Ashley received a raise at work that increased her monthly income from $1,000 to $1,250 (an increase of 25%). Last year, Ashley bought 20 slices of cake for her birthday party. With her increased income, she is able to buy 24 slices for her birthday this year (an increase of 20%).

**The income elasticity calculated using the formula for income elasticity is __________ and the cake slices are a __________ good.**

0.8; normal

Income elasticity is 0.20/0.25 = 0.8. When income elasticity is between 0 and 1, the good is characterized as a normal good.

In the past six months, Luke's take-home income increased from $4,000 per month to $5,000 per month (an increase of 25%). While on vacation, Luke encouraged his wife to buy some new jewelry. Normally, his wife would only buy one item of jewelry while on vacation. However, this time she purchased four items of jewelry (an increase of 300%).

**The income elasticity calculated using the formula for income elasticity is __________ and the jewelry items are a __________ good.**

12.0; luxury

The income elasticity is 3.00/0.25 = 12.0. When the income elasticity is greater than 1, the good is characterized as a luxury good.

In the past eight months, Raquel's income increased from $1,000 per month to $1,200 per month (an increase of 20%). Raquel usually made 16 cheese sandwiches in a month. With her new salary, she now only makes 10 sandwiches per month (a decrease of 37.5%).

**The income elasticity calculated using the formula for income elasticity is __________ and the cheese sandwiches are __________ good.**

-1.875; an inferior

Income elasticity is -0.375/0.20 = -1.875. When income elasticity is less than 0, the good is characterized as an inferior good.

**Which answer best defines elasticity?**

**The sensitivity of the quantity demanded of one product to a change in the price of a related product is known as __________.**

**What is the equation for elasticity ( E)?**

The percentage change in variable *B* divided by the percentage change in variable *A*.

**Which of the following describes perfectly elastic demand?**

Not buying a good at all anymore when the price goes up a little

Perfectly elastic demand is the horizontal demand curve where quantity varies but the price is constant. The quantity demanded is zero at anything above that constant price.

**Perfectly inelastic demand for a good exists when __________.**

consumers will purchase the same amount of the good, regardless of price

This describes the perfectly inelastic demand curve (vertical demand curve) where the quantity demanded remains constant at all price levels.

**Which of the following is the best example of inelastic demand?**

Tom bought banners sold in town before. They were high quality, so he bought the same number of banners there again, despite an increase in price.

This describes inelastic demand, where Tom is not sensitive to a change in price. In other words, the percentage change in quantity demanded is less than the percentage change in price.

John was ordering orange cones to use for soccer drills. If John decides to purchase cones now, he will buy 10 sets at $5 per set. If he decides to purchase the cones at a later time when the demand decreases, he will purchase 14 sets at $3 per set.

**The own-price elasticity of the soccer cones, calculated using the mid-point formula, is __________.**

-0.67

Apply the midpoint formula:

Trent needed pinnies for the lacrosse team to wear during scrimmages. A local supplier told Trent that he could purchase pinnies for $10 each. He asked the supplier to hold five pinnies for him to purchase. However, when Trent arrived at the store a few days later, he found the price of the pinnies had increased to $12. Due to the price increase, Trent only purchased four pinnies.

**Trent's own-price elasticity of the pinnies, calculated using the mid-point formula, is __________.**

-1.22

Apply the mid-point formula:

A popular clothing website sold five units of a dress when the price was $300 and 20 units when the price was marked down to $100.

**What is the own-price elasticity of demand for the dress as calculated using the midpoint formula?**

-1.2

Apply the midpoint formula:

Juan raised the price of a certain brand of running shorts in his store by 15%. Once he did this, Juan noticed that customers were purchasing fewer running shirts. Last week, he sold 50% fewer shirts after the price increase of the shorts.

**The cross-price elasticity calculated using the cross-price elasticity formula is __________ and the goods are __________.**

-3.33; complements

The cross-price elasticity formula is,

where Product X and Product Y are related goods.

The cross-price elasticity is -0.50/0.15 = -3.33. The negative number indicates the products are complements.

Rachel is hosting a party at her house and plans to grill hotdogs. The price for a package of hotdog buns has increased by 30%. Rachel decides she will buy 20% fewer hotdogs than she did last year.

