Managerial Economics

Amjad Toukan
Fall 2019

Due at the start of lecture on November 2nd

PROBLEM SET #1

1- John has decided to spend one-third of his income on clothing.

a) What is his income elasticity of clothing demand? Explain.
b) What is his price elasticity of clothing demand? Explain.
c) If John’s tastes change and he decides to spend only one-fourth of his income
on clothing, how does his demand curve change? What is his income elasticity
and price elasticity now?

2- Two drivers – Tom and Jerry – each drive up to a gas station. Before looking at
the price, each places an order. Tom says, “I’d like 10 gallons of gas.” Jerry says, “I’d
like $10 worth of gas.” What is each driver’s price elasticity of demand?

3- Consider public policy aimed at smoking.

a) Studies indicate that the price elasticity of demand for cigarettes is about 0.4. If a
pack of cigarettes costs $2 and the government wants to reduce smoking by 20
percent, by how much should it increase the price?
b) If the government permanently increases the price of cigarettes, will the policy
have a larger effect 1 year from now or 5 years from now? Explain.
c) Studies also find that teenagers have higher price elasticity than do adults. Why
might this be true?

PROBLEM 4:

Consider the following information regarding the quantity of corn demanded and
supplied per month, at different alternative prices.

Price per bushel (cents) Quantity demanded Quantity supplied

40 39000 83000
35 48000 78000
30 58000 74000
25 67000 67000
20 75000 62000
15 81000 59000

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 a. Determine the equilibrium price and quantity?

b. Describe the situation when the price is 40 cents per bushel, and predict what
will happen.

c. Describe the situation when the price is 15 cents per bushel, and predict what
will happen.

d. Explain what would happen if a serious transportation strike reduced corn

output (at each price) by 30000 bushels. Determine the new equilibrium price
and quantity.

PROBLEM 5:

Consider the following information regarding the quantity of pizza demanded and
supplied per month at different alternative prices.

Price ($ per pizza) Quantity demanded Quantity supplied

10 0 40
8 10 30
6 20 20
4 30 10
2 40 0
0 125 0

1. Determine the equilibrium price and the equilibrium quantity.

2. What would occur if the price were set at $4 per pizza?

3. What would occur if the price were set at $8 per pizza?

4. What would happen if the demand for pizzas tripled at each price? Determine the
new equilibrium price and quantity.

PROBLEM 6:

Dough Crust Bread is a normal good produced by Dough Crust Bakery. Explain what
would happen to the supply or demand curve, and to equilibrium price and
quantity of Dough Crust Bread in each of the following situations:

a. Due to a recession, households, which buy Dough Crust Bread, experience a

decrease in income.

b. The cost of wheat used in Dough Crust Bread increases significantly.

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 c. Dough Crust buys improved ovens that reduce the costs of Dough Crust
Bread.

d. Lovely Loaf, a rival, cuts the price of its bread.

e. Consumers become health conscious and switch to low-calorie bread.

f. A widespread advertising campaign promoting the health benefit of Dough

Crust consumption.

PROBLEM 7:

Explain what would happen to the demand or the supply curve for oil in each of the
following situations:

a. A fall in the price of oil.

b. A change in consumer preferences to natural gas consumption.

c. A strike by oil refiners' workers.

d. An improved technology of oil production.

e. A discovery of new oil fields in Texas.

f. An increase in national income.

g. The introduction of cars running on solar energy.

h. An OPEC oil embargo.

i. A record breaking cold winter, raising the consumption of heating oil.

j. An improvement in transportation, lowering the cost of imported oil.

PROBLEM 8:
What effect will each of the following have on the demand for small automobiles
such as the Mini Cooper and Smart car?

a. Small automobiles become more fashionable.

b. The price of large automobiles rises (with the price of small autos remaining
the same).

c. Income declines and small autos are an inferior good.

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 d. Consumers anticipate the price of small autos will greatly come down in the
near future.

e. The price of gasoline substantially drops.

PROBLEM 9:

What effect will each of the following have on the supply of automobile tires?

a. A technological advance in the methods of producing tires.

b. A decline in the number of firms in the tire industry.

c. An increase in the price of rubber used in the production of tires.

d. The expectation that the equilibrium price of auto tires will be lower in the
future than it is currently.

e. The levying of a per-unit tax in each auto tire sold.

f. The granting of a 50-cent-per-unit subsidy for each auto tire produced.

