UNIVERSITY OF DAR ES SALAAM

BUSINESS SCHOOL
Department of Finance
FN100: Principles of Microeconomics
2018/19 Academic Year

Seminar Discussion Questions: Topic Two - Part 2 (Utility and Demand)

Group Five
Question One
(a) What is the value of the coefficient of cross elasticity of demand (e xy) for the
following goods: (i) Substitute goods, (ii) Complementary goods?
(b) Determine coefficient of price elasticity of demand (e p) if the demand function is
Q = 10 – 0.5p; and evaluate the coefficient when p takes the value 2.5. Also
calculate the slope of the demand function.

Question Two
(a) With the aid of a labelled diagram, distinguish change in quantity demanded from
change in demand.
(b) Suppose the market demand for mangotongu is given by the equation Q =
6,000,000 – 1,000,000P where Q is the number of bowls of mangotongu demanded
per day and P is the price in TZS. For a price increase from TZS 2 to TZS 3 per
bowl:
(i) What is the arc price elasticity?
(ii) Interpret your solution in [b (i)] above.
(c) Kuyangatana International manufactures and sells Chikandi. The management
believes that the price elasticity of demand is 3%. Currently Chikandi is priced at
Tshs 2000 per kg and quantity demanded per year is 20,000 kg.
(i) If the price is increased to Tshs 4000, how many kgs of Chikandi will Kuyangatana
International be able to sell each year?
(ii) How much will total revenue change as a result of the price increase?

Group Six
Question One
In Country Faraway, cigarettes are forbidden, so people trade cigarettes in a black
market. The cigarette demand is QD = 12 − P, and the cigarette supply is Qs = 2P.
(a) Find the equilibrium price and quantity in the black market.
(b) The government becomes aware of the black market and reinforces the police so
that half of the cigarette supply would be seized and destroyed. Under this
circumstance, what are the demand and supply functions? What is the new
equilibrium price and quantity? Show the change by using a supply and demand
diagram.
(c) How does the consumer surplus change between (a) and (b)?
(d) Suppose that the government changes the policy and legalizes cigarette
dealings. Now cigarettes are traded in an open market. However, for every unit of
the cigarettes bought, the buyer has to pay tax T to the government. T is equal to the
pre-tax price P. What are the demand and supply functions under this circumstance?
What are the equilibrium (pre-tax) price and quantity? What is the after-tax price paid
by buyers?
(e) Compare (b) and (d). Which policy do consumers prefer? Which policy does the
government prefer? Why?

Question Two
Suppose the demand function for corn is Q d =10 − 2p, and supply function is Qs= 3p
− 5. The government is concerned that the market equilibrium price of corn is too low
and would like to implement a price support policy to protect the farmers. By
implementing the price support policy, the government sets a support price and
purchases the extra supply at the support price. In this case, the government sets
the support price ps = 4.
(i) Calculate the original market equilibrium price and quantity in absence of the price
support policy.
(ii) At the support price ps = 4, find the quantity supplied by the farmers, the quantity
demanded by the market, and the quantity purchased by the government.
(iii) Draw a diagram to show the change in the producer surplus due to the
implementation of the price support policy. Calculate the change in the producer
surplus.
(iv) Draw a diagram to show the change in the consumer surplus due to the
implementation of the price support policy. Calculate the change in the consumer
surplus.
(v) Calculate the cost to the government to implement the price support policy. Draw
a diagram to show the government cost.
(vi) Suppose now the government switches from price support policy to subsidy
policy. For each unit of corn produced, the government subsidizes the farmer s = 5/3.
Find the new equilibrium price under this subsidy policy. How much money will the
government have to spend in order to implement this subsidy policy?

REVISION QUESTIONS
1) Suppose the oil price in world market is $60 per gallon, the U.S. domestic demand
curve of oil is Qd = 200 − 2p and domestic supply curve is Qs = p:
(a) If U.S. government imposes a tariff of $15 per gallon, what will be the U.S. price
and the level of import? How much revenue will be the government earn from the
tariff? How large is the deadweight loss?
(b) If the U.S. government has no tariff but imposes an import quota of 25, what will
be the domestic price? What is the cost of this quota for U.S. consumers of the oil?
What is the gain for U.S. producers?

2) The supply curve for alcohol is qs =2p−1, and demand curve is qd =8−p. Suppose
that the local authority starts to tax alcohol at $1.5 per unit.
(a) Calculate the equilibrium price and quantity before the authority starts to tax.
(b) Calculate the loss in producer’s surplus.
(c) Calculate the revenue generated by tax.
(d) What percentage of the burden of the tax falls on producer?