**Using the cross-price elasticity formula, the cross-price elasticity is __________ and the goods are __________.**

-0.67; complements

The cross-price elasticity formula is

where Product X and Product Y are related goods

.

The cross-price elasticity is -0.20/0.30 = -0.67. The negative number indicates the products are complements.

A store recently marked a hydration belt on sale, lowering the price by 40% from $20 to $12. The store also sells a hydration bottle, which is similar to the belt except that runners can hold it in their hands with a strap while running. When the store lowered the price of the hydration belt, the quantity of hydration bottles sold decreased by 28%.

**Using the cross-price elasticity formula, the cross-price elasticity is __________ and the goods are __________.**

0.70; substitutes

The cross-price elasticity formula is

where Product X and Product Y are related goods.

The cross-price elasticity is -0.28/-0.40 = 0.70. The answer, which is a positive number, indicates the products are substitutes. (Remember that if both the top and bottom numbers are negative, the resulting answer is positive).

**Behavioral economics’ general method for gathering evidence relies on __________.**

actually observing people’s behavior to arrive at specific conclusions

This is the way behavioral economics gathers evidence.

**Mental rules of thumb used to shortcut a decision-making process are referred to as __________.**

heuristics

Heuristics are mental rules of thumb that allow us to skip the hard work that might be required for a decision.

**According to behavioral economics, individual preferences __________.**

are shaped by society

This is the way behavioral economics views individual preferences.

**Consider the indifference curves below. Moving outward from IC1 to IC2, IC3 , and IC4 , we get __________.**

higher levels of satisfaction

When the indifference curve shifts outward, it represents a higher level of satisfaction for all points on the new curve.

**Consider the indifference curves below. Which statement is true?**

Point B, where the curves intersect, cannot occur.

This situation cannot occur because two indifference curves cannot intersect. Each indifference curve represents a unique set of choices.

**Consider the indifference curve below, and choose the statement that is true.**

A, B, and C have the same level of satisfaction.

All points on the indifference curve have the same level of satisfaction for the consumer.

**Consider the budget line graph below. A choice of 2 Mexican meals and 2 Italian meals would be __________.**

an inefficient choice given the current resources, because the points on the budget line would be better choices

The points on the budget line mark the maximum consumption possibilities for the two goods, and so they are the best choices.

**Consider the budget line graph below. If Mexican meals are $10 and Italian meals are also $10, what is the consumer’s total budget for possible combinations of meals?**

$100

Any combination on the budget line will add up to a total budget of $100. For example, point B shows 6 Mexican meals and 4 Italian meals. At $10 for each meal, this comes to $60 + $40 = $100.

**What do the points on a budget line represent?**

The highest attainable consumption levels, given the current resources

This is the definition of the budget line.

**The slope between points A and C is __________, and this slope is called the __________.**

−1.2; marginal rate of substitution (MRS)

The slope of the indifference curve is known as the marginal rate of substitution.

**The slope between points A and C is __________, and this slope is called the __________.**

−1.0; marginal rate of transformation (MRT)

The slope of the budget curve is known as the marginal rate of transformation.

**The slope of the indifference curve is the __________, and the slope of the budget curve is the __________.**

marginal rate of substitution; marginal rate of transformation.

These are the definitions for the slope of the indifference curve and the slope of the budget curve.

**Consider the diagram below. What has occurred to move the budget line from B1 to B2 ?**

The price of Italian meals has increased.

The budget line pivoted from B1 to B2, which shows that before the change, the consumer could afford 10 Mexican meals and 10 Italian meals, but with a price increase for Italian meals, the consumer can only afford 5 Italian meals.

**When you choose the point of tangency where the indifference curve touches the budget line, you are __________.**

making the optimal choice for a combination of two goods

You are making the optimal choice, which is the point of tangency where the indifference curve touches the budget line.

**The optimal choice of chicken meals and vegetarian meals for IC1 and B1 in the diagram below is __________.**

**Rational choice theory states that individuals makes decisions __________.**

**Which of the following statements is true for rational choice theory?**

Its assumptions are used in many explanations for how consumers and producers optimize their decisions.

