profit will increase by $30$20=$10.
Version B
I. Multiple choice
(1)c. (2)d. (3)c. (4)b. (5)d. (6)f. (7)a. (8)c. (9)b. (10)c.
(11)c. (12)c. (13)b. (14)b.
II. Problems
(1) [Consumer's budget constraint: 10 pts]
 Budget line is a straight line with intercepts at 5 pizza slices and 15 arcade games.
 Exactly affordable (because on budget line).
 Affordable with money left over (because inside budget line).
 Affordable with money left over (because inside budget line).
 3 pizza slices (because along budget line, to move up for one more pizza slice, must move left 3 units giving up 3 arcade games).
(2) [Consumer choice and demand: 14 pts]
 4 hamburgers and 9 gallons of gasoline.
 5 hamburgers and 10 gallons of gasoline.
 Budget line A is a straight line with intercepts at 10 hamburgers and at 10 gallons of gasoline.
 4 hamburgers, the tangency point.
 Budget line B is a straight line with intercepts at 5 hamburgers and at 10 gallons of gasoline.
 3 hamburgers, the tangency point.
 (P,Q) = ($4,4), ($8,3).
(2) [Rational choice: 10 pts]
 MC = Δ TC / Δ miles
= $6 million, $4 million, $6 million, $8 million.
 MB = Δ TB / Δ miles
= $16 million, $12 million, $8 million, $4 million.
 15 miles, where MC begins to exceed MB.
(3) [Discounting: 4 pts]
 $18 = 500 + (250/1.04) + (300/1.04^{2}).
 $125 million = $5 million / 0.04.
(4) [Shortrun cost curves and supply: 20 pts]
 $22 thousand (= 2000 × SATC).
 $16 thousand (= 2000 × SAVC).
 $6 thousand (= STC  SVC).
 $2 (= SMC).
 $8 (= minimum SATC).
 $3 (= minimum SAVC).
 0 parts, because price is less than the shutdown price.
 loss, because price is less than breakeven price (profit = SFC).
 1400 parts, using the rule P=MC.
 profit, because P is greater than breakeven price.
(5) [Longrun competitive equilibrium: 24 pts]
 $5.
 3 million.
 $5, because price = AC in longrun equilibrium.
 $9, at intersection of new demand and shortrun supply.
 7 million.
 profits, because above longrun supply curve.
 new firms will enter the market seeking profits.
 $5, at intersection of new demand and longrun supply.
 9 million.
 $5, because price = AC in longrun equilibrium.
 increased, because of entry of new firms seeking profits.
 constantcost industry, because longrun supply curve is horizontal.
III. Critical thinking [4 pts]
(Same as version A.)
[end of answer key]