Homework 2-

1. For each of the following scenarios analyze what happens to equilibrium price and equilibrium quantity in the market. In your answer identify if the demand or supply curves shift and if there is a movement along either curve.

a. Consider the market for bicycles which is initially in equilibrium. Suppose that the government imposes a gasoline tax and this raises the cost of operating a gas-powered vehicle. At the same time suppose that there is a major technological advance that makes it possible to produce high quality bikes at a much lower cost.

b. Consider the market for wheat which is initially in equilibrium. Suppose that the weather during the wheat growing season is unusually bad for the growing of wheat. At the same time suppose that people's incomes have risen and wheat is a normal good.

c. Consider the market for VCRs. Suppose that the cost of producing a VCR decreases at the same time that a new product for watching movies is introduced. This new product alters the tastes and preferences of consumers of VCRs away from VCRs toward the new product.

d. Consider the market for cruise vacations. Suppose that people's tastes and preferences change in favor of cruise vacations at the same time that there is an increase in incomes. Assume that cruise vacations are a normal good.

e. Consider the market for cruise vacations. Suppose that ski vacations become cheaper and at the same time the number of cruise ships increases.

2. Suppose there are two consumers in a market, Jacob and Maria. You are told the following information about this market. Jacob demands 100 units of the product sold in this market when the price is $10 per unit. When the price decreases by $10, the quantity of the product he demands increases by 10 units. Jacob's demand curve is linear. Maria demands 50 units of the product sold in this market when the price is $5 per unit. When the price increases by $10, the quantity of the product she demands decreases by 10 units. Maria's demand curve is linear.

a. From the above information write the equation for Jacob's demand curve.

b. From the above information write the equation for Maria's demand curve.

c. Assuming that Jacob and Maria are the only consumers of the product, provide an algebraic expression for the market demand curve. If you need more than one equation please be sure to note what the relevant range of prices is for each equation.

Now, suppose that Maria's income increases so that at every price Maria consumes twice as much of the good as she did originally. [Hint: you might find it helpful to draw a graph of Maria's initial demand curve and then from this graph draw her new demand curve.]

d. Given this new information write the equation for Maria's new demand curve.

e. Given this new information, provide an algebraic expression for the market demand curve. If you need more than one equation please be sure to note what the relevant range of prices is for each equation.

3. Suppose that a small, closed economy manufactures picture frames. There are three domestic manufacturers of these frames and they have identical supply curves. Suppose the supply curve for a single manufacturer of these frames is given by the equation P = Q. Additionally you know that the domestic demand for picture frames in this small, closed economy is given by the equation P = 100 - Q.

a. What is the domestic supply curve for picture frames in this economy?

b. Given the domestic supply curve and the domestic demand curve, what is the equilibrium price and quantity of picture frames in this economy if the economy is closed?

c. Calculate the value of consumer surplus, producer surplus, and total surplus if the domestic economy is a closed economy with regard to the picture frame market.

d. Suppose that this economy decides to open this market to trade. Analyze what happens in this market if the world price of picture frames is $50 per frame. In your answer identify the level of imports or exports, the new level of consumer surplus, the new level of producer surplus, the new level of total surplus, and identify the distributional consequences of opening this market to trade.

e. Suppose that this economy decides to open this market to trade. Analyze what happens in this market if the world price of picture frames is $10 per frame. In your answer identify the level of imports or exports, the new level of consumer surplus, the new level of producer surplus, the new level of total surplus, and identify the distributional consequences of opening this market to trade.

f. Suppose that this market for picture frames is opened to world trade and the world price is $10. Furthermore, suppose that the government of this economy decides to implement a tariff so that the price of picture frames in the small open economy is equal to $20. Analyze the effect of this tariff on imports or exports, consumer surplus, producer surplus, total surplus, government tariff revenue and deadweight loss relative to the results you got when the market was open to trade and there was no tariff.

4. Suppose you are given the following information about an economy for the year 2010.

a. Given the above information, is this economy a net exporter or a net importer?

b. Given the above information, what is the level of investment in this economy for 2010?

c. Suppose we define the government budget balance as being equal to government expenditures minus net taxes. Furthermore, suppose that net taxes are equal to tax revenues plus transfer payments from the government. What is the government budget balance for this economy? Is the government operating with a surplus, a deficit, or a balanced budget? Explain your answer.

d. What is the value of GDP in 2010 for this economy?

5. Use the following information to answer this question. Suppose there are three firms in the economy: firm A produces the inputs that are used by firm B. Firm B produces the inputs that are used by Firm C. Assume that all of firm A's product is purchased by firm B and that all of firm B's product is purchased by firm C. Firm C is the only firm that produces a final good or service in this economy. You are provided the following information about these three firms.

a. Fill in the missing entries in the above table.

b. What is the value of aggregate spending on domestically produced final goods and services in this economy?

c. What is the value of total payments to factors of production in this economy?

d. What is the value of total production in this economy using the value added approach?

e. Are your answers to parts (b), (c), and (d) the same? Explain your results.

6.  Here are a variety of situations to analyze.

a. Batteries Unlimited produces 200 batteries that are be sold for $5 per battery in 2010, 400 batteries that are be sold for $10 per battery in 2010, and 100 batteries that are be sold for $20 per battery in 2010. What is GDP in this economy in 2010 if Batteries Unlimited is the only producer of final goods and services in this economy?

b. Batteries Unlimited produces 200 batteries that can be sold for $5 per battery in 2010, 400 batteries that can be sold for $10 per battery in 2010, and 100 batteries that can be sold for $20 per battery in 2010. Batteries Unlimited actually sells 100 batteries for $5 per battery in 2010, 250 batteries for $10 per battery in 2010, and 75 batteries for $20 per battery in 2010. All other batteries end up in the inventories of Batteries Unlimited. What is GDP in this economy in 2010 if Batteries Unlimited is the only producer of finals goods and services in this economy? What is the level of consumer expenditure in this economy (assume there is only one firm, Batteries Unlimited, in this economy). What is the level of investment expenditure in this economy? What is the composition of investment expenditure in this economy?

c. In 2011, Batteries Unlimited produces and sells 500 batteries at a price of $10 per battery. In addition they sell all the batteries they produced in 2010 but did not sell in 2010 (refer back to part (b) to see how many batteries they did not sell). The batteries that were produced in 2010 and that were sold in 2011 were sold at their 2010 prices. What is the value of consumer expenditure in 2011? What is the value of GDP in 2011? What is the value of inventory investment in 2011?