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UNIVERSITY OF TORONTO MISSISSAUGA APRIL 2012 FINAL EXAMINATION

EC0100Y5Y Introduction to Economics

Michael Ho Duration - 3 hours

Aids: Calculator Model(s): TI-30 Series

The University of Toronto Mississauga and you, as a student, share a commitment to academic integrity. You are reminded that you may be charged with an academic offence for possessing any unauthorized aids during the writing ofan exam, including but not limited to any electronic devices with storage, such as cell phones, pagers, personal digital assistants (PDAs), iPods, and MP3 players. Unauthorized calculators and notes are also not permitted. Do not have any of these items in your possession in the area of your desk. Please tum the electronics off and put all unauthorized aids with your belongings at the front of the room before the examination begins. If any of these items are kept with you during the writing ofyour exam, you may be charged with an academic offence. A typical penalty may cause you to fail the course.

Please note, you CANNOT petition to re-write an examination once the exam has i begun. I

MARKS SCORE

PART A AI-A30 I

30

PARTB

Bl 18

B2 14

B3 18

B4 20

TOTAL: 100

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PART A: Answer all III"A" multiple-choice questions for a total of 30 marks. The marker will only check the table below for answers to the .!!:~~~:; _ .._ in this

At A2 A3 A4 AS I A6 A7 !

I

All All At3 I At4 AtS At6 At7

A2t A22 A23 A24 A2S A26

A8 A9 AtO

A8 At9 A20

A29 A30

Al. Most modem economies in the world today

(A) are similar to feudal systems. (B) are complex systems that defy description and analysis. (C) have a mix of traditional, command and market elements. (D) have pure market exchange. (E) are mostly run by government decree.

A2. Index numbers make it possible to compare

(A) movements in different variables measured in different units. (B) movements in different variables measured in the same units. (C) government data with private-sector data. (D) time-series data with cross-sectional data. (E) linear and logarithmic data.

A3. With a given upward-sloping supply curve for sirloin steak (a normal good), a rise in household income will cause the

(A) eqUilibrium price and equilibrium quantity of sirloin steak to both decrease. (B) equilibrium price and equilibrium quantity of sirloin steak to both increase. (C) equilibrium price to decrease and eqUilibrium quantity of sirloin steak to increase. (D) equilibrium price to increase and equilibrium quantity of sirloin steak to remain constant. (E) equilibrium price to increase and equilibrium quantity of sirloin steak to decrease.

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A4. For which of the following pairs of products would we expect the cross-elasticity of demand to be negative?

(A) Acetaminophen and ibuprofen. (B) HDTVs and plasma TVs. (C) iPhones and Blackberries. (D) Butter and margarine. (E) Printers and toner cartridges.

AS. Suppose a binding output quota is imposed in a previously competitive market with free­market equilibrium price and quantity. The result is

(A) lower price and higher quantity exchanged. (B) higher price and higher quantity exchanged. (C) higher price and lower quantity exchanged. (D) lower price and lower quantity exchanged. (E) no change in price or quantity exchanged.

A6. Any consumption point that is on the budget line

(A) implies that the household is spending all of its income on the goods in question. (B) implies the household is paying above-market prices for the goods in question. (C) indicates consumption spending beyond current income. (D) implies that the household is not spending all of its income on the goods in question. (E) implies the household is paying below-market prices for the goods in question.

A7. A fIrm that maximizes its profIts by producing a certain level of output must also

(A) maximize its sales. (B) maximize its revenue. (C) minimize its variable costs. (D) maximize its output. (E) minimize its cost of producing that output.

AS. Assume a fIrm is using 10 units of labour and 10 units of capital and is producing 10 units of output per hour. Now both inputs are doubled, resulting in output rising to 18 units per hour. The firm is experiencing

(A) constant returns to scale. (B) increasing returns to scale. (C) decreasing costs. (D) decreasing returns to scale. (E) economies of scale.

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A9. Which of the following conditions is true of a perfectly competitive indu~try when it is in long-run equilibrium?

(A) Price equals minimum short-run average total cost for all firms. (B) Firms are entering the industry. (C) Firms are experiencing increasing returns to scale. (D) Accounting profits for all firms are zero. (E) Firms are exiting the industry.

AIO. One reason airlines charge a higher price to business travellers is that

(A) business travellers don't profit maximize. (B) they are thereby able to minimize costs. (C) business travellers have a relatively higher demand elasticity than other travellers. (D) business travellers have a relatively lower demand elasticity than other travellers. (E) government sets the price policies.

All. The process of "creative destruction" in an oligopolistic industry suggests that

(A) profits are driven to zero by the entry of new firms. (B) the prospect of keeping the resulting profits provides an incentive for firms to innovate. (C) no firm can survive in the long run. (D) firms can enter and leave without incurring any sunk costs of entry. (E) there are no costs of exit in oligopoly.

