Applied Microeconomics
Exam Solutions
Course Introduction
Applied Microeconomics explores the practical applications of microeconomic theories and tools to real-world problems faced by individuals, businesses, and governments. The course examines topics such as consumer and producer behavior, market structures, game theory, and the impact of policy interventions. Through case studies, data analysis, and empirical research, students learn to analyze decisions regarding pricing, production, and resource allocation, and to evaluate the outcomes of various market mechanisms. Emphasis is placed on critical thinking and problem-solving skills, enabling students to apply economic reasoning to issues such as competition policy, labor markets, public goods, and externalities.
Recommended Textbook
Modern Principles Microeconomics 3rd Edition by Tyler Cowen
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Chapter 1: The Big Ideas
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Sample Questions
Q1) Which of these quotes from the text captures what makes central banking difficult?
A) "No one can foresee the future."
B) "We cannot avoid all recessions."
C) "Markets, however, do not always align self-interest with social interest."
D) "In some situations the Fed must accept a certain amount of either inflation or unemployment."
Answer: A
Q2) Which of the following explains why economic booms and busts cannot be avoided?
A) The effects of fiscal and monetary policies will never be completely understood.
B) The time lags of both fiscal and monetary policies make eliminating boom/bust cycles impossible.
C) Economic booms/busts could be avoided, if politicians would put good economics ahead of good politics.
D) The economy is always being struck by unavoidable shocks.
Answer: D
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3
Chapter 2: The Power of Trade and Comparative
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Sample Questions
Q1) eBay creates value by:
A) helping sellers trick buyers into purchasing broken items.
B) moving goods like broken laser pointers from people who don't want them to people who do.
C) helping people with the same preferences find each other.
D) moving toys from children who want them to children who don't.
Answer: B
Q2) Martha Stewart does not do her own ironing because she:
A) is not very good at ironing.
B) has an absolute advantage in ironing.
C) has a comparative advantage in something else.
D) has a comparative advantage in ironing.
Answer: C
Q3) Wage rates are primarily based on the:
A) level of comparative advantage.
B) extent to which the country is involved in trade with other countries.
C) productivity of labor.
D) institutional factors present.
Answer: C
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Page 4
Chapter 3: Supply and Demand
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Sample Questions
Q1) If the price of granite countertops rises, we would expect the demand for quartz countertops (a substitute product for granite) to decrease.
A)True
B)False
Answer: False
Q2) A change in quantity supplied is reflected by a movement along the same supply curve while a change in supply refers to a shift in the entire supply curve.
A)True
B)False
Answer: True
Q3) An inferior good is one that:
A) is of low quality or not very durable.
B) gets poor reviews from objective, independent evaluators.
C) no consumers are willing to buy.
D) experiences decreased demand when income increases.
Answer: D
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Chapter 4: Equilibrium
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Sample Questions
Q1) If supply increases, ceteris paribus, the quantity exchanged will be ______ at the new market equilibrium point.
A) larger
B) smaller
C) the same
D) either larger or smaller
Q2) Why is consuming a quantity above equilibrium wasteful?
A) because there are willing buyers of the good who do not purchase it
B) because resources are used without making society better off C) because it creates a shortage, which generates waste
D) because it creates a surplus, which generates waste
Q3) (Figure: Market Equilibrium) Refer to the figure. At a price of $3, quantity supplied is ______ and quantity demanded is ______, leading to a _______.
A) 6; 2; surplus of 4 units
B) 2; 6; shortage of 8 units
C) 2; 4; surplus of 2 units
D) 4; 2; shortage of 2 units
Q4) In the long run, will the market price for a good/service always equals the equilibrium price? Explain why or why not.
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Chapter 5: Elasticity and Its Applications
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Q1) Economic theory suggests that permanent gun buyback programs:
A) succeed in reducing the number of guns in circulation.
B) make guns less valuable.
C) increase the quantity of low-quality guns in circulation but decrease the quantity of high-quality guns in circulation.
D) increase the number of guns in circulation.
