# FINAL EXAMINATION Version A ECON 200 FALL, Your signature:

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2 Problem 1 (12 points) A and B are going to play a game where they move sequentially. A will move first. When it is A s turn he will say either North or South; when it is B s turn she will say either Up or Down. The payoffs in this game are as follows: A s first turn If A says North the game ends and A earns 0 and B earns 1. If A says South the game continues and it is now B s turn. B s first turn If B says Down the game ends and A earns -5 and B earns 1. If B says Up the game continues and it is now A s turn. A s second turn If A says North the game ends and A earns 2 and B earns -4. If A says South the game continues and it is now B s turn. B s second turn If B says Down the game ends and A earns 3 and B earns 2. If B says Up the game ends and A earns 1 and B earns 0. (a) Draw the game tree for this game. (b) Use backward induction to find each player s best strategy and each player s payoff. Use your game tree to explain how you reached your answers. Defend your answer carefully.

3 Problem 2 (12 points) Farmer Dan raises soybeans, and will earn a profit of \$200 if the rainfall is above average in 2003, but will earn only \$60 if the rainfall is at or below average. Winemaker Jacques, who lives next to Farmer Dan, does better in dry years. His winery profits are \$20 if the rainfall is above average, but are \$120 if the rainfall is at or below average. The almanac predicts that there is a 25% chance that 2003 will bring above average rainfall and a 75% chance that it will have at or below average rainfall. Defend all of your answers carefully.. Show all of your calculations. (a) What is the expected value of Farmer Dan s profits? What is the expected value of Winemaker Jacques s profits? (b) If Farmer Dan and Winemaker Jacques decide to consolidate their operations and divide the total profits evenly, what is the expected value of each person s profit? (c) If Farmer Dan is risk-averse, would he prefer to operate on his own or to consolidate with Winemaker Jacques? Why?

4 Problem 3 (14 points) Consider a monopolist who faces a demand curve that is neither perfectly elastic nor perfectly inelastic and who has an upward sloping marginal cost curve. Present a single diagram for this question. (a) Draw a diagram that includes the monopolist s demand curve, marginal cost curve, and marginal revenue curve. (b) In your diagram, label the profit-maximizing level of output this monopolist would produce Q M and the profit-maximizing price the monopolist would charge P M. (c) In your diagram identify the equilibrium price under perfect competition P C and the equilibrium quantity under perfect competition Q M. (d) Clearly label your diagram and complete the following table: Consumer surplus Perfect Competition Monopoly Change Producer surplus Total surplus

5 Problem 4 (18 points) (a) The short run total costs for a typical dairy farmer are shown in the first two columns in the table below. Quantity (in gallons) Total Cost Total Fixed Cost Total Variable Cost Marginal Cost 0 \$ (b) Use the table above to complete the firm s short run supply schedule below: Price per gallon \$1 \$2 \$3 \$4 \$5 \$6 Quantity Supplied (in gallons) (c) Suppose there are 50 dairy farmers and they all act like perfect competitors. Suppose further that the market demand for milk is shown in the first two columns in the table below. Complete the third column of that table. Price per gallon Market Demand (in gallons) Market Supply (in gallons) \$1 450 \$2 400 \$3 350 \$4 300 \$5 250 \$6 200 (d) Find the equilibrium price and quantity in this market. Defend your answer carefully.

6 Problem 5 (points) Suppose the equilibrium price of some good rises and at the same time the equilibrium quantity falls. Assume that the laws of supply and demand hold. (a) Is it possible that this increase in the equilibrium price and decrease in equilibrium quantity are a result of an increase in income if this good is an inferior good? (b) Is it possible that this increase in the equilibrium price and decrease in equilibrium quantity are a result of (i) the discovery of a new technology that allows firms to produce this good using fewer raw materials, and (ii) an increase in the price of a complement? (c) Is it possible that this increase in the equilibrium price and decrease in equilibrium quantity are a result of (i) an increase in the price of raw materials used in the production of this good, and (ii) the publication of a new government study that shows that people who consume this good are more likely to suffer from heart disease. In each case, present and discuss a diagram as part of you answer.