The assumptions of rational choice theory are in fact used in many explanations for how consumers and producers optimize their decisions

**Which of the following is an assumption made by rational choice theory?**

Consider the chart below. The marginal utility for the fifth unit of Chicken Fajitas is _____.

+10 utils

(110- 100) / (5-4) = +10/+1 = +10 utils

Consider the chart below. The marginal utility for the sixth unit of Chicken Fajitas is _____.

+5 utils

(115- 110) / (6-5) = +5/+1 = +5 utils

+1.4 utils per dollar

(81 - 67) = 14 utils / $10 = +1.4 utils per dollar

2 Chicken Fajitas; 2 Cheese Quesadillas: $48 dollars spent.

Using the utility maximizing rule, compare marginal utility per the price for both goods. Choose the first Cheese Quesadilla because 1.60 > 1.57. Then choose the first Chicken Fajita because 1.57 > 1.50. The marginal utility per the price at two units is equal for both at 1.50, so check to see if you can afford one more of each, and this is the case. So, purchase 2 Chicken Fajitas at $28, and 2 Cheese Quesadillas at $20, for a total of $48 out of a budget of $56. There is not enough money left to purchase another one of either item.

3 Chicken Fajitas; 3 Cheese Quesadillas: $45 dollars spent.

Using the utility maximizing rule, compare marginal utility per the price for both goods. Choose the first Cheese Quesadilla because 3.00 > 2.50. Then choose the first Chicken Fajita because 2.50 > 2.00. Then choose the second Cheese Quesadilla because 2.00 > 1.80. Then choose the second Chicken Fajita because 1.80 > 1.60. At 1.60 the marginal utilities per the price are equal, so check to see if the budget will allow one more of each, and this is the case. You can purchase 3 Chicken Fajitas at $30, and 3 Cheese Quesadillas at $15, for a total of $45 out of a budget of $48.

**If the marginal utility per price of Good A is $5.00 and the marginal utility per price for Good B is $4.50, what does the utility-maximizing rule tell you to do if the budget allows it?**

Purchase one more unit of Good A, and compare again.

Choose one more of the higher marginal utility per price goods, and keep comparing again until the marginal utility per price for both goods is equal or stop if the budget runs out.

**The primary goal of most firms is to __________.**

**After deducting all explicit costs of running a business from all explicit revenue earned, you get __________.**

**The income remaining after deducting all explicit and implicit costs from all explicit and implicit revenue is known as __________.**

**Sarah sells tulips at her store and charges her customers $12 per dozen. She sells 20 dozen each day. The tulips that she orders to sell in her store cost $216 total for 20 dozen. Based on this information, the accounting profit that Sarah makes each day is __________.**

$24

Accounting profit is total explicit revenue minus total explicit costs. Therefore, this would be calculated as follows:

(20 × $12) − ($216) = $240 − $216 = $24

**Thread Club produced 500 sweatshirts with a production cost of $11.25 per sweatshirt. This month, they have sold 500 sweatshirts at $18.50 per sweatshirt. Based on this information, Thread Club’s accounting profit for this month is __________.**

$3,625

Accounting profit is total explicit revenue minus total explicit costs. Therefore, this would be calculated as follows:

(500 × $18.50) − (500 × $11.25) = $9,250.00 − $5,625.00 = $3,625.00

**Carrie’s Cakes charges $15 per cake, and Carrie sells 10 cakes each day. Carrie’s cost of production is $80 in total each day. Based on this information, Carrie’s accounting profit per day is __________.**

$70

Accounting profit is total explicit revenue minus total explicit costs. Therefore, this would be calculated as follows:

(10 × $15) − ($80) = $150 − $80 = $70

Sparkle Dreams has produced 450 pairs of earrings that cost the company $5.00 each to make. They recently sold 450 pairs of earrings to a local accessory store at $11.50 each. The opportunity cost of the owner’s initial investment in Sparkle Dreams is $1,000.

**What is Sparkle Dreams’ economic profit?**

$1,925

Economic profit is (total explicit revenue plus total implicit revenue) minus (total explicit cost plus total implicit cost). So, the economic profit would be (450 × $11.50) − ((450 × $5.00) + ($1,000)) = ($5,175) − ($2,250 + $1,000) = ($5,175) − ($3,250) = $1,925.

