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1. What is a competitivemarket? Briefly describe the types
ofmarkets other than perfectly competitive
markets.2.
Colddrinksandpizzaarecomplementsbecausetheyareoftenenjoyedtogether.Whenthepriceofcold
drinksrises,whathappenstothesupply,demand,quantitysupplied,quantitydemanded,andthepriceinthemarketforpizza?
Solution)
Whenthepriceofthecomplementgoodincreases,resultsintheleftwardshiftofthedemandcurveforpizzafromDtoDwhichresults:
Demand DecreasesfromDtoDQuantitydemanded
DecreasesfromQ0toQ1Quantitysupply DecreasesfromQ0toQ1Supply
NochangePrice DecreasesfromP0toP1
3.
Definetheequilibriumofamarket.Describetheforcesthatmoveamarkettowarditsequilibrium.Solution)Equilibrium
refers to a situation inwhich the price has reached the levelwhere
quantity supplied equalsquantitydemanded.
EquilibriumPrice:Thepricethatbalancesquantitysuppliedandquantitydemanded.
Onagraph,itisthepriceatwhichthesupplyanddemandcurvesintersect.
EquilibriumQuantity:Thequantitysuppliedandthequantitydemandedattheequilibriumprice.
Onagraphitisthequantityatwhichthesupplyanddemandcurvesintersect.
Lawofsupplyanddemandclaimthatthepriceofanygoodadjuststobringthequantitysuppliedandthequantitydemandedforthatgoodintobalance.
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PAF Karachi Institute of Economics and Technology City Campus
Course: Micro & Macroeconomics Faculty: Iftikhar Mubbashir
Class ID: (Solution)
Project Part(-II) Assignment Date: Sep 21, 2013 Submission Date:
Oct 05, 2013
D
Qpizz
PPizza
D
S
Q0Q1
P0
P1
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Price of
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Cone
0 1 2 3 4 5 6 7 8 9 10 11 12 Quantity of Ice-Cream Cones
13
Equilibriumquantity
Equilibrium price Equilibrium
Supply
$2.00
Demand
4.
Explaineachofthefollowingstatementsusingsupplyanddemanddiagrams.a.
WhenacoldsnaphitsFlorida,thepriceoforangejuicerisesinsupermarketsthroughoutthecountry.Solution)
Thecoldsnapwilldestroyorangesandthatwillreducethequantityoforangesproducedwhichwillreducethesupplyofthequantityoforanges.So,therewillbe
fewerorangeswhichwillshiftthesupplycurve
leftside.Asthefigureshowsthisdecreaseinsupplyraisestheequilibriumprice.
b.
WhentheweatherturnswarminNewEnglandeverysummer,thepricesofhotelroomsinCaribbean
resortsplummet.Solution)When theweather turnswarm, therewill be
fewer peoplewhowill be eager to visitwarm places
likeCaribbean.So,attheexistingpricesthehotelroomswillbeemptyinCaribbean.Inotherwordstherewillbeadecreaseindemandforhotelrooms.Thedemandcurvewillshifttotheleft.Thehotelownerswillreducethepricetokeeptheroomsbooked.Asthefiguresuggests,thiswillreduceequilibriumprice.
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c.
WhenawarbreaksoutintheMiddleEast,thepriceofgasolinerises,whilethepriceofausedCadillac
falls.Solution)
Wardestroysoilfields,oiltankerswhichreducethesupplyofoil,thesupplycurveforoilmovesleftside.Thusthepriceofgasolineincreasesasisevidentfromthefigure.
