ECN113 Principles of Economics   

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ECN113 Principles of Economics                                                  Duration: 2 h 00 m

 

 

YOU ARE NOT PERMITTED TO READ THE CONTENTS OF THIS QUESTION PAPER UNTIL INSTRUCTED TO DO SO BY AN INVIGILATOR.

 

 

There are two parts. Answer ALL questions from both parts.

 

Part A consists of 2 open questions. Each of the ten sub-questions carries equal weight (5 marks). Please explain all answers.

 

Part B consists of 25 multiple-choice questions (to be answered on the separate answer sheet). Each multiple-choice question carries equal weight (2 marks). Give only 1 answer per question.

 

CALCULATORS ARE NOT PERMITTED IN THIS EXAMINATION.

 

Complete all rough workings in the answer book and cross through any work that is not to be assessed. 

 

Possession of unauthorised material at any time when under examination conditions is an assessment offence and can lead to expulsion from QMUL. Check now to ensure you do not have any notes, mobile phones, smartwatches or unauthorised electronic devices on your person. If you do, raise your hand and give them to an invigilator immediately. 

 

It is also an offence to have any writing of any kind on your person, including on your body. If you are found to have hidden unauthorised material elsewhere, including toilets and cloakrooms it will be treated as being found in your possession. Unauthorised material found on your mobile phone or other electronic device will be considered the same as being in possession of paper notes. A mobile phone that causes a disruption in the exam is also an assessment offence.

  

EXAM PAPERS MUST NOT BE REMOVED FROM THE EXAM ROOM.

 

Examiner: Prof. N.J. Vriend

 

Part A     (50 marks)

 

Question 1.  (30 marks)

 

  1. Assume the following inverse demand and supply functions for the market for apples, where P is the price and QD and QS are the quantity demanded and supplied, respectively (measured in boxes).
    • = 120 – QD

                    P =  2 QS

Compute the equilibrium price and quantity for this market, and show these functions as well as the equilibrium in a graph.

 

  1. Assume the government imposes a tax of £60 per box of apples on the sellers. Indicate in the graph how this affects the supply and/or demand curve. Compute the new equilibrium price and quantity for this market, and add this new equilibrium to the graph.

 

  1. Explain (with help of the graph) how this indirect tax imposed on the sellers leads to a socially inefficient market outcome, and indicate how this is related to the consumer and the producer surplus.

 

  1. Consider now a different market, the market for bananas, and assume the following inverse demand and supply functions for the market for bananas (note that these are the same as for the market for apples in question a) and the variable names have the same meaning as above):
    • = 120 – QD

                    P =  2 QS

Suppose that besides the Marginal (Private) Costs that underlie the inverse supply function, there are also Marginal External Costs in the production process, which are constant and equal to £60 per box of bananas. There are no externalities in consumption, and thus Marginal Social Benefits are equal to the Marginal Private Benefits as given by the inverse demand function.

Explain how this externality leads to a socially inefficient quantity of bananas being traded in this market. Make a new graph and  indicate the market equilibrium if left to the individual traders in the market as well as the social optimum.

  1. Explain how the government could use taxation to incentivise individuals sellers in this market to make decisions leading to the socially optimal quantity of bananas being traded.

 

  1. Focussing explicitly on the insights related to the subquestions about the markets for apples and bananas, address the question whether fuel duties (a tax of about £0.58 per litre imposed on petrol, diesel and other fuels used in vehicles or for heating) are too high or too low from an economic point of view.

 

Question 2.  (20 marks)

  1. What does ‘information asymmetry’ generally refer to in the context of the market for second-hand cars?

 

  1. Why is this a problem for potential buyers and their willingness to pay? Explain.

 

  1. Why is this a problem for sellers of top quality second-hand cars, and how may this lead to adverse selection? Explain.

 

  1. Explain two possible solutions for the problems created by the information asymmetry in the market for second-hand cars..

 

Part B     (50 marks)     (to be answered on the separate answer sheet)

 

1) To argue that scarcity is not of fundamental importance when it comes to defining what economics is all about, one could point out that:

  • many situations considered in economics seem rather difficult to analyze in terms of

‘scarcity’.

  • wants are not unlimited.
  • instead of relative scarcity one could focus on relative abundance.
  • All of the above.

 

2) The opportunity cost of going to university is

  • the total spent on food, clothing, books, transportation, tuition, lodging, and other expenses.
  • the value of the best opportunity a student gives up to attend university.
  • zero for students who are fortunate enough to have all of their university expenses paid by someone else.
  • zero, since a university education will allow a student to earn a larger income after graduation.

 

3) Which of the following statements about economic models is correct?

  • If a model cannot form accurate predictions then it is useless and not acceptable.
  • More realistic models are always preferable to simpler models.
  • Models must be logically correct to be acceptable. (d) All of the above.

(e) None of the above

 

4) Diego loves peanut butter. He hears on the news that 50% of the peanut crop has been

wiped out, which will cause the price to double by the end of the year. As a result, (a) his demand for peanut butter will increase by the end of the year.

  • his demand for peanut butter increases today.
  • his demand for peanut butter falls as he looks for a substitute good.
  • he decides to give up peanut butter completely.

 

5) Suppose ui = xi + c xj is the utility function of individual i, where xi and xj are the income of individual i herself and of some other individual j respectively, and c is a constant (c>0).

This utility function represents

  • purely selfish, egocentric preferences.
  • altruistic preferences.
  • spiteful preferences.
  • inequality averse-preferences.
  • None of the above.

