1Economics 102

Second Examination 2nd Sem 2009-10

ANSWERS
I.

IDENTIFICATION: Identify the following concepts. (40 pts.)

1.
2.
3.
4.
5.
6.
7.
8.
9.
10.
11.
12.
13.
14.
15.
16.
17.
18.
19.
20.

II.

(degree of) returns to scale- the rate at which output increases in response to proportional increases in all
inputs.
expansion path- line that joins points of tangency between isocosts and isoquants
production function- mathematical relationship between inputs and output, in physical terms.
output elasticity of labor- additional output that can be produced by adding one more unit of a particular
input while holding all other inputs constant.
marginal product- additional output that can be produced by adding one more unit of a particular input
while holding all other inputs constant.
marginal rate of technical substitution (MRTS)- the rate at which an input can be reduced as one more
unit of another input is added, holding output constant.
if PK = 1000 and PL= 200, slope of isocost line dK/dL --- PL/PK=200/1000=0.2
technical progress- a shift in the production function that allows a given output level to be produced using
fewer inputs.
isoquant - curve that shows the various combinations of inputs that produce the same level of output.
opportunity cost- the cost of a good or service as measured by the alternative uses that are foregone by
producing the good or service.
long run - the period of time in which allows a firm to vary all its inputs.
shut-down production - firms action whenever price falls below average variable cost.
marginal revenue = marginal cost (MR=MC) - condition for maximum profit for any firm, in marginal
terms.
price taker or perfect competitor - a firm or individual whose decisions regarding buying or selling have
no effect on the prevailing market price of a good or service.
diseconomies of scale - the phenomenon of increasing long-run average cost as scale of operation is
increased.
inelastic - a rise in the price will cause total revenues to rise when demand is
(short run) supply curve - marginal cost curve above the minimum average variable cost
average product - slope of line from origin to a point on total product curve.
stage II- stage of production where AP is decreasing but MP >0.
average product- total output divided by the number of units of an input.

SHORT ANSWERS/ DISCUSSION: ( 20 points)

1. TC = TVC + TFC = 2q 3 20q 2 + 150q + 200

a)
b)
c)
d)

200
dTC
= 6q 2 40q + 150
dq
TVC
AVC =
= 2q 2 20q + 150
q
Minimize AVC
MC =

dAVC
= 4q 20 = 0
dq

q = 5 Note :

d 2 AVC
= 4 > 0 min
dq 2

at q = 5, MC = 6(5) 2 40(5) + 150 = 150 200 + 150 = 100

AVC = 2(5) 2 20(5) + 150 = 50 100 + 150 = 100
Therefore at min AVC, MC=AVC

2. Cobb-Douglas production function Q = 500 K 0.4 L0.7 ,

a)

b)

III.

If all inputs are increased by a factor m: 500 ( mK ) ( mL ) = m1.1 500 K 0.4 L0.7 = m1.1Q.
Since output increases by a factor m1.1, degree of homogeneity =1.1 which is greater than 1
so we have IRS (increasing returns to scale).
500 K 0.4 L0.7
Q K
K
q.K =
= .4(500 K 0.6 L0.7 ) = 0.4
= 0.4
0.4 0.7
K Q
Q
500 K L
The value 0.4 means that if K is increased by 1%, holding other factors constant, ouput will
increase by 0.4%. It is positive but inelastic..
0.4

0.7

PROBLEMS: (40 pts)

1. Q = 1000 K 0.5 L0.5 : min cost s.t. Q=4000
Z = 200 K + 50 L + (4000 100 K 0.5 L0.5 )
Z
= 200 50 K 0.5 L0.5 = 0
200 50 K 0.5 L0.5 L
K
=
=

L = 4K
Z
50 50 K 0.5 L 0.5 K
0.5 0.5
= 50 50 K L = 0
L
Z
0.5
= 4000 100 K 0.5 L0.5 = 0
100 K 0.5 ( 4 K ) = 4000

( 4)

0.5

100 K 0.5 K 0.5 = 4000

K = 20,

200 K = 4000

L = 80

2. TC = 100 + 4Q + .5Q 2 .
TR = P Q = 50Q

= TR TC = 50Q (100 + 4Q + .5Q 2 )

d
= MR MC = 50 (4 + Q) = 0
Q = 50 4
dQ
d 2
Note :
= 1 < 0 max
dQ 2

Q = 46

3. A firm faces the following demand curve: q = 200 P where q is the quantity of product sold per
month.
a)

Total revenue
Q = 200 P Since MR is dTR / dQ, solve for p in term of q
P = 200 Q
TR = P Q = (200 Q )Q = 200Q Q 2

b)

c)

Marginal revenue curve.

dTR
MR =
= 200 2Q
dQ
For maximum profit, MR=MC
TC = 500 + 100Q
MR = MC :

MC =

( 200 2Q ) = 100

2Q = 200 100 = 100

d)

dTC
= 100
dQ

Q = 50

Profit = TR-TC
at Q = 50, P = 200 Q = 150
TR = P Q = 150(50) = 7500
TC = 500 + 100(50) = 5500

= TR TC = 7500 5500

= 2000