5. During the 1990s, technological advance reduced the cost of
computer chips. How do you think this
affectedthemarketforcomputers?Forcomputersoftware?Fortypewriters?Solution)
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Psoftwares
Q softwares
D
D
S
Q1Q0
P1
P0
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Whenthepriceofthecomplementgoodincreases,resultsintherightwardshiftofthedemandcurveforsoftwaresfromDtoDwhichresults:
Demand IncreasesfromDtoDQuantitydemanded
IncreasesfromQ0toQ1Quantitysupply IncreasesfromQ0toQ1Supply
NochangePrice IncreasesfromP0toP1
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Qtypewriter
Ptypewriter
D
S
D
P0
P1 Q1 Q0When the price of the substitute good decreases, results
in the leftward shift of the demand curve
fortypewritersfromDtoDwhichresults:
Demand DecreasesfromDtoDQuantitydemanded
DecreasesfromQ0toQ1Quantitysupply DecreasesfromQ0toQ1Supply
NochangePrice DecreasesfromP0toP1
Q0 Q1
Pcomputers
Qcomputers
D
S
S
P0
P1
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Whentheinputpriceofproductiondecreases,resultsintherightwardshiftofthesupplycurveforcomputersfromStoSwhichresults:
Supply IncreasesfromStoSQuantitydemanded
IncreasesfromQ0toQ1Quantitysupply IncreasesfromQ0toQ1Demand
NochangePrice DecreasesfromP0toP1
6.
Thecasestudypresentedinthechapterdiscussedcigarettetaxesasawaytoreducesmoking.Nowthink
aboutthemarketsforothertobaccoproductssuchascigarsandchewingtobacco.a.
Arethesegoodssubstitutesorcomplementsforcigarettes?Solution)
CigarandChewingtobaccoarethecomplementsforcigarettes.b. Using a
supplyanddemand diagram, show what happens in the markets for
cigars and chewing
tobaccoifthetaxoncigarettesisincreased.Solution)
Ifwarningoncigarettepackagesconvincesmokerstosmoke
less,thedemandcurve
forcigarettesshiftstotheleftasshowninabovefigure.ThedemandcurveshiftfromD1toD2ataprice$2andthequantitydemandfallsfrom50to20cigarettes.
c.
Ifpolicymakerswantedtoreducetotaltobaccoconsumption,whatpoliciescouldtheycombinewith
thecigarettetax?Solution)Ifataxraisesthepriceofcigarettesthedemandcurvewouldnotshiftbutincreaseinpricewouldreducethequantitydemandedas
shown inabove figure that tax increase thepriceof cigarette from$2
to$4andquantitydemandedreducedfrom20to12.
7. Themarketforpizzahasthefollowingdemandandsupplyschedules:
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PRICE($) QUANTITYDEMANDED
QUANTITYSUPPLIED
4 135 265 104 536 81 817 68 988 53 110
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9 39
121Graphthedemandandsupplycurves.Whatistheequilibriumpriceandquantityinthismarket?Iftheactualpriceinthismarketwereabovetheequilibriumprice,whatwoulddrivethemarkettowardtheequilibrium?Iftheactualprice
in thismarketwerebelow theequilibriumprice,whatwoulddrive themarket
toward theequilibrium?Solution)
TheequilibriumpriceofPizzawouldbe$6andtheequilibriumquantityofPizzawouldbe81asshown
intersectionpointonabovefigure.
Ifpriceofpizzaincreasesfromtheequilibriumpriceitwouldbesurplussupplycreatedandsupplierwould
notabletosaleastheywant. Ifpriceofpizzadecreases from the
equilibriumprice itwouldbe shortage supply created andbuyers
wouldnotabletobuyasthewant.
Tomakemarketequilibriumsuppliermusthavetodecreasethepriceinordertoremovesurplus.
Tomakemarketsequilibriumsuppliermusthavetoincreasethepriceinordertoremoveshortage.8.
Supposethatthepriceofbasketballticketsatyourcollegeisdeterminedbymarketforces.Currently,the
demandandsupplyschedulesareasfollows:PRICE($)
QUANTITYDEMANDED
QUANTITYSUPPLIED
4 10,000 8,0008 8,000 8,00012 6,000 8,00016 4,000 8,00020 2,000
8,000
a. Draw thedemandand supply curves.What isunusualabout this
supply curve?Whymight thisbetrue?
Solution)
PB Ball
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8000 Q B ball
D
S 8
Theunusualaboutthissupplycurveisconstantsupplyduetoavailabilityconstantseatsatbasketballground.Thesuppliercouldnotsupplymorethan8000seats.
b. Whataretheequilibriumpriceandquantityoftickets?
