Principles of Macroeconomics (Econ 001) Signature:
Drake University, Fall 2010
William M. Boal Printed name:
MIDTERM EXAMINATION #1 VERSION C
"Introduction to Economics"
September 16, 2010
INSTRUCTIONS: This exam is closed-book, closed-notes. Simple calculators are permitted, but graphing calculators or
calculators with alphabetical keyboards are NOT permitted. Numerical answers, if rounded, must be correct to at least 3
significant digits. Point values for each question are noted in brackets. Maximum total points are 100.
I. Multiple choice: Circle the one best answer to each question. [1 pt each, 15 pts total]
(1) In economics, rational behavior means (5) Consider Factory X's production possibility curve
a. making sacrifices today for a better future. shown below. As more automobiles are produced, the
b. maximizing one's income. opportunity cost of the last automobile
c. using math to make decisions. a. decreases.
d. ignoring "soft" concerns like friendships and charity. b. increases.
e. doing the best one can with what one has. c. first increases, then decreases.
d. remains constant.
(2) “The government ought to raise taxes to close the
deficit” is an example of
Motorcycles
a. a positive statement.
b. a normative statement.
c. both of the above.
d. none of the above.
(3) “Without any change in policy, the deficit will fall
slightly next year” is an example of
a. a positive statement. Automobiles
b. a normative statement.
c. both of the above.
d. none of the above. (6) The graph below shows the production possibility
curve for Country Y. Which combination of outputs,
(4) Is the production function below characterized by chosen today, will cause the country's productive
diminishing returns to labor input? capacity to grow fastest in the future?
a. Yes, for all levels of labor input. a. Combination A.
b. No, not for any levels of labor input. b. Combination B.
c. Yes, but only after 6 hours of labor input. c. Combination C.
d. Yes, but only before 6 hours of labor input. d. Combination D.
Sandwiches made
Capital goods
A
C
B D
Consumption goods
6 Hours of labor
Principles of Macroeconomics (Econ 001) Midterm Examination #1 Version C
Drake University, Fall 2010 Page 2 of 9
(7) The United States and Canada can both produce corn (12) Spaghetti sauce is made from tomatoes, so if the
and wheat. If Canada has a comparative advantage in price of tomatoes falls, then the
wheat, then which country has a comparative advantage a. demand for spaghetti sauce will shift left.
in corn? b. demand for spaghetti sauce will shift right.
a. the United States. c. supply of spaghetti sauce will shift left.
b. Canada. d. supply of spaghetti sauce will shift right.
c. Both countries.
d. Neither country. (13) Consider the supply-and-demand diagram below. If
e. Cannot be determined from information given. for some reason the price were $5, then
a. the price would fall.
(8) Monetary exchange is more common today than b. the price would rise.
bartering because c. the demand curve would shift left.
a. bartering requires a "double coincidence of wants." d. the supply curve would shift right.
b. bartering is often illegal whereas anything can be
legally bought and sold with money. Supply
Price
c. bartering is a lost art.
d. monetary exchanges are subject to less tax.
$10
(9) The law of one price means that
a. each buyer will pay only once for a good. Demand
b. all buyers will pay roughly the same price.
c. the prices of different goods—like cell phones and
bicycles—will gradually converge to each other. Quantity
d. each buyer will pay her or his own price.
(10) If the price of gasoline rises, demand for electric (14) In July, the price of tomatoes decreases and the
cars will shift right, because electric cars and gasoline quantity sold increases. This could be caused by a
are a. rightward shift in the demand.
a. inferior goods. b. rightward shift in the supply.
b. complementary goods. c. leftward shift in the demand.
c. substitute goods. d. leftward shift in the supply.
d. normal goods.
(15) In January, the price of Christmas cards decreases
(11) Caribbean cruises are a normal good, so in a and the quantity sold also decreases. This could be
recession, when consumer incomes are falling, caused by a
a. demand for Caribbean cruises will shift left. a. rightward shift in the demand.
b. demand for Caribbean cruises will shift right. b. rightward shift in the supply.
c. supply of Caribbean cruises will shift left. c. leftward shift in the demand.
d. supply of Caribbean cruises will shift right. d. leftward shift in the supply.
