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  • 1. Introductory Microeconomics Workbook Class XII4323/3, Ansari Road, Darya Ganj, New Delhi-110002Ph: 91-11-23250105, 23250106 Fax: 91-11-23250141mail@vkpublications.com www.vkpublications.com
  • 2. ContentsWorksheet 1 Introduction 3Worksheet 2 Consumer Equilibrium and Demand 9Worksheet 3A Producer Behaviour and Supply 17Worksheet 3B Cost and Revenue 25Worksheet 4 Forms of Market and Price Determination 31 Solutions CBSE Question Papers–2010 (Solved)
  • 3. S RK HE IntroductionWO 1 ET QUESTION SET–I Define the following concepts: 1. Microeconomics. _________________________________________________________________________________________ _________________________________________________________________________________________ 2. Economy. _________________________________________________________________________________________ _________________________________________________________________________________________ 3. Scarcity. _________________________________________________________________________________________ _________________________________________________________________________________________ 4. Central problems of an economy. _________________________________________________________________________________________ _________________________________________________________________________________________ 5. Mixed economy. _________________________________________________________________________________________ _________________________________________________________________________________________ 6. Market economy. _________________________________________________________________________________________ _________________________________________________________________________________________ 7. Centrally planned economy. _________________________________________________________________________________________ _________________________________________________________________________________________ 8. Production possibility curve. _________________________________________________________________________________________ _________________________________________________________________________________________ 9. Opportunity cost. _________________________________________________________________________________________ _________________________________________________________________________________________ Introductory Microeconomics 3 Economics–XII
  • 4. 10. Marginal opportunity cost. _________________________________________________________________________________________ _________________________________________________________________________________________ 11. Marginal rate of transformation. _________________________________________________________________________________________ _________________________________________________________________________________________ 12. Positive economic analysis. _________________________________________________________________________________________ _________________________________________________________________________________________ 13. Normative economic analysis. _________________________________________________________________________________________ _________________________________________________________________________________________QUESTION SET–IIDefend or refute the following statements. Write ‘yes’ or ‘no’ with reason: 1. Microeconomics does not deal with aggregates. _________________________________________________________________________________________ _________________________________________________________________________________________ 2. Opportunity cost refers to explicit cost of production. _________________________________________________________________________________________ _________________________________________________________________________________________ 3. Production possibility curve may sometimes be convex to the origin. _________________________________________________________________________________________ _________________________________________________________________________________________ 4. Central problems of an economy are found only in those economies which are not governed or regulated by the government. _________________________________________________________________________________________ _________________________________________________________________________________________ 5. Scarcity exists even when certain goods are available at zero price. _________________________________________________________________________________________ _________________________________________________________________________________________Introductory Microeconomics 4 Economics–XII
  • 5. 6. Marginal opportunity cost falls as resources are shifted from Use-1 to Use-2. _________________________________________________________________________________________ _________________________________________________________________________________________ 7. PPC is drawn on the assumption of constant technology. _________________________________________________________________________________________ _________________________________________________________________________________________ 8. Economising the use of resources means saving the resources for future use. _________________________________________________________________________________________ _________________________________________________________________________________________ 9. If resources are not efficiently utilised, we are outside PPC. _________________________________________________________________________________________ _________________________________________________________________________________________10. An economy produces goods and services in a manner such that it always operates on the PPC. _________________________________________________________________________________________ _________________________________________________________________________________________QUESTION SET–IIIWrite your comment on each of the following statements in a sentence or two: 1. Choice between consumer goods and capital goods refers to the problem of ‘how to produce’. _________________________________________________________________________________________ _________________________________________________________________________________________ 2. Choice between labour intensive technology and capital intensive technology refers to the problem of ‘what to produce’. _________________________________________________________________________________________ _________________________________________________________________________________________ 3. Choice between ‘production for the poor’ and ‘production for the rich’ refers to the problem of what to produce. _________________________________________________________________________________________ _________________________________________________________________________________________ 4. In a market economy, the central problems are solved by the central authority of the government. _________________________________________________________________________________________ _________________________________________________________________________________________Introductory Microeconomics 5 Economics–XII
