Question ONE

A local shop orders 400 cases of Coca Cola each week and sells them at a price of $5.00 per
case. At the end of the first week, they have only sold 160 cases. (6 points each)
1. What is the total revenue received from sales?

Ans: Revenue = price*quantity

=$5*160
=$800
Total revenue received from sales is $800.
2. What economic situation is the shop facing, surplus or shortage? Why?

Ans: The shop is clearly facing a surplus as they have only been able to sell off 160 cases
against an initial order/purchase of 400 cases. There are 240 cases (400-160=240) still remaining
to be sold which shows that the shop has a surplus of the Coca Cola cases.

3. What will have to happen to price in order for equilibrium to be attained?

Ans: Here there is a situation of shortage of demand and excess supply i.e. demand is less and
supply is more. Hence to attain equilibrium, price should fall as it will lead to an immediate rise
in demand (according to the law of demand) and simultaneously will also reduce supply
(according to the law of supply). The changes in the dynamics of both demand and supply will
take place until both the forces of demand and supply equate.
P S
Excess ss

D
Q

4. If the price of coca cola increases, which of the curves is going to shift, supply or
demand? Explain your answer.

Ans: If the price of coca cola increases, neither of the curves are going to shift. Shift in curves
result from factors influencing demand and supply other than its own price. Here it is only the
price factor is changing and therefore this will lead to a movement along the same curve and not
a shift of the curve.
 P S
a b
e*

D
q1 q* q2 Q

If the price of coca cola increases, the quantity demanded will fall from q* to q1(movement
along the curve from point e* to a) and supply will rise from q* to q2 (movement along the curve
from point e* to b).

5. Which of the following can lead to an increase in the supply for Coca Cola?
- An increase in consumers’ income, assuming Coca Cola is normal.
- An increase in the wages paid to workers who are working in Coca Cola factory.
- An increase in consumers’ income, assuming Coca Cola is normal.
- New machines have been introduced in producing Coca Cola.

Ans: Consumers income will influence the demand and not the supply. Also, if higher wages
are given to workers in the factory, then that will lead to an increase in the demand for labour
and if more and more labour is employed it might lead to a fall in the overall productivity of the
workers affecting supply adversely. Hence option a, b, c is wrong.

New machines have been introduced in producing Coca Cola is the correct answer. Because this
implies that there is a technological upgradation and this will call for more investment leading to
an increase in the supply for Coca Cola.

P S
S1

D
Q
Question TWO:
1. During the previous 5 years, tuition fees at AOU have increased by 15%. At the same
time, there is an increase in the number of students enrolled. Does this situation show that
the law of Demand is false? Explain your answer. (6 points)

Ans: No, the above situation does not falsify the law of demand.
The law of demand shows the relationship between price and quantity keeping all the
other factors influencing demand constant. Here, there may be a rise in the income of the
consumers, increase in the population and/or improvement in consumer credit facility
(education loans). All of these factors have led to a rise in demand as there is increase in
the number of students enrolled despite the price rise in tuition fees.

2. An increase in the price of a product will reduce the amount of it purchased because:
(select and explain your answer) (6 points)
A. Supply curves are up sloping.
B. The higher price means that real incomes have risen.
C. Consumers will substitute other products for the one whose price has risen.
D. Consumers substitute relatively high-priced for relatively low-priced products.

Ans: Hence upward sloping supply curves is not the right answer.
If price rises, the real income of the consumer falls hence it is wrong.
Consumers will not substitute any relatively high priced good for a low priced one. They will
substitute a good only when its price goes up. For e.g., tea will be substituted for coffee only
when the price of tea goes up. Therefore, option a, b, c is not correct.
Therefore, Consumers will substitute other products for the one whose price has risen is the
correct option.

3. The meaning of a ceiling price is: (select from the following and explain your answer).
(6 points)
A. Encourage new firms to enter the industry.
B. Result in an excess surplus for the product.
C. Clearing the market.
D. None of the above.

Ans: Firms will not be encouraged to enter because price ceiling limits the price below the
equilibrium price. Sellers will always want a higher price for their products and therefore new
firms will be discouraged to enter. Hence option a is not the right answer.
Price ceiling results in excess demand or shortage of the good hence option b is wrong.
The market is cleared when demand equals supply and here in case of price ceiling there is a
situation of excess demand. Hence option c is not the right answer.
The correct answer is None of the above.
 4. If a decrease in the price of one product results in an increase in demand for another
product, then the product is: (Select the answer and explain why). (6 points)

A- substitute good
B. Normal good
C. Inferior good
D. Complement good

Ans: There is a positive relation between price of one good and the demand for the
other good. For e.g. price of coffee and demand for tea. Hence option a is not the right
answer.
Normal goods are defined as the ones whose demand rises with rise in income and vice
versa. Price plays no role. Hence option b is not the right answer.
Inferior goods are defined as the ones whose demand falls with rise in income and vice
versa. Hence option c is not the right answer.
Complementary goods are defined as the ones which have an inverse relation between the
demand for a good and the price of its complement i.e., if the price of one good falls, then
it will result in an increase in demand for the other good. Hence the correct answer is
Complement good.

5. Which of the following is NOT a characteristic of a market in equilibrium? (6 points)

A. Excess supply is zero.
B. All consumers are able to purchase as much as they wish.
C. Excess demand is zero.
D. The equilibrium price is stable, i.e., there is no pressure for it to change.

Ans: Market equilibrium refers to a situation where the quantity supplied equals quantity
demanded. If both demand and supply are equal it implies that there is no presence of any excess
supply and neither excess demand. They are characteristics of market equilibrium. Hence option
a and c are not the right answer.
Equilibrium price is always a stable equilibrium which implies even if it is displaced due to
external factors, it will make forces operate in such a way that the initial equilibrium position is
restored. It is a characteristic of market equilibrium. Hence option d is not the right answer.

All consumers are not able to purchase as much as they wish because there are consumers who
are willing to purchase a larger quantity (more than equilibrium quantity) at lower prices (lower
than equilibrium prices). The given statement is not a characteristic of market equilibrium.
Hence the correct answer is option b.