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Economics 101A

Practice ProblemsFINAL
Spring 2016

Practice Problems: These are some additional problems to prepare for the final prepared by Madeline Schatzberg for Econ 101A. These problems are aimed for students in
ECON 100A. They should be easy for you, but they are a good check for your conceptual understanding of the material. The problems on the exam will be much more difficult
mathematically.

Risk and Uncertainty.

1. Graph the utility function with respect to wealth for (1) a risk-averse individual, (2) a risk-neutral
individual, and (3) a risk-loving individual.
2. Suppose two investors are deciding whether to make an investment. The company, Acme Shirt
Pins, will either offer a 25% return with probability 50%, or a 30% loss with probability of 50%.
Both investors would only put $1,000 into the company. Investor 1 has utility function of wealth
is U (w) = w1/3 while investor two has utility function U (w) = w2 .
(a) What is the expected utility of the investment for each investor? Will at least one of the
investors make the investment?
(b) Calculate each investors risk premium. Are the investors risk neutral, risk averse, or risk
loving?

Costs

1. A clothing company produces shirts using the following production function and the current market
wage for garment laborers is $25 and the rental price of machines is $50. They have a production
function of
q = F (K, L) = 3.6L0.75 K 0.25 .
1

(a) Let K = 256. Find the short-run variable cost, average variable cost and marginal cost (as a
function of quantity produced).
(b) For the long run, find the expression that represents the marginal rate of technical substitution
between capital (K) and labor (L).
(c) Find the equation for the long run expansion path.
(d) Suppose the company needs to produce 138 shirts to stock their stores. Find the optimal
quantities of capital and labor. What cost is associated with this level of production?
2. Consider the Cobb-Douglas production function:

q = L K 1 .

Find the equation for total long run cost.

Short Run Supply.

1. Suppose that each firm in a perfectly competitive market has a short-run total cost of T C =
75 + 500q 5q 2 + 0.5q 3 .
(a) Describe what the firm would do given a general price p. (Hint: start by finding the shut
down price. Where does the firm produce if price is higher than the shut down price?)
(b) How much does the firm produce and what are its profits in the short run when the price is
p = 400?
(c) How much does the firm produce and what are its profits in the short run when the price is
p = 700? Do we have entry or exit in this case?

Monopoly.

1. A monopolist who is a medical device manufacturer sells its sterilization equipment in a market
with an inverse demand curve of P = 6, 000 400Q, where Q measures the number of sterilizers
in thousands and P is the price per unit. The marginal cost of production is constant at $4,000.
(a) Solve for the profit-maximizing price and quantity.

(b) The Patient Protection and Affordable Care Act signed into law by President Obama creates
a tax on medical device manufacturers. Suppose the tax raises the marginal cost of production
from $4,000 to $4,400. What is the new profit maximizing price and quantity?
(c) The actual implication of the medical device tax calls for a 2.3% tax on a firms total revenue with the tax will equal 97.7% of the marginal revenue without the tax, or M Rtax =
0.977M Rnotax . What is the profit maximizing price and quantity under this scenario?
2. Suppose that market demand is Q = 660 12P and marginal cost is M C = 5.
(a) Illustrate with graphs the consumer surplus, producer surplus, and DWL under both a perfectly competitive market (long run with no fixed costs) and a monopoly market.
(b) Calculate consumer and producer surplus assuming a perfectly competitive market.
(c) Calculate consumer surplus, producer surplus and dead weight loss assuming a monopoly
market.

Income and substitution effect and demand.

1. Blaze has $200 to spend on fishing equipment and fast-food burgers. Fishing equipment is priced
at $10 per unit and fast-food burgers are priced at $4 per burger.
(a) Graph Blazes budget constraint, placing fishing equipment on the vertical axis and fast-food
burgers on the horizontal axis. Using an indifference curve, show Blazes optimal consumption
bundle at 10 units of fishing equipment and 25 burgers.
(b) Suppose that Blazes income increases by $50. Adding a new budget constraint and indifference curve to your original graph, show Blazes new optimal consumption bundle, assuming
finishing equipment is a normal good and fast-food hamburgers are an inferior good.
2. Consider the following figure:

Price
per skirt

50
Demand
25

12

Quantity of skirts

This graph shows the demand curve for skirts. Suppose the consumer has $500 to spend on skirts
and handbags, and the price of handbags remains unchanged at $100. Using budget constraints
and indifference curves (place skirts on the horizontal axis and handbags on the vertical axis),
illustrate two of the consumers optimal consumption bundles of skirts and handbags.
3. Suppose a consumer spends her income on lobster and frozen pizza. Assume that the consumer
has an income of $60, the price of lobster is $6 and the price of frozen pizza is $6.
(a) Using indifference curves and budget constraints, show the income and substitution effects
associated with a decrease in the price of frozen pizza to $2. Put frozen pizza, an inferior
good, on the horizontal axis and lobster, a normal good, on the vertical axis.
(b) Using indifference curves and budget constraints, show the income and substitution effects
associated with a decrease in the price of frozen pizza to $2. Put frozen pizza, an giffen good,
on the horizontal axis and lobster, a normal good, on the vertical axis.

Game Theory.

1. Consider the following game:

Player 2
L

(0,3)

(3,0)

(2,1)

(1,2)

Player 1

(a) What is the pure strategy Nash Equilibrium?


(b) Is there a mixed strategy Nash Equilibrium?