File: chP, Economics Primer

Multiple Choice

1. The basic law of demand says that all other things being the same, _______________________.
a) The lower the price of a product, the less of it consumers will purchase
b) The higher the price of a product, the less of it consumers will purchase
c) The lower the price of a product, the more of it consumers will purchase
d) The higher the price of a product, the more of it consumers will purchase
e) The greater the number of units of a product sold in the past, the more of it consumers will purchase
that product in the future

Ans: c

Learning Objective: Describe the relationship between demand and price

AASCB: Reflective Thinking

Heading: Basic Microeconomic Principles

Level: Easy

2. If a firm is producing as efficiently as it knows how, then how will the total cost function slope?
a) Upward
b) Downward
c) No Slope
d) Downward until an output threshold value, then upward
e) Upward until an output threshold value, then downward

Ans: a

Learning Objective: Describe the relationship between costs and profitability

AASCB: Reflective Thinking

Heading: Costs - Cost Functions

Level: Hard

3. Which of the following cost line items would be a fixed cost?

a) Commissions to Salespeople
b) Rent
c) Raw Materials
d) Packaging
e) Shipping/Delivery Charges

Ans: b
Learning Objective: Identify four specific costs faced by the firm
AASCB: Reflective Thinking

Heading: Costs – Fixed and Variable Costs

Level: Medium

4. If TC(Q)=1000Q2+100Q+10, what is the formula for AC(Q)?

a) 2000Q+100
b) 2000Q2+100Q
c) 1000Q2+100Q+10
d) 1000Q+100+10/Q
e) 100Q+10+1/Q

Ans: d

Learning Objective: Describe the relationship between costs and profitability

AASCB: Analytic

Heading: Costs – Average and Marginal Cost Functions

Level: Medium

5. Which of the following best describes marginal cost?

a) The per-unit-of-output cost for a product
b) The incremental cost of producing one more unit of output.
c) A cost invariant to the firm’s output
d) The sum of all costs associate with the production of a product
e) The cost of fixed items such as general and administrative expenses

Ans: b

Learning Objective: Identify four specific costs faced by the firm

AASCB: Communication

Heading: Costs – Average and Marginal Cost Functions

Level: Medium

6. Which of the following statements is true regarding the relationship between average and marginal cost
functions?
a) When average cost is a decreasing function of output, marginal cost is greater than average cost.
b) When average cost neither increases or decreases (because it is constant or at a minimum point),
marginal cost is equal to average cost
c) The average cost function is always smaller than the marginal cost function
d) The average cost function is always greater than the marginal cost function
e) When average cost is an increasing function of output, marginal cost is less than average cost
Ans: b

Learning Objective: Identify four specific costs faced by the firm

AASCB: Reflective Thinking

Heading: Costs – Average and Marginal Cost Functions

Level: Hard

7. The following figure plots Short Run Average Cost functions for small, medium, and large plants.
Based on the figure and plots provided, for which quantity level is a medium plant the best choice?

a) Q1
b) Q2
c) Q3
d) Q4
e) Q5

Ans: b

Learning Objective: Identify four specific costs faced by the firm

AASCB: Analytic

Heading: The Importance of Time Period: Long-Run versus Short-Run Cost Functions
Level: Easy

8. What is a sunk cost?

a) A cost that can be avoided if certain choices are made
b) A cost that always varies with the output of a factory
c) The average cost of operating a plant
d) The “lower envelope” of short-run average cost functions
e) A cost incurred no matter what the decision is and cannot be avoided
Ans: e

Learning Objective: Identify four specific costs faced by the firm

AASCB: Communication

Heading: Sunk versus Avoidable Costs

Level: Easy

9. Suppose an entrepreneur starts a business earning $2M in revenue in 2009 while at the same time
incurring $1.8M in costs. If the entrepreneur’s best outside alternative employment opportunity is to earn
$300K, what are the firms accounting and economic profits?
a) $200K, -$100K
b) $200K, $100K
c) $300K, $100K
d) $300K, -$100K
e) $200K, $200K

Ans: a

Learning Objective: Describe the relationship between costs and profitability

AASCB: Analytic

Heading: Economic Costs and Profitability

Level: Hard

10. Which of the following variables does not influence the quantity of product that a firm is able to sell?
a) Price of the product
b) Price of related products
c) Plant production costs
d) Incomes and tastes of consumers
e) Advertising

Ans: c

Learning Objective: Describe the relationship between costs and profitability

AASCB: Reflective Thinking

Heading: Demand and Revenues – Demand Curve

Level: Medium

11. In which of the following markets is a consumer less sensitive to price?

a) Airlines
b) Refrigerators
c) Health Care
d) Computer components
e) Washing Machines

Ans: c

Learning Objective: Describe the relationship between demand and price

AASCB: Reflective Thinking

Heading: Demand and Revenues – The Price Elasticity of Demand

Level: Medium

12. In which of the following markets is a consumer more sensitive to price?

a) Credit Cards
b) Items sold door to door
c) Customized software upgrade
d) Copier/Printer Toner
e) Health Care

