Topics in Demand and Supply Analysis

Question 1

Elasticity of demand

Answer 1

Elasticity of demand is a measure of how sensitive quantity demanded is to changes in various variables.

Question 2

Own-price elasticity of demand

Answer 2

Own-price elasticity of demand is the ratio of percentage change in quantity demanded to percentage change in a good or service’s own price.

Question 3

If own-price elasticity of demand is greater than one in absolute terms…

Answer 3

If own-price elasticity of demand is greater than one in absolute terms… demand is elastic and a decline in price will result in higher total expenditure on that good.

Question 4

If own-price elasticity of demand is less than one in absolute terms…

Answer 4

If own-price elasticity of demand is less than one in absolute terms, demand is inelastic and a decline in price will result in a lower total expenditure on that good.

Question 5

If own-price elasticity of demand is equal to negative one…

Answer 5

If own-price elasticity of demand is equal to negative one, demand is unit, or unitary, elastic and total expenditure on that good is independent of price.

Question 6

Own-price elasticity of demand will almost always be…

Answer 6

Own-price elasticity of demand will almost always be negative.

Question 7

Income elasticity of demand

Answer 7

Income elasticity of demand is the ratio of the percentage change in quantity demanded to the percentage change in consumer income.

Question 8

Demand is negatively sloped because…

Answer 8

Demand is negatively sloped because of either the substitution effect or the income effect.

Question 9

Substitution effect

Answer 9

The substitution effect is the phenomenon in which, as a good’s price falls, more of this good is substituted for other, more expensive goods.

Question 10

Income effect

Answer 10

The income effect is the phenomenon in which, as a good’s price falls, real income rises and, if this good is normal, more of it will be purchased.

Question 11

The income effect will partially or fully offset the substitution effect if…

Answer 11

If the good is inferior, the income effect will partially or fully offset the substitution effect.

Question 12

Exceptions to the law of demand

Answer 12

There are two exceptions to the law of demand: Giffen goods and Veblen goods.

Question 13

Giffen goods

Answer 13

Giffen goods are highly inferior and make up a large portion of the consumer budget. As price falls, the substitution effect tends to cause more of the good to be consumed, but the highly negative income effect overwhelms the substitution effect. Demand curves for Giffen goods are positively sloped.

Question 14

Veblen goods

Answer 14

Veblen goods are highly valued high-priced “status” goods; consumers may tend to buy more of a good if its price rises.

Question 15

If income elasticity of demand is positive, the good is..

Answer 15

If income elasticity of demand is positive, the good is a normal good.

Question 16

If income elasticity of demand is negative, the good is…

Answer 16

If income elasticity of demand is negative, the good is an inferior good.

Question 17

Cross-price elasticity of demand

Answer 17

Cross-price elasticity of demand is the ratio of the percentage change in quantity demanded of one good to the percentage change in the price of a related good.

Question 18

Cross-price elasticity relashionships (Positive & Negative)

Answer 18

If cross-price elasticity between two goods is positive, they are substitutes, and if cross-price elasticity between two goods is negative, they are complements.

Question 19

Law of demand

Answer 19

The law of demand states that a decrease in price will cause an increase in quantity demanded.

Question 20

Total product of lab

Answer 20

Total product of labor is a short-run concept that is the total quantity that is able to be produced for each level of labor input, holding all other inputs constant.

Question 21

Average product of labor (APL)

Answer 21

Average product of labor (APL) is the total product of labor divided by number of labor hours.

Question 22

Marginal product of labor (MPL)

Answer 22

Marginal product of labor (MPL) is the change in total product divided by the change in labor hours. MPL might rise as more labor is added to a fixed amount of capital.

Question 23

The law of diminishing returns

Answer 23

The law of diminishing returns dictates that additional output must fall as more and more labor is added to a fixed amount of capital.

Question 24

Production costs increase as input prices relationships

Answer 24

Production costs increase as input prices rise and fall as inputs become more productive.

Question 25

Short-run total cost (STC)

Answer 25

Short-run total cost (STC) is the total expenditure on fixed capital plus the total expenditure on labor.

Question 26

Short-run marginal cost (SMC) equals?

Answer 26

Short-run marginal cost (SMC) equals the ratio of wage to marginal product of labor (MPL).

Question 27

Average variable cost (AVC)

Answer 27

Average variable cost (AVC) is the ratio of wage to average product of labor (APL).

Question 28

Average total cost (ATC)

Answer 28

Average total cost (ATC) is total cost (TC) divided by the number of units produced.

Question 29

Revenue Formula

Answer 29

Revenue is price times quantity sold.

Question 30

Marginal revenue (MR)

Answer 30

Marginal revenue (MR) is the ratio of change in revenue to change in output.

Question 31

Firms and perfect competition relatioships

Answer 31

Firms under conditions of perfect competition have no pricing power and, therefore, face a perfectly horizontal demand curve at the market price. For firms under conditions of perfect competition, price is identical to marginal revenue (MR).

Question 32

Firms and conditions of imperfect competition relationship

Answer 32

Firms under conditions of imperfect competition face a negatively sloped demand curve and have pricing power. For firms under conditions of imperfect competition, marginal revenue (MR) is less than price.

Question 33

Economic profit formula

Answer 33

Economic profit equals total revenue (TR) minus total economic cost, whereas accounting profit equals TR minus total accounting cost.

Question 34

Economic cost

Answer 34

Economic cost takes into account the total opportunity cost of all factors of production.

Question 35

Opportunity cost

Answer 35

Opportunity cost is the next best alternative forgone in making a decision.

Question 36

Maximum economic profit requirements

Answer 36

Maximum economic profit requires that: | 1) marginal revenue (MR) equals marginal cost (MC (2) MC not be falling with output.

Question 37

The breakeven point occurs when...

Answer 37

The breakeven point occurs when total revenue (TR) equals total cost (TC), otherwise stated as the output quantity at which average total cost (ATC) equals price.

Question 38

Shutdown occurs when...

Answer 38

Shutdown occurs when a firm is better off not operating than continuing to operate.

Answer 39

If all fixed costs are sunk costs, then shutdown occurs when the market price falls below minimum average variable cost. After shutdown, the firm incurs only fixed costs and loses less money than it would operating at a price that does not cover variable costs.

Answer 40

In the short run, it may be rational for a firm to continue to operate while earning negative economic profit if some unavoidable fixed costs are covered.

Question 41

Economies of scale

Answer 41

Economies of scale is defined as decreasing long-run cost per unit as output increases. Diseconomies of scale is defined as increasing long-run cost per unit as output increases.

Question 42

Long-run average total cost

Answer 42

Long-run average total cost is the cost of production per unit of output under conditions in which all inputs are variable.

Question 43

Economies of scale is lead by?

Answer 43

Specialization efficiencies and bargaining power in input price can lead to economies of scale.

Question 44

Diseconomies of scale are lead by?

Answer 44

Bureaucratic and communication breakdowns and bottlenecks that raise input prices can lead to diseconomies of scale.

Question 45

What is the minimum efficient scale for a firm?

Answer 45

The minimum point on the long-run average total cost curve defines the minimum efficient scale for the firm.