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Costs and Public Goods

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Semester 1, 2013 Due dates for each section are provided in the Course Description. Part A – Microeconomics – Worth 10% of total assessment: Answer any five (5) of the following questions. Each question is worth 10 marks; Question 1: (a) Explain the impact of external costs and external benefits on resource allocation; (2. 5 marks) Ans : Resources are over – allocated when negative externalities exist because the equilibrium price is too low. Resources are under – allocated when positive externalities exist because the equilibrium price is too high b)Why are public goods not produced in sufficient quantities by private markets? (2.

5 marks) Ans :The main reason is that of free rider problem. Pure public goods have characteristics such as non excludability and non – rivalry. These characteristics gives rise to the free – rider problem. (c)Which of the following are, or are not examples of public goods (or services)? Please explain your reason. (1 mark each which includes ? marks for each reason). (i)The Judicial system Yes/No Ans : Yes, it is a public service which is for public interest litigation (ii)Pencils Yes/No

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Ans: No, it not a public good but if it is distributed freely and especially if the government is handing them out it can argued that it is a public goods.

(iii)The quarantine service Yes/No Ans:Yes, it is a public service because its for the the public and to check that there are no pests and disease come into the country. (iv)The Great Wall of China Yes/No Ans: Yes, it is a public goods because its free for everyone and everyone in china can go there and visit. v)Contact lenses Yes/No Ans: No, it is not a public goods because public goods are goods which are free to everyone and everyone can use it eyeglasses can come under public goods but not contact lenses. Question 2: (a)Suppose the income elasticity of demand for pre-recorded music compact disks is +5. 0 and the income elasticity of demand for a cabinet maker’s work is +0. 5. Compare the impact on pre-recorded music compact disks and the cabinet maker’s work of a recession that reduces consumer incomes by 10 per cent. (2 marks) Ans : Music compact disks are normal good and income elastic because it is >1. Cabinet makers work is also normal good but income inelastic because it is 1. 0 This is an inferior good because the demand decreases with income as indicated by the negative sign. (d) Interpret the following Cross-Price Elasticity of Demand (XED) and explain the relationship between these goods. (3 marks total, 1. 5 marks per part) Ans : XED= + 0. 75 XED= -2. 5 XED = +0. 75 = +. 75/100 = 2. 4/4 Cross elasticity of demand= % change in quantity demand of goods A % change in price of goods B The good is inelastic because the absolute value is 1. 0. Therefore, A decreases % in goods leads to B increases by 2. % in goods. Both are complements and this good is –VE in XED Question 3: You are given the following data about two firms: FIRM A Quantity |0 | |1 | |2 | |3 | |4 | |5 | |6 | |Total revenue ($) |0 | |10 | |20 | |30 | |40 | |50 | |60 | |Average revenue ($) |___ | |___ | |___ | |___ | |___ | |___ | |___ | |Marginal revenue ($) | |___ | |___ | |___ | |___ | |___ | |___ | | |Total cost ($) |30 | |42 | |50 | |60 | |76 | |100 | |140 | |Marginal cost ($) | |___ | |___ | |___ | |___ | |___ | |___ | | |Average cost ($) | ( | |___ | |___ | |___ | |___ | |___ | |___ | | FIRM B

Quantity |0 | |1 | |2 | |3 | |4 | |5 | |6 | |Total cost ($) |100 | |134 | |154 | |177 | |216 | |266 | |366 | |Average cost ($) | ( | |___ | |___ | |___ | |___ | |___ | |___ | |Marginal cost ($) | |___ | |___ | |___ | |___ | |___ | |___ | | |Price ($) |140 | |130 | |120 | |110 | |100 | |90 | |80 | |Marginal revenue ($) | |___ | |___ | |___ | |___ | |___ | |___ | | |Total revenue ($) |___ | |___ | |___ | |___ | |___ | |___ | |___ | | Complete the two tables above. (4 marks) Are these firms operating in the short or the long run? (1 mark)Firm A: short run / long run Firm B: short run / long run c)Are these firms operating under perfect or imperfect competition? Firm A: perfect / imperfect (1 mark)Firm B: perfect / imperfect (d)What level of output will these firms produce in the short run? Firm A: (2 marks)Firm B: How would you describe their profit positions? (2 marks) Firm A: Firm B: Question 4: (a) Suppose you own a coffee shop. List some of the fixed inputs and variable inputs you would use in operating the shop. (4 marks) Ans : An input whose quantity can be changed in the time period under consideration, the most common example of a variable input is labour.

