Deck 4: Demand and Supply Applications

Question 1

Assume that the original manuscript of Adam Smith's the Wealth of Nations is discovered and the estate auctions it off to the highest bidder a price of $1,000,000 show with the use of a graph what takes place and explain the process.

Answer 1

There is some price that will clear any market, even if supply is strictly limited. In an auction for a unique item, the price (bid) will rise to eliminate excess demand until there is only one bidder willing to purchase the single available painting. In the above graph the equilibrium quantity is one and the equilibrium price is $1,000,000 after all other bidders drop out of the auction.

Question 2

Assume that policy makers in the state of California respond to the fury by residents of recent price hikes for the price of water and respond by capping water prices in 2010 to $.10 per gallon that they were a few years ago rather than what the market price otherwise would be at $.25 per gallon. Explain with the use of a graph what would happen if the state legislature were to impose such a price control.

Answer 2

If the price had been set by the interaction of supply and demand instead, it would have increased to $.25 per gallon. However at $0.10 per gallon, the quantity demanded exceeded the quantity supplied. Because the price system was not allowed to function, an alternative rationing system likely would have to be found to distribute the available supply of water.

Question 3

The Deepwater Horizon oil spill in the Gulf of Mexico which began from an explosion on April 20, 2010 resulted in a ban on shrimp fishing that measures about 10% of the Gulf. Using the graph below assume that the original supply curve before the spill is represented by So and the new supply curve is represented by S2 explain the process that takes place to reach a new equilibrium.

Answer 3

The supply curve shifts to the left. Before the waters are closed, the shrimp market is in equilibrium at the price of $11.00 and a quantity of 75 million pounds. The decreased supply of shrimp leads to higher prices, and a new equilibrium is reached at $16.00 and 56 million pounds (point B).

Question 4

Explain how the price system eliminates a surplus.

Question 5

Assume that the cost of producing a hardback book is roughly equivalent to producing a paperback book. Explain how and why then do publishing companies charge higher prices for the hardback book and a much lower price for the paperback book.

Question 6

Why is it that people who have to fly at a moment's notice often pay some of the highest air fares whereas people who wait until the last minute to buy a ticket to a live performance of play may be able to get a better price than someone who bought their ticket months in advance.

Question 7

Explain how low-skilled workers might actually be made worse off from a minimum wage law in terms of working conditions and job training. In addition, what might be the long-run impact on wages and earnings?

Question 8

What two important functions are performed by the price system?

Question 9

Why is it true that shortages usually occur mainly when price controls are in effect?

Question 10

Many people are offended when they learn that the CEO of a charitable organization makes a salary commensurate with a CEO of a private company that is run for profit. Explain why it would be a mistake for charitable organizations to pay their CEOs less than companies that are driven by profit?

Question 11

Most modern countries have prohibitions on the trading of human organs in the
marketplace. What impact do you believe such laws have had on the availability of organs for patients that need them? Furthermore, which people are most likely to be able to obtain the organs that they require and why? Explain the ethical dilemma that is at work that makes the strict application of basic economic principles difficult to put into practice in cases like this.

Question 12

Rent control is typically imposed ostensibly for the purpose of helping the poor. Why might you be able to argue that few poor people will actually be the beneficiaries of such controls?

Question 13

Consumers are often bewildered by the different array of choices, plans and prices
that are offered by cell phone service companies. Explain in terms of consumer surplus why this makes sense from both the company's perspective and that of the consumer.

Question 14

The rash of hurricanes that pelted the Gulf Coast in 2005 resulted in a large decline in gasoline production as many offshore rigs were shut down and many refineries were taken off line while waiting out the hurricane. The decrease in supplies of gasoline led to a run up in prices. Many voters clamored for relief by calling on their congressman and senators to enact temporary price controls. Analyze the impact on the gasoline market that would have transpired had politicians actually headed the calls by voters to impose price controls on gasoline.

Question 15

Assume that the government of the state of New Jersey has determined that a large number of injuries and deaths have occurred as a result of accidents involving the installation and repairs of electrical equipment at private residences. In reaction to this problem the state assembly decided to pass a law which made a requirement that all certified electricians take and pass a tougher state licensing examination. Analyze the impact that this law is likely to have on the market for electricians and explain why safety may not necessarily improve.

