CH 04

Package: Test Bank
Title: Microeconomics: Theory and Application, 12e

Chapter Number: 4
Question Type: Multiple Choice
1. Alex distributes his monthly income of $600 between two goods, movies and food. By
spending his entire income on movies, he can enjoy a maximum of 20 movies. On the other
hand, by spending his entire income on food he can consume a total of 60 units of food.
Assuming that food consumption is measured along the horizontal axis and the consumption of
movies is measured on the vertical axis, derive the slope of Alex’s budget line.
a. -1
b. -0.5
c. -3
d. -1/3
Answer: D
Difficulty Level: Hard

Section Reference: Price Changes and Consumption Choices
Learning Objective: Understand how price changes affect consumption choices.
2. Alex distributes his monthly income of $600 between two goods, movies and food. By
hand, by spending his entire income on food he can consume a total of 60 units of food. Assume
that food consumption is measured along the horizontal axis and the consumption of movies is
measured on the vertical axis. Calculate the slope of Alex’s budget line when the price of food
increases to $20 while the price of movie remains unchanged.
a. -2/3
b. – 1.5
c. -2
d. -3/4
Answer: A

3. Alex distributes his monthly income of $600 between two goods, movies, and food. By
hand, by spending his entire income on food he can consume a total of 60 units of food. Assume
that food consumption is measured along the horizontal axis and the consumption of movies is
measured on the vertical axis. What will be the slope of Alex’s budget line when the maximum
possible movie consumption declines to 15, all other things remaining the same?
a. -0.5
b. -0.25
c. -1
d. -0.47
Answer: B

4. The price-consumption curve traces the optimal market baskets for:
a. different income levels.

b. different prices of the good.
c. different consumers.
d. different years.
Answer: B
Difficulty Level: Easy

5. In an effort to deter alcohol consumption by youths, raising the legal age for alcohol
consumption causes a _____ the demand curve for alcohol, while raising the federal
per unit tax on alcohol would cause a _____ the demand curve.
a. movement along; leftward shift of

b. rightward shift of; movement along
c. leftward shift of; movement along
d. movement along; rightward shift of
Answer: C
Difficulty Level: Medium

6. Compared to the marginal rate of substitution at the original optimal consumption point, the
marginal rate of substitution at the new optimal consumption point is lower if:
a. the consumer’s income increased.

b. the price fell.
c. the price rose.
d. the consumer’s income decreased.
Answer: B

7. Which of the following is true of the well-being of a consumer as represented by a demand

curve?
a. The consumer’s well-being decreases with a rightward shift of the demand curve.
b. The consumer’s well-being varies along a demand curve.
c. The consumer’s well-being remains constant along a demand curve only in case of an inferior
good.
d. The consumer’s well-being is very low when the demand curve is parallel to the price axis.
Answer: B

8. Which of the following is true at any point along a consumer’s demand curve?
a. The consumer’s preferences for different goods can be ranked.

b. The consumer’s optimality condition is satisfied.
c. The consumer’s income increases successively as one moves downward along the demand
curve.
d. The marginal rate of substitution is constant.
Answer: B

9. From which of the following can we derive a consumer’s demand curve for a commodity?
a. Isoquants
b. Price-consumption curve
c. Production-possibility frontier
d. Contract curve
Answer: B

10. Which of the following is true of a consumer’s demand curve?
a. Consumer’s income successively decreases up along the demand curve.

b. Tastes and preferences for the good change along the demand curve.
c. The distance from the horizontal axis equals the marginal rate of substitution.
d. The price elasticity of demand is generally greater than one.
Answer: C

11. At every point on a demand curve, the height of the demand curve indicates:
a. the total benefit of the good to the consumer.

b. the minimum price the consumer is willing to pay for the good.
c. the consumer’s utility level.
d. the marginal rate of substitution.
Answer: D

12. Assume that as the price of good X rises, the demand for good Z shifts outward. On the basis
of this information we can conclude that:
a. good Z is inferior.
b. goods X and Z are complements.
c. goods X and Z are substitutes.
d. good X is an input used in the production of Z.
Answer: C

Section Reference: Income and Substitution Effects of a Price Change
Learning Objective: Differentiate between the income and substitution effects associated with a
price change on the consumption of a particular good.
13. The substitution effect is the change in consumption due to:
a. a change in relative prices.

b. a change in income.
c. a change in utility.
d. a change in the availability of complements.
Answer: A

14. For two goods which are perfect complements, the substitution effect of a price decrease is:
a. positive.
b. negative.
c. zero.
d. one.
Answer: C

15. Which of the following is likely to occur if a consumer’s income declines with no change in
the price level?
a. The consumer will shift to a lower indifference curve.

b. The consumer will consume fewer amounts of the inferior good.
c. The consumer’s real income will increase.
d. The income effect on consumption will be zero.
Answer: A
16. The _____ depicts the change in a consumer’s real purchasing power brought about by a
change in the price of a good.
a. marginal rate of substitution

b. indifference curve
c. budget line
d. income effect
Answer: D

17. How does the income effect from the decrease in the price of a good differ from the income
effect resulting from an increase in one’s income?
a. The former moves the consumer to a higher indifference curve but the latter does not.
b. The latter moves the consumer to a higher indifference curve but the former does not.
c. With the price change the consumer is on a higher indifference curve but on a lower slope
relative to the increase in income.
d. There is no difference between the two.
Answer: C

18. Suppose red onions are on the horizontal axis and white onions on the vertical axis. If both
are perfect substitutes with two white onions worth one red onion, and the price of red onions
falls from four to three times the price of white onions, the consumer:
a. decreases her consumption of white onions and increases her consumption of red onions.
b. increases her consumption of white onions and decreases her consumption of white onions.
c. moves to a higher indifference curve
d. makes no change in his/her consumption of onions and experiences no income effect as a
result of the price change.
Answer: D