A12. Consider a regulated natural monopoly, such as an electricity distribution company, that faces falling long-run average costs. If it is forced to price its output at average cost it will provide

(A) the socially optimal amount of output. (B) so little output that there will be a shortage. (C) more output than can be absorbed by the market. (D) more output than- what is socially optimal. (E) less output than what is socially optimal.

A13. If a country is experiencing inflation, the change in the nominal national product will

(A) overstate the change in the real value of production. (B) overstate the inflation rate. (C) equal the change in the real national product. (D) be falling faster than the rate of inflation. (E) understate the value of national income.

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A14. Measures of GDP may understate the economic well-being of people in developing countries if those countries tend to

(A) have a high degree of foreign direct investment. (B) have very high rates of pollution. (C) have a large share of non-market activities. (D) import much more than they export. (E) emphasize agricultural and resource-based production.

AlS. Suppose aggregate output is demand-determined. The simple multiplier will increase as a result of

(A) a decrease in autonomous consumption. (B) an increase in autonomous consumption. (C) a decrease in the marginal propensity to consume. (D) an increase in investment. (E) an increase in the marginal propensity to consume.

A16. An increase in foreign income, other things being equal, is assumed to cause the net export (NX) function to

(A) pivot upward. (B) shift parallel upward. (C) pivot downward. (D) remain stationary. (E) shift parallel downward.

AI? When the price level varies, the multiplier is ____ the simple multiplier.

(A) not comparable to (B) definitionally the same as (C) smaller than (D) larger than (E) equal to

A18. The growth rate of potential output might be decreased by an expansionary fiscal policy if .

(A) the simple multiplier is small. (B) the composition of output is not altered. (C) public investment has high productivity. (D) the budget deficits are persistent. (E) the policy crowds out private investment.

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A19. Long-run increases in real national income can generally be traced to

(A) growing availability of factors and/or growing factor productivity. (B) excess ofdemand in the labour market that increases employment. (C) growing demand that lead to increases in output and prices. (D) growing supply because higher wages will increase the participation rate. (E) growing demand which causes continuous growth in consumer spending.

A20. An estimate for the value of potential GDP can be generated by observing and recording

(A) the total available capacity for production in the Canadian economy. (B) the economy's total supply of factors, the costs of those factors, and their productivity. (C) the level of actual GDP when the unemployment rate is zero. (D) the economy's total supply of factors, their normal rates of utilization, and factor

productivity . (E) the economy's total output, its total cost and demand for that output.

A21. New theories of economic growth based on the idea that growth is endogenous

(A) assume that the growth rate of technology is exogenous. (B) stress the role of knowledge and learning in the economy's rate of growth. (C) incorporate factors such as central-bank behaviour. (D) ignore the role of technology. (E) assume that the rate of growth of the economy is equal to the rate of popUlation growth.

A22. For a given level of national income, a decrease in government tax revenues will cause

(A) an increase in national saving. (B) an increase in the growth rate. (C) a decrease in national saving. (D) a decrease in consumption. (E) no effect on national saving.

A23. The Canadian banking system is a

(A) fractional-reserve system. (B) treasury-bill reserve system. (C) target-reserve system. (D) gold-reserve system. (E) asset-backed reserve system.

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A24. Suppose a student deposits into a downtown bank a $200 cheque that she received from her parents in the suburbs. This transaction alone would

(A) decrease the money supply. (B) not change the money supply. (C) decrease the money supply by $1,000 if the target reserve ratio was 20 percent. (D) increase the money supply by $1,000 if the target reserve ratio was 20 percent. (E) increase the money supply by an indeterminate amount.

A25. Suppose changes in the money supply only affected the price level and never affected real G DP. If this were the case, it could be viewed as evidence

(A) that both the Classical and modem views of the neutrality ofmoney are incorrect. (B) that has no bearing-on the theories of either Classical or modem economists. (C) supporting both the Classical and modem views of the neutrality ofmoney. (D) that the Classical view of the neutrality of money is correct. (E) that the modem view of the neutrality of money is correct.

A26. Other things being equal, a reduction in the money supply will lead to a

(A) rise in the rate of interest and no change in investment expenditure. (B) rise in the rate of interest and in increase in investment expenditure. (C) fall in the rate of interest and an increase in investment expenditure. (D) fall in the rate of interest and a decrease in investment expenditure. (E) rise in the rate of interest and a decrease in investment expenditure.

A27. International trade permits a country to

(A) shift its production possibilities boundary outward. (B) produce and consume beyond its production possibilities boundary. (C) lower the per-unit production costs of all goods which it is producing. (D) consume beyond its production possibilities boundary. (E) expand its production possibilities while holding constant its consumption possibilities.