Question 16

McDonalds and many supermarkets offer vending machines in their stores that rent new movie releases for as low as $1.00 per day provided that they are returned in 24 hours before incurring a late fee. How can Netflix and Blockbuster compete against this type of service? Or is their something else going on there that doesn't first meet the eye?

Question 17

Colleges and universities often do not pay salaries that are market-driven. For example, it is typical for a history professor to make the same as an economics professor. What kinds of problems are likely to result from this kind of a pay scale?

Question 18

Suppose you came across the following headline in a story of a daily newspaper: "Automobile prices are so high right now that there must be a shortage. As a consequence not everyone who needs an automobile will be able to buy one." Is this statement necessarily correct?

Question 19

Explain how the price system eliminates a shortage.

Question 20

Explain what the phrase "price rationing" means.

Question 21

Critically evaluate the following statement. "It's better to make people wait in line than it is to make them have to pay more for the product."

Question 22

Explain what will happen when the government imposes a minimum price that is
below the market equilibrium price. Why is this true?

Question 23

Suppose that Bill is a big movie buff and enjoys renting movies from the local video
rental outlet. Assume that he is willing to pay $5 for the first movie he rents for the weekend but would only pay $4 for a second and still only $3 for a third movie. If the video rental franchise charges $3.50 per movie what will Bill's consumer surplus be and why? Assume now that the video rental franchise now has a new package deal in which it offers to rent three movies to customers at a price of $9.00 would Bill be interested? How much consumer surplus would he enjoy now? What is the maximum price that the video rental franchise could charge and still make Bill interested in the package deal?

Question 24

Suppose the demand for bananas increases. Explain how the price of bananas adjusts after the increase in demand.

Question 25

Suppose that the equilibrium rent for a two-bedroom apartment in downtown Chicago is $900 per month. The city council decides to place a price ceiling on apartments and will not allow landlords to charge more than $700 per month. Draw this situation using a graph. Make sure that you show the original equilibrium and the effect of the price ceiling on the market. What will happen in this market?

Question 26

What is a price ceiling?

Question 27

The U.S. market for rice is shown below. The world price of rice is $12 per bushel and the U.S. can buy all of the rice that it wants at that price. The government places a tax on imported rice of $2 per bushel. Show the effect of this tax on the graph above. What will happen to the amount of rice the U.S. imports?

Question 28

The U.S. government has two different methods to deal with illegal drug use. First,
the government has tried a "war on drugs", with the idea of keeping illegal drugs out of the country. Second, the "Just say no" campaign has been used to make individuals more aware of the harmful effects of drugs. Use supply and demand to analyze the effects of these two separate policies.

Question 29

What are ration coupons and what is their purpose? Provide a historical or current example.

Question 30

Explain what will happen when the government imposes a maximum price that is
above the market equilibrium price. Why is this true?

Question 31

Define the process of queuing.

Question 32

Assume the government is concerned about the high price of Atlantic Red Crab and announces that it is going to shorten the fishing season to one week. What impact will this have on the quantity of crab caught and the price of crab? Will this actually result in greater protection of the Atlantic Red Crab?

Question 33

Suppose that the equilibrium price of a gallon of gas is $3.75 per gallon. The government decides to place a price ceiling on gasoline and will not allow sellers to charge more than $4.00 per gallon. Draw this situation using a graph. Make sure that you show the original equilibrium and the effect of the price ceiling on the market. What will happen in this market?

Question 34

What reasons do governments often give to justify the decision to not allow price to ration goods?

Question 35

When is the price of a product demand determined?

Question 36

If ration coupons are used to determine who gets the products available, what happens if the government allows individuals to trade them?

Question 37

How does price serve as a signal to resource owners?

Question 38

List some types of non-price rationing systems.

Question 39

The U.S. domestic market for T-shirts is shown below. The world price of T-shirts is $5.00 and the U.S. can buy all of the T-shirts it wants at that price. Show the world price on the graph above. Will the U.S. import or export T-shirts? How many will be traded?

Question 40

Explain what a black market is and how it functions. What is a black market generally a response to?

Question 41

Often bar owners will require that patrons stand in a line to get a wristband entitling them to pay a preferred price for drinks if they arrive early to the bar. The wristbands are typically tamper- resistant and can be easily identified if patrons have been switching wristbands with other customers. What is the bar owner concerned about and why does he make his patrons wear these bands?