19. The substitution effect of a price decrease:
a. allows the consumer to obtain a higher level of well-being.

b. reflects an increase in real income.
c. is a movement along the indifference curve to consume more of the lower priced good and less
of the higher priced good.
d. is a shift of the indifference curve indicating higher consumption of both the goods.
Answer: C

20. Assume that the price of gasoline falls. Conceptually, if we wish to isolate the substitution
effect of the price change we must:
a. place the consumer at a new indifference curve with new relative prices.
b. place the consumer on the original indifference curve with the original relative prices.
c. place the consumer on the original indifference curve with the new relative prices.
d. place the consumer at a new indifference curve with the original relative prices.
Answer: C

21. In case of a normal good, the income and substitution effects:
a. always work together and both tend to make the demand curve downward sloping.
b. always work in the opposite direction to one another.
c. just offset each other.
d. work together, both tending to make the demand curve upward sloping.
Answer: A

22. A consumer considers apples and oranges to be perfect substitutes, one for one. If apples
currently cost $5 per unit and oranges $6 per unit, and if the price of apples increases to $9 per
unit:
a. the income effect of the change in demand for apples will be bigger than the substitution
effect.
b. there will be no change in demand for oranges.
c. the entire change in demand for apples will be due to the substitution effect.
d. one-quarter of the change in demand for apples will be due to the income effect.
Answer: C

23. The substitution effect causes more consumption of a good at a lower price. When does this
statement hold true?
a. This statement is true only for Giffen goods.

b. This statement is sometimes true for inferior goods, but never for normal goods.
c. This statement is always true for normal goods, but never for inferior goods.
d. This statement is always true regardless of the type of good.
Answer: D

24. For normal goods, the demand curve is:
a. always upward sloping.

b. always downward sloping.
c. upward sloping only if the income effect is larger than the substitution effect.
d. downward sloping only if the substitution effect is larger than the income effect.
Answer: B

25. The substitution effect of a price change:
a. will always offset the income effect.

b. will always result in the consumer buying less of a good at a higher price.
c. dominates the income effect in the inferior good case.
d. will always be lower than the income effect of the price change.
Answer: B

26. The income effect of a price change:
a. is always larger than the substitution effect in the inferior good case.
b. produces a backward-bending income-consumption curve.
c. reinforces the substitution effect in the normal good case.
d. is always positive.
Answer: C

27. Which of the following is true of an excise tax?
a. It has an income and a substitution effect.

b. It only has an income effect.
c. It only has a substitution effect.
d. The income and substitution effects work in opposite directions in case of an excise tax.
Answer: A
28. For the average consumer, the combination of an excise tax and a tax rebate:
a. increases consumption of the taxed good but lowers welfare.

b. increases consumption of the taxed good and raises welfare.
c. decreases consumption of the taxed good and lowers welfare.
d. decreases consumption of the taxed good but raises welfare.
Answer: C

29. Suppose the government levies a tax on sugar at the rate of $0.50 per pound. Then the
government returns the tax revenues to a family in the form of a cash grant equivalent to the
average tax paid per family. If the family's cash refund just equals the total amount of tax they
paid on sugar, which of the following statements would be true?
a. The family would consume less sugar and be better off.

b. The family would consume the same amount of sugar and be worse off.
c. The family would consume less sugar and be worse off.
d. The family would consume less sugar but their well-being would remain unchanged.
Answer: C

30. The combination of an excise tax and a tax rebate of equal size:
a. always raises consumer welfare.

b. necessarily harms the consumer.
c. keeps the consumer surplus unchanged.
d. does not lead to any deadweight loss.
Answer: B
31. Assume that the excise tax rate on Good Y, an inferior good, is reduced. What would be the
total effect of this tax reduction on an individual’s consumption?
a. The individual’s consumption will remain fixed.

b. The individual’s consumption of good Y can either increase or decrease.
c. The individual’s consumption will increase exponentially.
d. The individual’s consumption will increase at a constant rate.
Answer: B

Section Reference: Income and Substitution Effects: Inferior Goods
Learning Objective: Explain the relation between income and substitution effects in the case of
inferior goods.
32. A case where a consumer buys less of a good when its price falls:
a. cannot occur if the indifference curves are convex to the origin.

b. is an example of a Giffen good and will produce an upward-sloping market demand curve.
c. gives rise to a positively sloped price-consumption curve.
d. refers to an inferior good with a substitution effect that dominates the income effect.
Answer: B

inferior goods.
33. Assume that peanut butter is an inferior good. Which of the following best describes the
income and substitution effects as the price of peanut butter rises?
a. The substitution effect leads the consumer to buy more peanut butter while the income effect
would cause the consumer to purchase less.
b. Both the income and substitution effects would cause the consumer to purchase less peanut
butter, although the substitution effect is larger.
c. Both the substitution and income effects would cause the consumer to purchase more peanut
butter.
d. The substitution effect causes the consumer to buy less peanut butter while the income effect
causes the consumer to purchase more.
Answer: D

inferior goods.
34. Which of the following must be true for a Giffen good?
a. The good must be inferior and the income effect must be larger than the substitution effect.
b. The good must be inferior and the substitution effect must be larger than the income effect.
c. Both the income and the substitution effect of a price rise will be positive.
d. Both the income and the substitution effect of a price rise will be negative.
Answer: A

inferior goods.
35. A demand curve will have a positive slope when:

a. the good is an inferior good.
b. the income effect of a price change outweighs the substitution effect.
c. there are no substitutes for the good.
d. the good can be consumed only with some other good.
Answer: B

inferior goods.
36. The difference between an inferior good and a Giffen good is that:
a. the substitution effect of a price increase raises consumption for a Giffen good but decreases
consumption of an inferior good.
b. the income effect is larger than the substitution effect for a Giffen good but is smaller than the
substitution effect for the inferior good.
c. the income effect is smaller than the substitution effect for a Giffen good but is larger than the
substitution effect for the inferior good.
d. a Giffen good is a special case of a normal good and is therefore quite different from an
inferior good.
Answer: B

inferior goods.
37. Which of the following statements is true?