A28. The hypothesis that the price of some given internationally traded product in one country will be equal to the price of the same product in some other country is known as

(A) comparative advantage. (B) absolute advantage. (C) gains from trade. (D) the Big Mac index. (E) the law of one price.

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A29. Other things being equal, a depreciation of the Canadian dollar leads to

(A) a negative effect on the trade account ofCanada's balance of payments. (B) a decrease in desired merchandise exports. (C) an increase in the number of foreign tourists travelling to Canada. (D) an increase in the number of Canadian citizens travelling abroad. (E) an increase in desired merchandise imports.

A30. The supply of Canadian dollars to the foreign-exchange market, which is also the demand for foreign currency, will increase if

(A) foreign demand for Canadian goods increases. (B) imports into Canada increase. (C) Canadian inflation rates are low. (D) tourism to Canada increases. (E) Canadian interest rates are high.

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PARTB: Answer all lID'" questions in this part. You h'IkI'label your answer to each part of every question clearly, write your answer to each question only in the designated page(s), and make sure your handwriting is legible; otherwise, the markers will not be able to assign marks to your answers. In addition, your answer/explanation h'I.1' relate to the diagram(s) or table(s) in order to get full marks.

B1. Nogoville has no connection to the rest of the world and there is no government on this isolated island. Suppose the market for eggs in Nogoville is a perfectly competitive market with positively-sloped supply curve and negatively-sloped demand curve, the existing eqUilibrium price and quantity are Po and Qo, respectively. (i) Now the villagers have decided to form a government and in order to pay for the

government operations, they have agreed to impose a tax of $t per egg on the farmers who supply eggs to the market. Use a properly labeled diagram to help you analyze the impacts of this tax on equilibrium price and quantity, the burden of tax on consumers and farmers, the amount of tax revenue raised, and how are these impacts related to each other. (Hint: No need to explain how the market adjusts to the new equilibrium)

(ii) Add whatever necessary to the diagram in part (i) to help you analyze the impacts of the tax in part (i) if it is imposed on the consumers instead of the farmers. Compare your results to those in part (i).

(iii) Reproduce the impacts of the tax in part (i) in a new diagram. Suppose the demand for eggs has become less price elastic, how would this affect your answers to part (i)? Any intuitive explanation for the differences?

Diagrams: 3 marks Explanation: (i) 5 marks; (ii) 5 marks; and (iii) 5 marks

For Answer to Question Bl Only

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B2. (i) Add whatever necessary to the diagrams provided below to help you explain how to determine the equilibrium if this is a perfectly competitive market. State the equilibrium output and price, and profit.

(ii) Suppose all the competitive firms in this market collude and form a cartel. Add whatever necessary to the diagrams in part (i) to help you explain the three-stage evolution of cartel formation and breakup according to lecture discussion. State the profit-maximizing output and price, and profit in each of the three stages.

Diagrams: 3 marks Explanation: (i) 2 marks and (ii) 9 marks

p INDUSTRY p FIRMD

Q q

For Answer to Question B2 Only

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B3. Assume diminishing marginal productivity of capital per worker k = K /L in the aggregate production function expressed in terms of output per worker y =Y/ L. (i) Use a properly labelled diagram to help you explain the "catch-up" effect. (ii) Use another properly labelled diagram to help you explain why it is typically the

"fall-behind" effect that we observe in reality. Diagrams: 3 marks Explanation: (i) 7 marks and (ii) 8 marks

For Answer to Question B3 Only

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B4. Suppose there are only two countries, X and Y, using the same currency and two goods, A and B, in the world. The cost of producing one unit of A is $8 in X and $2 in Y. The cost of producing one unit of B is $4 inX and $10 in Y. Assume these costs are fixed. (i) Organize the information into a matrix showing the costs of producing A and B in X

and Y, explain how to determine which country has absolute advantage in producing each of these goods.

(ii) Use the information in part (i) to compute the opportunity costs and put your results in a matrix to determine which country has comparative advantage in producing each of these goods and explain your recommendation on specialization of production for each country.

(iii) Assume X has resources that worth $2,400 and Y has resources that worth $1,800 in which X produces (A =150, B =300) and Y produces (A =450, B =90) when there is no trade. According to the recommendations in part (ii), compute the gains in total world output due to specialization and gains in consumption in each country due to trade if both countries trade half of their specialized output. Determine the equilibrium terms of trade.

(iv) Plot the results from part (ii) and part (iii) in a properly-labelled diagram for each country.

(v) Explain how to determine the feasible range for the terms of trade between these countries.

Explanation: (i) 2 marks; (ii) 3 marks; (iii) 8 marks; (iv) 3 marks; and (v) 4 marks

For Answer to Question B4 Only

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