Q2) U.S. Highway 12 is part of a crucial two-lane artery from the seaports in Washington State to the tar sands in Canada. Extracting oil from the tar sands requires very large equipment and transporting it takes up both lanes of U.S. Highway12. In August of 2010, Idaho granted ConocoPhilips a road permit that allowed it to transport four oil-processing units. Without this permit, ConocoPhilips would have had to transport those units a much longer distance to get them to their destination. If permits for this highway were not allowed, how would that affect the elasticity of which curve in the market for oil?
A) The supply curve would become more elastic.
B) The supply curve would become less elastic.
C) The demand curve would become more elastic.
D) The demand curve would become less elastic.
Q3) Summarize the factors that cause goods to have a more inelastic supply.
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Page 7
Chapter 6: Taxes and Subsidies
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Sample Questions
Q1) (Figure: Supply Tax) In the accompanying pizza market, with a $2 tax imposed on the sellers, how much do buyers pay for a pizza?
A) $12
B) $11.50
C) $10
D) $9.50
Q2) The burden of a tax rests most heavily with the party who can better "escape" the tax.
A)True
B)False
Q3) As supply becomes more elastic, ceteris paribus, the deadweight loss from a tax: A) increases.
B) remains the same.
C) decreases.
D) changes unpredictably.
Q4) According to economic theory, consumers should support taxes on the producer, and producers should support taxes on the consumer.
A)True B)False
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Chapter 7: The Price System
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Sample Questions
Q1) Workers in Peru collect cochineal bugs used to dye certain United States food items red. Market activities such as this one can best be described as:
A) cooperative, voluntary, and undirected.
B) chaotic and primitive.
C) directed and uncooperative.
D) orderly, involuntary, and centrally directed.
Q2) Around 1730, Samurai (warriors) in Japan were paid in rice. There were sometimes bad harvests, which, surprisingly, caused the price of rice to fall. Around this time, through the Dojima Rice Exchange in Japan, the Samurai were able to enter into futures contracts in rice. Rice and currency were both acceptable forms of payment in Japan at this time. Discuss a likely reason why the Samurai might have wanted to enter such contracts.
Q3) Dairy farmers use sawdust for milk cow bedding. What happened to the price of milk because of the housing slowdown in 2007?
A) The price of milk rose as the demand for milk rose.
B) The price of milk rose as the supply of milk decreased.
C) The price of milk fell as the demand for milk decreased.
D) The price of milk fell as the supply of milk increased.
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Chapter 8: Price Ceilings and Floors
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Sample Questions
Q1) If price ceilings do not allow prices to rise, then demanders will be unable to signal their needs to suppliers.
A)True
B)False
Q2) Which is NOT a cost of binding price controls?
A) misallocation
B) deadweight loss
C) search costs
D) equity costs
Q3) What would be the LEAST likely result of a price floor in the market for airline travel?
A) rapid replacement of old airliners with new aircraft
B) narrow seats and basic meals like peanuts or chips with a coffee or soda
C) special incentives like airline mileage clubs to attract customers
D) excellent engine maintenance
Q4) During the 1970s, the 11-tier oil production definitions came into play because of firms' attempts to bypass regulations and produce decontrolled oil.
A)True
B)False
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Chapter 9: International Trade
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Sample Questions
Q1) Trade restrictions based on national security concerns: A) might be beneficial in certain cases, like vaccinations.
B) have never been granted in the United States.
C) have no merit and are always unwise.
D) give little incentive for industry lobbyists to declare their product vital for national security purposes.
Q2) As a result of U.S. quotas on sugar imports, all of the following are true, EXCEPT:
A) the United States pays about twice the world price for sugar.
B) the gains to American producers are greater than the losses to American consumers. C) foreign sugar producers-mostly in poor countries-suffer.
D) a small group of domestic sugar producers benefit.
Q3) If the world price of a good is greater than the domestic price in a country that can engage in international trade, then that country becomes an importer of that good.
A)True
B)False
Q4) What are the three major benefits of trade? Explain briefly.
Q5) Briefly discuss any benefits of "protectionism".