7 Multiple Choice Each Question Is Worth 1.8 Points 1. A market is competitive if (i) each buyer is small compared to the market. (ii) each seller is small compared to the market. (iii) firms have the ability to determine the price their own product. a. (i) and (ii) only b. (i) and (iii) only c. (ii) and (iii) only d. (i), (ii), and (iii) The graph shown depicts the short run costs for a firm in a competitive market. Use the graph to answer the following two questions. 2. When price is equal to P 1, the firm will produce units of output a. Q 1 b. Q 2 c. Q 3 d. Q 4 e zero 3. When price is equal to P 4, the firm will produce units of output a. Q 1 b. Q 2 c. Q 3 d. Q 4 e zero 4. Consider a perfectly competitive industry where all firms and potential firms in a market have the same cost curves. A friend claims that if this industry is in long run equilibrium (i) each firm will be producing at minimum efficient scale, and (ii) each firm will earn zero economic profits. You should tell your friend that

8 a.(i) is correct but (ii) is wrong b.(i) is wrong but (ii) is correct c. (i) and (ii) are both correct d. (i) and (ii) are both wrong 5. When a monopolist maximizes profits, a. P = MR = MC b. P > MR > MC c. P > MR = MC d. P > MR < MC 6. A monopolist s profit maximizing price is \$16. The intersection of the marginal revenue and marginal cost curves occurs where output is 10 units and marginal cost is \$8. Average cost for 10 units of output is \$6. What is the monopolist s profit under these conditions? a. \$80 b. \$100 c. \$160 d. \$10 7. An example of a two-part tariff is a. An airline that charges higher fares if a traveler does not purchase a ticket at least 14 days in advance. b. A publisher that charges higher prices for hardbacks than paperbacks c. A health club that charges a \$20 monthly fee and charges \$5 per visit. d. A U.S. tax on steel imported from South Korea or North Korea. The next two questions refer to the following economic problem. Suppose you are a monopolist in the market for X. There are two customers, A and B. Each will buy either 0 or 1 units of X. A s willingness to pay for X is \$8; B s willingness to pay for X is \$10. You produce X at a constant average and marginal cost of \$2. 8. If you cannot engage in price discrimination you will earn a profit of a. \$6 b. \$8 c. \$12 d. \$14 9. If you can engage in price discrimination you will earn a profit of a. \$6 b. \$8 c. \$12 d. \$14 The next three questions refer to the following game. There are two players, A and B. A can play Top or Bottom; B can play Left or Right. The payoffs are as follows: If A plays Top and B plays Left, each player earns 2. If A plays Top and B plays Right, each player earns -1. If A plays Bottom and B plays Left, each player earns 0. If A plays Bottom and B plays Right, each player earns Suppose the players move simultaneously. In this game, a. A has a dominant strategy but B does not. b. B has a dominant strategy but A does not.

9 c. Neither player has a dominant strategy d. Both players have dominant strategy 11. How many Nash equilibria does this game have? a. 0 b. 1 c. 2 d Suppose we change this game so that A moves first and B moves second (i.e., they move sequentially). Using backward induction we would expect a. each player to earn 2 b. each player to earn 1 c. each player to earn 0 d. each player to earn Which of the following statements are true of the prisoners' dilemma? (i) Both players have a dominant strategy (ii) Rational self-interest leads neither party to confess. a. (i) only b. (ii) only c. (i) and (ii) d. Neither (i) nor (ii) 14. John Doe is a student in Econ 200. He believes there is a 10% chance he ll earn 60 points on the final exam, a 60% chance he ll earn 75 points, and a 30% chance he ll earn 90 points. What is the expected value of his points? (a) 72 (b) 78 (c) 81 (d) Moral hazard is a problem in the insurance industry because (a) policy holders have lower incentive to prevent losses (b) only low-risk people can afford insurance (c) monitoring costs are minimal (d) high risk people have greater incentive to buy insurance 16. Joe is risk averse. Which of the following statements are true about Joe? (i) He will always choose to diversify investments (ii) He buys insurance if it is fair (iii) If two investments have the same expected value, he prefers the investment that is less risky a. (i) and (ii) only b. (ii) and (iii) only c. (i) and (iii) only d. (i), (ii), and (iii) 17. Bad used cars are worth \$4,000 and good used cars are worth \$10,000. Half of all used cars are good and half are bad. Current owners know if their car is good or bad but a prospective buyer does not. The equilibrium price of used cars is a. \$4,000 b. \$10,000 c. \$7,000

10 d. \$6, Hidden characteristics often lead to problems; hidden actions often lead to problems. (a) Moral hazard, adverse selection (b) Adverse selection, moral hazard (c) Moral hazard, prisoner dilemma (d) Adverse selection, prisoner dilemma The next four questions refer to the two figures below. These figures illustrate the production possibilities available to Tom and Nicole with 40 hours of labor. 19. The opportunity cost of 1 video for Tom is a. 4 books. b. 2 books. c. 1 book. d. 1/2 book. 20. Nicole has an absolute advantage in and Tom has a comparative advantage in. a. both goods, videos b. neither good, videos c. books, neither good d. both goods, books 21. Everyone but you hates your Alvin and the Chipmunks album. When you play this album in your dorm, you create a externality in. a. negative, production. b. negative, consumption. c. positive, production. d. positive, consumption. 22. The text argues that the production of robots generates positive production externalities. If that is true, the market for robots will fail to produce the efficient number of robots because a. social cost equals private cost at the market equilibrium. b. private value exceeds social value at the market equilibrium.

