Question 1

Speculation is an example of the law of demand because:

Accepted Answer

Speculation involves buying or selling an asset with the expectation that the price will change in the future. If speculators expect the price to go up, they would buy the asset now to sell it later for a profit. This increased demand for the asset today, in anticipation of higher prices tomorrow or in the future, leads to an increase in the price today relative to the price tomorrow or in the future, which is a violation of the law of demand. However, if speculators expect the price to go down, they would sell the asset now to buy it back later at a lower price. This increased supply of the asset today, in anticipation of lower prices tomorrow or in the future, leads to a decrease in the price today relative to the price tomorrow or in the future, which is consistent with the law of demand. Therefore, option D is the most appropriate answer.

Question 2

Homesteading:

Accepted Answer

Homesteading was an efficient way of colonizing the West as it allowed settlers to obtain land at a low cost and encouraged westward expansion. While it may not have been a perfect system, it was successful in terms of attracting settlers and contributing to the development of the western United States.

Question 3

The opportunity cost of time is:

Accepted Answer

The opportunity cost of time is best represented by the product of the wage rate and the time required for consumption, as it reflects the value of the time spent on an activity in terms of the forgone earnings.

Question 4

For normal goods the substitution effect is:

Accepted Answer

The substitution effect for normal goods is negatively related to the price, meaning that as the price of a good increases, consumers are likely to substitute it with cheaper alternatives, and vice versa.

Question 5

Which of the following is a false statement about the substitution effect associated with an increase in the price of good x?

Accepted Answer

This statement is false because the substitution effect always leads to the individual buying more of the relatively cheaper good (in this case, not good x), regardless of whether good x is a normal or inferior good. The income effect, on the other hand, depends on whether the individual sees x as a normal or inferior good, and whether the price increase leads to a decrease or increase in their purchasing power. In the case of a Giffen good, the income effect dominates the substitution effect, but this does not mean that the substitution effect disappears completely.

Question 6

Figure 4A

-The substitution effect in Figure 4A is from:

Accepted Answer

The substitution effect is the movement along the same indifference curve due to the change in relative prices. In Figure 4A, when the price of food (X-axis) decreases, the consumer substitutes away from clothing (Y-axis) and consumes more food. Therefore, the substitution effect is shown by the movement from point E to point H, where the consumer is consuming more food and less clothing at the new equilibrium point H compared to the original equilibrium point E.

Question 7

Consumer's surplus is:

Accepted Answer

Consumer's surplus is the difference between the maximum price a consumer is willing to pay for a good or service and the actual price they pay. In other words, it is the monetary gain the consumer experiences from a transaction. Therefore, Option A is the correct answer.

Question 8

The law of demand:

Accepted Answer

The law of demand states that as the price of a good increases, the quantity demanded of that good decreases. This principle applies to market demand curves, which show the quantity demanded of a good by all individuals in a market at varying prices. The law of demand is not dependent on all individuals already consuming the good or on the lowest reservation price.

Question 9

Suppose Ada's inverse demand for good x is given by: p = 10 - x. If the price increases from $3 to
$2, the change in consumer surplus is:

Accepted Answer

Consumer surplus equals the area above the price line and below the demand curve. At p = $3, we have,

3 = 10 - x

x = 7

So, the quantity demanded at $3 is 7. Consumer surplus is the area above $3 and below the demand curve, which is a triangle with base 7 and height (10 - 3) = 7,

CS1 = (1/2) * 7 * 7 = $24.5

At p = $2, we have,

2 = 10 - x

x = 8

So, the quantity demanded at $2 is 8. Consumer surplus is now a triangle with base 8 and height (10 - 2) = 8,

CS2 = (1/2) * 8 * 8 = $32

The change in consumer surplus is CS2 - CS1 = $32 - $24.5 = $7.5. Therefore, the correct answer is (A).

