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Elasticity, Microeconomic Policy, and Consumer Theory Review Questions for AP Economics

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By — McGraw-Hill Professional
Updated on Mar 4, 2011

The study guides for these review questions can be found at:

Questions

  1. If the price of corn rises 5 percent and the quantity demanded for corn falls 1 percent, then
    1. Ed = 5 and demand is price elastic.
    2. Ed = 1/5 and demand is price elastic.
    3. Ed = 5 and demand is price inelastic.
    4. Ed = 1/5 and demand is price inelastic.
    5. Ed = 5 and corn is a luxury good.
  2. A small business estimates price elasticity for the product to be 3. To raise total revenue, owners should
    1. decrease price as demand is elastic.
    2. decrease price as demand is inelastic.
    3. increase price as demand is elastic.
    4. increase price as demand is inelastic.
    5. do nothing; they are already maximizing total revenue.
  3. Mrs. Johnson spends her entire daily budget on potato chips, at a price of $1 each, and onion dip at a price of $2 each. At her current consumption bundle, the marginal utility of chips is 12 and the marginal utility of dip is 30. Mrs. Johnson should
    1. do nothing; she is consuming her utility maximizing combination of chips and dip.
    2. increase her consumption of chips until the marginal utility of chip consumption equals 30.
    3. decrease her consumption of chips until the marginal utility of chip consumption equals 30.
    4. decrease her consumption of chips and increase her consumption of dip until the marginal utility per dollar is equal for both goods.
    5. increase her consumption of chips and increase her consumption of dip until the marginal utility per dollar is equal for both goods.
  4. A consequence of a price floor is
    1. a persistent shortage of the good.
    2. an increase in total welfare.
    3. a persistent surplus of the good.
    4. elimination of dead weight loss.
    5. an increase in quantity demanded and a decrease in quantity supplied.
  5. Use the figure below to respond to the next two questions.

    Elasticity, Microeconomic Policy, and Consumer Theory: Review Questions

  6. The competitive market equilibrium is at point C. If a per unit excise tax is imposed on the production of this good, the dead weight loss is
    1. the area BDE.
    2. the area BADH.
    3. the area GDH.
    4. the area DAC.
    5. the area GDAB.
  7. The competitive market equilibrium is at point C. If a per unit excise tax is imposed on the production of this good, the revenue collected by the government is
    1. the area BDE.
    2. the area BADH.
    3. the area GDH.
    4. the area DAC.
    5. the area GDAB.

Answers and Explanations

  1. D—You must know the formula for elasticity: Ed = (%ΔQd)/(%ΔP) = 1/5. Since Ed < 1, this is inelastic demand, and you can quickly eliminate any reference to elastic demand. Although calculators are not allowed on the AP exam, simple calculations can be made in the margins of your exam.
  2. A—If you know your elasticity measures, you see that with Ed = 3 you can eliminate any reference to inelastic demand. Choice E is incorrect as total revenue is maximized at the midpoint of the demand curve where Ed = 1. If Ed > 1, the firm increases total revenue by decreasing the price because the quantity demanded rises by a greater percentage than the fall in price.
  3. D—Mrs. Johnson needs to find the combination of chips and dip where the ratio of marginal utility per dollar is equated. Currently MUc /Pc = 12 and MUd/Pd = 15 so choice A is ruled out. Since she is receiving more "bang for her buck" from dip consumption, she increases dip consumption and therefore decreases chip consumption. Mud falls and MUc rises. She adjusts her spending until MUc/Pc = MUd/Pd.
  4. C—Price floors are installed when the market equilibrium price is believed to be "too low." This price lies above the equilibrium price, decreasing Qd and increasing Qs, thus creating a surplus. Price controls worsen total welfare and create dead weight loss.
  5. D—Dead weight loss is total welfare that used to be gained by society prior to the tax. When looking for dead weight loss, narrow your focus by comparing the quantity produced with and without the tax. The horizontal distance between Q0 and Q1 is the unattained output from the tax. The vertical distance between points D and A illustrates that the MB>MC and is therefore an inefficient outcome.
  6. B—Revenue collected by the government is equal to the per unit tax multiplied by the new quantity. The vertical distance between supply curves is the tax.
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