In each problem below, you are to illustrate the market for textile with the
appropriately shaped standard demand and supply curves. In each case, draw the
shift in the demand and supply which result from the actions taken in the market or
changes in related variables. Indicate in the space provided whether each variable and
demand and supply will increase (+), decrease (-), remain unchanged (0), or have
ambiguous sign (?). Please, number the curves so that the direction of each shift will
be clear. Mark the original equilibrium by E1 and the final equilibrium by E2.
Textile is assumed to be a normal good.

PROBLEM 10:

The economy is in recession and income is decreasing.

P
| Demand :......
| Supply : ......
| Equilibrium Quantity:......
| Equilibrium Price : ......
|

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 |
|____________________________ Q

b. The government levies new sales taxes on textile and collects it from the
producers.

P
| Demand :......
| Supply : ......
| Equilibrium Quantity:......
| Equilibrium Price : ......
|
|
|____________________________ Q

c. Price of cotton (input in production of textile) is decreasing.

P
| Demand :......
| Supply : ......
| Equilibrium Quantity:......
| Equilibrium Price : ......
|
|
|____________________________ Q

d. Income is rising and the price of cotton in declining.

P
| Demand :......
| Supply : ......
| Equilibrium Quantity:......
| Equilibrium Price : ......
|

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 |
|____________________________ Q

e. Income is rising and price of cotton is rising.

P
| Demand :......
| Supply : ......
| Equilibrium Quantity:......
| Equilibrium Price : ......
|
|____________________________ Q

f. There is expectations of higher future prices for textile products.

P
| Demand :......
| Supply : ......
| Equilibrium Quantity:......
| Equilibrium Price : ......
|
|
|____________________________ Q

PROBLEM 11:

Demand and supply for a good are given as Qd = 100 - 2P and Qs = -8 + P,

respectively (Q is in 1000 units). Suppose the market above is a perfectly competitive
market.

A. Find the market price that producers will sell their product.

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B. Find the total quantity sold in this market.

C. Suppose the producers in this market decide to set the price at $40.00. What
market condition will exist? _________

What will be the quantity demanded _________________and quantity

supplied____________?

D. Suppose the producers in this market decide to set the price at $30.00. What
market condition will exist? _________

What will be the quantity demanded _________________and quantity

supplied____________?

PROBLEM 12:
Suppose a technological advance reduces the cost of making computers.

a) Draw a supply-and-demand diagram to show what happens to price and

quantity in the market for computers.
b) Computers and adding machines are substitutes. Use supply-and-demand
diagram to show what happened to price and quantity in the market for adding
machines.
c) Computers and software are complements. Draw a supply-and-demand
diagram to show what happens to the price and quantity in the market for
software.

PROBLEM 13:

The market for pizza has the following demand and supply schedules:
Price Quantity Demanded Quantity Supplied
$4 135 pizzas 26 pizzas
5 104 53
6 81 81
7 68 98
8 53 110

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9 39 121

Graph the demand and supply curves. What is the equilibrium price and quantity in
this market? If the actual price in this market where above the equilibrium price, what
would drive the market toward the equilibrium? If the actual price in this market were
below the equilibrium price, what would drive the market toward the equilibrium?

PROBLEM 14:

Suppose that the price of basketball tickets at your college is determined by market
forces. Currently, the demand and supply schedules are as follows:
Price Quantity Demanded Quantity Supplied
$4 10,000 tickets 8,000 tickets
8 8,000 8,000
12 6,000 8,000
16 4,000 8,000
20 2,000 8,000

a. Draw the demand and supply curves. What is unusual about this supply
curve? Why might this be true?
b. What are the equilibrium price and quantity of tickets?
c. Your college plans to increase total enrollment next year by 5,000 students.
The additional students will have the following demand schedule:

Price Quantity Demanded

$4 4,000 tickets
8 3,000
12 2,000
16 1,000
20 0

Now add the old demand schedule and the demand schedule for the new students to
calculate the new demand schedule for the entire college. What will be the new
equilibrium price and quantity?

PROBLEM 15:

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Market research has revealed the following information about the market for
chocolate bars:

The demand schedule can be represented by the equation Qd = 1,600 – 300P, where
Qd is the quantity demanded and P is the price. The supply schedule can be
represented by the equation Qs = 1,400 + 700P, where Qs is the quantity supplied.
Calculate the equilibrium price and quantity in the market for chocolate bars.