a. Some inferior goods are normal goods.
b. Some Giffen goods are inferior goods but all inferior goods are Giffen goods.
c. All Giffen goods are inferior goods but all inferior goods are not Giffen goods.
d. Some normal goods are inferior goods.
Answer: C

inferior goods.
38. When the substitution effect of a price change that is positive is greater than the income
effect that is negative:
a. the good is an inferior good.

b. the good is a Giffen good.
c. the good is a normal good.
d. the good has no substitute.
Answer: A

inferior goods.
39. Which of the following is true of a Giffen good?
a. It is a special case of an inferior good where the income effect is greater than the substitution
effect and runs counter to it.
b. It is similar to an inferior good, though the income effect is positive and greater than the
substitution effect.
c. It is similar to an inferior good, though the income effect is not as large for the Giffen good as
it is for the inferior good.
d. It is mostly prevalent in developing economies.
Answer: A

inferior goods.
40. Which of the following is true of inferior goods?
a. They are typically cheaper compared to other goods.

b. They usually do not have complements.
c. They are narrowly defined goods facing higher-quality substitutes.
d. They are broadly defined goods facing higher-quality substitutes.
Answer: C

inferior goods.
41. If there are only two goods, coffee and donuts, and coffee is an inferior good for a consumer,
then:
a. the consumer does not value an extra unit of coffee in terms of donuts.
b. a price increase for coffee leads to a higher level of well-being.
c. donuts cannot be an inferior good.
d. donuts can be an inferior good but not a Giffen good.
Answer: C

inferior goods.
42. Consider a commodity that is being demanded by only two individuals, A and B. If the
demand curves of these two individuals is estimated by the following equations: Q1 = 12 – P and
Q2 = 14 – 1.5P, the market demand curve will be:
a. Q = 12 – 1.5P
b. Q = 26 - 2.5P
c. Q = 13 – 1.25P
d. Q = 14 – 1.5P
Answer: B
Section Reference: From Individual to Market Demand
Learning Objective: Explain how individual demand curves are aggregated to obtain the market
demand curve.
43. Which of the following is true of a market demand curve?
a. The market demand curve will always slope upward when the good in question is a normal
good.
b. When the individual demand curves slope downward, the market demand curve also slopes
downward.
c. The vertical summation of the individual demand curves gives the market demand curve.
d. The market demand curve is typically unaffected by the factors that affect an individual
demand curve.
Answer: B

demand curve.
44. At the price of $3, consumers A, B, C, and D demand 10 units, 12 units, 14 units, and 8 units
of commodity A respectively. Calculate the market demand for commodity A at $3 assuming that
A, B, C, and D are the only four consumers of this product.
a. 44 units
b. 12 units
c. 960 units
d. 36 units
Answer: A

demand curve.
45. Assume that the market demand curve for a good is constructed from a hundred identical
individual demand curves. Using the same scale on the graph, the slope of the market demand
curve will be _____ and its price elasticity _____ that of the individual demand curves.
a. steeper; equal to
b. steeper; more than
c. flatter; equal to
d. flatter; more than
Answer: C

demand curve.
46. A market demand curve for a commodity may be obtained by:
a. dividing the total quantity demanded by all consumers by the price level.
b. dividing the total price paid by the consumers by the number of consumers.
c. adding the prices along individual demand curves for given quantities.
d. adding the quantities along individual demand curves for given prices.
Answer: D

demand curve.
47. Assume that a market demand curve is constructed from one hundred identical individual
demand curves. Assume also that at a price of $4, the elasticity of individual demand is 0.6. Then
the elasticity of the market demand curve derived from these individual demand curves must be:
a. 0.6.
b. any value more than 0.6.
c. any value less than 0.6.
d. 60.
Answer: A

demand curve.
48. Assume that a market demand curve is constructed from twenty identical individual demand
curves. Assume also that at a price of $10, the elasticity of individual demand is 0.5. Then, at this
price, the elasticity of the market demand curve derived from these individual demand curves
must be:
a. 5
b. any value more than 5.0.
c. any value less than 5.0.
d. 0.5.
Answer: D

demand curve.
49. Which of the following is true of a market demand curve?
a. It might slope upward if the typical consumer has an upward-sloping individual demand curve.
b. It can never slope upward.
c. It will slope upward if at least one consumer has an upward-sloping individual demand curve.
d. It will slope upward if individual demand curves are inelastic.
Answer: A

demand curve.
50. Which of the following statements provides the best example of consumer surplus?
a. “Drinking that bottle of soda increased my happiness by $10.”

b. “John gave me $5 for the watermelon even though it cost me only $2.”
c. “I paid $20 for this shirt for which I would have paid up to $40.”
d. “I refuse to pay $30 for their steak dinner; it’s highly overpriced.”
Answer: C

Section Reference: Consumer Surplus
Learning Objective: Demonstrate how consumer surplus represents the net benefit, or gain, to an
individual from consuming one market basket instead of another.
51. A consumer is willing to pay a maximum of $5 for the first pretzel, $4 for the second pretzel,
$3 for the third pretzel, $2 for the fourth pretzel, $1 for the fifth pretzel and nothing for the sixth
pretzel. If the price per unit of pretzel is $2, calculate the net benefit to the consumer.
a. $6
b. $14
c. $5
d. $8
Answer: A

52. Ceteris paribus, when the price of a normal good increases, consumer surplus:
a. decreases.
b. increases.
c. does not change.
d. may increase, decrease, or remain the same.
Answer: A

