NAME: INTERMEDIATE MICROECONOMIC THEORY SPRING 2008 ECONOMICS 300/010 & 011 Midterm I March 14, 2008

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1 NAME: INTERMEDIATE MICROECONOMIC THEORY SPRING 2008 ECONOMICS 300/010 & 011 Section I: Multiple Choice (4 points each) Identify the choice that best completes the statement or answers the question. 1. If bundles of goods A and B lie on the same indifference curve, one can assume the individual a. prefers bundle A to bundle B. b. prefers bundle B to bundle A. c. enjoys bundle A and B equally. d. bundle A contains the same goods as bundle B. 2. Indifference curves a. are nonintersecting. b. are contour lines of a utility function. c. are negatively sloped. d. All of the above. 3. As an individual moves southeast along his or her convex indifference curve substituting more and more X for Y, his or her MRS of X for Y a. increases. b. decreases. c. stays the same. d. changes in a way that cannot be determined. 4. Suppose a teenager likes both rap music (R) and country music (C) with a set of preferences so that U = C 1/2 R 1/2. Which point (C, R) makes the teen the happiest? a. 100, 1 c. 25, 25 b. 49, 4 d. 36, If the price of X falls, the budget constraint a. shifts outward in a parallel fashion. b. shifts inward in a parallel fashion. c. rotates outward about the X-intercept. d. rotates outward about the Y-intercept. 6. The slope of the budget constraint line is a. the ratio of the prices (P x /P y ). b. the negative of the ratio of the prices (P x /P y ). c. the ratio of income divided by price of Y (I/P y ). d. none of the above.

2 7. Suppose a cup of coffee at the campus coffee shop is $2.50 and a cup of hot tea is $1.25. Suppose a student s beverage budget is $20 per week. What is the algebraic expression of the budget? a. 20 = 2.5C T c. 20 = 1.5T b. 20 = 2.5C d. 20 = 1.25C + 2.5T 8. Suppose a cup of coffee at the campus coffee shop is $2.50 and a cup of hot tea is $1.25. Suppose a student s beverage budget is $20 per week. Suppose the student simply prefers more caffeine to less and that the tea sold has the same amount of caffeine as the coffee. The student will buy a. all tea. c. a mix of coffee and tea. b. all coffee. d. there is insufficient information to know. 9. The point of tangency between a consumer s budget constraint and his or her indifference curve represents a. complete satisfaction for the consumer. b. the equivalence of prices the consumer pays. c. constrained utility maximization for the consumer. d. the least he or she can spend. 10. Suppose there are two goods (X and Y). On a traditional graph of a budget line a tripling of all prices and incomes will a. alter the slope of the budget line only. b. alter the slope of the budget line as well as the y-intercept. c. alter the slope of the budget line as well as the x-intercept. d. leave the budget line unaltered. 11. Suppose a person s utility is only a function of their consumption of diet soda and they do not care which brand, Diet Coke (DC) or Diet Pepsi (DP) they consume. Suppose further that P DC < P DP. If P DC rises to a point where P DC > P DP then the consumption of DC a. Falls from a positive amount to zero b. Falls from a positive amount to another positive amount. c. rises. d. stays at zero. 12. If a good is normal and its price decreases, a. the income effect will be positive and the substitution effect will be positive. b. the income effect will be negative and the substitution effect will be negative. c. the income effect will be positive and the substitution effect will be negative. d. the income effect will be negative and the substitution effect will be positive. 13. Two goods, X and Y, are called complements if a. an increase in P X causes more Y to be bought. b. an increase in P X causes less Y to be bought. c. an increase in P Y causes less Y to be bought. d. an increase in income causes more of both X and Y to be bought. Page 2 of 6

3 14. An individual s demand curve a. represents the various quantities that a consumer is willing to purchase of a good at various price levels. b. is derived from an individual s indifference curve map. c. will shift if preferences, prices of other goods, or income change. d. all of the above. 15. The lump sum principle suggests that the tax that reduces utility the least is a. a tax on income b. a tax on one good, not all goods c. an equal tax on all goods, not income d. an unequal tax on all goods, not income Page 3 of 6

4 Section II: Essay Problems Give clear, well-written answers to the questions below. Use graphs if appropriate. Please make sure your graphs are legible and label all parts of the graph (e.g., axes, lines, etc.). You will not receive full credit if the graphs are illegible. 1. Draw indifference curves for the following. Use a different graph for each part. Indicate the direction in which the individuals utility is increasing. a. (7 points) Arthur loves DVDs and popcorn, but he insists on consuming exactly 1 bag of popcorn for every two DVDs he watches. b. (8 points) Sofia considers tickets to a baseball game and to a ballet recital to be perfect substitutes. Page 4 of 6

5 2. Suppose you only consume bread and soda water. Currently the price of bread is $3 per loaf, the price of soda water is $1 per bottle, and you have a budget of $60. Suppose that you maximize your utility by purchasing 15 loaves of bread and 15 bottles of soda water. Also suppose the indifference curves for bread and soda water are the typical shape (convex, etc), and that both are normal goods. a. (5 pts.) Graph your budget line and indifference curve to illustrate the utility-maximizing bundle. Put bread on the horizontal axis and soda water on the vertical axis. b. (15 pts.) The price of a loaf bread increases from $3 to $4. Illustrate the resulting substitution and income effects, putting bread on the horizontal axis. Clearly label all relevant points in your graph. Label the new utility maximizing amount of bread X* and the new utility maximizing amount of soda water Y*. (Note: you do not have enough information to identify the exact numerical values of the new utility maximizing point.) Page 5 of 6

6 c. (5 pts.) Using the information from parts a and b, sketch this person s demand curve for bread. Page 6 of 6