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Page 11
Chapter 10: Externalities- When the Price Is Not Right
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Sample Questions
Q1) External costs lead markets to produce a smaller quantity of a good than is socially desirable, while external benefits lead markets to produce a larger quantity of a good than is socially desirable.
A)True
B)False
Q2) (Figure: ABC Company) Refer to the figure. The figure depicts the market for a water cleaner for home aquariums. After use it gets washed down drains and enters into streams where it improves the mineral content of the water and thus leads to better water quality and better fish growth. What is the dollar amount of the external benefit created per can of the cleaner?
A) $12
B) $6
C) $3
D) $15
Q3) If the production of a good causes a negative externality, the efficient level of output of that good is zero.
A)True
B)False
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Chapter 11: Costs and Profit Maximization Under Competition
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Sample Questions
Q1) Which of the following statements is FALSE?
A) AC = TC/Q
B) A firm that produces 100 units at a total cost of $500 has an average cost of $5 per unit.
C) Firms will earn positive profits if price exceeds average cost.
D) When marginal cost is below average cost, average cost is rising.
Q2) The short run is defined as:
A) the period before any changes in a firm's output can be made.
B) less than six months.
C) less than one year.
D) the period before entry or exit can occur.
Q3) In a competitive equilibrium, firms earn ______ economic profits.
A) positive
B) negative
C) zero
D) abnormal
Q4) The short run is the period before exit or entry can occur.
A)True
B)False
13
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Chapter 12: Competition and the Invisible Hand
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Sample Questions
Q1) Consider two farms. Farm 1 produces the first bushel for $5 each, but the marginal cost rises gradually as the quantity increases. Farm 2 produces the first bushel for $7, but marginal cost also rises gradually as the quantity increases. With a market price of $10 a bushel, how should production be allocated between these two farms?
A) Produce on both farms until the marginal cost on each farm rises to $7.
B) Produce on both farms until the marginal cost on each farm rises to $10.
C) Produce all bushels on Farm 1.
D) Produce all bushels on Farm 2.
Q2) In a competitive free market, when the price of a good rises, the marginal cost of every producer of the good rises equally.
A)True
B)False
Q3) Explain two ways in which the competitive industry displays the actions of the invisible hand.
Q4) Stating that marginal revenue equals price is equivalent to saying that marginal cost equals price for the profit maximizing quantity.
A)True
B)False
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Page 14
Chapter 13: Monopoly
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Sample Questions
Q1) Which of the following statements is TRUE?
A) Monopolies are always inefficient since they create higher prices for consumers.
B) Monopolies create incentives for additional research and development.
C) Monopolies decrease consumer surplus but increase total surplus in an economy.
D) Consumers typically lose less than producers gain in monopoly markets.
Q2) In comparison to competitive firms, monopolies do not maximize the sum of producer and consumer surplus and thus create deadweight loss.
A)True
B)False
Q3) (Figure: Monopoly Profits) Refer to the figure. What is the monopolist's optimal price and output level?
A) P = $3.00; Q = 40
B) P = $16.50; Q = 40
C) P = $6.00; Q = 40
D) P = $6.00; Q = 80
Q4) Explain how a firm can use its monopoly power to earn above-normal profits.
Q5) Graphically depict a monopolist enjoying abnormal profits.
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Page 15
Chapter 14: Price Discrimination
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Sample Questions
Q1) Universities practice price discrimination by:
A) charging students with the same residency status different rates of tuition.
B) offering students different levels of scholarship support.
C) requiring freshmen to live on campus.
D) requiring each student take a set number of general education courses.
Q2) DVDs may be encoded with one of six region codes, preventing videos sold in one region of the world from being used in another region. Why might film distributors use region codes?
A) to prevent people from buying videos in a low-price region and then reselling them in a high-price region
B) to make it easier to charge the same price in different locations
C) to minimize the menu costs of frequent price changes
D) to reduce the cost of collecting sales taxes, especially in areas with different tax rates
Q3) Arbitrage prevention is:
A) always easy to achieve.
B) not necessary to practice price discrimination.
C) easier in the case of selling services.
D) easier in the case of selling goods.
Q4) What conditions are necessary for a firm to practice price discrimination?