53. Which of the following is a means of measuring consumer surplus?
a. Measuring the area above the supply curve and below the demand curve
b. Measuring the area above the price and below the demand curve
c. Measuring the horizontal distance between indifference curves
d. Measuring the area between the price and the supply curve
Answer: B

54. Suppose the total benefit eight people enjoyed from consuming one cookie each was $8 + $6
+ $6 + $5 + $4 + $3 + $3 +$1. If the price of a cookie was $1, what was the consumer surplus in
this market?
a. $8
b. $28
c. $36
d. $37
Answer: B

55. Suppose the total consumer surplus enjoyed by eight people from consuming one hamburger
each was $9 + $8 + $7 + $7 + $7 + $6 + $6 + $5. If the price of hamburgers was $2 each, what
was the total benefit enjoyed by these consumers?
a. $39
b. $45
c. $55
d. $71
Answer: D

56. A consumer is willing to pay a maximum of $5 for the first pretzel, $4 for the second pretzel,
$3 for the third pretzel, $2 for the fourth pretzel, $1 for the fifth pretzel, and nothing for the sixth
pretzel. If the price per unit of pretzel is $2, calculate the total benefit of the consumer.
a. $6
b. $14
c. $5
d. $8
Answer: B

57. If the costs of production increase, consumer surplus will:
a. increase.
b. decrease.
c. remain the same.
d. increase initially, then decrease.
Answer: B

58. A consumer currently purchases a good at a price such that her net benefit is positive. Her
preference then changes and she now values the good more than before.
If the market price remains unchanged, which of the following statements about her consumer
surplus would be true?
a. Her consumer surplus would also remain the same.

b. Her consumer surplus would decrease.
c. Her consumer surplus would increase.
d. Her consumer surplus could increase or decrease depending on her demand elasticity.
Answer: C

59. Suppose the demand for lattes can be estimated using the equation QD=9 – P, if the price is
$3 per latte, how much is the consumer surplus?
a. $9
b. $12
c. $15
d. $18
Answer: D

60. For the same fall in price, the increase in consumer surplus is greater if:
a. the good is a Giffen good rather than a normal good.
b. the good is normal rather than an inferior good.
c. the good is an inferior good rather than a normal good.
d. the good is a Giffen good rather than an inferior good.
Answer: B

61. Consumer surplus can be depicted as the vertical distance between indifference curves,
provided:
a. the substitution effect is positive.

b. the substitution effect is zero.
c. the income effect is positive.
d. the income effect is zero.
Answer: D

62. The indifference curve approach to measuring consumer surplus will yield the same answer
as the approach using areas under the demand curve if:
a. the substitution effect of a price change is zero.

b. the substitution effect of a price change is larger than the income effect.
c. the income effect of a price change is larger than the substitution effect.
d. the income effect of a price change is zero.
Answer: D

63. If the price-consumption curve is downward sloping, then a consumer’s total expenditure on
the good:
a. will become negative as price falls.
b. will increase as price falls.
c. will remain unaffected by changes in the price level.
d. will reduce to zero as price falls.
Answer: B

Section Reference: Price Elasticity and the Price–Consumption Curve
Learning Objective: Investigate the relationship between own-price elasticity of demand and the
price–consumption curve.
64. If the price-consumption curve for X is upward-sloping, we can say that:
a. the price elasticity of demand for X is greater than one.

b. the price elasticity of demand for X is less than one.
c. X is an inferior good.
d. the price elasticity of demand for X is equal to one.
Answer: B

65. Suppose hamburgers are on the horizontal axis and all other goods on the vertical axis. John
noticed that since the price of hamburgers has increased, the total amount he spends on
hamburgers each month increased. Given this information we can conclude that John’s price-
consumption curve for hamburgers and all other goods is:
a. positively sloped.
b. negatively sloped.
c. horizontal.
d. U-shaped.
Answer: A

66. Isabelle consumes both peaches and bananas. After the price of bananas increased by 20%,
Isabelle’s consumption of bananas decreased by half. If bananas are on the horizontal axis and
peaches on the vertical axis, we can conclude from this information that Isabelle’s price
consumption curve for peaches and bananas will be:
c. horizontal.
d. U-shaped.
Answer: B

67. Troy likes attending Major League Baseball games and going to concerts. Following a 10%
increase in the price of tickets to Major League Baseball (MLb. games, Troy’s attendance at
these games fell by 10%. If tickets to MLB games are on the horizontal axis and tickets to
concerts on the vertical axis, using the information above, we can conclude that Troy’s price-
consumption curve between tickets to MLB games and tickets to concerts is:
c. horizontal.
d. U-shaped.
Answer: C

68. If the price-consumption curve for X is entirely downward sloping, it implies:
a. the price elasticity of demand for X is greater than one.

b. the price elasticity of demand for X is less than one.
c. X is an inferior good.
d. the price elasticity of demand for X is equal to one.
Answer: A

69. If the price-consumption curve is horizontal, then demand elasticity:
a. must be negative.
b. must be between 0 and 0.5.
c. is greater than 1.
d. is equal to 1.
Answer: D

70. If the price-consumption curve is U-shaped then the demand for the commodity is:
a. perfectly inelastic.
b. relatively inelastic.
c. elastic at high prices and inelastic at low prices.
d. inelastic at high prices and elastic at low prices.
Answer: C

71. Assume that the quantity of steak is plotted on the horizontal axis and all other goods are
plotted on the vertical axis. For the range in which the price-consumption curve is downward
sloping, the price elasticity of demand for steak:
a. is elastic.
b. is inelastic.
c. is unit-elastic.
d. cannot be determined without additional information.
Answer: A

