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| | == Sample problems and solutions== | | == Sample problems and solutions== |
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| − | 1. The term "scarcity" in economics would include all of the following EXCEPT: | + | '''1. The term "scarcity" in economics would include all of the following EXCEPT:''' |
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| | :(a) gold | | :(a) gold |
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| | :(e) pencils | | :(e) pencils |
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| − | ''Answer'': Our test-taking tips encourage us to eliminate wrong answers before trying to select the correct answer. Gold is not scarce under any meaning of the word. Knock it out as an answer. | + | '''''Answer''''': Our test-taking tips encourage us to eliminate wrong answers before trying to select the correct answer. Gold is not scarce under any meaning of the word. Knock it out as an answer. |
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| | Pennies, paper clips and pencils are all inexpensive, but they do cost something. A penny is not worth much, but it is worth something. If you had a hundred of them, you could buy a chocolate bar. But it doesn't matter how much salt water you might have at the ocean. That's worthless. Nobody would pay anything for it, not even a penny. The correct answer is (d). | | Pennies, paper clips and pencils are all inexpensive, but they do cost something. A penny is not worth much, but it is worth something. If you had a hundred of them, you could buy a chocolate bar. But it doesn't matter how much salt water you might have at the ocean. That's worthless. Nobody would pay anything for it, not even a penny. The correct answer is (d). |
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| − | 2. Imagine a firm in perfect competition, and in long-run equilibrium. Which of the following statements is true? | + | '''2. Imagine a firm in perfect competition, and in long-run equilibrium. Which of the following statements is true?''' |
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| | :(a) the total revenue of the firm cannot be increased | | :(a) the total revenue of the firm cannot be increased |
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| | :(e) the average total cost is at its minimum | | :(e) the average total cost is at its minimum |
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| − | ''Answer'': Again, our test-taking tips encourage us to eliminate wrong answers before trying to select the correct answer. Let's look at answer choice (a): the total revenue of the firm cannot be increased. That is wrong because if we increase our output, we could increase our total revenue, even though we may lose money on that additional unit. For example, if we sold chocolate candy bars for $1, we could always increase revenue by selling another one for the below-market-price of 50 cents. We'd lose money on that additional bar, but we'd increase our overall revenue. | + | '''''Answer''''': Again, our test-taking tips encourage us to eliminate wrong answers before trying to select the correct answer. Let's look at answer choice (a): the total revenue of the firm cannot be increased. That is wrong because if we increase our output, we could increase our total revenue, even though we may lose money on that additional unit. For example, if we sold chocolate candy bars for $1, we could always increase revenue by selling another one for the below-market-price of 50 cents. We'd lose money on that additional bar, but we'd increase our overall revenue. |
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| | Similarly, answer choice (d) must be wrong because we know that we would continue selling until MR (marginal revenue) declines to where it equals MC (marginal cost). That point were MR=MC is not where MR is the maximum. | | Similarly, answer choice (d) must be wrong because we know that we would continue selling until MR (marginal revenue) declines to where it equals MC (marginal cost). That point were MR=MC is not where MR is the maximum. |
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| | See how the correct answer fits the question as a key fits a lock. The question asked about the "long run" equilibrium of a perfectly competitive firm, which suggests the fact that costs are low. Only answer (e) conveyed how costs are low. That "unlocks" the question. | | See how the correct answer fits the question as a key fits a lock. The question asked about the "long run" equilibrium of a perfectly competitive firm, which suggests the fact that costs are low. Only answer (e) conveyed how costs are low. That "unlocks" the question. |
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| − | 3. Suppose a firm has "economies of scale"? What happens when it increases output? | + | '''3. Suppose a firm has "economies of scale"? What happens when it increases output?''' |
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| | :(a) its average total costs increase | | :(a) its average total costs increase |
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| | :(e) its costs remain constant. | | :(e) its costs remain constant. |
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| − | ''Answer'': Think back to what "economies of scale" means. It refers to whether the firm has better efficiency at a bigger size, or better "returns to scale" as the size of a firm increases. We talked about "increasing" returns to scale and "decreasing" returns to scale. The "economies of scale" suggests that the firm can operate more "economically" if it has larger "scale" or size. In other words, "economies of scale" means "increasing returns to scale." | + | '''''Answer''''': Think back to what "economies of scale" means. It refers to whether the firm has better efficiency at a bigger size, or better "returns to scale" as the size of a firm increases. We talked about "increasing" returns to scale and "decreasing" returns to scale. The "economies of scale" suggests that the firm can operate more "economically" if it has larger "scale" or size. In other words, "economies of scale" means "increasing returns to scale." |
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| | What happens when a firm that has "increasing returns to scale" increases its output? It must expand, or get bigger, to increase its output. But, like Wal-Mart, such a firm does better and becomes more profitable the bigger it is. So (a), (b) and (e) are incorrect. | | What happens when a firm that has "increasing returns to scale" increases its output? It must expand, or get bigger, to increase its output. But, like Wal-Mart, such a firm does better and becomes more profitable the bigger it is. So (a), (b) and (e) are incorrect. |