Econ 301-Managerial Economics Practice Exam 1 I. Multiple choice questions 1.

If the interest rate is five percent, the present value of $200 received at the end of five years is: a. $121.34 b. $156.71 c. $176.41 d. $132.62

2. Suppose total benefits and total costs are given by B(Y) = 90Y - 8Y2 and C(Y) = 7Y2. What is the optimal level of Y that maximizes net benefits? a. 6 b. 3 c. 4 d. None of the statements associated with this question are correct

3. Which of the following signals to the owners of scarce resources are the best uses of those resources? a. Profits of businesses b. Government regulations c. Economic indicators d. The accounting cost of those resources

4. Consumer-consumer rivalry arises because of: a. Human nature b. The limited number of suppliers c. The scarcity of goods available d. None of the statements associated with this question are correct

5. Suppose the demand for good X is given by QdX= 10 + XPX + YPY + of demand we know that X will be: a. Less than zero b. Greater than zero c. Zero d. None of the statements associated with this question are correct

M. From the law

6. Other things held constant, the greater the price of a good a. The lower the demand b. The higher the demand c. The greater the consumer surplus d. The lower the consumer surplus

7. Suppose you produce wooden desks, and government legislation protecting the spotted owl has made it more expensive for you to purchase wood. What do you expect to happen to the equilibrium price and quantity of wooden desks? a. Price and quantity will increase b. Price will increase but quantity will decrease c. Price and quantity will decrease d. Price will decrease but quantity will increase

8. The own-price elasticity of demand for apples is -1.2. If the price of apples falls by 5%, what will happen to the quantity of apples demanded? a. It will increase 5% b. It will fall 4.3% c. It will increase 4.2% d. It will increase 6%

9. Which of the following factors would not affect the own-price elasticity of a good? a. Time b. Price of an input c. Available substitutes d. Expenditure share

10. When the own price elasticity of good X is -3.5 then total revenue can be increased by a. Increasing the price b. Decreasing the quantity supplied c. Decreasing the price d. Neither increase price, decrease price nor decrease quantity supplied

II. Problems 1. You are a strong advocate for a one-year investment project that would cost your firm $10,000 today, but generate virtually certain earnings of $15,000 at year-end. Those in your firm's financial group concur that the investment is virtually risk-free, but nonetheless your boss is concerned about the firm's cash flow problems. In fact, the problems are so severe that the firm's bank currently charges it 20 percent on one-year loans. Convince your boss to undertake the project. The net present value of the investment is

Since the net present value is positive, the investment should be undertaken. Cash flow considerations are irrelevant, in this case. Your firm could secure a $10,000 one-year loan from the bank at 20 percent. Since the net present value is positive, in one year the $15,000 generated from the investment will be more than enough to pay back the interest and principal on the loan. Thus, cash flow is not really an issue in this case, and in present value terms, your firm will pocket $2,500 from this investment. 2. Let the Market Demand curve for soybeans be given by the following equation: where Q = the quantity of soybeans in kilograms P = the price of soybeans in dollars per kilogram. Let the Market Supply curve for soybeans be given by the equation:

1) Derive the inverse demand and supply function. Graph the Demand and Supply Curve together. Be sure to label the axes. Solve for the equilibrium price and quantity of the soybeans. Inverse demand function: P = 100
1 2
1 Q 500

Inverse supply function: P = 30 + Q Equilibrium condition: Q d = Q s , 500 5 P = 2 P 60

560 = 7 P P e = $80
Q e = 500 5(80 ) = 100

The equilibrium price is $80 and equilibrium quantity is 100. P $100 $80

$30 -60 0 100

D 500 Q

2) How much consumer surplus exists in this market? Consumer surplus is the triangle area between demand curve and price line.
CS = 1 (100 80 )(100 ) = $1000 2

Consumer surplus is $1,000 at equilibrium market price. 3) Price Ceiling: Assume that the government creates price controls for soybeans in order to help the poor. Assume that these price controls take the form of a price ceiling in which the government prohibits the price of soybeans from rising above $60.00 per kilogram. Draw a diagram. What will be the quantity of soybeans supplied? What will be the quantity of soybeans demanded? What will be the result of this price ceiling? In what quantity?
P C = $60
Q d = 500 5(60 ) = 200 and Q s = (6 ) 0 = 0 2 0 6 6

The difference is the shortage:

So g h rta e

=Qd Q s =2 0 6 =1 0 0 0 4

The result of the price ceiling will be a shortage of wheat. Note that the price of wheat will be cheap, but someone will have to go without. P S

$80 $60 shortage 0 60 200 D Q

3. The demand for Wanderlust Travel Services (X) is estimated to be , where represents the amount of advertising spent on X and the other variables have their usual interpretations. Suppose the price of good X is $450, good Y sells for $40, the company utilizes 3,000 units of advertising, and consumer income is $20,000. a. Calculate the own price elasticity of demand at these values of prices, income, and advertising b. Is demand elastic, inelastic, or unitary elastic? c. Based on this information, determine the effect on the quantity demanded of travel services if the firm takes 5 percent reduction in the price of the services?

a. QX = 22,000 - 2.5 (450) + 4(40) - 1(20,000) + 1.5(3,000) = 5,535.

The own price elasticity of demand is 0.203 b. Since the elasticity is less than one in absolute value, demand is inelastic. c. EQ , P =
x x

% Q x % Px

0.203 =

% Q x , %Q x = (0.203)(5%) = 1.015 % 5%

The quantity demanded of travel services of the firm will increase by 1.015% if the firm takes 5% reduction in the price of the services.