Part 1: Micro and Macro Economics. 1

1. Question 1. 1

Part A.. 1

Part B.. 1

Part C.. 1

Part D.. 1

Part E. 1

2. Question 2. 1

Part A.. 1

Part B.. 2

Part C.. 2

3. Question 3. 2

Part A.. 2

Part B.. 3

4. Question 4. 3

5. Question 5. 6

6. Question 6. 7

7. Question 7. 7

8. Question 8. 8

9. Question 9. 9

10 Question 10. 10

11. Question 11. 12

12. Question 12. 13

Part B.. 14

1. Question 1. 14

2. Question 2. 15

3. Question 3. 15

4. Question 4. 16

5. Question 5. 17

6. Question 6. 17

References. 18


Part 1: Micro and Macro Economics

1. Question 1

Part A


Total Cost = Total fixed Cost (TFC) + Total Variable Cost (TVC)

Total Revenue (TR) = Price (P) x Quantity (output)

Average Cost (AC) = Total Cost (TC)/ output

Marginal Cost (MC)

Marginal Revenue (MR)


Part B

The Point where MR=MC is the profit maximising level of output, in this the profit maximising level of output is 4 units.

Part C

The firm is making a loss at the level of profit maximising level of output since the Total Revenue TR <Total Cost TC or 140< 155, the firm makes a loss of $15 at the profit maximising level of output.

Part D

The firm will not continue production in the short run, since at the profit maximization level the firm is borne with a loss. Moreover the firm is faced with steep rising marginal costs, Therefore it is not feasible for the firm to produce in the short run.

Part E

The long run Price of the good is 35; this price would be arrived after the long run adjustment process, and would eventually be equal to where the LRAC is intersected by the LRMC.


2. Question 2

Part A


E = 1

%Change in Price = Change in Price / Price = 2/4= 2

% Change in Quantity = Change in Quantity / Quantity

Applying in the Elasticity Equation we have:

1 = 2/ % change in Quantity

% Change in Quantity is 2 %. This implies 2% of 40 million which is equal to 8million.

Quantity Demanded at Price 4 , is 32 million .

Price ($) Quantity(per week in millions)
2 40
4 32

Slope =  (4-2)/32-40= – 2/8= – 0.25

Demand Equation is Q = P +12 or P = 12-Q

Part B

When the price of the good is raised to $4, the quantity demanded would decrease as the because of the operation of the law of demand. The demand rule or the law of demand states that the other things remaining the same or citrus paribus, the quantity demanded increases with a corresponding fall in price. The law of demand describes the relationship between the price and the quantity demanded of a product or a particular service. The law of demand makes the following assumptions, that size of the population remains the same, income levels remain the same and the taste and preferences of the consumer remains the same. There exists a negative relationship between price and quantity demanded at the lower levels of prices the quantity demanded increase. This is represented in the form of a downward sloping demand curve (Chauhan, 2010

Part C

For Equilibrium we have :

Demand = Supply

12 – Q = 2+ Q

10 = 2 Q

Q = 5

Price = 12- 5 = 7

Part D


Calculating the Price when the Quantity is 0 we have

For the Demand 12- 0 = P

Price is therefore 12

For the Supply: P = 2 +Q therefore P = 2

Consumer Surplus = ½ Base x Height = 10/5 = 1

Producer Surplus = ½ Base x Height = 10 /5 = 1

Part E

New Supply Curve: P=4+Q. Demand is P = 12-Q

The New Equilibrium Price and Quantity = 4 + Q = 12- Q

Q = 4

P = 8

To calculate the consumer and producer surplus is when the Quantity demanded and Supplied is 0

Demand Price = P = 12

Supply Price P = 4

Consumer Surplus = 4 x 4 /2 = 8

Producer Surplus = 4 x 4/2 = 8

The market is better when the supply curve changes.









3. Question 3

Part A

Demand Function P=4-Q and Supply Function P=1+2Q

Q = 4- P

Q = P-1/2

For Equilibrium QD=QS

4-P = P -1/2

2(4-P) = P-1

8 – 2P = P-1

P = 3

Therefore plugging in the Price is the Equation We have P=4-Q, thus the Equilibrium Quantity is 1.

Part B

Supply equation for the product P=2+2Q.

Demand Equation with tax Q = 4-( P +1)

Q = 3 – P or P = 3 – Q

P = 4

Thus with the tax the Price paid by the consumer is 4

Part C

The Producer is effectively able to shift the tax burden on the consumers as the consumers pay a higher price for the good at 4 which is higher than the Equilibrium Price. Thus there is distortion at the for the same quantity the consumer is forced to pay a higher price.

