Microeconomic Principles for Economic Policy ECON 7073
Microeconomic Principles for Economic Policy
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Microeconomic Principles for Economic Policy
ECON 7073
Reading Time: Fifteen Minutes.
Writing Time: Three Hours.
Permitted Materials: Non-programmable Calculator.
Page 1 of 7 – Microeconomic Principles for Economic Policy (ECON 7073)
Instructions
1. The exam consists of four questions, each of which is worth twenty-five marks. As
such, there are a total of one-hundred marks available on this exam.
2. Please attempt as many questions as you can in the allotted time for this exam.
3. Answer each question in the script book (or books) provided.
4. Please start each question on a new page of the script book.
5. Good luck!
Page 2 of 7 – Microeconomic Principles for Economic Policy (ECON 7073)
Sources
The questions below have been drawn from, based on, or influenced by, a variety of
sources. Some of these sources might include the following references.
• Alchian, AA, and WR Allen (1983), Exchange and production: Competition, coor-
dination and control (third edition), Wadsworth, USA.
– Staten, ME (1983), Study guide to accompany Alchian and Allen’s “Exchange
and production: Competition, coordination, and control (third edition)”, Wadsworth,
USA.
• Borland, J (2016), Microeconomics: Case studies and applications (third edition),
Cengage Learning Australia, China.
– Along with the associated instructor’s resources.
• Culyer, AJ (1971), “The nature of the commodity ‘health care’ and its efficient
allocation”, Oxford Economic Papers (New Series) 23(2), July, pp. 189–211.
• Dutta, PK (1999), Strategies and games: Theory and practice, The Massachusetts
Institute of Technology Press, USA.
• Gans, J, S King, M Byford, and NG Mankiw (2015), Principles of microeconomics
(sixth Australian edition), Cengage Learning Australia, China.
– Along with the associated instructor’s resources.
• Hirshleifer, J (with the assistance of M Sproul) (1988), Price theory and applications
(fourth edition), Prentice-Hall, USA.
– Sproul, M, and J Hirshleifer (1988), Study guide to “Price theory and applica-
tions (fourth edition)”, Prentice-Hall, USA.
• Landsburg, SE (2014), Price theory and applications (ninth edition), Cengage Learn-
ing, USA.
– Along with the associated instructor’s resources.
• Varian, HR (1987), Intermediate microeconomics: A modern approach, WW Norton
and Company, USA.
Page 3 of 7 – Microeconomic Principles for Economic Policy (ECON 7073)
Question 1 (25 marks)
Consider a price-taking firm with the total cost schedule that is provided in the following
table.
Table: An example of a cost schedule for a price-taking firm.
Quantity Total
Cost ($)
Total
Variable
Cost
Average
Variable
Cost
Average
Cost
Fixed
Cost
Marginal
Cost 0 50 1 100 2 140 3 170 4 190 5 210 6 230 7 260 8 300 9 350 10 410 Source: Sproule, M, and J Hirshleifer (1988), Study guide to “Price theory and applications (fourth
edition)”, Prentice-Hall, USA: Page 67. 1. Reproduce the above cost schedule table in your script book and fill in the five blank
columns. (5 marks.)
2. Suppose that the price is $35 per unit. How many units will this firm produce in
the short-run? How many units will it produce in the long run? (5 marks.)
3. Suppose that the price is $25 per unit. How many units will this firm produce in
the short-run? How many units will it produce in the long run? (5 marks.)
4. Is the following statement true, false, or ambiguous? Justify your answer. “Since
long-run average cost cannot exceed short-run average cost, the long-run average
cost curve consists of the minimum points of all of the short-run average cost curves.”
(10 marks.)
Page 4 of 7 – Microeconomic Principles for Economic Policy (ECON 7073)
Question 2 (25 marks)
1. What is a public good? In what way or ways does a public good differ from a private
good? Provide some examples of public goods and private goods. (5 marks.)
2. Does a public good involve an externality? Justify your answer. (5 marks.)
3. Is it possible for a public good to be under-provided by a free market? Justify your
answer and illustrate it using an appropriate diagram. (5 marks.)
4. Is it possible for a socially optimal amount of a public good to be provided by a
free market? Justify your answer and illustrate it using an appropriate diagram. (5
marks.)
5. Consider a situation in which there is a negative externality associated with the
production of widgets. Suppose that the size of the marginal external cost increases
as output increases. Illustrate this situation using an appropriate diagram. Will a
free market provide the socially optimal level of widget output? If not, what rate
of a specific (per unit) Pigouvian tax or subsidy would correct the market failure
problem? Be sure to identify whether it should be a tax or a subsidy. (5 marks.)
Page 5 of 7 – Microeconomic Principles for Economic Policy (ECON 7073)
Question 3 (25 marks)
Two public policy issues of major concern to economists are the design of welfare relief
payment schemes and the design of tax systems. This question relates to these two issues.
1. Should we subsidise some specific good (for instance, with food vouchers) or take
the money that would have been spent on those food vouchers and simply give it to
the poor? Justify your answer. (10 marks.)
2. Should we levy a sales tax on a specific good, (for instance, food) or collect an equal
amount of revenue with a lump-sum tax? Justify your answer. (10 marks.)
3. Should we levy a sales tax on all commodities at the same rate or collect an equal
amount of revenue with a lump-sum tax? (Assume that there are no market failures.
Assume also that there is no home production, so that all individuals must obtain
anything that they desire through market purchases.) Justify your answer. (5
marks.)
Page 6 of 7 – Microeconomic Principles for Economic Policy (ECON 7073)
Question 4 (25 marks)
While Felix and Oscar share an apartment, they have vastly different opinions about the
desirability of keeping it clean. Suppose that there are only three levels of cleanliness
for the apartment. These are immaculate, bearable, and putrid. It takes twelve hours of
cleaning per week to keep the apartment immaculate. It takes five hours of cleaning per
week to keep the apartment bearable. Anything less than five hours of cleaning per week
results in the apartment being putrid. Suppose that each individual can devote either
three hours, six hours, or nine hours per week to cleaning the apartment. Each individual
receives a payoff that is equal to the value he places on the cleanliness of the apartment
less the number of hours he spends cleaning. Felix values an immaculate apartment at
10 utils, a bearable apartment at 2 utils, and a putrid apartment at (−10) utils. Oscar
values an immaculate apartment at 5 utils, a bearable apartment at 2 utils, and a putrid
apartment at (−5) utils. (Note that each player’s utility index is not inter-personally
comparable.)
1. Find the game table that illustrates the normal form representation of this game.
(5 marks.)
2. Find all of the pure strategy Nash equilibria for this game. (5 marks.)
3. Does either player have a strictly dominated strategy in this game? If so, what is it
(or what are they)? (5 marks.)
4. Does either player have a weakly dominated strategy in this game? If so, what is it
(or what are they)? (5 marks.)
5. Can this game be solved by iterative deletion of dominated strategies (either strict
or weak)? If so, what is the surviving outcome? (5 marks.)