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1 Final Exam Study Questions: Practice Multiple-Choice Questions 1. If a consumer purchases only two goods (X and Y ) and the demand for X is elastic, then a rise in the price of X a. will cause total spending on good Y to rise. b. will cause total spending on good Y to fall. c. will cause total spending on good Y to remain unchanged. d. will have an indeterminate effect on total spending on good Y. 2. A firm s isoquant shows a. the amount of labor needed to produce a given level of output with capital held constant. b. the amount of capital needed to produce a given level of output with labor held constant. c. the various combinations of capital and labor that will produce a given amount of output. d. none of the above. 3. A firm s marginal revenue is defined as a. the ratio of total revenue to total quantity produced. b. the additional output produced by lowering price. c. the additional revenue received due to technical innovation. d. the additional revenue received when selling one more unit of output. 4. Firms in long-run equilibrium in a perfectly competitive industry will produce at the low points of their average total cost curves because a. free entry implies that long-run profits will be zero no matter how much each firm produces. b. firms seek maximum profits and to do so they must choose to produce where average costs are minimized. c. firms maximize profits and free entry implies that maximum profits will be zero. d. firms in the industry desire to operate efficiently. 5. If, in a given economy, production is taking place at a point inside the production possibility frontier, a. resource allocation is technically and allocatively efficient. b. resource allocation is technically efficient but allocatively inefficient. c. resource allocation is technically inefficient and allocatively efficient. d. resource allocation is technically and allocatively inefficient.

2 6. The principal difference between economic profits for a monopolist and for a competitive firm is that a. monopoly profits create major problems of equity whereas competitive profits do not. b. competitive profits exist only in the short run whereas monopoly profits may exist in the long run as well. c. monopoly profits represent a transfer out of consumer surplus whereas competitive profits do not. d. monopoly profits are usually larger than competitive profits. 7. In the price leadership model, a. firms believe that price increases result in a very elastic demand, while price decreases result in an inelastic demand for their product. b. each firm acts as a price taker. c. one dominant firm takes the reactions of all other firms into account in its output and pricing decisions. d. firms coordinate their decisions to act as multiplant monopolies. 8. Instability arises in the Stackelberg model of duopoly when a each firm acts as a leader. b. each firm acts as a follower. c. each firm seeks to maximize profits. d. each firm seeks to maximize revenues. 9. Perfectly competitive markets will tend to underallocate resources to nonexclusive public goods because a. these goods are produced under conditions of increasing returns to scale. b. no single individual can appropriate the total benefits provided by the purchase of such goods. c. these goods are best produced under conditions of monopoly. d. no private producer can provide the capital necessary to produce such goods. 10. Bargaining costs are generally high in cases involving environmental externalities because a. there are strong incentives to be a free rider. b. many individuals may be affected by the externalities. c. it is difficult to measure the costs of the externalities. d. all of the above.