Part D

Surpluses before Tax P=1+2Q and Q = 4- P

The Price of the goods when the Quantity Demanded and Supplied is o

Price Demand =1

Price of supply = 4

Consumer Surplus = 3 x 3 / 2 = 4.5

Producer Surplus = 4.5

Surpluses After Tax  P=1+2Q Demand Equation P = 3- Q

Supply Demand P = 1

Price Demand P = 3

Consumer Surplus 1 x 3/ 2 = 1.5

Part E

The introduction of the taxes has led to distortion in the economy , it has created economic inefficiency , As the burden of the taxation is passed on to the consumer the consumer surplus is greatly reduced as a result of tax intervention. Thus , the burden of taxation is passed on to consumer which leads reduction in the consumer surplus , and eventually a reduction in demand as the consumer pays a higher price for the same quantity.




4. Question 4

A) A monopoly is a market condition where there is existence of a single firm dominating the market, with no close competitor of the product produced by the firm. Thus in the case of a monopoly market the firm has the right to determine the price and output being the sole player in the market. The monopoly is said to produce the output that maximises the level of economic profit of the firm i.e. the maximization of the difference between total revenue and total costs. The price is set to the level corresponding where the difference between the total cost and total revenue is the maximum. Graphically the theory can be explained as:


Figure 1 : Monopoly Equilibrium (Chauhan , 2010)

The above figure represents the determination of monopoly price, The x axis represents the quantity produced and the Y axis represents the Price of the product the monopolist sets the monopoly price where there is maximization of monopoly revenues or in other words where MR= MC, The intersection of the MR and MC curves determines the profit maximization output for the monopolist at the corresponding price of Po. The monopolist does not charge the price at the intersection of the MR and MC but the price corresponding to the demand curve producing the profit maximization quantity.

On the other hand in the case of a perfectly competitive market, an individual firm is unable to determine price or output because of existence of a large number of firms in the market. The bargaining power of an individual firm is almost non-existent. Thus, the price and the quantity are market determined. One of the basic differences between monopoly and perfect competition is the Demand curve , a firm operating in a perfectly competitive market has a perfectly elastic demand curve indicating that price has no effect on the quantity on the other hand a monopolist has a downward sloping demand curve. Let us see the profits maximization price for a firm in perfect competition graphically


Figure 2: Perfect Competitive Price Determination

The profit maximization output in a perfectly competitive firm the determined at the intersection of the MR and MC producing Quantity Q at the price corresponding Po. A Perfectly competitive firm charges the price corresponding to the profit maximising output. There is no distortion is perfectly competitive market whereas in a monopoly the distortion triangle is clearly shown.

(Mankiw et al, 2009)

B) The government regulates the price in a monopoly market to ensure some fairness in the market to avoid a situation where the consumer is charged an extremely high price for a particular product. If the government introduces regulation in the monopoly market, then the government would force the monopolist to charge a price below the profit maximization level corresponding to the monopolist demand. This practice would result in some reduction of profits to the monopolist, but the benefits would be passed on to the consumers in the form of lower prices thus, introducing somewhat efficiency in the market. Let us understand the situation graphically.


Figure 3 : The Price Determination with Price Regulation (Mankiw , 2009)

The government regulation will not lead to creation of a Pareto efficient situation rather would increase the dead weight losses in the already imperfect market situation.

A monopoly charges a price that is above the marginal costs hence all consumers are not willing to pay such a high price. The quantity sold and produced by the economy is at below the socially efficient levels. The dead weight loss in the figure can be defined as the area of the triangle between the demand curves and the marginal costs.  This dead weight loss is minimised to some extent in the case when government regulation is introduced. The government regulation tries to regulate the monopoly market in such a way that some sort of fair pricing is introduced in the system. However the introduction of the government regulation is likely to introduce some efficiency in the market, thereby minimising the dead weight loss in the market.  Minimization of the dead weight loss implies the creation of an efficient market situation where output levels are maximised at socially efficient prices determined by the government. The aim of the government is to control the prices and introduce some efficiency  in the market(Chauhan and Manikiw 2009).The 2 government controlled monopolies are the OPEC Prices who control the fuel prices , with the help of regulation and Postal services owned and managed by the government(Chauhan and Manikiw 2009).

