If the share of income spent on a good does not depend on income then 1% increase in income leads to 1% increase in spending on that good, thus the income elasticity is 1.

20. Suppose that government imposes a per-unit tax on consumers and the demand curve is downward sloping. If the price elasticity of the supply for the good is zero, the tax will:

A) Increase the equilibrium price of the good;

B) Decrease the equilibrium price of the good;

C) Decrease the equilibrium quantity of the good;

D) Increase the equilibrium quantity of the good;

E) Both (A) and (C)

Price elasticity of the supply is zero so the supply curve is vertical ant thus change in the demand will lead only to price changes. Thus only B is correct (tax imposed on consumers leads to the decrease in the demand).

21. A binding price floor causes:

A) Shortages.

B) Surpluses.

C) A reduction in quantity demanded.

D) Has no impact on any variable.

E) More than one answer is correct.

B and C are correct. Price floor leads to the increase in the quantity supplied, decrease in the quantity demanded which in turn results in shortages.

22. If price of a good increases and quantity demanded falls, then this good can not be

A) Giffen

B) Luxury

C) Necessity

D) Inferior

E) None of the above

A is true because if a good is Giffen then increase in the price of that good must be accompanied by the increase in the quantity demanded

23. Mr.Brockway`s income increased by 14 percent between 1984 and 1985. As a result, her purchases of home computer equipment and supplies increased by 6 percent. This shows that:

1. Mr. Brockway’s demand for computer equipment and supplies is price inelastic.

2. For Brockway’s, computer equipment and supplies are normal goods

3. for Brockway’s, computer equipment and supplies are inferior goods

4. the cross elasticity of demand for computer equipment and supplies is greater than 1

5. none of the above

Having this information we can only say that income elasticity of Mr. Brockway`s demand for computer equipment is greater than 0, but less than 1. Thus computer equipment is normal good

Answer the following two questions on the basis of the following table:

Demand Schedule for X (Py = 10)		Demand Schedule for X (Py = 20)
Px	Quantity (X)	Px	Quantity (X)
1 2 3 4	30 20 12 2	1 2 3 4	20 10 5 0

24. From the table abode, the cross elasticity if demand between X and Y is:

1. positive

2. Negative

3. zero

4. impossible to determine without more information

5. positive at low prices, negative at high prices

If P_x = 2 and Py = 10 then Qx=20, but if Py goes up to 20 then Qx falls to 10 (Px remains unchanged). Thus cross-price elasticity is negative.

25. From the table above, it can be observed that X and Y are:

1. Complements

2. substitutes

3. unrelated goods

4. both normal goods

5. both inferior goods

If cross price elasticity is negative then the increase in the price of one good leads to decrease in consumption of another => these goods are complements

26. Which of the following conditions are satisfied when consumer maximizes its own utility if there are only two goods x and y?

I. If Px>Py then optimal bundle would be such that Qx>Qy

II. MUx = Px and MUy = Py

III.

A) I and II

B) II only

C) I, II and III

D) III only

E) I and III

The first two are not the necessary conditions of the utility maximization (MUx/Px = MUy/Py). The third condition is the budget constraint which must be satisfied (consumer can not spend more than his income)

27. Which of the following does not illustrate the law of diminishing marginal utility?