11 c. private value exceeds social cost at the market equilibrium. d. consumption externalities lead to production externalities. The next two questions refer to the following economic problem. Suppose there is a baseball park with 10,000 seats and the demand for seats in the park as follows: Price per Ticket Quantity Demanded \$20 2, , , , , , , If the management of the baseball park charges \$8 per ticket a. there will be a shortage of tickets. b. there will be 2,000 empty seats. c. there will be 4,000 empty seats. d. revenue will be maximized. 24. Notice that lowering the price from \$8 to \$6 per ticket decreases revenue by \$4,000. In the \$6 to \$8 price range, demand for baseball tickets must be a. price elastic b. price inelastic c. price unit elastic d. income elastic 25. If the cross-price elasticity of demand is 1.25, then the two goods would be a. complements. b. luxuries. c. normal goods. d. substitutes. 26. Assume that a 4 percent increase in income results in a 2 percent decrease in the quantity demanded of a good. The income elasticity of demand for the good is a. negative and therefore the good is an inferior good. b. negative and therefore the good is a normal good. c. positive and therefore the good is an inferior good. d. positive and therefore the good is a normal good. 27. A tax on the sellers of popcorn a. leads sellers to supply a smaller quantity at every price. b. leads buyers to demand a smaller quantity at every price. c. leads sellers to supply a larger quantity at every price. d. causes the supply curve to shift to the right. 28. We can say that the allocation of resources is efficient if a. producer surplus is maximized. b. consumer surplus is maximized.

12 c. total surplus is maximized. d. None of the above are correct. 29. Which of the following is a tax system in which higher-income taxpayers have lower average tax rates than lower-income taxpayers? a. regressive b. progressive c. proportional d. none of the above 30. Suppose the budget line for pants and sweaters intersects the vertical axis at 5 pants and the horizontal axis at 10 sweaters. If the price of pants is \$28, then we know that the price of sweaters is a. \$75. b. \$32. c. \$56. d. \$ The international price of diapers is \$10. If the small country of Utopialand did not engage in trade the price of diapers in Utopialand would be \$8. If Utopialand does engage in trade, then this country will diapers and producers will be than with no trade. a. export, better-off. b. import, better-off. c. import, worse off. d. export, worse-off. 32. The long-run is a time period of sufficient length to enable a firm to a. adjust all factors of production. b. adjust its rate of output. c. adjust the rate at which labor is utilized. d. adjust its price. 33. The national Mall in dowtown Washington, DC is very crowded during spring break. The Mall should therefore be considered a because it is. a. public good, non-rival and non-excludable b. common resource, non-rival and non-excludable c. public good, non-rival but excludable. d. common resource, rival but non-excludable 34. In a perfectly competitive market a. price is set up by the government. b. marginal revenue is equal to price. c. products are differentiated. d. a firm faces a downward sloping demand.

13 35. Accounting profits equal and therefore accounting profits are always as economic profit. a. Revenue explicit costs implicit costs, at least as large as b. Revenue explicit costs implicit costs, smaller than c. Revenue explicit costs, at least as large as d. Revenue explicit costs, smaller than 36. The government has imposed a price ceiling in the market for good X that is below the equilibrium price of X (i.e., the price ceiling is binding.) As a result of this price ceiling, a. There will be excess supply of X. b. There will be excess demand for X c. Demand will equal supply d. X will become an inferior good. 37. Suppose consumer income increases. If swimsuits are normal goods, the equilibrium price of swimsuits will, and producer surplus in the swimsuit industry will. a. decrease, decrease b. increase, increase c. decrease, increase d. increase, decrease 38. Suppose that five people who could possibly produce Good X. Each will produce either 0 or 1 units of X. Their costs are as follows: Seller Cost Kyle \$1,500 Nathan 1,200 Cheslea 1,000 Hillary 750 Landon 500 If the market price is \$1,000, the producer surplus in the market would be a. \$700. b. \$750. c. \$2,250. d. \$3, George is willing to pay \$200 for a new bicycle. He buys a bike and realizes consumer surplus of \$20. The price of a bike is therefore a. \$220 b. \$180 c. \$200 d. \$ Demanders will bear most of the burden of a tax is a. demand is very inelastic b. supply is very inelastic c. demand is perfectly elastic d. supply is equal to demand

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