 5. Question 5

The comparative advantage theory is based on specialization and the sacrifice of the opportunity cost to the producers and specialization. The comparative advantage theory in the trade implies when one country can sacrifice the production of a particular good for the good which has smaller opportunity costs of production, this can be explained as follows For Let us consider 2 countries Japan and US example Japan has a comparative advantage in the car production therefore Japan should produce cars for its own use as well as , export some of them to US , On the other hand US has a comparative advantage in the production of wheat , therefore US should produce as well as export some to Japan to gain from the trade , as it has a lower opportunity cost. Japan should not produce wheat but rather import has it would be more cost effective to import and the opportunity cost would be less, and Japan can concentrate on the specialisation of production in car. Comparative implies relative , according to the theory  if one country is more than productive in producing a commodity then the other country should not absolutely produce the good , but rather engage in trade to gain maximum productivity both from the export and import of the good. This leads to understanding the concept of specialization. The term specialization implies a country should produce a good in which it has absolute productivity and comparative advantage. Specialization leads to concentration on the production of a particular product that can enable a country to gain the maximum from trade. This is the classical Ricardian Theory , which refers a country will produce and export those goods in which it has lower opportunity costs and will import those goods in which it has higher opportunity costs and low productivity.

(Mankiw 2009).



6. Question 6

  Pages Cakes
Bob 6 2
Mary 12 4


a) In this case Mary has a comparative advantage both the production of typing Pages as well as baking Cakes, The comparative advantage theory in the trade implies when one country can sacrifice the production of a particular good for the good which has smaller opportunity costs of production. Therefore efficiency of production is available with Mary and she should produce both goods.

B) Calculation of Comparative Advantage

  Pages Cakes
Bob 1 0.33
Mary 1 0.33

In this the When Bob types 1 paper in the same time he is able to bake 0.33 of a cake , On the other hand the same has applied for Mary where to print 1 page 0.33 of the cake has been sacrificed.

C) In this there is no specialization possible since the opportunity cost of Martha and Sheldon have been the same, therefore comparing opportunity costs specialization is not possible.

D) Since Mary has absolute Comparative advantage in the production of both the goods Mary should produce both goods , However trade is not possible between the 2 as Bob does not have comparative advantage in any of the goods and therefore will not be able to specialize in the production of any good.

(Mankiw, 2009)

7. Question 7

The elasticity of the demand and the supply curves plays a crucial role in the determination of the tax incidence on the consumers this can be illustrated as follows :



Figure 4 : Tax incidence on Consumers With Different Elasticity’s of Demand (Source : Mankiw 2009)

When a relatively inelastic demand curve is faced by the consumers, then then the tax incidence is greater on the consumers as can be seen in the shaded area in comparison when a relatively elastic demand is faced , then the tax incidence is  equally divided between the consumers and the producers or is shared and is more evenly distributed between the two (Mankiw 2009)

8. Question 8

The purchase of open market securities by the central bank implies that the bank has expanded its monitory operations and therefore created further liquidity in the market, thus the monitory policy operations increase implies an expansionary monitory policy being undertaken by the central bank. The effects of a monitory policy expansion implies shifting of the LM curve to the right . An expansionary monitory undertaken by the government to increase money supply in the economy to stimulate the growth of the economy causes an Fig


Figure : Effects of An Expansionary Monitory Policy

Increase in the aggregate supply of money which causes the rightward shift of the LM curve. The monitory stimulus causes the LM curve to shift to the right from LM1 to LM2; this is accompanied with the expansion of output from Y1 to Y2 at a lower rate of interest R2 which is less than the earlier equilibrium rate of R1.

9. Question 9

The deflation can be defined as the constant drop in the price levels of the country; Economists have broadly classified deflation in 2 categories good deflation and bad deflation. Good deflation occurs because of the supply side factors which may be attributed by increased productivity or improvement in supply side factors. A good deflation indicates a shift of the aggregate supply curve to the right indicating a fall in the price levels. A bad deflation on the other hand is caused by the changes in the demand side factors, it’s result of the decrease in demand of  various components of the aggregate demand curves thus resulting in the fall in price levels.  Both deflations cause a decrease in the price levels of the economy.


Figure : The Effect on Deflation on the price levels

( and Mankiw , 2009 0 accessed on 16/5/2012)

10 Question 10

a) An increase in the crude oil prices , would affect the demand in the economy , making the general goods and services more expensive and thereby causing inflation , this will result in the leftward shift of the aggregate demand curve , contracting the economy as well as increasing price levels and inflation in the economy. In the figure below it is represented as shift of the AD curve from AD1 to AD2 , the leftward shift of the AD is an indicator of the contraction of the demand in the economy , the contacting demand leads to the lower level of output equilibrium , the shift of the point from E1 to E2 disturbing the full employment and an resulting in an underperforming economy.


B) A general increase in the price level of the economy.

The increase of the general price level in the economy is the indicator of the occurrence of inflation in the economy. As the Aggregate Demand Curve (AD) shoes the relationship between price and output, a general increase in the price levels implies a decrease in the output levels of the economy, and creates an inflationary pressure on the economy.  The increase in the price levels leads to contracting the Aggregate Demand Curve in the economy.