Problem 16
The Zinger Company manufactures and sells a line of sewing
machines. Demand per period (Q) for a particular model is given by the
following relationship:

Q = 400 - .5P

where P is price. Total costs (including a "normal" return to the owners) of

producing Q units per period are:
TC = 20,000 + 50Q + 3Q2

(a) Express total profits (π) in terms of Q.

(b) At what level of output are total profits maximized? What price will be charged?
What are total profits at this output level?

Problem 17

Suppose the demand curve for a product is given by Q = 10  2P + PS, where P is the
price of the product and PS is the price of a substitute good. The price of the substitute
good is $2.00.

a. Suppose P = $1.00. What is the price elasticity of demand? What is the cross-
price elasticity of demand?

b. Suppose the price of the good, P, goes to $2.00. Now what is the price
elasticity of demand? What is the cross-price elasticity of demand?

Problem 18

If the marginal revenue from a product is $15 and the price elasticity of demand is -
1.2, what is the price of the product?

Problem 19

The demand for haddock has been estimated as

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 Log Q = a + b log P + c log I + d log Pm

Where Q = quantity of haddock sold in New England

P = price per pound of haddock
I = a measure of personal income in the New England region
Pm = an index of the price of meat and poultry

If b = -2.174, c = 0.461, and d = 1.909,

a. Determine the price elasticity of demand.

b. Determine the income elasticity of demand
c. Determine the cross price elasticity of demand
d. How would you characterize the demand for haddock
e. Suppose disposable income is expected to increase by 5 percent next year.
Assuming all other factors remains constant, forecast the percentage change in
the quantity of haddock demanded next year.

Problem 20

In a study of the demand for life insurance, Executive Insurers, Inc., is

examining the factors that affect the amount of life insurance held by
executives. The following data on the amount of insurance and annual
incomes of a random sample of 12 executives were collected.

Amount of life
Observation Insurance (x $1000) Annual Income (x $1000)
1 90 50
2 180 84
3 225 74
4 210 115
5 150 104
6 150 96
7 60 56
8 135 102
9 150 104
10 150 108
11 60 65
12 90 58

a. Give the nature of the problem, which would be the dependent variable and
which would be the independent variable?
b. Plot the data.
c. Determine the estimated regression line. Give an economic interpretation of
the slope (b) coefficient.
d. Test the hypothesis that there is no relationship (β = 0) between the variables.

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 e. Calculate the coefficient of determination
f. Determine the best estimate, based on the regression model, of the amount of
life insurance held by an executive whose annual income is $80,000.
Construct an approximate 95 percent prediction interval.

Problem 21

The country assessor feels that the use of more independent variables in the
regression equation might improve the overall explanatory power of the model.

In addition to size, the assessor feels that the total number of rooms, age, and
whether the house has an attached garage might be important variables affecting
selling price. These date for the 15 randomly selected dwellings are shown in the
following table.

Selling Price Total No. of Attached Garage

Observation (x $1000) Size (x 100 ft2) Rooms Age (No= 0, Yes= 1)
I Y X1 X2 X3 X4
1 265.2 12.0 6 17 0
2 279.6 20.2 7 18 0
3 311.2 27.0 7 17 1
4 328.0 30.0 8 18 1
5 352.0 30.0 8 15 1
6 281.2 21.4 8 20 1
7 288.4 21.6 7 8 0
8 292.8 25.2 7 15 1
9 356.0 37.2 9 31 1
10 263.2 14.4 7 8 0
11 272.4 15.0 7 17 0
12 291.2 22.4 6 9 0
13 299.6 23.9 7 20 1
14 307.6 26.6 6 23 1
15 320.4 30.7 7 23 1

a. Using a computer regression program, determine the estimated regression

equation with the four explanatory variables shown in the tables.
b. Give an economic interpretation of each of the estimated regression
coefficients
c. Which of the independent variables (if any) are statistically significant (at
the .05 level) in explaining selling price?
d. What proportion of the total variation in selling price is explained by the
regression model
e. Construct an approximate 95 percent prediction interval for the selling price
of a 15-year old house having 1,800 square, 7 rooms, and an attached garage.

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