# Economics Homework Five Answers - Student One

VERONIKAF

1.Define, in your own words, economic “efficiency”. Use it in an example sentence.

Economic efficiency is the act of using your time wisely and trying to make it the most productive as possible. People sitting around bored are destroying efficiency because the time that they spent on day dreaming has been lost forever. The phrase “Time is money” perfectly describes the how positive efficiency is for everyone. By being efficient, you can surmount your difficulties and use your time wisely to benefit yourselves and others. You will never get the same opportunity again, so take it or lose it. It’s your choice.

Superb!

2.Suppose the cross elasticity of demand for goods A and B is +3.8, and for goods X and Y is -2.7. What can you conclude about the relationship of the goods A and B, and of X and Y?

A and B would be perfect substitutes and X and Y would be complements of each other because substitutes are always positive and complements are always negative.

Right, except A and B are not a "perfect" substitutes. (Minus 1).

3.Suppose it costs you \$500 to make your first 5 units, then \$200 to make your next 5 units, and then \$100 to make your next 5 units. Costs do not decrease further for you. What is the marginal cost for you to make another unit?

The marginal cost for you to buy another unit would be \$20.

Correct.

4. Suppose your annual income increases from \$20,000 to \$25,000. Suppose your demand for steak increases by 10% and your demand for fast food hamburgers decreases by 5%. Which type of goods are steak, and which type are hamburgers?

Steak is a normal good because its demand increases when the consumer income increases. A hamburger is an inferior good because when consumer income increases the demand decreases.

Correct.

5. What is the basic assumption of the Coase theorem, and why is that assumption so important to the result of the theorem?

The Coase theorem states that without transition cost our economy would be efficient regardless of who owns what. Most economists did not believe that the Coase theorem was solid, but eventually came to understand the truth behind it. The Coase theorem perfectly describes the meaning of efficiency without transaction costs.

Superb!

6. What does an owner do when his marginal revenue exceeds his marginal cost? Explain.

He stops or closes his business because by continuing he would be losing money since his income would be less than his outcome. For example, it would not make sense to keep a crafts store open in the middle of the night because almost no people would come and while waiting for those few customers the owner would be spending the money on electricity and employees. Instead of making money, it would be falling out of your pocket.

No, not right. When marginal revenue EXCEEDS marginal cost, the owner increases his output because he is making more profit. Your answer would be right if the question said that marginal cost exceeds marginal revenue. You might have simply misread the question, which is a common (and avoidable) mistake on economics questions. (Minus 2).

7. What does the Coase theorem say about the desirability, and the effect, of government regulations that increase transaction costs?

When the government tries to regulate transaction costs they are actually making, in theory, the economy less efficient. Spending less money on a certain item is great, but if you buy an item that is a cheaper version of the original good, there are problems that come with it that compensate for the money saved. Just as you encounter problems with a cheap item, you receive cheap services and goods when the government controls transaction costs. To make things cheaper you must have cheaper ways to get the goods, which would decrease that good’s value. For example, if you hired a doctor that asked for less money than another doctor, his work will most likely be of less quality. Transaction costs are like a scale: when you decrease one side the other side has to increases so it is balanced.

This seems a bit off the mark. Cheaper items often have less quality, but not because of transaction costs. (Minus 1). Please see the model answers once built.

Honors No essay this week. Instead, complete all of the following problems:

8. The greater the number of substitutes for a good, is it more or less price elastic? Explain briefly.

The good would be less elastic (inelastic) because the increase in price by a small amount would cause consumers to buy a substitute if there were many from which to choose. Usually when a price of a certain good goes up, some people buy a substitute, but not all. When there are many substitutes for a good that increases in price, many people will then buy a substitute because there will be a variety for all the picky people.

You're reasoning is correct, but your conclusion is wrong. When more people buy substitutes, then fewer buy the good that has the increase in price. That means the demand for that good goes WAY down. That's being more elastic, not less so. (Minus 1).

9. The smaller the proportion of income consumed by the purchase of a good, is it more or less income elastic? Explain briefly.

It would be more income elastic because the purchaser would be willing to spend more than before since their income has increased. Since the income of that consumers has increased the price of that good has proportionally decreased.

Nope, less elastic here. See model answers when complete. (Minus 1).

10. Would government prefer taxing a good that is price elastic or price inelastic? Explain briefly.

The government would probably prefer taxing a good that is price inelastic because the purchaser would have no other choice but to buy that certain good because an inelastic good is a necessity. The consumer would need that certain good to stay alive, i.e. food and water.

Perfect!

11. Calculate the income elasticities for the two goods in question 4.

Steak=4.4 Hamburger=3.8

Nope, your numbers are far too high. Note that they should have opposite signs. See model answers. (Minus 2).

12. Suppose french fries cost \$1 and ketchup 10 cents. When the price of ketchup goes up to 20 cents, the quantity demanded for french fries falls by 10%. What is the cross elasticity of demand for french fries with respect to ketchup? Show your work and state whether these goods are complements or substitutes.

10 cents=0.1 90%=0.9 20cents=0.2 200%=2

French Fries Ketchup -9=0.9/0.1 -20=2/0.1

Both French fries and ketchup are compliments for each other.

"Complements" with an "e", not an "i". Calculation is not right. See model answers. (Minus 2).

13. (Optional) Can you think of any consequence of the Coase theorem that is not mentioned in this Lecture?

The Coase theorem would cause the value and quality of the service to decrease dramatically because, for example, less educated doctors would be hired because they would be willing to work for less money than the formerly educated doctors whose work was excellent. Loosing transaction costs means loosing quality of work.

Good attempt, but this does not seem right. (Plus 1/5).
111/120. Some superb answers but you might check over the missed points based on the model answers. Great effort.--Andy Schlafly 20:14, 16 October 2009 (EDT)