Figure: The Effect of an increase in the Price Level in the economy




c) The increase in the property market represents a boom in the economy implying that the consumption in the economy is increasing and there is an increasing demand for properties which results in rise in the aggregate demand shifting it to the right as represented in the figure.



11. Question 11



The devastation caused by the floods has jeopardised the economy and the economy is not operating at full employment levels. Massive crops have been destroyed which would have an impact on the dairy farmers, their incomes and eventually consumption. This would result in the decrease of the Aggregate demand in the economy; therefore the government through its fiscal and monitory policies measures has to undertake mechanisms to boost the demand in the economy so that the economy can reach at full employment levels of outputs

A general increase in the price level also leads in the contraction of demand, causing the leftward shift of the aggregate demand curve in the economy.

12. Question 12

The GDP has become the standard measure to measure economic growth and output over the years, though the GDP is an indicator of the growth of the economy it may not be an indicator of the economic wellbeing of the people. The main problem with the GDP is that it is unable to separate costs and benefits that accrue to a country therefore is not a wholesome indicator of economic health. The GDP also does not indicate how the income and wealth is distributed in the economy, a higher GDP does not imply that there is equality in the economy, there may be a situation where only a small section of the population benefits from the economic growth , the others may not benefit as there is no equality in distribution of incomes. The GDP also does not include social indicators like Health and education which are indicators of wellbeing. Thus the GDP may be a numerical indicator but socio economic indicators should be included to measure the wellbeing and the actual growth and development of the economy.

Part B

1. Question 1




Standard deviation controls the measure of variance in the sample it is the estimate of the particular deviation in the sample.

2. Question 2

Number of hours per week Final Marks
2 3
6 9
5 8
4 6
5 7
6 8
2 4
5 17
5 8
10 10

Co variance     4

Correlation     0.513327002

The data represents when the relatively low degree of positive co – relation between the 2. This implies that the number of hours put in for study each week has positive impact on the obtainment of final marks.


3. Question 3

Outcome X

HHH           3
HHT          2
HTH        2
HTT       1
THH      2
THT       1
TTH      1
TTT      0


Value of X

Outcome Event
X=0 (TTT)
X > 2 (HHH)


Probability X=2 0.33

Probability X>2 0.125

4. Question 4

The 36 possible pairs of “up faces” are

(1, 1) (1, 2) (1, 3) (1, 4) (1, 5) (1, 6)

(2, 1) (2, 2) (2, 3) (2, 4) (2, 5) (2, 6)

(3, 1) (3, 2) (3, 3) (3, 4) (3, 5) (3, 6)

(4, 1) (4, 2) (4, 3) (4, 4) (4, 5) (4, 6)

(5, 1) (5, 2) (5, 3) (5, 4) (5, 5) (5, 6)

(6, 1) (6, 2) (6, 3) (6, 4) (6, 5) (6, 6)

P = 1/36

X = 3,  (1, 2) (2, 1) p = 2/36 = 0.05

X≥ 3 (1, 3) (1, 4) (1, 5) (1, 6)

(2, 2) (2, 3) (2, 4) (2, 5) (2, 6)

(3, 1) (3, 2) (3, 3) (3, 4) (3, 5) (3, 6)

(4, 1) (4, 2) (4, 3) (4, 4) (4, 5) (4, 6)

(5, 1) (5, 2) (5, 3) (5, 4) (5, 5) (5, 6)

(6, 1) (6, 2) (6, 3) (6, 4) (6, 5) (6, 6)

P= 0.91

5. Question 5

A) Standard Error = 137.11, B = 17.11

Applying ,the regression formula we have obtained the value of A and B

B) The calculated value is in line with the expectations and error expected in the calculation has been taken into account.

C) Yi= Bo+B1Yi+Ei

Price is Rs 641.61

Price when distance is 60 Price is 25.36

6. Question 6

a) As the number of years after graduation increases there is a high degree of positive co-relation between the 2 variables implying that as the students study further there is a sharp increase in the salaries they tend to receive in the future.

b) The salary is 75.86

C) 1.775

d) Assumptions

  • The line is assumed to be liners
  • There is an assumption of normality in the equation
  • The covariance is assumed to be Constant
  • The variables are assumed to be independent of each other.
  • Chauhan, S. P. S.. Microeconomics: an advanced treatise. Eastern economy ed. New Delhi: PHI Learning, 2009. Print.



  • Mankiw, N. Gregory. Principles of economics. 5. ed. Mason, Ohio: South-Western ;, 2008. Print.


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