72. Assume that the quantity of film is plotted on the horizontal axis and all other goods plotted
on the vertical axis. For the range in which the price-consumption curve is upward sloping, the
price elasticity of demand for film:
a. is elastic.
b. is inelastic.
c. is unit-elastic.
d. cannot be determined without additional information.
Answer: B

73. If the price-consumption curve is upward sloping, then demand elasticity:

a. may be greater than 1.0.
b. must be less than 1.0.
c. equals 1.0
d. must be between 0.5 and 1.5.
Answer: B

74. If an individual's demand curve for apples is a downward sloping straight line, the price
consumption curve will be:
a. downward sloping.
b. horizontal.
c. u-shaped.
d. upward sloping.
Answer: C

75. Suppose we measure good X on the horizontal axis and other goods on the vertical axis.
When the price-consumption curve for good X is:
a. upward-sloping, total expenditure on the good is increasing as the price falls.

b. downward-sloping, total expenditure on other goods is increasing as the price falls.
c. upward-sloping, total expenditure on the good is decreasing as the price falls.
d. upward-sloping, total expenditure on other goods is decreasing as the price falls.
Answer: C

76. A network effect exists when an individual consumer’s demand for a good is affected by
other individuals’:
a. incomes.
b. purchases.
c. preferences.
d. consumer surplus.
Answer: B

Section Reference: Network Effects
Learning Objective: Derive the Consumer’s Demand Curve Mathematically.
77. Which of the following describes the bandwagon effect?
a. Sarah bought a new diamond jewelry set to wear at her sister’s wedding.
b. Bob and Harris bought new running shoes from Nike after their friends at the health club
started using them.
c. Allen decided to quit drinking to save more money for his new car.
d. Bill gifted his friend a home theater system at her wedding.
Answer: B

78. A negative network externality is caused by the:
a. bandwagon effect.
b. snob effect.
c. herd effect.
d. fad effect.
Answer: B

79. The bandwagon effect causes the market demand to become:
a. relatively more elastic.

b. relatively less elastic.
c. perfectly inelastic.
d. unit elastic.
Answer: A

80. Which of the following is most likely to cause a snob effect?
a. A jet ski
b. A fax machine
c. An original Van Gogh painting
d. An Apple iPhone
Answer: C

81. Positive network effects are often viewed as a two-edged sword for firms because they:
a. increase the probability of higher market share, but make it easier to raise prices.
b. increase the probability of lower market share, while making it easier to raise prices.
c. increase the probability of higher market share, but limit the ability to raise prices.
d. decrease the probability of higher market share, but make it easier to raise prices.
Answer: C

82. Which of the following methods is not generally relied upon to estimate demand?
a. Experimentation such as lowering the price of a product

b. Surveys by mail, telephone, or focus groups
c. Regression analysis on existing data
d. Comparison with competitors’ sales
Answer: D

Section Reference: The Basics of Demand Estimation
Learning Objective: Examine network effects: the extent to which an individual consumer’s
demand for a good is influenced by other individuals’ purchases.
83. Limitations of using experimentation to estimate demand elasticities include:
a. difficulty in determining which product’s elasticity to estimate.

b. difficulty in isolating the impact of price from all other factors affecting demand.
c. difficulty in getting customers to buy the product whose elasticity is being estimated.
d. difficulty in being able to filter out valid facts from the information set.
Answer: B

84. To economists, survey data is not always reliable because:
a. surveys are not conducted on a random sample from the population.

b. there is no cost involved in providing incorrect or poorly thought out responses to survey
questions.
c. once gathered, the data is not in a format useful to economic analysis.
d. people are never honest.
Answer: B
85. Suppose you have quantity (Q) on the horizontal axis and price (P) on the vertical axis. After
running an ordinary least squares regression you have the following results: Q = 100 - 0.02P. The
slope of this equation is:
a. 100.
b. 0.001.
c. 50.
d. 0.02.
Answer: C

86. With respect to the ordinary least-squares technique of estimating an equation,

“best fitting” means that the estimated equation line will:
a. be as straight as possible.
b. pass through the minimum number of the observed data points as possible.
c. be as close as possible to the observed data points.
d. maximize the sum of the distances between the estimated line and observed data points.
Answer: C

ö
87. The estimated demand function for ice cream cones, Qi  5.3  2.4 Pi , is based on a sample of
50 children. If the price of an ice cream cone increases by $1, by how much does the quantity
demanded of ice cream cones change on average?
a. Quantity demanded increases by 5.3

b. Quantity demanded decreases by 5.3
c. Quantity demanded decreases by 2.4
d. Quantity demanded increases by 2.4
Answer: C

88. U = CaMa-1 is an example of a:
a. Cobb-Douglas production function.

b. Cobb-Douglas utility function.
c. quadratic utility function.
d. quadratic production function.
Answer: B

Section Reference: Deriving the Consumer’s Demand Curve Mathematically
Learning Objective: Overview the basics of demand estimation.
89. The demand function for good C is derived from the utility function, U = CaMa-1 depends
upon:
a. the consumer’s income and the prices of C and M.

b. the consumer’s income and the price of C.
c. the consumer’s income and the price of M.
d. the prices of both C and M, but not income.
Answer: B

90. The exponents of a Cobb-Douglas utility function, U = CaMa-1, represent:
a. the share of income devoted to that good.

b. the rate at which a consumer can trade one good for the other.
c. the quantity of each good that is demanded.
d. the amount of utility each good provides.
Answer: A

