UNIVERSITY OF TORONTO DEPARTMENT OF ECONOMICS ...
UNIVERSITY OF TORONTO DEPARTMENT OF ECONOMICS INTRODUCTION TO ECONOMICS ECO100Y (LEC0501)
MICHAEL HO TEST 3 – SOLUTIONS FEBRUARY 12TH, 2014 Name:
ID#: (Print Full Name Clearly)
Tutorial #: TUT0500 IMPORTANT:
Do not use red-coloured pen (this colour is reserved for the markers) and you cannot appeal any part of your answer if it is done in pencil (except the graphs). You must show the step-by-step calculations in every part of Question 1 or a zero will be given. You must relate your explanation in Question 2 to your graph for full marks. Only put your answers in the designated page(s) or space. Do not separate any page from this test or a 10-mark penalty will be imposed.
Version A
Question 1
Question 2
Questions 3 to 7
Total
Marks
45
30
25
100
Score
45
30
25
100
Page 1 of 5
1.
Suppose Canada only produces two goods ( and ). The prices these goods and the quantities produced for the period 2011-2013 are listed in the table below. Year 2011 2012 2013
1.
(a)
Calculate the nominal
Year
and the percentage change in nominal
. (10 marks)
Nominal
2011
Change
2012
2011 to 2012
2013
2012 to 2103
%
Nominal (value of output calculated with current prices and current quantities): ) ( ) ) ( ) 2011: ( . 2012: ( . ) ( ) 2013: ( . Percentage change: ] 2011 to 2012: [( ) . ] 2012 to 2013: [( ) .
1.
(b)
Use 2011 as the base year to calculate the real . (10 marks)
Year
and the percentage change in real
Real
2011
Change
2012
2011 to 2012
2013
2012 to 2103
Real (value of output calculated with prices from the base year and current quantities):: ) ( ) ) ( ) 2011: ( . 2012: ( . ) ( ) 2013: ( . Percentage change: ] 2011 to 2012: [( ) . ] 2012 to 2013: [( ) .
1.
(c)
Determine the magnitude of price distortion in the calculation of percentage change in nominal . (4 marks) Change
2011 to 2012
2011 to 2012:
2012 to 2103
2012 to 2013:
Version A
Page 2 of 5
1.
(d)
Year
Use your results from previous parts to calculate the deflator and the percentage change in the prices of the goods produced in Canada. (10 marks) Deflator
2011
Change
2012
2011 to 2012
2013
2012 to 2103
Deflator “(Nominal 2011: ( ) Percentage change: 2011 to 2012: [( 2012 to 2013: [(
1.
(e)
/Real ) x 100”: . 2012: ( ) ) )
] ]
. 2013: (
)
.
. .
Explain why Deflator and Consumer Price Index ( change in prices. (11 marks)
) rarely result in identical
There are items used in the calculation of the Deflator that do not appear in the typical consumption basket of an average Canadian household used in the calculation of – capital goods like bulldozers. On the other hand, there are items in the typical consumption basket of an average Canadian household used in the calculation of that are not produced in Canada such that it would not be used in the calculation of the Deflator – imported consumer items like pineapples. For any open economy like Canada, it is seldom the case that a country will consume exactly the same items that it produces. Even in a closed economy that only produces consumer items, the proportion of all the goods and services produced is rarely identical to that specified in the typical consumption basket (some luxury items produced may not be consumed by the average household). That means there is always discrepancy between production and consumption, which makes it very unlikely that Deflator and rarely result in identical change in prices.
Version A
Page 3 of 5
2.
The graph provided below includes the demand curve ( ) of a product served by a single-price natural monopoly with marginal cost ( ) and average cost ( ). (a) Suppose this monopoly is not regulated by the government. Calculate the profitmaximizing output and price, profit, and deadweight loss. (10 marks) (b) What policy can the government implement to induce this monopoly to produce the allocative efficient output? How much output would this monopoly produce? Calculate the loss resulting from this policy. (10 marks) (c) What policy can the government implement to improve allocative efficiency compared to part (a) without forcing this monopoly to go bankrupt in the long run? How much output would this monopoly produce? Identify the area in the graph that represents the remaining deadweight loss of this policy. (10 marks)
(a)
When this monopoly is not regulated by the government, it would produce units of output ( at ), setting the price at per unit (at ), with a profit margin of per unit (vertical distance between and , price minus average cost, ), and earns [( )( )] profit. Deadweight loss is the area .
