BSc (Hons) Economics with International. Business and Finance. Cohort: BEIBF/16A/FT. Examinations for Academic Year

Transcription

1 BSc (Hons) Economics with International Business and Finance Cohort: BEIBF/16A/FT Examinations for Academic Year Semester I / Academic Year 2016 Semester II MODULE: MICROECONOMIC THEORY MODULE CODE: ECON 1210 DURATION: 2 HOURS Instructions to Candidates: 1. This question paper consists of Section A and Section B 2. Section A is compulsory 3. Answer any two questions from Section B 4. Always start a new question on a fresh page. 5. Total Marks: 100. This Question Paper contains 5 questions and 5 pages. This Question Paper is printed on BOTH SIDES. Page 1 of 5

2 SECTION A: COMPULSORY QUESTION 1: (40 MARKS) You are given the following utility function: U(X,Y)= X 0.2 Y 0.8 (a) Using Lagrangian method, derive the Marshallian demand curves for X and Y. (11 marks) (b) Find the indirect utility function and explain what it means. (c) Find the expenditure function and explain what it means. (d) Find the Hicksian demand curves for X and Y. (e) Discuss the differences between the Marshallian demand and the Hicksian demand curves. (f) Explain the link between the income consumption curve and the Engel curve. (g) Explain the link between the price offer curve and the demand curve. Page 2 of 5

3 SECTION B: ANSWER ANY TWO QUESTIONS QUESTION 2: (30 MARKS) PART A Ed's utility from vacations (V) and meals (M) is given by the function U(V,M) = V 2 M. The Marshallian demand is V= (2/3)(Y/P v ) and M= (1/3)(Y/P m ). Last year, the price of vacations was $200 and the price of meals was $50. This year, the price of meals rose to $75, the price of vacations remained the same. Both years, Ed had an income (Y) of $1500. (a) Compute the indirect utility function. (b) Calculate the change in consumer surplus from meals resulting from the change in meal prices. (c) What is the compensating variation for the price change in meals? (d) Calculate the equivalent variation for the price change in meals. PART B Derive the Slutsky equation to show how a change in the price of one commodity, holding everything else constant can be decomposed into a substitution effect and an income effect. (12 marks) Page 3 of 5

4 QUESTION 3: (30 MARKS) Consider the following production functions Q= L α K β and Q= αl + βk, where Q is the quantity of output per period of time, L and K are labour and capital used per period of time. (a) Explain the features of each production function. (b) Define the marginal rate of technical substitution (MRTS). Derive the MRTS for each production function. (c) Assume that α=β= ½. Let the cost of a unit of L be w = 1 and the cost of a unit of K be r = 4, calculate and show graphically the optimal capital-labour ratio for the production function L α K β. (12 marks) (d) Derive the long run average cost function of the production function stated in part c. (e) Explain the relationship between the marginal cost, average variable cost and average cost. QUESTION 4: (30 MARKS) PART A An industry consists of two firms, each of which has variable costs of $280 per unit but no fixed costs. The industry demand curve for a homogeneous good is P = Q. (a) List down the assumptions of the Cournot model. (b) If the firms compete under the Cournot assumptions, find the output and the price that will result in the Nash equilibrium. (9 marks) Page 4 of 5

5 (c) Graph the reactions functions obtained in part b. (d) Now suppose that one firm is a Stackelberg leader while the other firm is a follower. Assume, that the follower behaves like a Cournot duopolist, calculate the price in the industry and the output of the leader. PART B Aquafresh and Blendax are negotiating not to advertise in the next financial year as advertising is considered an unnecessary increase in costs. Given that Aquafresh and Bendax faces the following payoff matrix : Aquafresh Advertise Do not advertise Blendax Advertise Rs 30m / Rs 30m Rs 65m/Rs20m Do not advertise Rs 20m/Rs65m Rs70m/Rs70m m-million (a) Which strategy will each firm adopt? Explain your answer. (2 marks) (b) How can cheating be prevented in an agreement between two competitors? QUESTION 5: (30 MARKS) Write short notes on the following statements. EACH PART WEIGHS 10 MARKS. (a) Explain the inefficiencies that arise from monopolists when it is compared to perfectly competitive markets. (b) Using appropriate diagram and explanations show how a rise in the wage rate may have differential effects on working hours of an individual. (c) Explain how the shut-down conditions differ in the short run and long run for perfect competition markets. ***END OF QUESTION PAPER*** Page 5 of 5