Question Type: Short Answers
91. Suppose coffee and cream are perfect, two-for-one complements and Jack spends his budget
of $12 per day on these two goods. That is, assume that Jack likes one ounce of cream for every
two ounces of coffee. The price of cream is $2 per ounce. The price of coffee is also $2 per
ounce. (It’s a fancy coffee shop.)
a) Graph Jack’s budget line and at least two of his indifference curves.
Label the lines appropriately and identify the values of the intercepts.
b) What is Jack’s optimal consumption choice? That is, how many ounces of coffee and cream
would maximize his utility?
c) What will be the income and substitution effects of an increase in the price of cream to $4 per
ounce?
d) Find Jack’s demand curve for cream. Assume the price of coffee is still $2 and income is $12.
Answer:
a)
AB is the budget line, with y-intercept of 6 ($12/$2 per ounce of coffee) and x-intercept of 6
($12/$2 per ounce of cream). The indifference curves, labeled U1, U2, etc., are those of perfect
complements, “L-shaped” lines which are combined as 2 ounces of coffee for each ounce of
cream.
b) Jack consumes 4 ounces of coffee and 2 ounces of cream.
How do we find this? First note that Jack wants to reach the highest indifference curve within
his budget set. Since his indifference curves are those of perfect complements, we can see that
his utility increases as we move along the ray with a slope of +2 starting from the origin (the
dashed line). This line is described by the equation: F = 2C, where F is coffee and C is cream.
Substituting into the equation for the budget line (which is F = -C + 6), we get 2C = -C+ 6, C* =
2 ounces of cream. Thus, F* = 4 ounces of coffee (point X).
c) When the price of cream rises from $2/ounce to $4/ounce, the budget line rotates inward along
the x-axis to the new budget constraint is AC. The equation of this budget line is F = -2C + 6.
Combining with the maximum utility ray F = 2C, we find that the new optimal consumption
bundle is 3 ounces of coffee and 1.5 ounces of cream. Thus, point z = (C, F) = (1.5, 3)
The substitution effect (SE) is identified by facing the new prices and keeping “income” or utility
constant. We move the new, final budget line (Ac. parallel until it is tangent to the original IC
(which has utility level U1). This is the dotted budget line and the tangency occurs at point X.
Therefore, the SE = 0. X and Y are the same point. There is no substitution effect.
The Income Effect is then the move from Y to Z, Jack’s new optimal consumption point. Thus,
if the price of cream goes up relative to the price of coffee, Jack will not alter his proportions of
coffee and cream (because they’re perfect complements). But because the price increase lowers
his real purchasing power (that is, because it limits the quantities of both goods that he can buy),
he will respond by buying less of each. The income effect will thus cause him to lower his
consumption of both coffee and cream by the same proportion.
d) We have F = 2C and F = -2C+6, from above.

The second equation, written for general prices of coffee and cream, is
F = -(PC/PF)C + I/PF , which becomes F = -(PCc./2 + 6
So, 2C = -(PCc./2 + 6 so C = 12/(PC +4).

Section Reference 01: Price Changes and Consumption Choices
Section Reference 02: Income and Substitution Effects of a Price Change
Learning Objective 01: Understand how price changes affect consumption choices.
Learning Objective 02: Differentiate between the income and substitution effects associated with
a price change on the consumption of a particular good.
92. Each day a precocious pre-schooler eats lunch at school using the $1 lunch allowance given
by his parents. He only likes Twinkies (T) and orange slices (S), which provide him utility
according to the utility function U (T , S )  T S .
1 1
2 2
a) Derive the demand functions for S and T. Let I represent income,

PT the price of Twinkies, and PS the price of slices.
b) If Twinkies cost $0.10 each and slices are $0.25 each, how should the pre-schooler spend the
$1 his parents give him in order to maximize his utility? Assume fractional units are possible.
What is his maximum utility level?
c) How would the price of Twinkies affect the demand for Slices?
Answer:
a) L  T S   I  PT T  PS S 
1 1
2 2
L 1
 0  12 S 2 T 2  PT   0
1
T
L 1
 0  12 T 2 S 2  PS   0
1
S
L
 0  I  PT T  PS S  0

1 1 1 1
S 2T 2 T 2 S 2 PT
  S  T
Combining & yields, 2( PT ) 2( PS ) PS
Substituting the value of S into and solving for T yields:
P T  I
I  PT T  PS  T   0  I  2 PT T  0  T * 
 PS  2 PT
.
PT P  I I
S  T  S *   T  
PS  PS  2 PT 2 PS
Thus,
(b) Substituting the values of PS and PT in the demand functions derived in the previous question
we get: T  5, S  0.4(5)  2,U  10  3.162 .
* * * 1
2
c) Note that PT does not appear in the demand function for Slices. Therefore, when the price of
Twinkies changes, the preschooler continues to purchase exactly the same amount of Slices.
Another way to say this is that there are no cross-price demand effects. Finally, note that if the
utility function given in the problem was different, the demand functions would be different.
Thus, this unrealistic result is a feature of Cobb-Douglas functions.

Section Reference 01: Price Changes and Consumption Choices
Section Reference 02: Deriving the Consumer’s Demand Curve Mathematically
Learning Objective 01: Understand how price changes affect consumption choices.
Learning Objective 02: Overview the basics of demand estimation.
93. Answer the following:
a) Draw a diagram of an individual’s consumption decision between xylophones (put it on the x-

