Besanko & Braeutigam – Microeconomics, 6th edition
j j j j j j Solutions Manual j
Chapter 1 j
Analyzing Economic Problems j j
Solutions to Review Questions j j j
1. What is the difference between microeconomics and macroeconomics?
j j j j j j j
Microeconomics studies the economic behavior of individual economic decision makers, such asa j j j j j j j j j j j j
consumer, a worker, a firm, or a manager. Macroeconomics studies how an entire national
j j j j j j j j j j j j j j
economy performs, examining such topics as the aggregate levels of income and employment, the
j j j j j j j j j j j j j j
levels of interest rates and prices, the rate of inflation, and the nature of business cycles.
j j j j j j j j j j j j j j j j
2. Why is economics often described as the science of constrained choice?
j j j j j j j j j j
While our wants for goods and services are unlimited, the resources necessary to produce those
j j j j j j j j j j j j j j
goods and services, such as labor, managerial talent, capital, and raw materials, are “scarce”
j j j j j j j j j j j j j j
because their supply is limited. This scarcity implies that we are constrained in the choices we can
j j j j j j j j j j j j j j j j j
make about which goods and services to produce. Thus, economics is often described as
j j j j j j j j j j j j j j
thescience of constrained choice.
j j j j j
3. How does the tool of constrained optimization help decision makers make j j j j j j j j j j
choices?What roles do the objective function and constraints play in a model of
j j j j j j j j j j j j j j
constrained optimization?
j j
Constrained optimization allows the decision maker to select the best (optimal) alternative
j j j j j j j j j j j
whileaccounting for any possible limitations or restrictions on the choices. The objective function
j j j j j j j j j j j j j j
represents the relationship to be maximized or minimized. For example, a firm‟s profit might
j j j j j j j j j j j j j j
bethe objective function and all choices will be evaluated in the profit function to determine
j j j j j j j j j j j j j j j j
whichyields the highest profit. The constraints place limitations on the choice the decision maker
j j j j j j j j j j j j j j j
can select and defines the set of alternatives from which the best will be chosen.
j j j j j j j j j j j j j j j
4. Suppose the market for wheat is competitive, with an upward-sloping supply curve,a j j j j j j j j j j j j
downward-sloping demand curve, and an equilibrium price of $4.00 per bushel. Why
j j j j j j j j j j j j
would a higher price (e.g., $5.00 per bushel) not be an equilibrium price? Why would a
j j j j j j j j j j j j j j j j
lower price (e.g., $2.50 per bushel) not be an equilibrium price?
j j j j j j j j j j j
If the price in the market was above the equilibrium price, consumers would be willing to purchase
j j j j j j j j j j j j j j j j
fewer units than suppliers would be willing to sell, creating an excess supply. As suppliers realize
j j j j j j j j j j j j j j j j
they are not selling the units they have made available, sellers will bid down the
j j j j j j j j j j j j j j j
Copyright © 2014 John Wiley & Sons, Inc. j j j j j j j Chapter 1 - 1 j j j
,Besanko & Braeutigam – Microeconomics, 6th edition
j j j j j j Solutions Manual j
price to entice more consumers to purchase their goods or services. By definition, equilibrium isa
j j j j j j j j j j j j j j j
state that will remain unchanged as long as exogenous factors remain unchanged. Since in thiscase
j j j j j j j j j j j j j j j j
suppliers will lower their price, this high price cannot be an equilibrium.
j j j j j j j j j j j j
When the price is below the equilibrium price, consumers will demand more units than
j j j j j j j j j j j j j
suppliers have made available. This excess demand will entice consumers to bid up the prices to
j j j j j j j j j j j j j j j j
purchasethe limited units available. Since the price will change, it cannot be an equilibrium.
j j j j j j j j j j j j j j j
5. What is the difference between an exogenous variable and an endogenous variablein j j j j j j j j j j j j
an economic model? Would it ever be useful to construct a model that contained only
j j j j j j j j j j j j j j j
exogenous variables (and no endogenous variables)?
j j j j j j
Exogenous variables are taken as given in an economic model, i.e., they are determined by
j j j j j j j j j j j j j j
someprocess outside the model, while endogenous variables are determined within the economic
j j j j j j j j j j j j j
model being studied.
j j j
An economic model that contained no endogenous variables would not be very interesting.
j j j j j j j j j j j j
jWith no endogenous variables, nothing would be determined by the model so it would not serve
j j j j j j j j j j j j j j j
muchpurpose.
j j
6. Why do economists do comparative statics analysis? What role do j j j j j j j j j
endogenousvariables and exogenous variables play in comparative statics analysis?
j j j j j j j j j j
Comparative statics analyses are performed to determine how the levels of endogenous j j j j j j j j j j j
variableschange as some exogenous variable is changed. This type of analysis is very important
j j j j j j j j j j j j j j j
since in the real world the exogenous variables, such as weather, policy tools, etc. are always
j j j j j j j j j j j j j j j j
changing and it is useful to know how changes in these variables affect the levels of other,
j j j j j j j j j j j j j j j j j
endogenous, variables. An example of comparative statics analysis would be asking the question:
j j j j j j j j j j j j j
If extraordinarily low rainfall (an exogenous variable) causes a 30 percent reduction in corn
j j j j j j j j j j j j j j
supply,by how much will the market price for corn (an endogenous variable) increase?
j j j j j j j j j j j j j j
7. What is the difference between positive and normative analysis? Which of j j j j j j j j j j
thefollowing questions would entail positive analysis, and which normative analysis?
