(8 points) Show the derivation of a demand curve from the underlying fundamentals of consumers solving their problem. In other words, show a budget constraint and indifference curve that shows a consumer solving his problem. Then change the price of good 1 (either decrease or increase it) and show the new amount of good 1 consumed (assume the indifference curves are basically parallel and behave “nicely”). Change the price one more time (in the same direction) and show the new amount of good 1 consumed. Plot your three (Q, P) points on a separate graph to reveal your demand curve.

(8 points) Joe’s hot dog stand projects the following demand for hot dogs:

Price Quantity Purchased (per day)

$3 90

$4 80

$5 70

$6 60

$7 45

$8 15

Calculate the same price elasticity of demand between $5 and $6. If you get a decimal answer longer than two decimal places, round your answer to the 2nd (hundredths) decimal place.

Given Find

Qf = SPED

Qi =

Pf =

Pi =

(8 points) Walmart projects the following quantities of Coke demanded as the price of Pepsi changes:

Price Quantity Purchased (per day)

$1 200

$1.50 220

$2 250

$2.50 290

$3 340

$3.50 400

Calculate the cross price elasticity of demand between $3 and $3.50. If you get a decimal answer longer than two decimal places, round your answer to the 2nd (hundredths) decimal place.

Given Find

Qf1 = CPED

Qi1 =

Pf2 =

Pi2 =

(8 points) Jason’s income elasticity of demand for boats is 4. If he owns two boats when he makes $500,000, how much money would he have to make in order to buy one more boat? If you get a decimal answer longer than two decimal places, round your answer to the 2nd (hundredths) decimal place.

Given Find

IED = If

Qf =

Qi =

Ii =

(5 points) If a demand curve is perfectly inelastic and consumers buy 500 units of the good at a price of $4, how many units will be purchased if the price increases to $4.50?

(5 points) If a demand curve is perfectly elastic and consumers buy 500 units of the good at a price of $4, how many units will be purchased if the price increases to $4.50?

(9 points) Compute consumer surplus in the following scenarios.

Ted has a reservation price for a Snickers bar of $3. He walks in to a convenience store and sees that Snickers bars cost $2.

Susie has a reservation price for Gatorade of $5 after a long workout. She walks over to the vending machine and sees that Gatorade costs $3.

Dwayne has a reservation price for Doritos of $2. While shopping at Publix, he sees that Doritos cost $2.50.

(5 points) If two goods are complements for one another, what must be true about their cross price elasticity of demand?

(5 points) If two goods are substitutes for one another, what must be true about their cross price elasticity of demand?

(5 points) What must be true about the income elasticity of demand for inferior goods?

(6 points) Clearly show where consumer surplus (CS) and producer surplus (PS) are on the graph below.

Price

S

P*

D

Q* Quantity

(10 points) What happens to equilibrium price and quantity in the following scenarios? Circle the correct answer for each scenario below.

Supply shifts right

PRICE -> GOES UP GOES DOWN UNDETERMINED

QUANTITY -> GOES UP GOES DOWN UNDETERMINED

Demand decreases

PRICE -> GOES UP GOES DOWN UNDETERMINED

QUANTITY -> GOES UP GOES DOWN UNDETERMINED

Demand and supply both increase

PRICE -> GOES UP GOES DOWN UNDETERMINED

QUANTITY -> GOES UP GOES DOWN UNDETERMINED

Demand shifts left and supply shifts right

PRICE -> GOES UP GOES DOWN UNDETERMINED

QUANTITY -> GOES UP GOES DOWN UNDETERMINED

A very large shift to the right in demand is accompanied by a very small shift to the left in supply (assume curves have equal magnitude of slope)

PRICE -> GOES UP GOES DOWN UNDETERMINED

QUANTITY -> GOES UP GOES DOWN UNDETERMINED

(15 points) Complete the chart below regarding a firm’s costs as the quantity of output increases. Q is quantity, FC is fixed costs, VC is variable costs, TC is total costs, AFC is average fixed costs, AVC is average variable costs, ATC is average total costs, and MC is marginal cost. For all decimal answers longer than two decimal digits, round your answer to the 2nd (hundredths) decimal place.

Table 1 Firm’s costs as quantity of output increases

Q

FC

VC

TC

AFC

AVC

ATC

MC

0

12

0

12

n/a

n/a

n/a

n/a

1

4

2

9

3

15

4

22

5

30

6

39

7

49

8

60

9

72

10

85

11

99

12

114

13

130

14

147

(3 points) What law of economics explains why VC increases by ever-increasing amounts as Q increases?

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