2 1. In market economies, most production and consumption decisions are guided by a. government decreeb. foreign countries (imports and exports)c. monopolists’ desires to maximize profitsd. individual choice under the price systemD. A business will only sell what consumers want to buy.
3 2. In general, “elasticity” can measure a. whether a price increase causes quantity demanded to increase or decreaseb. the strength of an economy’s tendency to recover from recessionc. the responsiveness of decision makers to economic changes in pricesC. You can think of elasticity as a rubber band. Elastic means it can stretch, the easier it stretches the more elastic the rubber band. When price changes for a good and the quantity demanded changes a lot, the demand curve is very elastic. When price changes and the quantity demanded changes a little, the demand curve is inelastic.
4 3. More “elastic” meansa. less desirableb. less desirablec. less responsived. more responsiveD. For example, in a perfectly competitive market, if a firm (let’s say a farmer) charges a price higher than the market price its sales will drop to zero. Why would anyone buy from a higher priced firm if they can buy exactly the same thing from a multitude of other firms? In this case the responsiveness is absolute, the demand curve is perfectly elastic.
5 4. Price elasticity of demand is calculated as a. the percentage change in quantity demanded divided by the percentage change in priceb. the percentage change in price divided by the percentage change in quantity demandedc. the absolute change in quantity demanded divided by the absolute change in priceA. A percent change is measured by the difference between the two numbers divided by the original number. For example, what is the percent increase from 3 to 5 units? 2 divided by 3. What is the percent decrease from 5 to 3? 2 divided by 5.
6 5. Without making an adjustment such as finding the absolute values of the percentage changes, the price elasticity of demand would be negative becausea. price and demand are directly relatedb. price and demand are inversely relatedc. price and quantity demanded are inversely relatedC. As the price of a good increases, the quantity demanded decreases and vice versa. This may not always be true, but in this course we assume that it is always true. Because the relationship is always negative, we normally concentrate on the absolute values of numbers.
7 6. In calculating price elasticity of demand, we use average price and average quantity as our base value becausea. it reduces the complexity of the formula and makes the calculation easierb. the resulting measure is then not influenced by whether price is rising or fallingc. we would get the same answer if we use the initial price and quantityB. Instead of measuring elasticity as the difference between two numbers divided by the original number, we take the difference between the two numbers divided by the average of the two numbers.
8 7. Price elasticity of demand is not influenced by a. the number of substitutes availableb. the proportion of the consumer’s budget spent on the goodc. the length of the time period under considerationd. the units of measurement used for price or for quantity demandedD. Whether we are dealing in American dollars or European Euros or whether we are dealing with cars or shoes, the formula for measuring elasticity is the same.
9 8. Edith buys 9 magazines per week when the price is $3 8. Edith buys 9 magazines per week when the price is $3. She buys 11 magazines per week when their price is $2. Edith’s price elasticity of demand isa. -1/2 = -0.5b. -2/3 =c. -1.0A. The difference between 9 and 11 units is 2 and the average quantity is 10. The difference between $3 and $2 is 1 and the average price is 2.5.2/10 / 1/2.5 = 2/10 x 2.5/1 = 5/10 = 1/2 = .5.* most authors drop the negative sign, McEachern does not in his book.
10 9. Matt bought 6 CDs last month, when the price was $14 9. Matt bought 6 CDs last month, when the price was $14. This month, when the price of CDs increased to $16, Matt bought only 4 CDs. Matt’s price elasticity of demand isa. -1/3 =b. -3/7 =c. -7/3 =d. -3D. The difference between the quantities demanded is 2 and the average quantity is 5. The difference between the prices is 2 and the average price is 15. So:2/5 divided by 2/15 = 2/5 x 15/2 = 30/10 = 3* Again, McEachern uses the negative sign.
11 10. If a 5% increase in price leads to an 8% decrease in quantity demanded, demand is a. perfectly elasticb. elasticc. unit elasticd. inelasticB. When price increases and a sellers total revenue increases, the demand is inelastic. When the price increases and the sellers total revenue decreases, the demand is elastic. In this case total revenue will decrease because the quantity demanded is decreasing at a greater percentage than the increase in price.