j j j j j j j j j j j
a) What effect will Internet auction companies have on the profits of local
j j j j j j j j j j j
automobiledealerships?
j j
b) Should the government impose special taxes on sales of merchandise made over j j j j j j j j j j j
theInternet?
j j
Positive analysis attempts to explain how an economic system works or to predict how it will
j j j j j j j j j j j j j j j
change over time by asking explanatory or predictive questions. Normative analysis focuses
j j j j j j j j j j j j
onwhat should be done by asking prescriptive questions.
j j j j j j j j j
Copyright © 2014 John Wiley & Sons, Inc. j j j j j j j Chapter 1 - 2 j j j
,Besanko & Braeutigam – Microeconomics, 6th edition
j j j j j j Solutions Manual j
a) Because this question asks whether dealership profits will go up or down (and
j j j j j j j j j j j j
byhow much) – but refrains from inquiring as to whether this would be a good thing
j j j j j j j j j j j j j j j j j
– it is an example of positive analysis.
j j j j j j j
b) On the other hand, this question asks whether it is desirable to impose taxes
j j j j j j j j j j j j j
onInternet sales, so it is normative analysis. Notably, this question does not ask
j j j j j j j j j j j j j j
what the effect of such taxes would be.
j j j j j j j j
Solutions to Problems j j
1.1 Discuss the following statement: ―Since supply and demand curves are j j j j j j j j j
alwaysshifting, markets never actually reach an equilibrium. Therefore, the concept
j j j j j j j j j j j
of equilibrium is useless.‖
j j j j
While the claim that markets never reach an equilibrium is probably debatable, even if markets do
j j j j j j j j j j j j j j j
not ever reach equilibrium, the concept is still of central importance. The concept of equilibrium is
j j j j j j j j j j j j j j j j
important because it provides a simple way to predict how market prices and quantities will change
j j j j j j j j j j j j j j j j
as exogenous variables change. Thus, while we may never reach a particular equilibrium price, say
j j j j j j j j j j j j j j j
because a supply or demand schedule shifts as the market movestoward equilibrium, we can predict
j j j j j j j j j j j j j j j j
with relative ease, for example, whether prices will be rising or falling when exogenous market
j j j j j j j j j j j j j j j
factors change as we move toward equilibrium. As exogenous variables continue to change, we
j j j j j j j j j j j j j j
can continue to predict the direction of change for the endogenous variables, and this is not
j j j j j j j j j j j j j j j j
“useless.”
j
1.2 In an article entitled, ―Corn Prices Surge on Export Demand, Crop Data,‖ The
j j j j j j j j j j j j
WallStreet Journal identified several exogenous shocks that pushed U.S. corn prices sharply
j j j j j j j j j j j j j
higher.(See the article by Aaron Lucchetti, August 22, 1997, p. C17. on national income.) Suppose the U.S.
j j j j j j j j j j j j j j j j j
market for corn is competitive, with an upward-sloping supply curve and a downward-
j j j j j j j j j j j j j
sloping demand curve. For each of the following scenarios, illustrate graphically how the
j j j j j j j j j j j j j
exogenous event described will contribute to a higher price of corn in the U.S. market.
j j j j j j j j j j j j j j j
a) The U.S. Department of Agriculture announces that exports of corn to Taiwan
j j j j j j j j j j j
andJapan were ―surprisingly bullish,‖ around 30 percent higher than had been
j j j j j j j j j j j j
expected.
j
b) Some analysts project that the size of the U.S. corn crop will hit a six-year low because
j j j j j j j j j j j j j j j j
ofdry weather.
j j j
c) The strengthening of El Niño, the meteorological trend that brings warmer weather
j j j j j j j j j j j
tothe western coast of South America, reduces corn production outside the United States,
j j j j j j j j j j j j j j
thereby increasing foreign countries’ dependence on the U.S. corn crop.
j j j j j j j j j j
Copyright © 2014 John Wiley & Sons, Inc. j j j j j j j Chapter 1 - 3 j j j
, Besanko & Braeutigam – Microeconomics, 6th edition
j j j j j j Solutions Manual j
a) Surprisingly high export sales mean that the demand for corn was higher j j j j j j j j j j j
thanexpected, at D2 rather than D1.
j j j j j j j
P
S
P2
j P
1
D2
D1
Q
b) Dry weather would reduce the supply of corn, to S2 rather than S1.
j j j j j j j j j j j j
S2
P
S1
P2
P1
D
Q
c) Assuming the U.S. does not import corn, reduced production outside the U.S.
j j j j j j j j j j j
would not impact U.S. corn market supply. El Nino would, however, cause
j j j j j j j j j j j j
demand for U.S. corn to shift out, the figure being the same as in part (a) above.
j j j j j j j j j j j j j j j j j
1.3 In early 2008, the price of oil on the world market increased, hitting a peak of about
j j j j j j j j j j j j j j j j
$140 per barrel in July, 2008. In the second half of 2008, the price of oil declined, ending the
j j j j j j j j j j j j j j j j j j
year at just over $40 per barrel. Suppose that the global market for oil can be describedby an
j j j j j j j j j j j j j j j j j j j
upward-sloping supply curve and a downward-sloping demand curve. For each of the
j j j j j j j j j j j j
following scenarios, illustrate graphically how the exogenous event contributed to a riseor a
j j j j j j j j j j j j j j
decline in the price of oil in 2008:
j j j j j j j j
Copyright © 2014 John Wiley & Sons, Inc.
j j j j j j j Chapter 1 - 4 j j j