Principles of Macroeconomics (Econ 001) Midterm Examination #1 Version C
Drake University, Fall 2010 Page 3 of 9
II. Problems: Insert your answer to each question in the box provided. Please use the margins and graphs for scratch
work. Only the answers in the boxes will be graded. Work carefullypartial credit is not normally given for questions in
this section.
(1) [Production functions: 8 pts] Acme Baseball Cap Company has the daily production function shown below.
500
450
400
Baseball caps
350
300
250
200
150
100
50
0
0 5 10 15 20 25 30
Number of workers
a. If the company employs 10 workers, what is their average product? caps per worker
b. If the company employs 20 workers, what is their average product? caps per worker
c. What is the marginal product of workers, as the number of workers caps per worker
increases from 10 to 15?
d. What is the marginal product of workers, as the number of workers caps per worker
increases from 20 to 25?
(2) [Economic capital: 6 pts] Which of the following are examples of economic capital ? Answer YES or NO.
a. Corporate bonds. d. Treasury bonds.
b. Trucks. e. Bank accounts.
c. Grain elevators. f. Computer networks.
Principles of Macroeconomics (Econ 001) Midterm Examination #1 Version C
Drake University, Fall 2010 Page 4 of 9
(3) [Production possibility curves: 12 pts] Suppose a farm has 4 acres which can be used to plant corn or soybeans or some
combination of the two crops. If planted in corn, the farm produces 20 units of corn per acre. If planted in soybeans, the
farm produces 10 units of soybeans per acre.
a. [4 pts] Complete the second and fourth columns in the table below.
Acres planted in Corn output Acres planted in Soybean output
corn soybeans
0 4
1 3
2 2
3 1
4 0
b. [4 pts] Plot the farm's production-possibility curve below.
120
110
100
90
80
Soybeans
70
60
50
40
30
20
10
0
0 10 20 30 40 50 60 70 80 90 100 110 120
Corn
c. [2 pts] Compute the farm's opportunity cost of a unit of corn. units of soybeans
d. [2 pts] Compute the farm's opportunity cost of a unit of soybeans. units of corn
Principles of Macroeconomics (Econ 001) Midterm Examination #1 Version C
Drake University, Fall 2010 Page 5 of 9
(4) [Comparative advantage, gains from trade: 17 pts] Country A and Country B each produce bicycles and televisions.
They each face a tradeoff between these two products because their workforces are limited. Their production possibility
curves are shown below.
15
14
13
12
11
Bicyles (millions)
10
9
8 Country A
7 Country B
6
5
4
3
2
1
0
0 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15
Televisions (millions)
a. [2 pts] What is Country A's opportunity cost of producing a television? bicycles
b. [2 pts] What is Country B’s opportunity cost of producing a television? bicycles
c. [2 pts] What is Country A's opportunity cost of producing a bicycle? televisions
d. [2 pts] What is Country B’s opportunity cost of producing a bicycle? televisions
e. [2 pts] Which country has a comparative advantage in producing televisions?
f. [2 pts] Which country has a comparative advantage in producing bicycles?
g. [3 pts] Fill in the blanks: Both countries can consume combinations of televisions and bicycles outside their individual
production possibility curves if ___________________________ produces and exports three million bicycles to
___________________________, which produces and exports ______________ million televisions in return.
h. [2 pts] Plot the trade that you propose in part (g) on the graph above. For each country, plot the starting point
representing production before trade, and the ending point representing consumption after trade.
Principles of Macroeconomics (Econ 001) Midterm Examination #1 Version C
Drake University, Fall 2010 Page 6 of 9
(5) [Market equilibrium: 12 pts] Suppose seven buyers and seven sellers engage in a market similar to the activity
we did in class. Each buyer may buy at most one unit and
each seller may sell at most one unit, but no one is forced to Use this graph for scratch work.
trade. Assume that buyers and sellers are each trying to
maximize their personal earnings (or “gains from trade”). $15
Earnings for each buyer equal the buyer's value of the good $14
minus the price paid. Earnings for each seller equal the $13
price received minus the seller's cost of the good. Earnings $12
of persons who do not trade are zero. Buyers’ values and $11
sellers’ costs are given in the following table.