12 11. If price elasticity of demand is -0.5, a. a 1% decrease in quantity demanded leads to a 0.5% decrease in priceb. a 1% decrease in price leads to a 0.5% increase in quantity demandedc. a 50% decrease in price leads to a 1% increase in quantity demandedd. demand is elasticB. The percent change in quantity divided by the percent change in price is equal to the price elasticity of demand. So in this case, the percent change in quantity is equal to .5 and the percent change in price is 1, so .5 / 1 = .5
13 12. Unit elastic demand occurs when a. a one-unit increase in price leads to a one-unit decrease in quantity demandedb. a 1% increase in price leads to a one-unit decrease in quantity demandedc. price elasticity of demand is positived. price elasticity of demand is exactly -1D. The price elasticity of demand is unitary elastic when the percent change in quantity demanded divided by the percent change in price is equal to one.
14 13. Knowledge of price elasticity of demand a. is of no use to producersb. tells producers what will happen to total profit if they change product pricec. tells producers what will happen to quantity supplied if they change product priced. tells producers what will happen to total revenue if they change product priceD. Let’s say you own a business. Should you raise your price? What will happen to your total revenue if you do so? If you know the price elasticity of demand for your product you will know the answer before the fact.
15 14. In calculating price elasticity of demand, which of the following is assumed to be held constant?a. the price of the product itselfb. the quantity demanded of the productc. total revenue received from the sale of the productd. the prices of all other productsD. Anytime we change something and want to know the result we always assume that everything else stays the same. The Latin term for this assumption is ceteris paribus.
16 15. Total revenue is defined as a. the net profit after the opportunity cost of all resources used has been deductedb. the change in quantity sold divided by the change in pricec. price elasticity of demand times quantity soldd. price times quantity soldD. If you own a business and the price for your product is $2 and you sell 3 units, your total revenue is $6.
17 16. If a firm raises the price of its product, its total revenue will a. always increaseb. increase only if demand is price inelasticc. increase only if demand is price elasticd. remain constant, regardless of price elasticity of demandB. In this case total revenue increases because the percent change in quantity sold is more than the percent change in price.
18 17. If a price reduction leads to greater total revenue, demand is a. perfectly inelasticb. inelasticc. unit elasticd. elasticD. In this example price is decreasing instead of increasing. If a firm lowers its price and its total revenue increases as a result, this means that the percent change in quantity demanded is greater than the percent change in the price. Because the quantity demanded is changing more than the change in price, the demand curve is elastic.
19 18. John spends exactly the same dollar amount of candy bars each week, regardless of their price. John’s demand curve for candy bars isa. upward-slopingb. backward-bendingc. perfectly inelasticd. unit elasticC. A perfectly inelastic demand curve is perfectly vertical. This means that a change in price has no effect on the quantity demanded.
20 19. When demand is price inelastic, total revenue is a. directly related to quantity demandedb. inversely related to quantity demandedc. directly related to priced. not related to either price or quantity demandedA. A direct relationship means that when there is a change in one variable the other variable changes in the same direction. For example, if one goes up the other will increase as well. In this case, an increase in price leads to an increase in total revenue, which is the definition of an inelastic demand curve.
21 20. Along a linear, downward-sloping demand curve, price elasticity of demand a. is impossible to calculateb. is constant and is equal to the slopec. is constant and is equal to the inverse of the sloped. becomes more elastic as price increasesD. Linear means a straight line. Consumers will have a greater response to a change in price at higher prices than they will at lower prices.
22 21. A linear, downward-sloping demand curve has a. constant slope and constant elasticityb. constant slope and varying elasticityc. varying slope and constant elasticityd. varying slope and varying elasticityB. The slope all along a straight line is the same. This is what makes a straight line a straight line. Elasticity along this straight line demand curve varies. The reason is the same as explained in question 20.
23 22. When the demand curve is linear with the typical downward slope, a firm can receive the greatest total revenue bya. charging the highest price possibleb. selling the most output possiblec. producing where demand is inelasticd. producing where demand is unit elasticD. A profit maximizing firm will continue to raise its price if the higher price leads to an increase in revenue, ceteris paribus. So at what point will it stop raising its price? At the point where the percent change in quantity is equal to the percent change in price.
24 23. A perfectly elastic demand curve is a. a vertical straight lineb. a horizontal straight linec. a downward-sloping straight lined. an upward-sloping straight lineB. A perfectly horizontal demand curve shows that any increase in price beyond the price at which the demand curve is at will lead to zero sales.