An investor was choosing between contributing $75,000 to a boutique or a local shoe shop. After careful deliberation, the investor chose the boutique. In the first year, the boutique generated enough profit to pay the investor $15,000 (based on an agreed percentage of the profits). If the investor had chosen the local shoe shop, she would have received $9,000 (also based on an agreed percentage of the profits).

**The investor’s economic profit was __________.**

$6,000

Economic profit is (total explicit revenue plus total implicit revenue) minus (total explicit cost plus total implicit cost). In this case, the total implicit revenue and total explicit cost are both zero. The total explicit revenue is $15,000, and the total implicit cost is $9,000 for the opportunity cost of not choosing the shoe shop. So, the economic profit is total explicit revenue − total implicit cost = $15,000 − $9,000 = $6,000.

Before Kelly opened up her boutique, she worked as a hair stylist in a salon and earned a $33,000 annual salary. Below is a list of Kelly’s financial facts for her shop’s first year in business.

$145,000 = total revenue

$20,000 = rental fees

$8,000 = utilities

$30,000 = salary for assistant manager

$50,000 = merchandise

**Kelly’s economic profit for her shop’s first year was __________.**

$4,000

Economic profit is (total explicit revenue plus total implicit revenue) minus (total explicit cost plus total implicit cost). So, the economic profit would be ($145,000) − (($20,000 + $8,000 + $30,000 + $50,000) + ($33,000)) = ($145,000) − ($108,000 + $33,000) = ($145,000) − ($141,000) = $4,000.

The production function is a mathematical expression describing the relationship between inputs and outputs.

**Each firm uses __________ of inputs and technical processes to produce its output.**

Consider the diagram below.

**Which of the following statements is correct?**

**The total physical product curve represents the total physical amount of output possible given __________.**

different quantities of inputs

This is what the total physical product curve depicts: The maximum amount of output possible given different quantities of inputs.

When a firm uses four laborers, it can produce 400 units daily. A fifth laborer allows the firm to produce 560 units daily.

**Which of the following statements is true regarding production?**

The average product for the fifth laborer is 112 units.

Average product of labor (APL) = total output / number of workers = 560 units / 5 workers = 112 units

**Which of the following statements is true if a firm finds that, with three workers, it can produce 45 units?**

The average product of labor is 15 units.

Average product of labor (APL) = total output / number of workers = 45 units / 3 workers = 15 units

When a firm uses three laborers, it can produce 200 units daily. A fourth laborer allows the firm to produce 350 units daily.

**Which of the following statements is true regarding production?**

The average product for the fourth laborer is 87.5 units.

Average product of labor (APL) = total output / number of workers = 350 units / 4 workers = 87.5 units

Consider the following chart. After which worker does the marginal product of labor (MPL) begin to decrease?

After the second worker

Recall that the marginal product of labor (MPL) = Change in Total Product / Change in Number of Workers. The marginal product of labor (MPL) increases from the first worker to the second worker, and then begins to decrease after the second worker.

After the fourth worker

Recall that the marginal product of labor (MPL) = Change in Total Product / Change in Number of Workers. The marginal product of labor increases after the first, second, and third workers. It then begins to decrease after the fourth worker.

+90

Marginal Product of Labor (MPL) = Change in TP / Change in Labor). (220 - 130) / (3 - 2) = +90 / 1 = +90

**Which of the following is a fixed input for a computer company?**

Lease on its factory

This is an example of a fixed input, an input that cannot be easily increased or decreased in the short run.

**Which of the following is a fixed input for an airline company?**

Renting space (gates and terminals) at airports

This is an example of a fixed input, an input that cannot be easily increased or decreased in the short run.

**Which of the following is a variable input for a transportation company?**

Wages for drivers who are paid per trip

This is an example of a variable input, an input that can be easily increased or decreased in the short run.

**The formula for average total cost is either Total Cost/Total Output, or __________.**

Average Fixed Cost + Average Variable Cost

The formula for average total cost (ATC) is Average Total Cost = Average Fixed Cost + Average Variable Cost or Total Cost/Total Output.