$10
$9
Buyer Value Seller Cost
Price
$8
Bob $14 Sue $ 1
Barb $13 Steve $ 1 $7
Ben $12 Sam $ 2 $6
Bailey $11 Sven $ 2 $5
Brian $ 3 Sarina $ 5 $4
Betty $ 2 Sean $ 5 $3
Bert $ 1 Sally $11 $2
$1
Suppose with some experience, the market settles on a $0
single price. All trades are made at that price. 0 1 2 3 4 5 6 7 8
Quantity
a. Suppose the price were $6. Would there be excess demand, or excess supply, or
neither?
b. What is the equilibrium price likely to be, in whole dollars? $
c. How many units of the good will be sold in this market? units
d. Compute the total revenue received by sellers (which equals the total spending by $
buyers).
e. Compute the combined total earnings (or gains from trade) of all buyers and sellers. $
(Check your answer carefully! No partial credit for being "close"!)
f. Who enjoys higher earnings in this particular market, the buyers or the sellers? Or
are buyers’ total earnings equal to sellers’ total earnings?
Principles of Macroeconomics (Econ 001) Midterm Examination #1 Version C
Drake University, Fall 2010 Page 7 of 9
(6) [Shifts in demand and supply: 15 pts] Analyze each of the following markets according to the accompanying imaginary
scenario.
a. Consider the market for gasoline. Suppose new government environmental regulations raise the cost of producing
gasoline.
Does demand shift left, shift right, or remain
unchanged ?
P S
Does supply shift left, shift right, or remain
unchanged ?
Does the equilibrium price increase, decrease,
or cannot be determined ?
Does the equilibrium quantity increase, D
decrease, or cannot be determined ?
Sketch a graph of this scenario at right, showing which curve(s) shift(s). Q
b. Consider the market for natural gas. Suppose we have an unusually cold winter. (Most homes in the Midwest are
heated with natural gas.)
Does demand shift left, shift right, or remain
unchanged ?
P S
Does supply shift left, shift right, or remain
unchanged ?
Does the equilibrium price increase, decrease,
or cannot be determined ?
Does the equilibrium quantity increase, D
decrease, or cannot be determined ?
Sketch a graph of this scenario at right, showing which curve(s) shift(s). Q
c. Consider the market for electricity: Suppose new government regulations raise the cost of producing electricity.
Suppose that, simultaneously, consumers' incomes fall due to a recession. (Assume electricity is a normal good.)
Does demand shift left, shift right, or remain
unchanged ?
P S
Does supply shift left, shift right, or remain
unchanged ?
Does the equilibrium price increase, decrease,
or cannot be determined ?
Does the equilibrium quantity increase, D
decrease, or cannot be determined ?
Sketch a graph of this scenario at right, showing which curve(s) shift(s). Q
Principles of Macroeconomics (Econ 001) Midterm Examination #1 Version C
Drake University, Fall 2010 Page 8 of 9
(7) [Market equilibrium, price controls: 12 pts] The following graph shows the labor market. Note that the hourly wage is
the price.
$24
$22
$20
$18
$16
Hourly wage
$14
Supply
$12
Demand
$10
$8
$6
$4
$2
$0
0
10
20
30
40
50
60
70
80
90
100
110
120
Millions of workers
First, find the unregulated market equilibrium.
a. Find the equilibrium price. $
b. Find the equilibrium quantity. million
Second, suppose the government imposes a minimum hourly wage (a type of price floor) of $12. No worker may be hired
for any lower wage.
c. Compute the quantity of workers demanded at this wage. million
d. Compute the quantity of workers supplied at this wage. million
e. Will there be excess supply or excess demand with this price floor?
f. How much? million
Principles of Macroeconomics (Econ 001) Midterm Examination #1 Version C
Drake University, Fall 2010 Page 9 of 9
III. Critical thinking: Write a one-paragraph essay answering the question below. [3 pts]
(1) In this course, we have emphasized gains from grade based on differences in production possibility curves. Now
consider the PP curves of two countries shown below, which are identical. Can both countries enjoy combinations of
goods outside their individual PP curves through trade? If you answer NO, explain why not. If you answer YES, give an
example of a trade that puts both countries outside their individual PP curves, and plot the trade on the graphs.
Write your answer below. Full credit requires correct economic reasoning, legible writing, good grammar including
complete sentences, and accurate spelling.
[end of exam]