25 24. If a firm whose product faces a perfectly elastic demand curve raises its price, a. it will sell exactly the same amount of output as it did at the lower priceb. it will lose some, but not all, of its salesc. its sales will decrease to zerod. its sales will increaseC. This is the case for a farmer who is a part of a perfectly competitive industry. Because there are so many farmers at the market selling identical products they become price takers; they must take whatever price the market determines. Any price above this price will result in zero sales.
26 25. A perfectly inelastic demand curve is a. a vertical straight lineb. a horizontal straight linec. a downward-sloping straight lined. an upward-sloping straight lineA. The vertical line is at the quantity that will be demanded regardless of the product’s price.
27 26. If a firm facing a perfectly inelastic demand curve raises its price, a. it will still sell exactly the same amount of output as it did at the lower priceb. it will lose some, but not all, of its salesc. its sales will decrease to zerod. its sales will increaseA. In this case, a change in price has no effect on the quantity demanded.
28 27. The more broadly a good is defined a. the more substitutes it has, so its demand will be more elasticb. the less substitutes it has, so its demand will be more elasticc. the more substitutes it has, so its demand will be less elasticd. the less substitutes it has, so its demand will be less elasticD. Ease of substitution is a variable that determines a product’s elasticity. The easier the substitution, the more elastic the demand curve. The more broadly defined the good, the more difficult it is to find substitutes.
29 28. Which of the following effects a product’s price elasticity of demand? a. ease or difficulty of substitutionb. the time factorc. how much of a necessity the product is to consumersd. all of the aboveD. The easier the substitution, the more elastic the demand curve. The more time consumers have to respond to a price change, the more elastic the demand curve. The less the product in question is a necessity, the more elastic is the demand curve it faces in the market.
30 29. Which of the following is likely to have the most elastic demand? a. beef steakb. beef (including steak, ribs, burgers, etc.)c. meat (including beef, pork, chicken, etc.)d. protein foods (including meat, cheese, eggs, etc.)A. The more broad the market the less elastic is the demand curve. Beef steak is a market that is much less broad than beef, meat, and protein foods.
31 30. Advertising is related to price elasticity of demand a. in no way whatsoeverb. in that producers try to convince consumers that their particular product is a close substitute for virtually all other products in the industryc. in that producers try to convince consumers that their particular product is unique, with no close substitutesC. Price elasticity of demand is a measure of consumer’s responsiveness to a change in a product’s price in the market. Advertising can influence consumer’s responsiveness.
32 31. Other things being equal, the price elasticity of demand for a product will be more elastic a. if spending on the item is a very large proportion of the household’s budgetb. if spending on the item is a very small proportion of the household’s budgetc. when the price of the product is very lowd. for a product with no close substitutesA. The larger the price of a product is to a consumer’s budget the more elastic is the demand curve. For example, a ten percent change in the price of a new car will have more of an impact on decision making than a ten percent change in the price of a box of salt.
33 32. Price elasticity of demand and price elasticity of supply are both influenced by a. the availability of close substitutes for the productb. the proportion of the consumer’s budget spent on the productc. the length of the adjustment period consideredC. In the early 1970’s OPEC greatly increased the price of their oil. Because oil is a necessity with few substitutes, we had no choice but to pay the higher price. However, in time the western world developed substitutes, found alternative sources of oil, and took action that led to a decline in demand for imported oil.
34 33. Price elasticity of supply is calculated as a. the unit change in quantity supplied caused by a $1 change in priceb. the percent change in quantity supplied caused by a 1% change in pricec. the dollar change in price caused by a one-unit change in quantity suppliedd. the percent change in price caused by a 1% change in quantity suppliedD. When considering supply curves, suppliers are interested in the relationship between a change in price and a change in the quantity supplied.
35 34. When price increases from $45 to $55, the quantity supplied increases from 20 units to 30 units. The price elasticity of supply isa. 1/2 = 0.5b. 1.0c. 2.0C. *We always use the arc elasticity of demand and supply formula, that is, we use average values. Also, the sign is always positive because there is a direct relationship between the change in price and the change in quantity supplied.The percent change in the quantity supplied is 10/25 and the percent change in price is 10/50. So the price elasticity of supply is 10/25 divided by 10/50 or 10/25 x 50/10 = 500/250 = 2.