**If variable costs for a firm is $660, the average total cost is $8, and the firm sells 120 units, what are the firm's fixed costs?**

$300

Average Total Cost (ATC) = Total Cost/Total Output, so Total Cost = ATC x Total Output. Total Cost = $8 x 120 = $960.

Total Cost (TC) = Fixed Costs + Variable Costs, so Fixed Costs = TC - Variable Costs. Fixed Costs = $960 - $660 = $300

**If the variable costs for a firm are $10,000, the fixed costs are $5,000, and the firm sells 300 units, what is the firm's average total cost?**

$50

Total Cost (TC) = Fixed Costs + Variable Costs

$5,000 + $10,000 = $15,000

Average Total Cost (ATC) = Total Cost/Total Output

$15,000/300 = $50

$0.625

Marginal Cost = Change in TC / Change in Total Output Calculation is ($250 - $200) / (520 - 440) = $50 / 80 = $0.625

$0.56

Marginal Cost = Change in TC / Change in Total Output Calculation is ($200 - $150) / (440 - 350) = $50 / 90 = $0.56

$1.67

Marginal Cost = Change in TC / Change in Total Output Calculation is ($300 - $250) / (550 - 520) = $50 / 30 = $1.67

Consider the long-run cost curve below.

**At about what production level do economies of scale run out and constant returns begin ?**

450 units

In the middle portion of the long-run cost curve, over a relatively flat portion of the curve around the range of 400 to 500 units, economies of scale have been exhausted and constant returns begin, followed by diseconomies of scale.

Consider the long-run cost curve below.

**The downward-sloping portion on the left side illustrates __________.**

economies of scale

This portion of the curve illustrates economies of scale in an industry in which long-run average cost of production falls as the scale of output rises.

**When reading the long-run cost curve from left to right, which is the correct order of economies of scale as reflected in the curve?**

$480.00; $1.50

Total Sales Revenue = Price x Quantity $1.50 x 320 = $480.00 Average Sales Revenue = Total Sales Revenue / Quantity $480.00 / 320 = $1.50

decrease the price

Price elastic means that the percentage change in quantity is greater than the percentage change in price, so lowering the price will gain a higher percentage of quantity sold, and therefore increase total sales revenue.

$2.00

Marginal Revenue = Change in Total Revenue / Change in Total Output ($500 - $200) / (250 - 100) = $300 / $150 = $2.00

$2.50

Marginal Revenue = Change in Total Revenue / Change in Total Output ($950 - $800) / (380 - 320) = $150 / 60 = $2.50

$1.33

Marginal Revenue = Change in Total Revenue / Change in Total Output ($425.60 - $332.50) / (320 - 250) = $93.10 / 70 = $1.33

**Using the graph below, determine the profit-maximizing price and quantity to produce.**

Profit-maximizing price = $80 Quantity to produce = 120 units

The price is constant here for perfect competition at $80. The quantity to produce will be where marginal revenue (MR) intersects marginal cost (MC) at 120 units.

**Using the graph below, determine the profit-maximizing price and quantity to produce.**

Profit-maximizing price = $4 Quantity to produce = 6 units

The price is constant here for perfect competition at $4. The quantity to produce will be where marginal revenue (MR) intersects marginal cost (MC) at 6 units.

**Using the graph below, determine the profit-maximizing price and quantity to produce.**

Profit-maximizing price = $100 Quantity to produce = 150 units

The price is constant here for perfect competition at $100. The quantity to produce will be where marginal revenue (MR) intersects marginal cost (MC) at 150 units.

**If Sidney Airlines is currently breaking even, how many flights are they running?**

13 flights

The break-even point is reached at the minimum point of the Average Total Cost curve, where price (P) is just equal to the minimum average total cost (ATC). The quantity of flights at this point is approximately 13 flights.

**At which output level will the short-run supply curve of a profit-maximizing, perfectly competitive firm start?**

25 units

The short-run supply curve is represented by the marginal cost curve at or above the shutdown point, where price equals average variable cost.

**When will the firm pictured in the graph shut down?**

At any price below P2

At any price below the average variable cost curve, the losses will be greater than total fixed costs, so it will be cheaper to shut down and simply pay the fixed costs.