axis) and yo-yo’s (put it on the y-axis). Now assume the price of Yo-yo decreases. Graphically
decompose the total change in demand into the income and substitution effects such that yo-yo’s
are inferior but not a Giffen good.
Explain the movements between your initial consumption bundle (call it point a., the
intermediate bundle (point b., and the final consumption bundle (point c..
b) Is the demand curve for yo-yo’s downward-sloping? Why or why not?
c) As you’ve drawn it, are xylophones and yo-yos complements or substitutes? Why?
Answer:
a)
Yo-yo's
YB B
C
YC A
YA
0 XB XA X Xylophones
C
Label the initial, intermediate, and final points “A”, “B”, and “C”, respectively. Initially, the
optimal consumption bundle is (XA, Ya. at point A. This is the highest level of utility attainable
given the person’s preferences (as represented by the shape of the indifference curve) and the
constraints (income and prices which identify the budget set).
The price of a yo-yo falls, so the budget line rotates outward, keeping the same x-intercept since
the maximum number of xylophones possible is unchanged. The substitution effect (SE) is
isolated by keeping utility constant at U1, and facing the new prices, so the slope of the dashed,
hypothetical budget line is the same as the slope of the final budget line. The SE leads to greater
consumption of yo-yo’s (YB > Ya. and less consumption of xylophones (XB < Xa. because yo-yo’s
are now relatively less expensive.
The move from B to C represents the income effect. Therefore, since YB > YC, yo-yo’s are
inferior – consumption of yams fell when income (purchasing power) rose. Yo-yo’s are not
Giffen because YC > YA.
b) The demand curve for yo-yo’s is downward sloping despite the fact that they are an inferior
good. Inferior (non-Giffen) goods have a SE > IE, thus the demand curve is downward-sloping.
If the IE > SE, the demand curve would have a perverse (but theoretically and empirically
possible despite being rare; Irish potatoes in the mid-19th century) upward slope.
The downward slope can also be seen on the graph above by looking at how the consumption of
Y changed when the price of Y changed. The price of Y fell and the consumption of Y increased
(because YC > Ya., which if plotted, will yield a downward-sloping demand curve.
c) Because the demand for xylophones increased (XC > Xa. when the price of yo-yo’s decreased,
they are complements. Note that this is a graphical representation of the cross-price elasticity,
for which we hold income and the price of X, in this case, constant. If point C had been to the
left of point B on the x-axis (such that XC < Xa., they would be substitutes.

Section Reference 01: Income and Substitution Effects: Inferior Goods
Section Reference 02: Income and Substitution Effects of a Price Change
Learning Objective 01: Explain the relation between income and substitution effects in the case
of inferior goods.
Learning Objective 02: Differentiate between the income and substitution effects associated with
a price change on the consumption of a particular good.
94. In the country of Aldeine, the market demand for Good A is derived from the individual
demand curves of five consumers who consider A to be a Giffen good. Determine the shape of
the market demand curve for A. How it is different from the market demand curve for normal
goods.
Answer: The individual demand curves of consumers of a Giffen good typically slope upward.
Since all the consumers of Good A in the above question consider it to be a Giffen good, its
market demand curve has to be upward sloping. The market demand curve is a horizontal
summation of the individual demand curves. Therefore, for normal goods, when the individual
demand curves slope downward, the market demand curve also slopes downward. A market
demand curve, however, can slope downward even if some consumers have upward-sloping
individual demand curves. In a market with thousands of consumers, if a few happened to have
upward-sloping demand curves, then their contribution to the market demand curve would be
more than offset by the normal behavior of the other consumers if most of them consider the
good to be a normal good.

demand curve.
95. Suppose there are 20 identical consumers in a market, each with demand curve given by P =
100 – 4Qi, where P is price per unit and Qi is the number of units demanded by the ith consumer.
What is the equation for the market demand curve?
Answer: Market demand is the horizontal summation of individual demands. Therefore, Qmarket =
SQi = 20Qi since each consumer has the same demand. Rearranging the individual market
demand, we get Qi = 25 – P/4. Substituting, we get Qmarket = 20(25– P/4) = 500 – 5P, or
equivalently, P = 100 – Qmarket/5.

demand curve.
96. The individual demand curve for a commodity is given by the equation P = X – Q/2, where
X is the choke price (price at which quantity demanded is zero). Derive the consumer surplus
when the price of the commodity is $5 and X = 10. Using the same demand equation, determine
how the consumer surplus will change if price falls to $3 per unit.
Answer: When the choke price is 10 and price is $5, Q = (10-5) × 2 = 10 as shown in the figure
given below.
Price
$10
$5
$3
0 5 10 15 20 25 Output
14
Consumer surplus = ½ × 10 × 5 = $25.

When the price of the commodity declines to $3, from the demand equation we find that the
quantity demanded increases to 14 units [Q = (10-3) × 2]. Consumer surplus increases to ½ × $7
× 14 = $49.

97. Let Jack’s demand curve for coffee be given by P = 20 – Q, where P is price per cup and Q is
quantity consumed per month. If Jack’s monthly income is $2,500 and the price of a cup of
coffee is $2, how much will consumer surplus fall if the coffee shop raises the price to $4 per
cup?
Answer:
Price
($/cup) E
$20
F A
$4
G
$2 B
16 18 20 Quantity (cups per month)

At $2 per cup, consumer surplus is area EBG, equal to ½(18)(20-2) = $162. After the price
doubles, consumption falls to 16 cups per month and consumer surplus is area EAF, equal to
½(16)(20-4) = $128. The loss in consumer surplus is thus $162 - $128 = $34 (area FABG). Note
that the income effect of a price increase is likely to be small since Jack is spending such a small
percentage of his income on coffee. Therefore, we can use this ordinary demand curve (which
does not compensate for changes in purchasing power) to approximate changes in consumer
surplus. See Willig, R. (1976), “Consumer Surplus Without Apology,” American Economic
Review, vol. 66, pp. 589-597.