36 35. A perfectly elastic supply curve a. has no relevance, since real-world supply curves are never perfectly elasticb. is a horizontal straight linec. is a vertical straight lined. is not a straight lineB. A perfectly elastic supply curve is perfectly horizontal for the same reason that a perfectly demand curve is perfectly horizontal. In this case, a change in price will have an infinite effect on the change in the quantity supplied.
37 36. Which of the following products would be most likely to have a perfectly inelastic supply curve? a. wheatb. cigarettesc. economic textbooksd. humidors used by President John F. KennedyD. As price changes the suppliers of wheat, cigarettes, and economic textbooks can change the quantity supplied of these goods. But with the humidors used by Kennedy, the supply cannot be changed from what it is because the quantity is fixed.
38 37. The most important determinant of price elasticity of supply is a. price elasticity of demandb. how rapidly costs increase when a firm increases its outputc. whether the production process relies heavily on capital or on laborB. If the cost of supplying each additional unit rises sharply as output expands, then a higher price will elicit little increase in quantity supplied, so supply will tend to be inelastic. But if the additional cost rises slowly as output expands, the lure of a higher price will prompt a large increase in output and the supply curve is very price elastic.
39 38. Tax incidence refers to a. who bears the burden of the taxb. the principle of taxation being appliedc. the percent of a dollar of earned income which a typical household in that country pays in taxesd. the percent of government spending which is financed by taxes rather than by borrowing or by printing moneyA. If the government raises the sales tax across the board, who is affected the most? In this case, low income people will be effected more than high income people.
40 39. The burden of a sales tax a. falls on consumers, who must pay the entire taxb. falls on producers, who must pay the entire taxc. is paid partly by consumers and partly by producers, depending on price elasticity of demand and price elasticity of supplyC. If a business can raise its price and its revenue increases, it can readily pass the tax increase on to the consumer. However, if a business raises its price and its revenue declines, it will end up paying most of the increase in sales tax.
41 40. Consumers pay a larger proportion of a sales tax if a. demand and supply are both more elasticb. demand and supply are both less elasticc. demand is more elastic and supply is less elasticd. demand is less elastic and supply is more elasticD. The less elastic is the demand curve, the less effect there will be on the quantity demanded as the price increases. The more elastic is the supply curve for the good, the less the increase in costs effects the quantity supplied.
42 41. Governments tend to tax products a. with inelastic demand, because it leads to higher revenueb. with elastic demand, because it leads to higher revenuec. with elastic demand, because it leads to higher business profitd. which they think are beneficial to society, because taxes lead to greater productionA. This is because the higher price that results from the higher tax will not effect greatly the quantity demanded of the product.
43 42. Economists distinguish between normal and inferior goods using a. price elasticity of demandb. price elasticity of supplyc. income elasticity of demandd. tax incidenceC. A normal good is one that consumers will purchase more of as their incomes increase. An inferior good is one that consumers will buy less of as their incomes increase.
44 43. An inferior good is defined as one for which demand increases as a. price decreasesb. price increasesc. income increasesd. income decreasesD. New cars are an example of a normal good and used cars is an example of an inferior good. As consumer’s income decreases they will tend to purchase more used cars and fewer new cars.
45 44. Luxury goods are usually a. price inelasticb. income inelasticc. income elasticd. goods with negative income elasticityC. A luxury good is one that consumers can live without. So as the price of luxury goods increase, there is a large effect on the quantity demanded as consumers choose to buy less of the good.
46 45. Income elasticity of demand is important to producers because it indicates a. the probable decrease in sales when price is raisedb. the probable increase in quantity supplied when price is raisedc. how a firm’s sales react to movements of the economy through the business cycled. how a firm’s total revenue changes in response to a price increaseC. This question deals with income elasticity of demand and not price elasticity of demand. Movements in the economy effect consumer’s incomes.
47 46. Which of the following is not a cause of special problems in U. S 46. Which of the following is not a cause of special problems in U.S. agricultural markets?a. many factors which determine farm production are beyond the farmer’s controlb. the demand for farm products tends to be price inelasticc. the demand for farm products tends to be income elasticC. How much consumers spend on food is not effected much by a change in their income. At least in America, if people’s income increases, they will tend to buy more new cars, but will spend about the same on food.
