Krugman Essay Questions for Tests and Practice
Microeconomics
Test 1 – Section 1 & 2:
Section 1:
1. The following table presents the possible combinations of study time available to Roberto this
week as he prepares for his two midterms: economics and chemistry. Assume Roberto has 20
hours to study and that he will use all 20 hours studying economics and chemistry. Roberto
currently plans to study 10 hours for economics and 10 hours for chemistry.
Hours of study time spent on
Hours of study time spent on
Grade in
Grade in
Economics
Chemistry
Economics
Chemistry
0
20
60
90
5
15
70
85
10
10
80
75
15
5
86
73
20
0
90
70
a. If he alters his plan and studies 15 hours for economics, what is his opportunity cost?
b. If he alters his plan and studies 15 hours for chemistry, what is his opportunity cost?
c. If he alters his plan and studies 20 hours for economics, what is his opportunity cost?
Answer:
a. The opportunity cost of studying 15 hours for the economics exam instead of 10 hours is
2 points on the chemistry exam.
b. The opportunity cost of studying 15 hours for the chemistry exam instead of 10 hours is
10 points on the economics exam.
c. The opportunity cost of studying 20 hours for the economics exam instead of 10 hours is
5 points on the chemistry exam.
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2. In the beginning of 2008, suppose the population in Funland was 2 million people and the level
of real GDP, or aggregate output, was $40 million. During 2008 population increased by 3%,
while real GDP increased by 3%. During 2009 population increased by 4%, while real GDP
increased by 3%. During 2010 population increased by 5%, while real GDP increased by 3%.
a. Fill in the following table using the given information. (Round to two decimal places.)
Beginning of
Beginning of
Beginning of
Beginning of
2008
2009
2010
2011
Real GDP
Population
Real GDP/person
b. What do you know about this country’s standard of living between the beginning of 2008 and
the end of 2010? Explain how you know.
Answer:
a.
Beginning of
Beginning of
Beginning of
Beginning of
2008
2009
2010
2011
Real GDP
$40 million
$41.20 million
$42.44 million
$43.71 million
Population
2 million
2.06 million
2.14 million
2.25 million
Real GDP/person
$20
$20
$19.83
$19.43
b. The standard of living in Funland between the beginning of 2008 and the end of 2010 is
declining because the rate of population growth exceeds the rate of real GDP growth.
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Section 2:
1. For each of the following situations in the table below, fill in the missing information. First
determine whether the situation causes a shift of or a movement along the demand curve;
then, it causes a shift, determine whether the demand curve shifts to the right or to the left.
Situation
Specified Market
Movement or Shift
Rightward or Leftward
Shift in Supply
Labor costs for air
Market for exotic
travel and cruise ships
vacations
increase
Prices of office
Market for call center
equipment and phone
services
service rise by 40%
Price of bicycles
Market for bicycles
increases
Price of leather boots
Market for beef
increases
products
Price of leather boots
Market for leather
increases
belts
New technology for
Market for musicmusic-playing device
playing devices
revealed
Price of brand-name
Market for brand-name
designer clothing
designer clothing
increases
Number of coffee shop
Market for coffee in
owners in the metro
the metro area
area increases
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Answer:
Situation
Labor costs for air
travel and cruise ships
increase
Prices of office
equipment and phone
service rise by 40%
Price of bicycles
increases
Price of leather boots
increases
Price of leather boots
increases
New technology for
music-playing device
revealed
Price of brand-name
designer clothing
increases
Number of coffee shop
owners in the metro
area increases
Specified Market
Movement or Shift
Market for exotic
vacations
Shift
Rightward or Leftward
Shift in Supply
Leftward
Market for call center
services
Shift
Leftward
Market for bicycles
Movement
Market for beef
products
Market for leather
belts
Market for musicplaying devices
Shift
Rightward
Shift
Leftward
Shift
Rightward
Market for brand-name
designer clothing
Movement
Market for coffee in
the metro area
Shift
Rightward
2. For each of the following situations, sketch a graph of the initial market demand (D1), supply
(S1), equilibrium price (P1) and equilibrium quantity (Q1). Then sketch any changes in the market
demand (D2) and/or supply (S2) curves, and indicate the new equilibrium price (P2) and quantity
(Q2).
a. The price of gasoline increases by 40 percent. What happens in the market for bicycles?