(b)
The government can use the marginal-cost pricing policy by setting a price-ceiling at where . For output up to , the monopoly can only charge per unit, which effective becomes its marginal revenue and it would produce units ( ). At output units, it costs the monopoly to produce each unit (at ), but the monopoly can only charge per unit under the marginal-cost pricing and hence it must be losing per unit. The loss resulting from the marginal-cost pricing policy is .
(c)
The government can use the average-cost pricing policy by setting a price-ceiling at where . For output up to , the monopoly can only charge per unit, which effective becomes its marginal revenue and it would produce units. Even though is not where , the monopoly would not deviate from the output of units because this is the only output level where the monopoly can break even. Deadweight loss is the area , which is smaller than the deadweight loss area in part (a) and hence average-cost pricing policy improves allocative efficiency compared to part (a).
Version A
Page 4 of 5
Questions 3 to 7 (5 marks each) 3.
One characteristic of oligopolistic markets is (A) zero profits in the long run. (B) a horizontal demand curve facing each individual firm. (C) ease of entry and exit. (D) mutual interdependence between firms. (E) a large number of firms in the industry. Answer:
4.
All points on a country's production possibilities boundary are (A) not productively efficient. (B) allocatively efficient. (C) productively efficient. (D) points at which for all goods. (E) Pareto optimal. Answer:
5.
An equivalent term for "real national income" is (A) potential national income. (B) actual national income. (C) current-dollar national income. (D) nominal national income. (E) constant-dollar national income. Answer:
6.
Total value added in an economy is equal to the value of (A) all final goods produced. (B) the sum of the value of primary, intermediate and final goods. (C) all final and intermediate goods produced. (D) all profits of all firms in the economy. (E) all inputs and outputs in the economy. Answer:
7.
For firms or individual households, desired expenditure is (A) not relevant because human wants are unlimited. (B) always greater than planned expenditure. (C) not a useful concept because it cannot be measured. (D) what they plan on spending, given the resources at their command. (E) always greater than actual expenditure. Answer:
End of Test 3 Version A
Total = 100 marks Page 5 of 5
MICHAEL HO TEST 3 – SOLUTIONS FEBRUARY 12TH, 2014 Name:
ID#: (Print Full Name Clearly)
Tutorial #: TUT0500 IMPORTANT:
Do not use red-coloured pen (this colour is reserved for the markers) and you cannot appeal any part of your answer if it is done in pencil (except the graphs). You must show the step-by-step calculations in every part of Question 1 or a zero will be given. You must relate your explanation in Question 2 to your graph for full marks. Only put your answers in the designated page(s) or space. Do not separate any page from this test or a 10-mark penalty will be imposed.
Version A
Question 1
Question 2
Questions 3 to 7
Total
Marks
45
30
25
100
Score
45
30
25
100
Page 1 of 5
1.
Suppose Canada only produces two goods ( and ). The prices these goods and the quantities produced for the period 2011-2013 are listed in the table below. Year 2011 2012 2013
1.
(a)
Calculate the nominal
Year
and the percentage change in nominal
. (10 marks)
Nominal
2011
Change
2012
2011 to 2012
2013
2012 to 2103
%
Nominal (value of output calculated with current prices and current quantities): ) ( ) ) ( ) 2011: ( . 2012: ( . ) ( ) 2013: ( . Percentage change: ] 2011 to 2012: [( ) . ] 2012 to 2013: [( ) .
1.
(b)
Use 2011 as the base year to calculate the real . (10 marks)
Year
and the percentage change in real
Real
2011
Change
2012
2011 to 2012
2013
2012 to 2103
Real (value of output calculated with prices from the base year and current quantities):: ) ( ) ) ( ) 2011: ( . 2012: ( . ) ( ) 2013: ( . Percentage change: ] 2011 to 2012: [( ) . ] 2012 to 2013: [( ) .
1.
(c)
Determine the magnitude of price distortion in the calculation of percentage change in nominal . (4 marks) Change
2011 to 2012
2011 to 2012:
2012 to 2103
2012 to 2013:
Version A
Page 2 of 5
1.