Question 10

If a good is inferior, then:

Accepted Answer

An inferior good is a good for which demand decreases as income increases. In this case, the income effect moves in the opposite direction of the substitution effect. As income increases, the consumer will want to purchase less of the inferior good and substitute it for a superior good. The substitution effect is the movement from the original bundle to the new bundle as a result of a change in relative prices, and works in the same direction as the income effect for normal goods. However, for inferior goods, the income effect is larger and moves in the opposite direction of the substitution effect. Therefore, the best choice is A.

Question 11

Giffen goods are goods for which the price and quantity:

Accepted Answer

Giffen goods are an exception to the law of demand, where as the price increases, the quantity demanded also increases, hence they move in the same direction.

Question 12

Suppose a good is underpriced, and a line forms to allocate the good. A politician notices that there are pregnant women in line and a law is passed stating that they are allowed to move to the front of any line. This will result in:

Accepted Answer

The law allowing pregnant women to move to the front of the line creates an incentive for more pregnant women to join the line in order to receive the benefit of going to the front. Therefore, there will likely be more pregnant women in the line overall.

Question 13

For inferior goods the substitution effect is:

Accepted Answer

The substitution effect for inferior goods is negatively related to the price. As the price of the inferior good decreases, its relative price to other goods increases, and consumers switch to other goods that they previously could not afford. This leads to a decrease in the quantity demanded of the inferior good.

Question 14

In a model where we take into account the full cost of a good in terms of time, rich people:

Accepted Answer

If we take into account the full cost of a good in terms of time, then the opportunity cost of time for a rich person is higher than for a poor person. Therefore, rich people will tend to consume more expensive, higher-quality goods that save time, such as private transportation or household appliances. They will consume relatively fewer time-intensive goods, such as public transportation, cooking from scratch, or DIY projects, as the opportunity cost of their time is relatively higher.

Question 15

The total value associated with a good is:

Accepted Answer

The total value associated with a good is the sum of all the marginal values of the good, which represents the additional value gained by consuming or producing one additional unit of the good. This includes both the consumer surplus and producer surplus, and reflects the overall value that the good provides to society. The amount of money paid for it (A) only represents the price, which may not fully capture the true value of the good. Society's value of a good (C) is more subjective and may vary based on individual preferences and external factors. The production cost of making a good (D) only represents one aspect of the value and does not take into account the value derived from consumption.

Question 16

For a normal good:

Accepted Answer

For a normal good, when the price increases, consumers feel poorer, which is known as the negative income effect. This means they are likely to buy less of the good because their purchasing power has decreased.

Question 17

Joe's utility function is given by U(x,y)= min[x,y] .If the price of x increases but Joe's income stays constant, then:

Accepted Answer

Since Joe's utility function is U(x,y)= min[x,y], we know that he consumes x and y in equal amounts in order to maximize his utility. Therefore, if the price of x increases, Joe will substitute away from x and towards y, keeping his overall consumption at the same level. This is the substitution effect. However, since Joe's income stays constant, he cannot increase his overall consumption, so there is no income effect. Therefore, the only effect is the substitution effect, and the correct answer is D) the substitution effect is zero.

Question 18

Costco typically has lower prices than its competitors and charges a membership fee. The membership fee is an example of

Accepted Answer

The membership fee at Costco is an example of compensating variation, where consumers are willing to pay a fee upfront to access lower prices, essentially compensating for the cost difference they would encounter at other retailers without such a fee.

Question 19

The percentage change in disposable income is a:

Accepted Answer

The percentage change in disposable income is a quantity index, which measures the change in the quantity of disposable income of an individual or an economy.

Question 20

CV, EV and the change in consumer's surplus are all illustrated as the trapezoid to the left of the demand curve between the new and old prices. Which of the following statements is correct?

Accepted Answer

The change in consumer surplus (CS) is measured from the uncompensated demand curve, which reflects the actual market demand without adjustments for changes in utility.

Quiz 4: More Demand Theory