98. A consumer’s demand function for a good Q is of the form P = 20 – 2Q. Derive the
consumer’s price elasticity of demand for this good when price decreases to $6 from $8. What
can be inferred about the shape of the consumer’s price consumption curve?
Answer: When the price is $8, quantity demanded will be Q = (20 – 8)/2 = 6 units. When the
price falls to $6, quantity demanded will increase to Q = (20 – 6)/2 = 7 units.
We know that price elasticity of demand = (%change in quantity demanded)/(% change in the
price of the good) = 2/3% = 0.67%. Here the percentage change in quantity demanded is less
than the percentage change in price, hence demand is relatively inelastic.
When the demand for the commodity is relatively inelastic, the consumer’s price-consumption
curve slopes upward. The figure given below shows a positively sloped price-consumption
curve.
Other goods
Price-consumption curve
U2
U1
0 GoodQ

99. Mariana has a preference for exquisite handcrafted jade ornaments imported from Japan. She
displays her possessions at social gatherings and feels proud when her friends compliment her on
the same. When approached by her friends for the source of these ornaments she indirectly
refuses to reveal it by diverting the conversation to other things. She feels that once her friends
start purchasing similar ornaments the exclusivity of her collection will be lost. Explain
Mariana’s behavior within the context of the demand theory.
Answer: Mariana’s behavior can be explained in terms of the snob effect. She demands the jade
ornaments because the number of other consumers purchasing the same good is very small and
selected. The snob effect occurs when the quantity of a good demanded by a particular consumer
is smaller the larger the number of other consumers purchasing the same good. It occurs when a
consumer is less willing to purchase a good when its usage becomes more widespread. A
consumer’s valuation of such goods may be greater the more exclusive the goods are, mainly on
account of the prestige and admiration derived by the consumer from the goods being selectively
owned. The market demand curve is more inelastic in the case of goods characterized by a snob
effect.

100. Use the following chart to complete this exercise. Q represents the quantity demanded and
P represents the price level.
Q P
48 $0.05
46 $0.10
41 $0.15
40 $0.20
33 $0.25
26 $0.30
24 $0.35
17 $0.40
9 $0.45
4 $0.50
a) Graph the data using a spreadsheet such as Microsoft Excel or Apple Numbers.
b) Using the regression tool in Excel, regress price on quantity.
c) Using your equation, if the price per cookie was 30¢, what is the consumer surplus?
d) What is the elasticity of demand at this point?

Answer:
a)
$0.60
$0.50
$0.40
$0.30
$0.20
$0.10 y = -0.0097x + 0.5551

2
R = 0.9784
$-
0 10 20 30 40 50 60
b)
Regression Statistics
0.9891556
Multiple R 16
0.9784288
R Square 33
Adjusted R 0.9757324
Square 37
Standard 2.3985475
Error 4
Observatio
ns 10
ANOVA
df SS MS F
2087.5757 2087.5757 362.86542
Regression 1 58 58 01
46.024242 5.7530303
Residual 8 42 03
Total 9 2133.6
Coefficient Standard
s Error t Stat P-value
56.466666 1.6385199 34.461996 5.49538E-
Intercept 67 04 18 10
- -
100.60606 5.2814278 19.049026 5.97221E-
P 06 62 75 08
c) The equation in the graph shows the vertical intercept to be about .56. You can also use the
regression equation as well, but the equation must be inverted to find P as a function of Q, rather
than its conventional form of Q as a function of P. In this case, the intercept for P is roughly
equivalent the intercept for Q, which is about .56.
At 30¢ per cookie, the chart reveals that 26 cookies will be purchased. We can now use .3, .56,
and 26 as the three points to determine consumer surplus.
(.56-3)/2 • 26 = $3.3
d) Using the coefficient for P in our regression equation, with P = 30¢ and Q = 26, the elasticity
of demand at this point is -100 • (.3/26) = -1.15.
You could also use the chart to estimate elasticity. From 30¢ to 35¢, quantity demanded
decreased by 5, from 33 to 28.
28  33
%Q .1515
  33   .91
%P .35  .3 .1667
.3


Section Reference 01: The Basics of Demand Estimation
Section Reference 02: Section Reference: Consumer Surplus
Learning Objective 01: Examine network effects: the extent to which an individual consumer’s
Learning Objective 02: Demonstrate how consumer surplus represents the net benefit, or gain, to
an individual from consuming one market basket instead of another.

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Package: Test Bank

Title: Microeconomics: Theory and Application, 12e

Question Type: Multiple Choice

Difficulty Level: Hard

Difficulty Level: Hard

Difficulty Level: Hard

4. The price-consumption curve traces the optimal market baskets for:

a. different income levels.

Difficulty Level: Easy

a. movement along; leftward shift of

Difficulty Level: Medium

a. the consumer’s income increased.

Difficulty Level: Hard

7. Which of the following is true of the well-being of a consumer as represented by a demand

Difficulty Level: Medium

a. The consumer’s preferences for different goods can be ranked.

Difficulty Level: Medium

Difficulty Level: Easy

10. Which of the following is true of a consumer’s demand curve?

a. Consumer’s income successively decreases up along the demand curve.

Difficulty Level: Medium

a. the total benefit of the good to the consumer.

Difficulty Level: Medium

Difficulty Level: Medium

13. The substitution effect is the change in consumption due to:

a. a change in relative prices.

Difficulty Level: Medium

Difficulty Level: Medium

a. The consumer will shift to a lower indifference curve.

a. marginal rate of substitution

Difficulty Level: Medium

Difficulty Level: Easy

Difficulty Level: Hard

19. The substitution effect of a price decrease:

a. allows the consumer to obtain a higher level of well-being.

Difficulty Level: Medium

Difficulty Level: Medium

21. In case of a normal good, the income and substitution effects:

Difficulty Level: Medium

Difficulty Level: Hard

a. This statement is true only for Giffen goods.

Difficulty Level: Easy

24. For normal goods, the demand curve is:

a. always upward sloping.

Difficulty Level: Medium

25. The substitution effect of a price change:

a. will always offset the income effect.

Difficulty Level: Medium

26. The income effect of a price change:

Difficulty Level: Medium

27. Which of the following is true of an excise tax?

a. It has an income and a substitution effect.

a. increases consumption of the taxed good but lowers welfare.

Difficulty Level: Hard

a. The family would consume less sugar and be better off.

Difficulty Level: Medium

a. always raises consumer welfare.

a. The individual’s consumption will remain fixed.