(d)
Year
Use your results from previous parts to calculate the deflator and the percentage change in the prices of the goods produced in Canada. (10 marks) Deflator
2011
Change
2012
2011 to 2012
2013
2012 to 2103
Deflator “(Nominal 2011: ( ) Percentage change: 2011 to 2012: [( 2012 to 2013: [(
1.
(e)
/Real ) x 100”: . 2012: ( ) ) )
] ]
. 2013: (
)
.
. .
Explain why Deflator and Consumer Price Index ( change in prices. (11 marks)
) rarely result in identical
There are items used in the calculation of the Deflator that do not appear in the typical consumption basket of an average Canadian household used in the calculation of – capital goods like bulldozers. On the other hand, there are items in the typical consumption basket of an average Canadian household used in the calculation of that are not produced in Canada such that it would not be used in the calculation of the Deflator – imported consumer items like pineapples. For any open economy like Canada, it is seldom the case that a country will consume exactly the same items that it produces. Even in a closed economy that only produces consumer items, the proportion of all the goods and services produced is rarely identical to that specified in the typical consumption basket (some luxury items produced may not be consumed by the average household). That means there is always discrepancy between production and consumption, which makes it very unlikely that Deflator and rarely result in identical change in prices.
Version A
Page 3 of 5
2.
The graph provided below includes the demand curve ( ) of a product served by a single-price natural monopoly with marginal cost ( ) and average cost ( ). (a) Suppose this monopoly is not regulated by the government. Calculate the profitmaximizing output and price, profit, and deadweight loss. (10 marks) (b) What policy can the government implement to induce this monopoly to produce the allocative efficient output? How much output would this monopoly produce? Calculate the loss resulting from this policy. (10 marks) (c) What policy can the government implement to improve allocative efficiency compared to part (a) without forcing this monopoly to go bankrupt in the long run? How much output would this monopoly produce? Identify the area in the graph that represents the remaining deadweight loss of this policy. (10 marks)
(a)
When this monopoly is not regulated by the government, it would produce units of output ( at ), setting the price at per unit (at ), with a profit margin of per unit (vertical distance between and , price minus average cost, ), and earns [( )( )] profit. Deadweight loss is the area .
(b)
The government can use the marginal-cost pricing policy by setting a price-ceiling at where . For output up to , the monopoly can only charge per unit, which effective becomes its marginal revenue and it would produce units ( ). At output units, it costs the monopoly to produce each unit (at ), but the monopoly can only charge per unit under the marginal-cost pricing and hence it must be losing per unit. The loss resulting from the marginal-cost pricing policy is .
(c)
The government can use the average-cost pricing policy by setting a price-ceiling at where . For output up to , the monopoly can only charge per unit, which effective becomes its marginal revenue and it would produce units. Even though is not where , the monopoly would not deviate from the output of units because this is the only output level where the monopoly can break even. Deadweight loss is the area , which is smaller than the deadweight loss area in part (a) and hence average-cost pricing policy improves allocative efficiency compared to part (a).
Version A
Page 4 of 5
Questions 3 to 7 (5 marks each) 3.
One characteristic of oligopolistic markets is (A) zero profits in the long run. (B) a horizontal demand curve facing each individual firm. (C) ease of entry and exit. (D) mutual interdependence between firms. (E) a large number of firms in the industry. Answer:
4.
All points on a country's production possibilities boundary are (A) not productively efficient. (B) allocatively efficient. (C) productively efficient. (D) points at which for all goods. (E) Pareto optimal. Answer:
5.
An equivalent term for "real national income" is (A) potential national income. (B) actual national income. (C) current-dollar national income. (D) nominal national income. (E) constant-dollar national income. Answer:
6.
Total value added in an economy is equal to the value of (A) all final goods produced. (B) the sum of the value of primary, intermediate and final goods. (C) all final and intermediate goods produced. (D) all profits of all firms in the economy. (E) all inputs and outputs in the economy. Answer:
7.
For firms or individual households, desired expenditure is (A) not relevant because human wants are unlimited. (B) always greater than planned expenditure. (C) not a useful concept because it cannot be measured. (D) what they plan on spending, given the resources at their command. (E) always greater than actual expenditure. Answer:
End of Test 3 Version A
Total = 100 marks Page 5 of 5