Ans: a

Learning Objective: Describe the relationship between demand and price

AASCB: Reflective Thinking

Heading: Demand and Revenues – The Price Elasticity of Demand

Level: Medium

13. Which of the following best describes marginal revenue?

a) How sales revenue varies as a function of how much product is sold
b) The incremental sales from producing one more unit of output
c) Rate of change in total revenue that results from the sale of ΔQ additional units of output
d) The total sales for a given product based on plant output
e) Percentage change in quantity divided by percentage change in price

Ans: c

Learning Objective: Describe the relationship between total revenue and marginal revenue
AASCB: Reflective Thinking

Heading: Demand and Revenues – Total Revenue and Marginal Revenue Functions
Level: Hard

14. At what point can a firm achieve a profit maximizing quantity?

a) MR>MC
b) MC=D
c) MR<MC
d) MR=D
e) MR=MC

Ans: e

Learning Objective: Explain how the theory of the firm guides pricing and quantity decisions
AASCB: Reflective Thinking

Heading: Theory of the Firm: Pricing and Output Decisions

Level: Easy

15. If a firm can sell its product for more than its fixed costs, but not for more than its totals costs:
a) It will shut down
b) It will lower its fixed costs
c) It will stop producing that product
d) It will continue to operate in the short run at a loss
e) It will increase its production quantity

Ans: d

Learning Objective: Explain how the theory of the firm guides pricing and quantity decisions
AASCB: Reflective Thinking

Heading: Theory of the Firm: pricing and Output Decisions

Level: Hard

16. Which of the following would be the range of elasticity for a product with an “inelastic” demand?
a) < 1
b)  = 1
c)  > 1
d)  > 2
e) none of the above

Ans: a

Learning Objective: Describe the relationship between demand and price

AASCB: Analytic

Heading: Demand and Revenues: The Price Elasticity of Demand

Level: Easy

17. Which characteristic does not describe a perfectly competitive market?

a) Firms produce identical or nearly identical products
b) Market price is beyond the control of any individual firm
c) A firm’s demand curve is perfectly horizontal at the market price
d) Industry-level price elasticity is finite
e) Firm-level price elasticity of demand facing another perfect competitor is infinite

Ans: d
Learning Objective: Describe the case of perfect competition
AASCB: Reflective Thinking

Heading: Perfect Competition

Level: Hard

18. What is a Nash equilibrium?

a) A state where each player is doing the best it can, given the strategies of all other players
b) A state where the sum of all payoffs is maximized
c) A state where the players always have achieved their best possible result
d) A state at which the MR=MC for a firm
e) A state where each player always must play a dominant strategy

Ans: a

Learning Objective: Apply game theory to the firm’s strategic decsions

AASCB: Reflective Thinking

Heading: Game Theory

Level: Easy

19. Suppose a factory is producing 100 units and the price of each unit is $10. If raising the price to $12
per unit results in a drop in sales of 12 units, what is the price elasticity of demand, η?
a) 6
b) .6
c) 1.67
d) .8
e) .17

Ans: b

Learning Objective: Describe the relationship between demand and price

AASCB: Analytic
Heading: Demand and Revenues – The Price Elasticity of Demand
Level: Hard

20. In what special situation might the law of demand not hold?
a) In a perfectly competitive market
b) When there is a high price elasticity of demand
c) When MR=MC
d) At the Nash Equilibrium
e) If high prices confer prestige

Ans: e
Learning Objective: Describe the relationship between demand and price
AASCB: Reflective Thinking

Heading: Demand and Revenues – Demand Curve

Level: Hard

21. Which of the following would not be a characteristic of a good with an elastic demand?
a) The product lacks unique features that differentiate it from competing products
b) The product is a high percentage of a consumer’s total expenditures
c) The good is an input used to make a product that is sensitive to changes in price
d) There are many substitutes available for the good
e) The product has high switching costs

Ans: e

Learning Objective: Describe the relationship between demand and price

AASCB: Reflective Thinking

Heading: Demand and Revenues: The Price Elasticity of Demand

Level: Easy

22. If η=.8 and P=$25, what is MR?

a) $20
b) $6.25
c) -$5
d) -$6.25
e) $5

Ans: d

Learning Objective: Describe the relationship between total revenue and marginal revenue
AASCB: Analytic

Heading: Demand and Revenues – Total Revenue and Marginal Revenue Functions
Level: Hard

23. What is the revenue destruction effect?

a) The loss in revenue a firm incurs on units it would have sold at a higher price when reducing price to
sell extra units
b) The loss in revenue a firm incurs as a result of selling fewer units of output when raising price to
increase profit
c) The loss in revenue a firm incurs due to brand level elasticities
d) The loss in revenue a firm incurs due to being in a perfectly competitive market
e) The loss in revenue a firm incurs due to predatory pricing
Ans: a

Learning Objective: Describe the relationship between demand and price

AASCB: Reflective Thinking

Heading: Demand and Revenues – Total Revenue and Marginal Revenue Functions
Level: Medium

