Economics Model Answers Two

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Introductory: 1. In a free market, the price and quantity at which goods are sold are where __________ equals ___________.

supply equals demand

2. Suppose the price demand curve is P = $20 - Q, where P is price and Q is quantity. Also suppose the price supply curve is P = $4 + Q. At what price and quantity will the good be sold?

The good is sold where supply equals demand. That means the supply P must equal the demand P, and the supply Q must equal the demand Q. This can be found by graphing the above two equations and seeing where they intersect, or by solving them by setting P to the same value in both:

P = $20 − Q
P = $4 + Q

Therefore

20 − Q = 4 + Q
20 = 4 + 2Q
4 + 2Q = 20
2Q = 16
Q = 8

Plugging this back into the first equation gives P:

P = $20 − Q = $20 − 8 = $12

Checking our work, we plug this P and Q into the second equation:

12 = 4 + 8 = 12

Answer: Q = 8, P = $12

Intermediate: 3. Draw the supply and demand for air. In addition, draw the supply and demand for a good that costs $10000000000000000000000000 trillion dollars.

The demand curve for air must be at a zero price, which is the x-axis (P=0 everywhere, although note that if the quantity of air ever approached zero then the demand price would sharply increase as people would pay to survive). The supply curve for air must be at fixed quantity, and hence a vertical line. They must intersect at P=0, Q=amount of air in the atmosphere:

Air supply and demand.jpg

Note, however, that air is not a scarce good, and that is why its supply and demand curves are so unusual and nonsensical.

The point where supply equals demand for an extremely expensive good must be at low quantity Q. From there the supply curve would slope upwards, and the demand curve would slope downwards:

Expensive good supply and demand.jpg

(thanks to Kevin for both graphs above)

4. Suppose 1000 persons in a town each have the following weekly demands for gas, and the gas stations have the following weekly supplies:

Gallons Demand Price/gallon Supply Price/gallon
10 $2.50 $.50
20 $2 $.75
30 $1 $1
40 $.75 $1.50

(A) What is the price and overall quantity of gas sold each week?

The price and quantity at which the good (gas) is sold is where supply equals demand. That means that the P for supply equals the P for demand, and the Q for supply equals the Q for demand. Looking at the above table, where do both the P and Q for supply equal the corresponding P and Q for demand? That occurs on the third line above: Q equals 30 for both supply and demand, and P equals $1 for both supply and demand. The answer is there: P=$1, Q=30.

(B) Suppose Congress declares war and imposes a price control of $.75 per gallon. At what price and overall quantity will gas sell each week?

When price P is fixed by the government at $.75, then what is the corresponding Q supply and demand? Looking at the table, the corresponding Q in the supply column is 20 gallons, and the corresponding Q in the demand column is 40 gallons. The lower number is what matters, because nothing can be bought unless it is both supplied and demanded. So the supply is 20 gallons and that is what is sold at $.75 per gallon. That is 20 times 0.75 = $15 per person, or $15,000 for the whole town. Some may try to buy and sell gas illegally at a higher price, as illegal markets often develop when there are price controls.

5. Suppose the government limits the supply of Toyota cars that can be imported in 2008 to a certain quota. What effect does this have on the supply curve, and on the equilibrium price? Who is helped by this import quota, and who is hurt? Be as specific as possible.

Import quotas cause the supply curve to shift upward, and for the equilibrium where supply meets demand to shift to less quantity at a greater price. the consumers are hurt by import quotas, and everyone pays more for the cars and some people who wanted the car at its lower, free market price, cannot buy it at the higher price. Sellers of Toyota cars are helped because they make bigger profits per car sold, although they cannot sell as many as before.

6. Suppose you went to see the opening of your favorite new movie, but it is sold out. However, there are four independent scalpers are (illegally) reselling their tickets outside. Four strangers are each willing to pay the scalpers at most $15, $10, $9 and $8 for a ticket. The scalpers are initially willing to sell each of their tickets for at least $7, $8, $9, and $12. The eight of you get together and bargain, and then tickets are sold at a common price. What is the price and how many tickets sell at that price? Should scalping be illegal in New Jersey?

One customer (C1) is willing to pay $15. Another customer (C2) is willing to pay $10. Likewise, customers C3 will pay $9 and C4 will pay $8.
One scalper (S1) scalper willing to sell for $7, scalper S2 will sell at $8, S3 will sell at $9, and S4 at $12.
C1, C2, and C3 will all be willing to buy tickets from S1, S2, and S3 at $9. S4 is not willing to sell at the price, and C4 is not willing to buy at the that price, so both choose not to deal. Three tickets are thus sold at the "common price" or market price of $9 each.

Scalping is a form of free market activity. If there are willing buyers and sellers for the tickets, then why interfere with these sales? Scalping is illegal in New Jersey, but still happens illegally.

Honors: Write an essay of about 300 words total on one or more of the following topics: 7. Should government regulations require and monitor honest and full disclosure of information by sellers to buyers?

For the buyer to make informed decisions, he must have information. Even "buyer beware" (caveat emptor) assumes a buyer who can find information. The seller has the information, and regulations requiring it to tell the buyer seem helpful to free enterprise.

8. Should price discrimination be illegal?

For banning price discrimination: a common price encourages more economic activity.

For allowing price discrimination: if buyers and sellers are willing to exchange at different prices, doesn't this maximize overall benefit?

9. What is an economic incentive for excluding homeschooled athletes from high school sports? Should that be legal?

By banning homeschoolers from sports, public and private schools are encouraging students to enroll in their schools. That brings them more money.

10. Describe your view of if or how government should regulate medical prices.

It shouldn't. Price controls, as illustrated by the gasoline problem above, results in shortages.

11. “Economic theory of law and the public domain - When is Piracy Economically Desirable?” See http://lexnet.bravepages.com/media1.html

Piracy of information can increase market activity. Napster caused much additional traffic on the internet in the late 1990s, and this helped the dot-com boom. But copyright violations are illegal in order to encourage the creation of new works. It is a delicate policy balance between promoting market activity now and promoting creative works for future benefit.

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