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Chapter 15: Oligopoly and Game Theory
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Sample Questions
Q1) A dominant strategy is a strategy that a player should take only if the other player cheats.
A)True
B)False
Q2) A firm receives the largest profit from cheating on a cartel agreement when:
A) all members of the cartel cheat.
B) none of the other cartel members cheats.
C) all cartel members expand output.
D) its demand curve is more inelastic than other cartel members.
Q3) In game theory, a dominant strategy ______ exists.
A) always
B) never
C) sometimes
D) evades determining whether it even
Q4) Cartel member strategy can be like a prisoner's ______ game.
A) release
B) call
C) cooperation
D) dilemma
Q5) List the four most common "Barriers to Entry" for oligopolies.
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Chapter 16: Competing for Monopoly
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Sample Questions
Q1) Which statement is TRUE regarding network goods?
A) Producers of network goods typically sell their product at a price below marginal cost.
B) Competition among companies producing network goods drives the price down to equal marginal cost.
C) Network goods typically sell at a price higher than marginal cost.
D) Marginal cost always equals average cost for network goods.
Q2) The market for network goods:
I. is dominated by a single monopolist.
II. is dominated by a series of monopolies.
III. ensures long-term profits for those companies that win the standard war.
A) I only
B) II only
C) I and III only
D) II and III only
Q3) The result of the Microsoft antitrust case was to make Microsoft software:
A) more contestable.
B) less contestable.
C) equally contestable.
D) uncontestable.
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Chapter 17: Monopolistic Competition and Advertising
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Sample Questions
Q1) A monopolistic competitive firms charges P = MC.
A)True
B)False
Q2) Advertising can make potential customers more interested in buying, or at least sampling the product.
A)True
B)False
Q3) Both perfectly competitive markets and monopolistically competitive markets feature product differentiation.
A)True
B)False
Q4) Perfectly competitive firms will not advertise because there is no gain from selling additional units of the product.
A)True
B)False
Q5) Advertising can help finance many useful goods and services.
A)True
B)False
Q6) What are the features that describe monopolistic competition?
Page 19
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Chapter 18: Labor Markets
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Sample Questions
Q1) The marginal product of labor tends to fall because the first workers hired do the most important tasks and as more workers are hired they are assigned to less important tasks.
A)True
B)False
Q2) One factor that does NOT lower wages for women as a group is that:
A) employers discriminate against women.
B) men are more productive than women on average.
C) women tend to have less job experience than men of the same age.
D) women are more productive as men on average.
Q3) A binding minimum wage is a(n) ______ for labor.
A) price floor
B) price ceiling
C) equilibrium price
D) subsidy
Q4) Customer-based discrimination is weakened by:
A) higher wages.
B) country clubs.
C) segregation.
D) economic growth.
Page 20
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Chapter 19: Public Goods and the Tragedy of the Commons
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Sample Questions
Q1) The tragedy of the commons is an externality problem.
A)True
B)False
Q2) The need to produce public goods provides a strong argument for:
A) regulation and subsidy.
B) regulation and government provision.
C) taxation and subsidy.
D) taxation and government provision.
Q3) Sarah pays county taxes, part of which are used to subsidize public schools, even though she has no children. Sarah is an example of:
A) a free rider.
B) statistical discrimination.
C) tragedy of the commons.
D) a forced rider.
Q4) A consumer would likely choose to buy asteroid protection for $100 over jeans for $100.
A)True
B)False
Q5) Why do large class sizes limit the classification of college courses as nonrival private goods?
21
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Chapter 20: Political Economy and Public Choice
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Sample Questions
Q1) Which of the following programs are the two largest sources of the United States government budget?
A) welfare and foreign aid
B) defense and interest on the federal debt
C) health care and Social Security
D) defense and Social Security
Q2) The United States federal government ______ the amount of sugar entering the country.
A) increases
B) does not influence
C) reduces
D) does not track
Q3) Sugar consumers are likely to oppose sugar quotas because the widespread costs, although small, fall on all households in the form of higher prices.
A)True
B)False
Q4) Why are incentives so important in the decision to remain rationally ignorant about something?