3 Part B: Short Answer for Microeconomic Concepts [?? points] Instructions: Briefly answer or explain?? of the following?? questions and concepts. Please be clear and concise and write legibly. Examples and diagrams, where necessary, will be helpful. 1. What is an Indifference Curve and what does it represent? 2. In terms of utility, what is meant by the term Diminishing Marginal Rate of Substitution? 3. What are the requirements for Utility Maximization? 4. How does income elasticity differ between normal goods and luxury goods? Give examples of both types of goods. 5. What is an Isoquant? What do Isoquant Maps represent? 6. What does it mean when a production function exhibits Decreasing Returns to Scale? 7. What s the difference between Technical progress and Input substitution in terms of production? 8. What do long run average costs say about optimal firm size? Give a couple of industry examples. 9. What are two causes for shifts in cost curves? 10. Briefly discuss the Marginal Revenue/Marginal Cost rule for a profit maximizing firm. Put another way, using the Marginal Revenue/Marginal Cost rule, how does a profit maximizing firm determine its optimal output level q*? 11. What is an incentive contract in terms of the Principal-Agent model? Give an example. 12. In a perfectly competitive market where firms are maximizing profits, in the Long Run how do firms make input and output choices? What is the basic assumption underlying these choices? 13. Under perfect competition in the long run, what would a market price above the equilibrium price cause and why? 14. What are two functions of the equilibrium price in the short run? 15. How do firms price in the short run? What is the relationship between price and demand for a firm in the very short run? 16. Define a monopoly. List three causes for a monopoly. 17. Define a cartel. What are some of the problems inherent in a cartel? Give an example of a cartel. 18. What is the formalized definition of a game from an economic game theory perspective? Put another way, what are the main elements in a game? 19. What is the Production Possibilities Frontier and what are the assumptions behind its shape? 20. Monopolies are considered inefficient for a number of reasons. For one thing, they distort resource allocation. What are two ways in which this misallocation of resources can be seen? Of the ways listed, which in the long-run could have the most distortionary effect but is difficult to prove? 21. What is the main distinguishing characteristic of a natural monopoly? What are some examples of natural monopolies? 22. Briefly discuss product differentiation in terms of its impact on firm competition. Does greater or lesser product differentiation imply greater or less competition? 23. What is meant by the phrase competitive fringe and what model of competition is it part of? 24. What are the main features of a cournot model of competition? What kind of competition does the cournot model represent? 25. Compare the concept of equilibrium in terms of market equilibrium and equilibrium in game theory. Is it a valid comparison? 26. What is a Nash Equilibrium? Do all games have Nash Equilibria? 27. In Game Theory what is the Prisoner s Dilemma?

4 Part C: Math Questions [?? points] Instructions: Answer All questions. Please show work (that is the steps involved in arriving at your answers) to get full credit. 1) [?? points] A brother and a sister inherit the family business consisting of two factories manufacturing very specialized silk flowers. As such, they have a lock on the market. Both factories manufacture the same number and types of flower. Because of where they live, the brother and sister each take charge of one of the plants. The market demand for silk flowers is: Q = 150 P with the marginal cost per flower of 5 for each plant. Initially the siblings collaborate on output decisions and act as a monopoly. a) What is the output and price for each factory, given that they act as a monopoly? b) Later, the brother and sister have a falling out and start competing with each other on price in an attempt to capture the entire market. Construct a graph with a brief description, to illustrate the price war, indicating where the eventual equilibrium output, price point will be. c) What kind of competition is this called and what kind of competition does it mimic? d) Assuming this price war goes on for some time, what will be the eventual equilibrium price and output? e) Why don t the brother and sister get along?

5 2) [?? points] John and Mary are going out to dinner to celebrate the ending of Spring Quarter, However, being somewhat competitive, and driving separate his and hers red Ferrari s, they have wagered that the one who gets to the restaurant first doesn t have to pay. In addition, if they arrive simultaneously but quickly, they ll be seated right away, vs. arriving a little late and waiting for a table. There are a series of lights between where they live and their destination which can make a tremendous difference in the time to the restaurant. They start out even but are fast approaching a fork in the road where each must decide which branch to take, the one on the left or on the right. The normal form game below represents the time, in minutes, to the restaurant with the goal for John and Mary to minimize that time own individual times. In each cell, Mary s time driving is listed first and then John s. Left John Right M a r y Left 9,9 1.5, 30 Right 30, 1.5 6,6 a) Do Mary and John have dominant strategies and if so, what are they? b) What are(is) the Nash Equilibria in this game? c) Is(are) this(these) Nash Equilibrium stable or unstable and why? d) Suppose Mary and John find out just before they leave their house for the restaurant that a mutual friend, whom they haven t seen in 10 years, is at the restaurant but will leaving in exactly 7.5 minutes if he doesn t see them at the restaurant (John and Mary are information technology Luddites they never use any kind of phone) Given your answer in part c), how might this change the game?

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