Other hand fixed input like capital, provides the capacity constraint in production. Costs of production that do not change when the output changes (e. g. factory rent or, coffee shop rent) Variable inputs are Costs of production that change when the output changes (e. g. cost of materials or wages and such as land, labour and capital and in a short given time period, at least one input such as land (e. g. rent) or capital (e. g. equipment lease) is fixed or unchanging. Example Land & Capital = Fixed Input Fixed Costs

Labour = Variable Input Variable Costs (b) Baubles and Beads manufacturing produces 100 pendants per day. The total fixed cost for the plant is $4000 per day and the total variable cost is $13,000 per day. Calculate the average fixed cost, average variable cost, average total cost and total cost at the current output level. (4 marks) Ans : Baubles and Beads Manufacturing produces pendants 100 per day Total fixed cost is $ 4000 Total variable cost is $ 13000 Calculate the AFC, AVC, ATC, AND TC at the current output level.

AFC = TFC = $4000 = $40 Q 100 TVC $13000 AVC per unit = Q 100 = $130 ATC per unit = AFC+AVC = $40+$130 = $170 TC = TFC+TVC = $4000+ $13000 = $17000 (c) An owner of a firm estimates that the average total cost is $6. 71 and the marginal cost is $6. 71 at the current level of output. Explain the relationship between this marginal cost and average total cost figures. (2 marks) Question 5: ) Discuss the following statement: ‘In the real world there is no industry which conforms precisely to the economist’s model of perfect competition. This means that the model is of little practical value’. (2. 5 marks) Ans : Perfect competition is a market structure in which an individual firm can not affect the price or product value in the market. Both the business and consumers are well informed about the key aspects which include knowledge of the product cost of production and prices. No real world market exactly fits the three assumptions of perfect competition.

The perfectly competitive market structure is a theoretical model, it only provide a bench mark by which we can judge the structure and performance of markets that we observe in the real world. But some actual market do approximate the model fairly closely example include farm product markets, the interstate road transport market and markets for home services such as lawn moving or cleaning. (b) Illustrate with a diagram and explain the short-run perfectively competitive equilibrium for both (i) the individual firm and (ii) the industry; (2. 5 marks each) Individual firm Industry

Short run equilibrium under perfect competition means a condition of short run equilibrium under perfect competition it represents the equilibrium price and cost situation for one of the many firms in an industry, the firms earns an economic profit in the short-run. Short-run equilibrium is one in which the firms are earning an economic profit it cannot be sustained in the long-run. The industry supply curve is the aggregate of each firm’s’ MC curve above the minimum point on the AVC curve. In the industry the set a price and individual firm acts a price taker and keep the price to follow the market.

Industry demand set a price of $1. 90 then other all firms in the industry has to follow the same price. So in this state of short run equilibrium will remain same until some other factors causes changes equilibrium in the industry. (c ) Illustrate with a diagram and explain the long-run perfectly competitive equilibrium for the firm (2. 5 marks). The key of long run equilibrium is the independency of moving or leaving the company if company’s profit is low. (lower economic profit). And may inter in to the new firms in which earning may exceed normal profits that is positive economic profit.

If there are economic profit new firms enter the industry and shift the short-run market supply curve to the right. This increase in the short-run supply causes the price to fall until economic profit reach zero in the long run. Long run equilibrium occurs at point E. In the long run firm earns normal profit. The price equals the minimum point on its long run ACC. The short run marginal curve intersects both the short run average total cost curve and long run average cost curve at their minimum points. So, MR = MC PRICE = minimum long-run average cost=minimum short-run ATC= MC

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Costs and Public Goods. (2016, Oct 26). Retrieved from https://graduateway.com/costs-and-public-goods/

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