Solution)
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The Equilibrium quantity would be 8000 seats and the Equilibrium
price would be$8.00.
c. Yourcollegeplansto
increasetotalenrollmentnextyearby5,000students.Theadditionalstudentswillhavethefollowingdemandschedule:
PRICE($) QUANTITYDEMANDED
4 4,0008 3,00012 2,00016 1,00020 0
Nowaddtheolddemandscheduleandthedemandscheduleforthenewstudentstocalculatethenewdemandschedulefortheentirecollege.Whatwillbethenewequilibriumpriceandquantity?
Solution)PRICE($) QUANTITYDEMANDED QUANTITYSUPPLIED4 14,000
8,0008 11,000 8,00012 8,000 8,00016 5,000 8,00020 2,000 8,000
The Equilibrium quantity would be 8000 seats and the Equilibrium
price would be$12.00.11.
Definethepriceelasticityofdemandandtheincomeelasticityofdemand.Solution)Priceelasticityofdemandisameasureofhowmuchthequantitydemandedofagoodrespondstoachangeinthepriceofthatgood.
Priceelasticityofdemandisthepercentagechangeinquantitydemandedgivenapercentchangeintheprice.Thepriceelasticityofdemand
iscomputedasthepercentagechange
inthequantitydemandeddividedbythepercentagechangeinprice.
Incomeelasticityofdemandmeasureshowmuchthequantitydemandedofagoodrespondstoachangeinconsumersincome.
It iscomputedasthepercentagechange
inthequantitydemandeddividedbythepercentagechangeinincome.
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8000 Q B ball
PB Ball
D
12
S
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Higherincomeraisesthequantitydemandedfornormalgoodsbutlowersthequantitydemandedforinferiorgoods.12.
Listandexplainsomeofthedeterminantsofthepriceelasticityofdemand.Solution)
AvailabilityofCloseSubstitutes:Goodswhichhaveclosedsubstitutearemoreelastic.Asmallincreasein
pricemayguidepeopletoswitchforsubstitute.Examplecouldbebutterandmargarine.
Necessities versus Luxuries:Necessitieswhichhaveno substitute
couldbe inelastic. Increasing inprice
wouldnoteffectonquantitydemanded.Examplevisittothedoctor.WhereaspriceofLuxuriesrises,thequantitydemandedfalls.
DefinitionoftheMarket:Theelasticityofdemand
inanymarketdependshowwedefineanymarket. Ifwedefinemarketnarrowly,
thatwillbeeasy to findsubstitutemeanmoreelastic.
Ifwedefinemarketbroadly,thatwillbedifficulttofindsubstitutemeanlesselastic.
TimeHorizon:Somegoodsmoreelasticoverthe
longtimewhicheffectquantitydemandedaftera
longtime.Example,peopletaketimetoswitchfromfuelinefficientcarstoefficientcarsduetoincreaseinfuelprice.
13. Ona supplyanddemanddiagram,
showequilibriumprice,equilibriumquantity,and the total revenue
receivedbyproducers.Solution)
EquilibriumPrice P0EquilibriumQuantity Q0TotalRevenue 00 QPTR
=
14.
Howisthepriceelasticityofsupplycalculated?Explainwhatthismeasures.Solution)
Priceelasticityofsupplyisameasureofhowmuchthequantitysuppliedofagoodrespondstoachangeinthepriceofthatgood.
Priceelasticityofsupplyisthepercentagechangeinquantitysuppliedresultingfromapercentchangeinprice.
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Q
P
D
S
Q0
P0
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15.
Foreachofthefollowingpairsofgoods,whichgoodwouldyouexpecttohavemoreelasticdemandandwhy?a.
requiredtextbooksormysterynovels
Solution)Mysterynovelshavepossiblesubstitute,moreelasticbutrequiredtextbookhasnotsubstitutelesselastic.
b.
BeethovenrecordingsorclassicalmusicrecordingsingeneralSolution)Classicalmusic
recordinghavepossible substitute,moreelasticbutBeethoven
recordinghasnotsubstitute,lesselastic.
c.
heatingoilduringthenextsixmonthsorheatingoilduringthenextfiveyearsSolution)Heatingoilduringthenextfiveyearscouldbepossiblesubstituteinfuture,moreelasticbutheatingoilduringthenextsixmonthshavenoimmediatesubstitute,lesselastic.
d.
rootbeerorwaterSolution)Rootbeerhasnosubstitute,lesselasticbutwaterhavepossiblesubstitute,moreelastic.