48 47. A characteristic of many unregulated agricultural markets is that a. total farm revenue increases when there are bumper (large) crops and decreases when there are meager (small) cropsb. total farm revenue decreases when there are bumper crops and it increases when there are meager cropsc. total farm revenue increases when demand decreases and decreases when demand increasesB. The bumper crops lead to such low prices that the farmer makes very little money. The shortage leads to higher prices enabling the farmer to make more money.
49 48. Cross-price elasticity of demand is used to determine whether a. a product is an inferior or normal goodb. a product is a necessity or a luxuryc. two products are substitutes or complementsd. price and total revenue are directly or inversely relatedC. When two products are related, a change in the price of one will effect the demand for the other. For example, steak and steak sauce are related. As the price of steak changes, the demand for steak sauce will change.
50 49. Substitutes are defined as products with a. positive cross-price elasticity of demandb. negative cross-price elasticity of demandc. positive income elasticity of demandd. negative income elasticity of demandA. Sherbet is a substitute for ice cream. As the price of ice cream increases, consumers will tend to buy more sherbet. The cross-price elasticity of demand is positive, in this case, because as the price of ice cream increases there is a corresponding increase in the demand for sherbet.
51 50. Negative cross-price elasticity of demand indicates that a. the product is an inferior goodb. the product is a necessityc. the product is a luxuryd. the two products are complementsD. Steak and steak sauce are complementary goods because they tend to be used together. As the price of steak increases (people will therefore buy less steak) the demand for steak sauce will decrease. The cross-price elasticity is negative because the increase in price leads to a decrease in the quantity demanded.
53 51. The price elasticity of demand in Exhibit 18-1 is a. unit elasticb. somewhat elasticc. perfectly elasticd. perfectly inelasticD. It is perfectly inelastic because a change in price will have no effect on the quantity demanded.
54 52. What is the price elasticity of demand in Exhibit 18-1 ? c. negative infinityd. 1A. The price elasticity of demand is the percent change in quantity divided by the percent change in price. In this case there is 0 change in the quantity demanded as the price changes.
55 Last slide viewedPrice$40Demand$2068QuantityExhibit 18.2
56 53. What is the price elasticity of demand between $20 and $40 in Exhibit 18-2? B. The percent change in quantity is 2/7 and the percent change in price is 20/30 so the price elasticity of demand is 2/7 x 30/20 = 60/140 = 6/14 = 3/7. *Remember, your author uses the negative sign when referring to elasticity of demand.
57 54. What is the price elasticity of demand in the segment of the demand curve below $40 and above $20 in Exhibit 18-2?a. elasticb. inelasticc. unit elasticd. 0B. It is inelastic because 3/7 is less than one. An elasticity greater than one is elastic, a value of one is unitary elastic, and a value of less than one is inelastic.
58 55. If a firm’s demand curve is illustrated in Exhibit 18-2 and it is currently charging $20, its total revenue willa. remain unchanged, if it changes its price slightlyb. increase, if it lowers its price substantiallyc. increase, if it lowers its price slightlyd. increase, if it raises its price slightlyD. This is because the demand curve is price inelastic, which means that the firm can raise price and its total revenue will increase.
59 Last slide viewedPriceS1$40S$20$10Quantity100200Exhibit 18.3
60 56. What is the price elasticity of supply between $10 and $20 on supply curve S in Exhibit 18-3? b. infinityc. 1d. 2C. Price elasticity of supply is the percent change quantity divided by the percent change in price. The percent change in quantity is 100/150 and the percent change in price is 10/15. So price elasticity of supply is 100/150 x 15/10 = 1500/1500 = 1
61 57. What is the price elasticity of supply between $20 and $40 on supply curve S1 in Exhibit 18-3? b. infinityc. 1d. 2C. The percent change in quantity is 100/150 and the percent change in price is 20/30. So the price elasticity of supply is 100/150 x 30/20 = 3000/3000 = 1
62 58. Which supply curve tends to be more elastic in Exhibit 18-3? a. both S and S1 have the same elasticityb. S is more elastic at lower prices, and S’ is more elastic at higher pricesc. Sd. S1A. Both have a price elasticity of one.
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