Price
Market for Bicycles
Quantity
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b. The price of gasoline increases by 40 percent. What happens in the market for fuel
inefficient SUV’s?
Price
Market for SUV’s
Quantity
c. New technology for music-playing is developed. What happens in the market for the
devices?
Price
Market for Music Playing Devices
Quantity
d. The price of labor of labor decreases. What happens in the market for fast-food
restaurants?
Price
Market for Fast-Food Restaurants
Quantity
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e. Income increases and good X is a normal good. What happens in the market for good X?
Price
Market for Good X
Quantity
f. Income increases and good X is an inferior good. What happens in the market for good
X?
Price
Market for Good X
Quantity
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Answers
a.
Gasoline and bicycles are substitutes for one another. When the price of gasoline rises people
substitute bicycle transportation for gasoline. This is illustrated in the graph below with the
demand curve for bicycles shifting to the right, resulting in a higher equilibrium price (P2) and a
higher equilibrium quantity (Q2). Note that there is a shift in the demand curve and a movement
along the supply curve.
b. Gasoline and SUV’s are complements for each other. When the price of gasoline rises people
find that driving SUV’s is relatively more expensive and therefore decreases their demand for
SUV’s at every price. This is illustrated in the graph below with the demand curve for SUV’s
shifting to the left, resulting in a lower equilibrium price (P2) and a lower equilibrium quantity
(Q2). Note that there is a shift in the demand curve and a movement along the supply curve.
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c. New technology shifts the supply curve to the right from S1 to S2. This causes a movement along the
demand curve and results in a decrease in the equilibrium price and an increase in the equilibrium
quantity. This is illustrated in the figure below.
d. When the price of labor decreases, the supply of the good shifts to the right because labor is an input
in the production of fast-food meals. This results in a movement along the demand curve, a decrease in
the equilibrium price, and an increase in the equilibrium quantity as illustrated below.
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e. An increase in income shifts the demand curve to the right if the good is a normal good. This shift in
demand causes a movement along the supply curve and an increase in both the equilibrium price and
equilibrium quantity as illustrated below.
f. An increase in income shifts the demand curve to the left if the good is an inferior good. This shift in
demand causes a movement along the supply curve and a decrease in both the equilibrium price and
equilibrium quantity. The graph below illustrates this situation.
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3. Use the graph below to answer the following questions.
a. Identify the equilibrium price and the equilibrium quantity.
b. Suppose a price ceiling of P2 is implemented by the government in this market. Describe
what will happen to the price and quantity once this price ceiling is implemented.
c. Suppose a price ceiling of P3 is implemented by the government in this market. Describe
what will happen to the price and quantity once this price ceiling is implemented.
d. What must be true about a price ceiling in a market for a good or service for it to be
effective?
e. You are told that an effective price ceiling has been implemented in this market and that
the resultant shortage is smaller than Q5-Q2. What do you know about the level of this
price ceiling?
Answers:
a. The equilibrium price is P1 and the equilibrium quantity is Q3.
b. This is not an effective price ceiling because the price ceiling of P2 is greater than the equilibrium
price P1. Since it is a non-binding/ineffective price ceiling, the equilibrium price and quantity will
not change.
c. This is an effective price ceiling because the price ceiling of P3 is less than the equilibrium price
P1. At P3, Q5 units of the good will be demanded and Q2 units of the good will be supplied. This
excess demand of Q5-Q2 will not be eliminated by price increases because the price is artificially
set at P3 by the government and is not allowed to increase. An effective price ceiling creates a
situation of excess demand, or a shortage, that is not eliminated by changes in the price of the
good because the price has been set at a level that is less than the market-clearing price.
d. For a price ceiling to have an effect on a market, the price ceiling must be set at is a price that is
less than the equilibrium price.
e. The price ceiling must be set at a price that is greater than P3 but still less than the equilibrium
price of P1. We know this because when the price ceiling is set at P3, the shortage is equal to Q5–
Q2 and the new price ceiling results in a smaller shortage than the shortage at price P3.
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