Q5) Explain the formula for political success. Provide an example.
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Chapter 21: Economics, Ethics, and Public Policy
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Q1) The French government tries to support French culture by:
A) placing a sales tax on French-made music.
B) specifying a minimum number of French-language movies that must be shown on TV.
C) encouraging cross-cultural exchanges with other European countries.
D) encouraging foreign-film producers to shoot in France.
Q2) Which statement is NOT a limitation of utilitarianism?
A) People have differing preferences.
B) Happiness is difficult to measure.
C) People respond differently to incentives.
D) Utilitarianism is a just acquisition of goods.
Q3) For Nozick, the relevant basis of the justice of wealth and income distribution is:
A) the degree of equality of income.
B) whether income differences can be eliminated.
C) the natural limits of income.
D) whether income differences are justly acquired.
Q4) Positive economics explains economic events without making judgments.
A)True
B)False
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Chapter 22: Managing Incentives
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Q1) A piece rate system ________ earnings inequality.
A) has no effect on
B) increases
C) decreases
D) first increases then decreases
Q2) "Employee of the month" plaques in fast-food restaurants recognize the lesson that when designing incentive schemes:
A) you get what you pay for.
B) money isn't everything.
C) fast-food places always pay the minimum wage.
D) pay does not need to be tied to performance.
Q3) Even though firms and workers can both benefit from piece rates, piece rates are sometimes not implemented because of:
A) government regulation.
B) a shortage of workers.
C) fear of a decrease in the piece rate.
D) All of the answers are correct.
Q4) What are the benefits and problems of piece rate systems?
Q5) Explain tournament theory and include an example of the theory in practice.
Page 24
Q6) What is meant by the term corporate culture?
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Chapter 23: Stock Markets and Personal Finance
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Q1) Mutual funds with high fees:
A) tend to perform better than funds with low fees.
B) are usually passive funds.
C) should be avoided because high fees reduce your return.
D) are poor performers in the short run but provide above-market returns if held for a decade or longer.
Q2) The efficient markets hypothesis is the idea that:
A) asset prices represent all publicly available information.
B) stock values revert to their historical mean values.
C) the prices of assets are systemically biased, allowing savvy investors to make above-market returns by exploiting the efficiency losses.
D) stock buyers are more likely to assess financial information more efficiently than the sellers of stocks.
Q3) The prices of traded assets, such as stocks and bonds, reflect all publicly available information.
A)True
B)False
Q4) Discuss the main reason why it is "hard to beat the market" in financial investment?
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Chapter 24: Price Discrimination
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Q1) An insurance company can prevent the adverse selection death spiral by requiring purchasers to have a medical exam. This will allow the insurance company to:
A) charge higher prices to healthy people.
B) prevent unhealthy people from purchasing health insurance.
C) prevent healthy people from purchasing health insurance.
D) charge higher prices to unhealthy people.
Q2) The market for used cars is:
A) full of moral hazards that prevent the efficient functioning of the market.
B) active and well-functioning because of market institutions that developed to mitigate adverse selection.
C) contains many instances of adverse selection, which prevent it from functioning efficiently.
D) exhibit the principal-agent problem that prevent buyers from knowing the quality of the car they want to purchase.
Q3) Why might a job candidate offer to work for less than the market salary for a job? What might this signal to the hiring company?
Q4) List and describe features the health insurance market has developed to reduce adverse selection.
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Chapter 25: Consumer Choice
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Q1) Assume that the unit price of good A is $3, and the unit price of good B is $5. If an individual has income of $43, which consumption bundles of (good A, good B) is on the edge of the budget constraint?
A) (5,5)
B) (5,4)
C) (6,4)
D) (6,5)
Q2) Suppose that Barry's wage increases and he responds by working more hours. Which statement must be TRUE?
A) Leisure became more expensive, so Barry consumed less of it.
B) The substitution effect of the wage increase caused Barry to substitute leisure for work.
C) The income effect of the wage increase dominated the substitution effect of the wage increase.
D) The substitution effect increased hours of work and the income effect increased hours of work.
Q3) Indifference curves can never cross.
A)True
B)False
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