106755394
NAME:__________
EXAM #1
If there is a question that is unclear to you, simply ask. Show all work for partial credit
opportunities. Use the space provided to answer the following questions. There is additional
space on the back.
1. What is the difference between an exogenous variable and an endogenous variable in an
economic model? Use the consumer’s model of constrained utility maximization as an example.
(10 points)
Information. Read carefully. Through the damage and closure of oil refineries, hurricanes
Katrina and Rita significantly disrupted America’s ability to refine crude oil into gasoline.
Suppose the market for gasoline, prior to these hurricanes, was in equilibrium.
2a. How was the market for gasoline affected by the disruption in the Gulf Coast refineries? Use
comparative statics to predict changes in equilibrium price and quantity. Include a clearly labeled
diagram to show changes in the gasoline market. (8 points)
2b. In the wake of the hurricanes, President Bush has asked Americans to limit their driving to
conserve gasoline.1 Assume Americans actually cooperate with the president. Combine this
behavior with the impacts described in part (a). Use comparative statics to predict changes in
equilibrium price and quantity from combination of the two events. Include a clearly labeled
diagram to show changes in the gasoline market. (8 points)
Information. Read carefully. The following is an excerpt from the Washington Post
(9/16/2005):
“The Metro, the Washington-area subway and commuter rail system, had already broken a
string of ridership records this year, and officials worried that increased ridership in the wake
of the latest spike at the pump would crowd trains even more.”
2c. Explain how the market for Metro tickets was affected by the hurricanes. Use comparative
statics to predict changes in equilibrium price and quantity from the events. A diagram is not
necessary to answer this question. (6 points)
1
Was that a pig I saw outside my third-floor office window?
Eric R. Dodge
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3. Consider the following demand and supply relationships in the market for golf balls:
Qd = 90 – 2P – 2T and Qs = -9 + 5P – 2.5R, where T is the price of titanium, a metal used to make
golf clubs, and R is the price of rubber, a material used to make golf balls.
a. If R=2 and T=10, calculate the equilibrium price and quantity of golf balls. (4 points)
b. At the equilibrium values, calculate the cross-price elasticity of demand for golf balls with
respect to the price of titanium. Carefully interpret this value. (8 points)
Information. Read carefully. The following is an excerpt from an article in Slate (9/27/2005):
“In repeated studies of consumer purchases over the years in the developed world, drivers in
the United States consistently rank as the least sensitive to changes in gas prices. Even when
gas gets expensive, we just keep on truckin'. The latest estimates, based on a comprehensive
study released in 2002, predict that if prices rose from $3 per gallon to $4 per gallon and
stayed there for a year (far greater and longer than the impact of Katrina), purchases of
gasoline in the United States would fall only about 5 percent.”
4a. Using the numerical data given by this author, calculate the price elasticity of demand for
gasoline in the U.S. (5 points)
b. If prices did rise from $3 to $4, would you expect the total spending on gasoline to rise, fall, or
stay the same in the U.S.? Explain. (6 points)
c. In one diagram, illustrate two demand curves that might reflect American gasoline demand in
the short run (a year or less) and the long run (more than one year). Clearly identify your demand
curves. Explain the reasoning behind why these demand curves are likely to differ. (11 points)
Eric R. Dodge
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5. A consumer purchases only two goods, hamburgers (H) and Cokes (C), and the utility function
is: U = 2H.5 + C
a. Is the assumption that more is better satisfied for both goods? Explain. (4 points)
b. Derive the marginal rate of substitution of hamburgers for Cokes (MRSH,C). (5 points)
c. Using the specific MRSH,C found in part (a), is the MRSH,C increasing, decreasing, or constant
as the consumer consumes more hamburgers? How do you know? (5 points)
d. Using a level of utility U=20, draw an indifference curve for this consumer. Clearly and
carefully label everything. (6 points)
6. Ann has income of $22; she buys food (F) at a cost of $1 per unit and clothing (C) at a cost of
$2 per unit.
a. Ann is currently spending all of her income. She is buying 8 units of food. How many units
of clothing is she consuming? (2 points)
b. Graph her budget line, placing food on the x-axis and clothing on the y-axis. Clearly and
carefully label everything. Plot her current consumption basket and label it A. (6 points)
c. Suppose that basket A happens to be the consumption basket that maximizes Ann’s utility.
Assuming that she has a Cobb-Douglass utility function U=FC, add an indifference curve to the
above diagram that is consistent with utility maximization. How much utility is Ann receiving?
(5 points)
Eric R. Dodge
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