 

6) If the price elasticity of demand for a good is 4.0, then a 10 percent increase in price would result in a

  • 0 percent decrease in the quantity demanded.
  • 10 percent decrease in the quantity demanded.
  • 40 percent decrease in the quantity demanded.
  • 400 percent decrease in the quantity demanded.

 

7) The flatter the demand curve through a given point, the (a) greater the price elasticity of demand.

  • smaller the price elasticity of demand.
  • closer the price elasticity of demand will be to the slope of the curve. (d) more equal the price elasticity of demand will be to the slope of the curve.

continued on next page . . .

 

8) When _ _ _ substitutes exist, a monopolist has in general _ _ _ power to raise prices. (a) fewer; less.

  • fewer; more.
  • more; more.
  • no; infinite.

 

9) If a seller is supplying a product that is slightly different from that of many close competitors and is able to charge a different price than competitors, then the seller (a) is a monopolist.

  • is participating in a monopolistically competitive market.
  • will eventually have to decrease the price.
  • is producing a homogeneous product.

 

10) Demand for a good would tend to be more inelastic the (a) fewer the available substitutes.

  • longer the time period considered.
  • more the good is considered a luxury good.
  • more narrowly defined the market is.

 

11) When marginal cost is less than average total cost, (a) marginal cost must be falling.

  • average variable cost must be falling.
  • average total cost is falling.
  • average total cost is rising.

 

12) A profit-maximizing firm in a competitive market produces small rubber balls. When the market price for small rubber balls falls below the minimum of its average total cost, but still lies above the minimum of average variable cost, the firm

  • will experience losses but it will continue to produce rubber balls.
  • will shut down.
  • will be earning both economic and accounting profits.
  • should raise the price of its product.

 

13) A natural monopoly occurs when

  • the product is sold in its natural state (such as water or diamonds).
  • there are economies of scale over the relevant range of output.
  • the firm is characterized by a rising marginal cost curve.
  • production requires the use of free natural resources, such as water or air.

 

14) Which of the following statements is INCORRECT?

  • Collusion is always easy because any basic microeconomics textbook explains exactly how a cartel can maximize their joint profits.
  • Collusion may be difficult because there are typically many variables to be considered and it is illegal for cartel members to discuss these.
  • The more successful collusion is, the more likely it is that it may be disrupted by entry of new competitors.
  • Maintaining collusion may be difficult because individual cartel members may perceive an incentive to cheat.

continued on next page . . .

 

15) Consider the two-player simultaneous-move game in Figure 1, where T and B are the two available strategies for player 1, L and R are stategies for player 2, and the numbers listed in each cell are the payoffs for player 1 and 2 respectively.

 

                                                Figure 1

 

Which of the following statements is correct?

  • It is not possible to find a best-response function for player 2.
  • For player 1, strategy T strictly dominates strategy B.
  • (B, L) is the unique Nash equilibrium.
  • (T, R) is a Nash equilibrium.
  • None of the above.

 

16) Inefficiency can be caused in a market by the presence of (a) market power.

  • All of the above are correct.
  • Both (a) and (b) are correct.

 

17) Which of the following statements is correct?

  • Pareto efficiency implies strict income equality as it must be the case that nobody is better off.
  • Pareto efficiency is a criterion allowing to rank any possible income distributions in terms of their desirability.
  • Pareto efficiency has not been achieved as long as it is possible to make somebody better off without making anybody else worse off.
  • Pareto improvements and Pareto efficiency are not directly related to each other, other than that their name is linked to Vilfredo Pareto.

 

18) Positive externalities

  • lead to market inefficiency and should be eliminated as much as possible by imposing restrictions on the use of certain technologies.
  • lead to market inefficiency and should be eliminated as much as possible by regulation forbidding the economic activities generating these externalities.
  • lead to market inefficiency but should be encouraged.
  • do not lead to any market inefficiency.

 

continued on next page . . .

 

19) If education produces positive externalities we would expect (a) government to tax education.

  • government to subsidize education.
  • people to realize the benefits and therefore cause demand for education to increase.
  • colleges to relax admission requirements.

 

20) Which of the following statements about a market that is characterized by a negative production externality is correct?

  • The equilibrium quantity of output is equal to the socially optimal quantity.
  • The equilibrium quantity of output is greater than the socially optimal quantity.
  • Government intervention is not required to achieve a socially optimal quantity of output.
  • The cost to the producer exceeds the cost to society.

 

21) A profit-maximizing firm in a monopolistically competitive market differs from a firm in a perfectly competitive market because the firm in the monopolistically competitive market (a) is characterized by market share maximization.

  • has no barriers to entry.
  • faces a downward-sloping demand curve for its product.
  • faces a horizontal demand curve at the market clearing price.

 

22) When a good is rival it means that

  • people can be prevented from using the good.
  • no more than one person can use the good at the same time.
  • one person’s use of the good diminishes another person’s ability to use it.
  • everyone will be excluded from obtaining the good.

 

23) The fish in the ocean are an example of a (a) public good.

  • private good.
  • natural monopoly.
  • common pool or resource.

 

24) A free-rider problem may exist for any good that is NOT (a) rival.

  • a private good.

 

25) An economically effective solution to highway congestion is to (a) build more roads.

  • set a price for access to roads, which is paid by those who use them.
  • discourage urban sprawl by subsidizing urban apartment rents.
  • All of the above are correct.

 

                                                                                                                                                      

End of examination paper

 

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