Practice Questions

Question 1. The function for quantity demanded and quantity supplied of ice creams in a city is given
by: Qd = 3000 – 5P; Qs = 2100 + 4P. Find equilibrium price and quantity of ice creams in this market.

Solution: Equilibrium occurs where the quantity of ice creams that consumers want to buy equals
the quantity that producers want to sell.

Qd = 3000 – 5P ; Qs = 2100 + 4P, …………..Equating Qd and Qs for equillibrium

3000 – 5P = 2100 + 4P

Combining like terms, we get:

3000 – 2100 = 5P + 4P

900 = 9P

P = 100

Qd = 3000 – 5(100) = 3000 – 500 = 2500

Therefore, The equilibrium price is $100 per ice cream, and the equilibrium quantity is 2500 ice
creams.

Question2: As the price of butter increased from Rs. 60 per pack to Rs. 66 per pack, the demand of
bread fell. The initial quantity demanded of bread was 300 units. If the cross-price elasticity of
demand for bread w.r.t butter is 2.5,

then:

(i) What is the quantity change in demand of bread? (Show all calculations)

(ii) If same company is producing both bread and butter, should the company go for this price
change? Why?

(iii) Identify any two factors that affect price elasticity of demand.

Solution:

(i) What is the quantity change in demand of bread? (Show all calculations)

Cross-Price Elasticity of Demand (Exy) = (% Change in Quantity Demanded of Good X) / (% Change in

Exy = (ΔQx / Qx) / (ΔPy / Py)

2.5 = (ΔQx / 300) / (6/60)= (ΔQx / 30)

ΔQx / 30 = 2.5

the quantity demanded of bread will fell by 75 units to 225 units.

(ii) If same company is producing both bread and butter, should the company go for this price
change? Why?

Regarding price change, it depends on the combined profitability of both products. If the decrease in
revenue from the decreased demand for bread is greater than the gain from the increased price of
butter, it may not be advisable. However, if the increased price of butter leads to a proportionally
higher overall profit, the company might consider the price change.

(iii) Identify any two factors that affect price elasticity of demand.

It depends on various factors Price of own goods, related goods, income of the people , customer
preferences and future expectations.

Two factors that affect price elasticity of demand include the availability of substitutes and the
necessity of the product. If there are readily available substitutes for a product, the demand is likely
to be more elastic. Similarly, if a product is deemed a necessity, the demand is usually more inelastic
because consumers will continue to buy it despite price changes.

Question 3:

Write a brief note on the following

(a) Income effect

(b) Substitution effect.

Question 4:

The following table shows the total cost of production of a firm at different levels of output. Fill up
the blank table based on information given below.

Output (Units) 0 1 2 3

Total Cost
(U$) 60 100 130 150

Calculate TFC, TVC, MC, AVC at every level of output.

Solution:
Question 5

Solution:

Look at price floor set at 10 there is an excess supply of labour(surplus) which is the difference
between 310 & 210. This excess labour will be unemployed.

Question 6
Solution:

At price ceiling of $10, supply of the goods is standing at 270 units. So, consumers are able to buy
270 units of the product. Note that at price 10 the demand is actually 310 units however, due to
price ceiling there is a shortage in supply and hence, consumers will be able to buy only 270 units.

Question 7:

Binding price ceiling is set at lower than equilibrium price. Hence, quantity demanded will be higher
than supply creating a shortage.

Question 8:

Calculate TR, MR and AR from the data on output and price given below:

Solution:

Question 9:

The golf ball manufacturer, Pro-T, has developed a profit model that depends on the number xx of
golf balls sold per month (measured in thousands), and the number of hours per month of
advertising y, according to the function

z=f(x,y)=48x+96y−x2−2xy−9y2
where z is measured in thousands of dollars. The budgetary constraint function relating the cost of
the production of thousands golf balls and advertising units is given by 20x+4y=216. Find the values
of x and y that maximize profit, and find the maximum profit.

Solution:

We follow the problem-solving strategy:

1. The objective function is f(x,y)=48x+96y−x2−2xy−9y2

2. To determine the constraint function, we first subtract 216 from both sides of the constraint,
then divide both sides by 44, which gives 5x+y−54=0. The constraint function is equal to the
left-hand side, so g(x,y)=5x+y−54.

3. The problem asks us to solve for the maximum value of profit, subject to this constraint.
Short notes on:

Price Ceiling : A price ceiling is the maximum price of a product set by the Government or Law. It is
usually set when the market price of that product, usually a necessary good, goes way above the
usual level. Now it is understandable that when prices are set lower than the market price level there
will be shortages because that quantity demanded will be higher than the quantity supplied. We will
discuss this in detail in the following solved questions.

Price Floor : This is exactly the opposite to price ceilings. This is the minimum price that has to be
paid for a particular product. So Government or law set a specific price which is above the market
price for that product. This creates surplus as the quantity supplied is higher than quantity
demanded at the price floor.