24. Why does a Nash equilibrium represent a plausible outcome for a game?
a) If Party A chooses first, the outcome is the same as its expectation regardless of B’s choice
b) If Party B chooses first, the outcome is the same as its expectation regardless of A’s choice
c) Regardless of which party chooses first, if they both expect the other to choose a its Nash equilibrium,
then both parties expectations will equal the outcome.
d) Neither party needs to make a choice, the market forces an agreeable equilibrium outcome
e) None of the above are correct

Ans: c

Learning Objective: Apply game theory to the firm’s strategic decisions

AASCB: Reflective Thinking

Heading: Games in Matrix Form and the Concept of Nash Equilibrium

Level: Medium

25. Which of the following would be an example of a good with elastic demand?
a) Bread
b) Work Shoes
c) Prescription medicine
d) Luxury speedboat
e) Raincoats in winter

Ans: d

Learning Objective: Describe the relationship between demand and price

AASCB: Reflective Thinking

Heading: Demand and Revenues: The Price Elasticity of Demand

Level: Easy

26. Which of the following would be the range of elasticity for a product with an “inelastic” demand?
a) < 1
b)  = 1
c)  > 1
d)  > 2
e) none of the above
Ans: c

Learning Objective: Describe the relationship between demand and price

AASCB: Analytic

Heading: Demand and Revenues: The Price Elasticity of Demand

Level: Easy

27. Which of the following best describes average cost?

a) The per-unit-of-output cost for a product at a given quantity
b) The incremental cost of producing one more unit of output.
c) A cost invariant to the firm’s output
d) The sum of all costs associate with the production of a product
e) The cost of fixed items such as general and administrative expenses

Ans: a

Learning Objective: Identify four specific costs faced by the firm

AASCB: Communication

Heading: Costs – Average and Marginal Cost Functions

Level: Medium

28. Which of the following cost line items would be a variable cost?
a) Office salaries
b) Rent
c) Raw Materials
d) Insurance
e) None of the above

Ans: c

Learning Objective: Identify four specific costs faced by the firm

AASCB: Reflective Thinking

Heading: Costs – Fixed and Variable Costs

Level: Medium

29. Which characteristic is present in a perfectly competitive market?

a) Firms produce identical or nearly identical products
b) Market price is beyond the control of any individual firm
c) A firm’s demand curve is perfectly horizontal at the market price
d) Firms can enter and exit the market very easily
e) all of the above
Ans: e

Learning Objective: Describe the case of perfect competition

AASCB: Reflective Thinking

Heading: Perfect Competition

Level: Hard

Short Answer

30. Suppose a firm’s plant produces Q units in any given year. The plant itself operates with annualized
costs of $10M and other annual fixed expenses totaling $3M. In addition, the firm’s variable costs
depend on Q and are given by the formula 5Q2+3Q. What is the formula for the firm’s Average Fixed
Costs?

Ans: AFC(Q)=

Learning Objective: Describe the relationship between costs and profitabilty

AASCB: Analytic

Heading: The Importance of Time Period: Long-Run versus Short-Run Cost Functions
Level: Easy

31. Suppose a firm’s plant produces Q units in any given year. The plant itself operates with annualized
costs of $10M and other annual fixed expenses totaling $3M. In addition, the firm’s variable costs
depend on Q and are given by the formula 5Q2+3Q. What is the formula for the firm’s Average Variable
Costs?

Ans: AVC(Q)=

Learning Objective: Describe the relationship between costs and profitabilty

AASCB: Analytic

Heading: The Importance of Time Period: Long-Run versus Short-Run Cost Functions
Level: Easy

32. Suppose a firm’s plant produces Q units in any given year. The plant itself operates with annualized
costs of $10M and other annual fixed expenses totaling $3M. In addition, the firm’s variable costs
depend on Q and are given by the formula 5Q2+3Q. What is the formula for the firm’s Short-Run (i.e.
one year) Average Costs?
Ans: SAC(Q)=

Learning Objective: Describe the relationship between costs and profitabilty

AASCB: Analytic

Heading: The Importance of Time Period: Long-Run versus Short-Run Cost Functions
Level: Medium

33. What are the Nash Equilibrium Strategies and corresponding payoffs for the following matrix?
Beta:
Enter Market Do Not Enter Market
Alpha: Enter Market $10M, $10M $25M, $8M
Do Not Enter Market $8M, $25M $20M, $20M

Ans: Alpha – Enter Market with payoff of $10M, Beta – Enter Market with payoff of $10M

Learning Objective: Apply game theory to the firm’s strategic decisions

AASCB: Analytic

Heading: Game Theory

Level: Medium

34. In the following sequential decision tree, Alpha chooses a strategy first and then Beta chooses a
strategy. Using backwards inductions, determine the Subgame Perfect Nash Equilibrium strategies and
payoffs?

Ans: Alpha – Medium with payoff of 22 , Beta – Medium with payoff of 22

Learning Objective: Apply game theory to the firm’s strategic decisions
AASCB: Reflective Thinking

Heading: Game Theory

Level: Hard