Economics 103 Fall 2007 Section F01 Multiple Choice 1. When the price of rice rises, quantity demanded of beans falls. The cross-price elasticity of demand for rice and beans must be a. equal to zero. b. larger than zero. c. less than zero. d. cannot be estimated. 1. As the price of rice rises, quantity demanded of rice will fall. If the quantity demanded of beans also falls as the price of rice rises, then rice and beans must be eaten together and therefore they are complement goods. The cross-price elasticity of demand is negative. Answer: C. 2. If the demand curve for a good is perfectly price inelastic and the government imposes a tax in the market, a. there will be no deadweight loss. b. the government’s tax revenue will equal the loss in producer surplus. c. the government’s tax revenue will be more than the loss in producer surplus. d. the government’s tax revenue will be less than the loss in producer surplus. 2. The figure below shows that as the government imposes a tax in a market where the demand curve is perfectly price inelastic, there will be no deadweight loss. Triangle B is the producer surplus both before and after the tax and rectangle C is the government’s revenue from the tax. Answer: A. 3. As soon as the price of a good goes up, suppliers would like to produce more but may not be able to because they cannot immediately hire more skilled laborers and/or purchase new machinery. However, over time firms can hire more workers and purchase more machinery. Consequently, the price elasticity of supply a. decreases over time. b. increases over time. c. remains constant over time. d. may increase or decrease over time. 3. As the firm has more time to change the number of workers and purchase or sell machinery, the more it will be able to change quantity supplied due to a given percent change in price. Answer: B. 4. Assume that the market demand curve is perfectly price inelastic and the supply curve is up-sloping. When an excise tax is imposed, the deadweight loss will be a. the maximum positive value. b. zero. c. more than zero. d. less than zero. 4. With the vertical demand curve, the price increases by the amount of the excise tax. The total loss of surplus is equal to the total tax revenues. Therefore, there is zero deadweight loss. Answer: B. 5. Along the demand curve in the accompanying figure, the price elasticity of demand a. is constant and equal to its slope. b. is larger at P2 than at P1. c. is smaller at P2 than at P1. d. is unit-elastic. 5. The demand curve shown is a linear demand curve. Linear demand curves have constant slopes but price elasticity varies along the curve. In particular, the price elasticity of demand is larger at higher prices than at lower prices. Since P2 is a lower price than P1, the price elasticity of demand must be smaller at P2 than at P1. Answer: C. 6. If the demand curve is perfectly price elastic, a. consumer surplus will equal zero. b. consumer surplus will equal producer surplus. c. consumer surplus will equal total surplus. d. consumer surplus will be greater than producer surplus. 6. If the demand curve is perfectly price elastic, consumers are only willing to buy units of the good at one particular price. That price must be the market price. Since there is no difference between the price consumers are willing to pay and the market price, there is no area below the demand curve and above the market price and consumer surplus is zero. The figure below shows the answer graphically. Answer: A. 7. The accompanying figure shows the weekly demand and supply curves for ice cream that we discussed in earlier questions. If the government imposes a tax of $0.75 per cone collected from the producers, what will be the consumers’ burden from the tax? a. The consumers will pay $2.75 for 500 cones after the tax for a burden to them of $0.75 per cone. b. The consumers will pay $2.50 for 600 cones after the tax for a burden to them of $0.50 per cone. c. The consumers will pay $2.25 for 700 cones after the tax for a burden to them of $0.25 per cone. d. The consumers will continue to pay $2.00 for 800 cones after the tax and avoid any burden from the tax. 7. When the government imposes a tax of $0.75, the supply curve shifts up by that amount. The new equilibrium price will be $2.50 per cone and the new equilibrium quantity will be 600 cones. See the following figures. The government’s revenue from the tax will be $450 (= $0.75 ⋅ 600). The consumers paid $2.00 per cone prior to the tax, so the consumers are paying $0.50 of the tax on the 600 cones or $300. Answer: B. 8. In the problem before, what is the producers’ burden from the tax? a. The producers will receive a price of $1.75 for 600 cones after the tax for a burden to them of $0.25 per cone. b. The producers will receive a price of $1.50 for 700 cones after the tax for a burden to them of $0.50 per cone. c. The producers will receive a price of $1.25 for 800 cones after the tax for a burden to them of $0.75 per cone. d. There is no burden to the producers—the consumers will pay all of the tax. 8. The producers’ net price is $1.75—compared with the initial price of $2.00. The producers are paying $0.25 of the tax on the 600 cones or $150. Answer: A. 9. If the government imposes a price ceiling in a market, the resulting shortage will be smaller when demand is _________ and supply is ___________ . a. elastic; inelastic b. inelastic; inelastic c. elastic; elastic d. perfectly inelastic; elastic 9. The shortage resulting from a price ceiling will be smaller, the smaller the price elasticities of supply and demand. Answer: B. 10. A higher minimum wage will increase total income of the unskilled labour if the demand for unskilled labour is a. elastic. b. inelastic. c. unit-elastic. d. perfectly elastic. 10. Since both wage rate as well as labour income increased, it is a case of inelastic demand. Answer: B. Problem The province needs to raise money, and the premier has a choice of imposing an excise tax of the same amount on one of two previously untaxed goods: the province can either tax sales of restaurant meals or sales of gasoline. Both the demand for and the supply of restaurant meals are more elastic than the demand for and the supply of gasoline. If the premier wants to minimize the deadweight loss caused by the tax, which good should be taxed? For each good, draw a diagram that illustrates the deadweight loss from taxation. 1. The tax should be imposed on sales of gasoline. Since both demand for and supply of gasoline are less elastic, changes in the price of gasoline will result in smaller reductions in the quantity demanded and the quantity supplied. As a result, fewer transactions are discouraged by the tax—in other words, less total surplus (consumer and producer surplus) is lost. Panel (a) of the accompanying diagram illustrates a tax imposed on sales of gasoline, for which both demand and supply are less elastic; panel (b) illustrates a tax imposed on sales of restaurant meals, for which both demand and supply are more elastic. As you can see, deadweight loss—the shaded triangle —is larger in panel (b) than in panel (a). .