Chapter 3.

Why are insurance companies unwilling to provide insurance against losses arising from war or
`civil insurrection'?
Because the risks are not independent. If family A has its house bombed, it is more
likely that family B will too.
How would marginal utility and market demand be affected by a rise in the price of a
complementary good?
Marginal utility and market demand would fall (shift to the left). The rise in the price of
the complement would cause less of it to be consumed. This would therefore reduce the
marginal utility of the other good. For example, if the price of lettuce goes up and as a
result we consume less lettuce, the marginal utility of mayonnaise will fall.
Chapter 2

Assume that there are 200 consumers in the market. Of these, 100 have schedules like Rachaels
and 100 have schedules like Davids. What would be the total market demand schedule
for potatoes now?
Price

Total Market Demand

4
8
12
16
20

4400
2600
1400
800
600

This question is concerned with the supply of oil for the generation of electricity. In each case
consider whether there is a movement along the supply curve (and in which direction)
or a shift in it (and whether left or right).
(a) New oil fields start up in production. (b) The demand for electricity rises. (c) The
price of gas falls. (d) Oil companies anticipate an upsurge in demand for oil in
electricity generation. (e) The demand for petrol rises. (f) New technology decreases the
costs of oil refining.
(a) Shift right.
(b) Movement up along (as a result of a rise in price).
(c) Movement down along (as a result of a fall in price resulting from a fall in demand
as suppliers switch to coal fired stations).
(d) Shift left (if companies want to conserve their stocks in anticipation of a price rise).

(e) Shift right (more of a good in joint supply is produced).

(f) Shift right.
What will happen to the equilibrium price and quantity of butter in each of the following cases?
You should state whether demand or supply (or both) have shifted and in which
direction. (In each case assume ceteris paribus.)
(a) A rise in the price of margarine; (b) A rise in the demand for yoghurt; (c) A rise in
the price of bread; (d) A rise in the demand for bread; (e) An expected rise in the price
of butter in the near future; (f) A tax on butter production; (g) The invention of a new,
but expensive, process for removing all cholesterol from butter plus the passing of a law
which states that all butter producers must use this process.
(a) Price rises, quantity rises (demand shifts to the right: butter and margarine are
substitutes).
(b) Price falls, quantity rises (supply shifts to the right: butter and yoghurt are in joint
supply).
(c) Price falls, quantity falls (demand shifts to the left: bread and butter are
complementary goods).
(d) Price rises, quantity rises (demand shifts to the right: bread and butter are
complementary goods).
(e) Price rises, quantity rises or falls depending on relative sizes of the shifts in demand
and supply (demand shifts to the right as people buy now before the price rises;
supply shifts to the left as producers hold back stocks until the price does rise).
(f) Price rises, quantity falls (supply shifts to the left).
(g)
Price rises, quantity rises or falls depending on the relative size of the shifts in demand
and supply (demand shifts to the right as more health-conscious people start buying butter;
supply shifts to the left as a result of the increased cost of production).
Will a general item of expenditure like food or clothing have a price-elastic or inelastic demand?
(Consider both the determinants we have considered so far.)
The income effect will be relatively large (making demand relatively elastic). The
substitution effect will be relatively small (making demand relatively inelastic) The
actual elasticity will depend on the relative size of these two effects.