Evans School of Public Affairs
PBAF 516A, Fall 2009
Prof. R. Plotnick
Problem Set 1
Supply and Demand, Elasticity
1.
Using a supply and demand graph, explain how the following would affect the supply and
demand for coffee beans, the quantity of beans sold, and the price of beans:
a.
b.
c.
d.
Health researchers announce evidence that drinking coffee lowers the risk of cancer.
Excellent weather causes the tea harvest to increase by 20% above its usual level.
The price of fuel rises, affecting the cost of shipping beans to roasters and then to stores.
The global economy expands and consumers' incomes rise (assume beans are a normal
good).
e. Vietnam, which has become the second largest coffee grower in the world, expands
coffee production by 10%
2.
Assume that the demand curve for apples is:
and the supply curve is
a.
b.
c.
d.
3.
P=100-Qd
P=4Qs
Graph the above functions, indicating the horizontal and vertical intercepts.
Solve for the equilibrium price and quantity in this market.
If the government implements a price floor of 90, how big will the resulting surplus be?
Show the change in consumer surplus after the price floor is imposed.
In the U.S. it is illegal to buy or sell heroin, yet there is still a market. Suppose the
government’s main goal is to decrease the amount of heroin consumed. For each of three
proposed solutions, show what would happen to the market price and quantity for heroin.
Briefly discuss your policy recommendation for the government by citing the costs/benefits
of each. (For simplicity, assume that heroin sellers and heroin buyers are two separate
groups of people)
a. Offer extensive drug rehabilitation programs free-of-charge to heroin users
b. Increase the minimum length of prison sentences for heroin sellers
c. Legalize the sale of heroin
4.
After frost destroyed a large part of California’s lemon crop, a number of news
commentators described the situation in roughly the following terms:
While the reduction in lemon supply will increase its price, the price rise will reduce
demand and bring the price back down.
Is this correct? Why or why not?
More problems are on the other side
Evans School of Public Affairs
PBAF 516A, Fall 2009
Prof. R. Plotnick
5. At a price of $1.50, BART (Bay Area Rapid Transit) carries 75,000 people into San Francisco,
while 90,000 ride the bus, and 60,000 cross the Bay Bridge in cars. When the fare went to
$2.00, BART ridership fell to 60,000, bus ridership rose to 96,000, and 69,000 cars crossed
the bridge. Calculate arc elasticity for each of the following.
a.
b.
c.
6.
The price elasticity for BART?
The cross price elasticity of bus service with respect to BART fare?
The cross price elasticity of car trips?
During her last campaign the Governor pledged to improve incomes of small oyster farmers
in Willapa Bay and Puget Sound. The current free market equilibrium is p = $4 per dozen
oysters, with Q = 80 (thousand dozen per month). The Governor wants to raise the price to
$5. Given the industry supply curve is Qs = 40 + 10P, she knows that supply will rise to
90 at that price.
The Governor's advisors suggest 2 options: 1) subsidize the price of oysters to consumers
sufficiently to increase demand to 90, or 2) require the cafeterias in state buildings to feature
oysters and purchase enough of them to drive the market price to $5.
a. If the demand curve for oysters is estimated to be Qd = 120 - 10P, how much will each
plan cost the state per month? Illustrate your numerical analysis with a diagram.
b. Can you suggest another approach the Governor might try to raise the incomes of oyster
farmers?
7.
In an effort to raise revenue, officials in Bellevue imposed a 10 cent excise tax on all
gasoline sold within the city limits. They know that currently 2,000,000 gallons are sold per
month by city stations at $3.00/gallon and assume that the elasticity of demand for gas, as
estimated using a national data base, is .54. They predict that consumers will pay the entire
tax and prepare for citizen protests.
a.
If their prediction was correct, how much revenue did they expect to raise each month?
b.
Six months later the officials are puzzled. Tax revenues are vastly less than expected,
hardly any voters are complaining, but gas station owners are camping on the steps of
city hall demanding a repeal. Turning to you (you were appointed after the tax increase
was imposed), the mayor asks, “Where did we go wrong? and why?” You reply:
Steinemann et al. Problem 5 on p. 45, problem 3 on p. 73