Introduction to Microeconomics

Economics 102 (220:102): Spring 2008 Tuesday and Thursday, 5:35 pm 6:55 pm Hickman Hall 138, Douglass College Campus Martin K. Perry, Ph.D., J.D.

Midterm #2: Tuesday, March 11, 2008

Room 138, Hickman Hall (the regular classroom) The following is a summary of what slides to focus on for the second midterm. Section II.G: I could ask a graphical question about Slides 2 and 4, but it would be pretty trivial. So it is more likely that I would ask a word question about the difference between liquidation and reorganization after a firm declares bankruptcy from Slides 3 and 5. I could also ask a word question about the difference between the Breakeven Price and Shutdown Price. I could ask a word problem about Slides 7-8, but I would have to include the mortgage table. Section II.H: One likely question from this section would be a graphical question requiring you to identify or compare Producer Surplus or Profits for each of the two plants when they have differing Fixed Costs. Remember that the differing Fixed Costs arise from the fact the more bonds would have to be issued to build the newer second plant, even though it has the same Variable Costs. A second likely question would be a graphical question requiring you to identify or compare Producer Surplus or Profits for the two different technologies. The key issue is whether the price is sufficiently high to make the new technology more profitable, even though the new technology has higher Fixed Costs. I could also ask a word question from Slide 6 about the tradeoff between a labor intensive old technology versus an automated new technology. Section II.I: This is a tough section. You have to know the meaning of the Expected Value (weighted average) and its application to the Expected Price. I could ask a word problem about the Expected Price similar to the examples in Slide 3. I will NOT ask about the Variance. Slide 4 is also important for a word question on why firms must make

decisions under certainty about future prices. There will certainly be a graphical question based on Slides 5-6. Such a question would ask you to find the expected price in a graph and the output that maximizes expected Producer Surplus. I would NOT ask a question about the proof in Slides 7-8 on why the Expected Price can be used determining the output that maximizes Expected Producer Surplus. But you should understand the basic intuition for this result that I discussed in lecture. Finally, I could ask a word question about the impact of farm programs on the Expected Price. I could even make up a word question about a hypothetical farm program. Section II.J: This is also a tough section. I could ask a word question about the difference between a Forward Contract and a Futures Contract, Slides 1 and 7. A Futures Contract is a standardized Forward Contract. I could ask a word question about the incentive to breach a Forward Contract from Slide 2, or how Expectations Damages works from Slides 3-5. I am likely to ask a question about risk aversion from Slide 6. The key point here is that both a buyer and a seller benefit from a Forward (or Futures) Contract because they are each avoiding different downside risks at the same time. I could ask a question based on Slide 9 about the meaning of a Futures Price. I probably would NOT ask about mark-to-market accounting because it is difficult to understand. If I designed a graphical question from this section, I would use Slides 11 or 12 and ask whether the Futures Prices now are underestimating or overestimating the Spot Prices in the future. Finally, Slide 13 is the big punchline about the importance of Futures Markets in creating predictions about future Spot Prices for the sellers and buyers of the goods. So you should expect a word question about that punchline. Section III.A: This section is just an introduction to Section III on demand. So there is no reason to ask a question from these four slides. Section III.B: This is the section about the Budget Constraint. Slides 3 and 4 are the key word slides for understanding the meaning of the Budget Constraint. Slides 5-10 are the key slides for understanding the graphical meaning of the Budget Constraint. Slides 5-10 are too easy for a graphical question, so the most likely graphical question would come from a graph like the one in Slides 11 and 12. Note that I could ask you about multiple changes in prices or incomes.

Section III.C: This is the section about the Utility Functions for x (units) and y ($). You need to understand that x is measured in units and that we are working toward the demand function for x: x*(p,I). Slide 4 is the key slide discussing Diminishing Marginal Utility. I think it is unlikely that I would ask a graphical question about Diminishing Marginal Utility from Slides 5-6. Slides 7-8 are simply discussion slides and NOT a source for a question. Section III.D: This is the section about how the Utility Functions for x (units) and y ($) determine the Consumers choice of which bundle to consume on the Budget Constraint. The key slides for a word question would be Slides 1-2. Slides 3-4 are for those who have had calculus and would NOT be the source of a question. The rest of this section discusses the Expansion Path. Slide 7 defines the Expansion Path and could be the source of a word question. Slide 8 is an important slide defining normal goods (typical and atypical), and inferior goods. You should expect a graphical question along the lines of Slides 9-10, or Slides 11-12. The problem in Slides 13-15 will be discussed in the review sessions. I could ask a word question with a hypothetic story such as this. Slides 16-20 discuss how debt and savings affect the Budget Constraint for current consumption. This graphs are pretty simple, and thus NOT a likely source for a graphical question. But you need to understand the concept for a possible word question. Section III.E: This is a really important section for both word questions and graphical questions. Slides 1 and 3 are crucial for understanding how Demand Functions and Demand Curves are derived. There will surely be a word question about the Law of Demand from Slides 5-6. Slides 9-12 are very important for understanding the linear Demand Curve that we will use in the rest of the course. Slide 11 is particularly important for understanding the two interpretations of the Demand Curve. Interpretation (1) is important for the next section on Consumer Surplus. We will skip Slides 13-16, and discuss them on Thursday after the midterm. Section III.F: This section discusses shifts in the Demand Curve from the parameters a and b. Slide 1 explains that these shifts are caused by changes in Income or the Utility from x or spending on other goods y. Slides 2-5 are the four types of shifts. These shifts will be used for

several graphical questions and the Practice Problems have many examples. Like Midterm 1, I may present you two alternative shifts to a new Demand Curve, and you will have to identify the correct shift and then answer a question about the quantity purchased or Consumer Surplus (Section III.G). Slides 6-8 are examples of shifts in the Utility Function that would cause shifts in the Demand Curve. I am unlikely to ask a graphical question about these shifts because they are too simple. But I could ask a word question about how these shifts in Utility would affect the Demand Curve. I will skip Slides 9 and 10 and talk about them on the Thursday after the midterm. Section III.G: This section is VERY important. We will use Consumer Surplus (and Producer Surplus) throughout the rest of the course. Slides 1-3 explain Consumer Surplus and how it is obtained from the Demand Curve. I will surely ask a word question about these slides. Slides 4-5 explain how Consumer Surplus changes when the price changes. There will be graphical questions about this process. Slides 68 explain how Consumer Surplus changes when the Demand Curve shifts. These slides will also be the source of graphical questions. You will see the type of questions in the Practice Problems. Slide 9 is a discussion comparing Consumer and Producer Surplus. Slide 10 will be the first slide that we will talk about on the Tuesday after spring break, so you do not need to study that slide.