16.
SupposethatbusinesstravelersandvacationershavethefollowingdemandforairlineticketsfromNew
YorktoBoston:a.Asthepriceofticketsrises from$200to$250,what
isthepriceelasticityofdemand for (i)business
travelersand(ii)vacationers?(Usethemidpointmethodinyourcalculations.)Solution)Usingmidpointformula:
( ) ( ) ( )[ ]( ) ( )[ ]
23.022502002502002000,2900,1000,2900,1
. =++=TBED
( ) ( ) ( )[ ]( ) ( )[ ] 29.122502002502002600800600800 =+
+=VED
b.Whymightvacationershaveadifferentelasticitythanbusinesstravelers?Solution)Forvacationers,travel
isof lessnecessitycomparedtobusinesstravelers.Vacationershave
longer
timehorizon for travelwhile thebusiness travelershaveaveryshort
time to travel.Vacationersalsohave
severalothersubstitutesliketravellingbycar.Thatsubstituteisnotappropriateforbusinesstravelersasthey
need to reach faster to their place of destination. This iswhy
vacationerswill have a higher elasticity of
demandforairticketscomparedtothebusinesstravelers.
17. Supposethatyourdemandscheduleforcompactdiscsisasfollows:
PRICE($) QUANTITY DEMANDED (INCOME=$10,000)
QUANTITY Demanded (INCOME =$12,000)
8 40 5010 32 4512 24 3014 16 2016 08 12
a. Use themidpointmethod
tocalculateyourpriceelasticityofdemandas
thepriceofcompactdiscsincreasesfrom$8to$10if(i)yourincomeis$10,000,and(ii)yourincomeis$12,000.
Solution)
i)Whenincomeis$10,000:( ) ( )[ ]( ) ( )[ ] 50.02108108
232403240 =++=DE
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ii)Whenincomeis$12,000:( ) ( )[ ]( ) ( )[ ] 47.02108108
245504550 =++=DE
b.
Calculateyourincomeelasticityofdemandasyourincomeincreasesfrom$10,000to$12,000if(i)the
priceis$12,and(ii)thepriceis$16.Solution)
i)Incomeelasticityatprice$12:( ) ( )[ ]
( ) ( )[ ] 22.12000,10000,12000,10000,12224302430 =+
+=YE
ii)Incomeelasticityatprice$16:( ) ( )[ ]
( ) ( )[ ] 20.22000,10000,12000,10000,122812812 =+
+=YE 18. TwodriversTomandJerryeachdriveuptoagasstation.Before
lookingattheprice,eachplacesan
order.Tomsays,Id like10gallonsofgas.Jerrysays,Id
like$10worthofgas.What iseachdriverspriceelasticityofdemand?
Solution: For Tom the price elasticity of demand is inelastic,
as he does demand the amount of the
gaswithoutinquiringtheprice,meanshisdemandisindependentoftheprice.Whereas,thedemandforjerryishighlyelastic;ashedemandedthequantityofthegasoffixedamount.19.
Considerpublicpolicyaimedatsmoking.
a. Studies indicatethatthepriceelasticityofdemandforcigarettes
isabout0.4.
Ifapackofcigarettescurrentlycosts$2andthegovernmentwantstoreducesmokingby20percent,byhowmuchshoulditincreasetheprice?
Solution)( ) ( )[ ]( ) ( )[ ] 4.02
2
1212
1212 =++=PPPP
QQQQED ( ) ( )[ ]2
2.04.0
1212 PPPP += %505.0
4.02.0
=== P b.
Ifthegovernmentpermanentlyincreasesthepriceofcigarettes,willthepolicyhavealargereffecton
smokingoneyearfromnoworfiveyearsfromnow?Solution)5yearsfromnowaswithtimethemoresubstitutesthesmokerswouldhaveavailable.
c.
Studiesalsofindthatteenagershavehigherpriceelasticitythandoadults.Whymightthisbetrue?
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Solution)Astheyarenotthatmuchaddictedtothehabitastheeldersareandtheincomeaffectislargeronteenagersthatitisonelders.