3) For each of the following scenarios, use a supply and demand diagram to
illustrate the effect of the given shock on the equilibrium price and quantity in the
specified competitive market. Explain whether there is a shift in the demand curve,
the supply curve, or neither.
(a) The MBTA decides to increase the price of a T-token from $ 1.25 to $ 1.70, and
also increases the price of monthly T-passes. Show the effect on demand, supply
and on the equilibrium in the greater Boston area market for used cars. Are T-passes
and cars substitutes or complements?
(b) America is the biggest producer of corn in the world. Bad weather conditions in
the Midwest lead to a very low production of corn in the USA. Show the effect on the
world corn market.
(c) The US government has introduced a price cap on steel a couple of years ago.
The excess demand for steel has resulted in many complaints by lobbying groups in
Washington, and to please these, the government raises the price cap on steel from
$100/ton to $125/ton. This is however still below the free market price of $150/ton.
Show the effect on the market for steel.
(d) US steel mills buy their coal in Latin America. Show the effect of the above
mentioned policy (in (c)) on the Latin American coal market.
(e) The popularity of a new fad diet causes consumers’ tastes to shift away from
bread. Show the effect on the market for butter, which is used mainly when people
eat toast.

4) Consider the market for butter. The demand curve is given by Q d = 300 − 2P + 4I,
where I is the average income. The supply curve is Q s = 3P − 25PM − 25, where PM
is the price of milk.
(a) If the average income in Cambridge is I = 25 and the price of milk is P M = 1, what
is the market clearing price and quantity in Cambridge?
(b) Suppose that bad weather conditions raise the price of milk to P M = 2. Find the
new equilibrium price and quantity of butter in Cambridge. (Draw a graph to illustrate
your answer).
(c) If the average income in Beverly Hills is I = 50, what is the market clearing price
and quantity in Beverly Hills when PM = 1? Compare your results with the ones you
have obtained in (a).

5) Suppose the market demand and market supply for apartments in a city is given
by the following functions: Qd = 5000 − 3p and Qs = 1000 + p:
(a) At what price does the market for apartments in the city clear? How many
apartments are rented at this price?
(b) Suppose the city sets a maximum rent at $1200. Illustrate the rent control in a
supply and demand diagram. Is there a shortage? If so, what is the excess demand?
(c) Suppose that there is a binding rent control law. What must be true of the
maximum rent imposed by the city for it to be binding? Will there be an excess
demand or supply of apartments at this price? Further, suppose that in response to
the rent control law, some (but not all) landlords decide to convert their apartments to
condominiums, which are not subject to rent control. What will the effect on the rental
market for apartments be? Show using a diagram.

6) Ann and Bob is a couple. They are the only people in the family. Bob’s inverse
demand curve for shirts is P = 5 − QB. Ann’s inverse demand curve for shirts 2 is P
=10 − 2QA. What is their family demand function for shirts? What is their family
consumption of shirts when the price is 4? What’s their family consumption of shirts
when the price is 6?

7) (a) Provide concise definitions of the following terms:

(i) Cross elasticity of demand given products x and y.
(ii) Arc elasticity of demand.
(iii) Point elasticity of demand.
(b) Mzee Kibwana is a famous fisherman and local trader at Ferry Fish Market. Last
Monday, he had an impressive fish catch. He decided to sell the entire catch at the
market to obtain money to meet his domestic requirements. Three wealthy petty
businessmen from the neighbourhood suburb of Buguruni expressed interest in
buying some of the fish. Mzee Kibwana determined their individual demand
equations, where the quantity subscripts denote each of the three businessmen and
price is measured in TZS per kg.
Q1 = 30.00 – 1.00P
Q2 = 22.50 – 0.75P
Q3 = 37.50 – 1.25P
(i) What is the market demand equation for Mzee Kibwana fish?
(ii) How many more kg of fish can he sell for each one-shilling decrease in price?
(iii) If he has a catch of 60kg, what price should he charge to sell his entire fish
catch?

8) The ABC Corporation located at Liuli Commercial Town in Mbinga District is a

publisher of comic books – nothing else rather that cracking jokes and other funny
stories for kids to laugh before they go to bed. The corporation hires an economist to
determine the demand for its product. After months of hard work and submission of
an exorbitant bill, the analyst tells the company that, demand for the firm’s books
(Qb) is given by the following equation: Q b = 12,000 – 5,000Pb + 5I + 500Pcb. Where
Pb is the price charged for the books, I is income per capital, and Pcb is the price of
books from competing publishers. Assume you are the manager of the company, do
the following using the given information:
(i) Determine what effect a price increase would have on total revenues.
(ii) Evaluate how the sales of books would change during the period of rising income.
(iii) Assess the possible impact if competing publishers will raise their prices?
Assuming that the initial values of Pb, I and Pcb are Tshs. 500, Tshs. 1,000,000 and
Tshs. 600, respectively.

9) (a) Suppose the demand for the IBM personal computer is Q d = 2400 − 4p:
(i) At what price is the price elasticity of demand equal to zero?
(ii) When the price elasticity of demand equal to 1, what’s the quantity being
demanded at that point?
(iii) Figure out at what price, the price elasticity of demand is infinite, and explain
what does infinite price elasticity of demand mean?
(iv) What’s the change of revenue generated by sale when the price elasticity of
demand falls from infinite to 1?
(b) Mary’s demand curve for food is Q =10 − 2P. Her price elasticity of demand for
food at price P* equals – 2/3. How much is P*?