  • 6. 5. In a centrally planned economy, the central problems are solved by the forces of supply and demand. _________________________________________________________________________________________ _________________________________________________________________________________________ 6. In a mixed economy, only public sector is engaged in the process of production. _________________________________________________________________________________________ _________________________________________________________________________________________ 7. Problem of resource allocation is automatically solved in a mixed economy. _________________________________________________________________________________________ _________________________________________________________________________________________ 8. Production possibility curve shows possibilities of production when different technologies are used. _________________________________________________________________________________________ _________________________________________________________________________________________ 9. Economic activity would not exist if resources were not scarce. _________________________________________________________________________________________ _________________________________________________________________________________________10. A point below PPC points to under utilisation of resources. _________________________________________________________________________________________ _________________________________________________________________________________________QUESTION SET–IVComplete the following sentences: 1. Mixed economy is the one in which __________________________________________________________ . 2. In a capitalist economy, the problem of resource allocation is solved by ____________________________ . 3. In a centrally planned economy, the decision regarding resource allocation is taken by the ___________ _________________________________________________________________________________________ . 4. Marginal opportunity cost refers to the loss of output of Good-1 when ____________________________ . 5. Growth of resources causes a shift in PPC to the _______________________________________________ . 6. When an economy is operating inside the PPC, it is a situation of _________________________________ . 7. In a state of economic slowdown (or recession) when there is massive unemployment and the economy fails to operate on the PPC, it tends to operate _________________________________________________ . 8. Destruction of resources causes a shift in PPC to the____________________________________________ . 9. Discovery of resources (or new technology) causes a shift in PPC to the____________________________ .Introductory Microeconomics 6 Economics–XII
  • 7. NUMERICALS 1. Find opportunity cost, given the following possibilities of employment of Mr. X. Possibility 1: employment in firm-A at the wage of Rs 1,500 P.M. Possibility 2: employment in firm-B at the wage of Rs. 2,500 P.M. Possibility 3: employment in firm-C at the wage of Rs. 4,000 P.M.Ans. ________________________________________________________________________________________ 2. Find marginal rate of transformation, given the following information: Output of Good-Y Output of Good-X 200 200 160 220Ans. ________________________________________________________________________________________ 3. Find marginal opportunity cost, given the following situation when some resources are shifted from Use-2 to Use-1. Loss of output in Use-2 : 600 units Gain of output in Use-1 : 300 unitsAns. ________________________________________________________________________________________ 4. Find marginal opportunity cost of watches when production of watches increases from 10 units to 15 units while the production of shoes decreases from 500 units to 100 units.Ans. ________________________________________________________________________________________ 5. The table shows production possibilities of two goods. Find marginal opportunity cost at different levels of the production of Good-1. Good-1 Good-2 0 100 1 90 2 75 3 55 4 30 5 0Ans. ________________________________________________________________________________________HOTS (Higher Order Thinking Skills)Write ‘true’ or ‘false’ with a reason: 1. With an efficient utilisation of resources, an economy can shift to point beyond the PPC. _________________________________________________________________________________ _________________________________________________________________________________Introductory Microeconomics 7 Economics–XII
  • 8. 2. When output of Good-1 increases from 100 units to 110 units and output of Good-2 decreases from 400 units to 350 units, marginal opportunity cost = 50 units. _________________________________________________________________________________ _________________________________________________________________________________ 3. When an economy moves from a situation of underemployment to full employment, PPC curve shifts to the right. _________________________________________________________________________________ _________________________________________________________________________________ 4. Marginal rate of transformation refers to the slope of PPC. _________________________________________________________________________________ _________________________________________________________________________________ 5. Convexity of PPC to the origin points to increasing slope of PPC and increasing marginal opportunity cost. _________________________________________________________________________________ _________________________________________________________________________________ 6. Problem of resource allocation would not arise if resources had not alternative uses. _________________________________________________________________________________ _________________________________________________________________________________ 7. If a country is operating inside the PPC, it is saving its resources for future growth. _________________________________________________________________________________ _________________________________________________________________________________ 8. If an economy is operating inside the PPC, it is possible to increase the production of Good-1 without any decrease in the production of Good-2. _________________________________________________________________________________ _________________________________________________________________________________ 9. Opportunity cost is an avoidable cost. _________________________________________________________________________________ _________________________________________________________________________________10. Even when resources and technology are constant, an economy may not operate on the PPC. _________________________________________________________________________________ _________________________________________________________________________________Introductory Microeconomics 8 Economics–XII
  • 9. S RK HE Consumer Equilibrium and DemandWO 2 ET QUESTION SET–I Define the following concepts: 1. Demand and quantity demanded. _________________________________________________________________________________________ _________________________________________________________________________________________ 2. Marginal utility and total utility. _________________________________________________________________________________________ _________________________________________________________________________________________ 3. Indifference curve. _________________________________________________________________________________________ _________________________________________________________________________________________ 4. Budget line/price line. _________________________________________________________________________________________ _________________________________________________________________________________________ 5. Consumer’s equilibrium. _________________________________________________________________________________________ _________________________________________________________________________________________ 6. Law of diminishing marginal utility. _________________________________________________________________________________________ _________________________________________________________________________________________ 7. Law of demand. _________________________________________________________________________________________ _________________________________________________________________________________________ 8. Price elasticity of demand. _________________________________________________________________________________________ _________________________________________________________________________________________ 9. Individual demand schedule and market demand schedule. _________________________________________________________________________________________ _________________________________________________________________________________________ Introductory Microeconomics 9 Economics–XII
  • 10. 10. Demand curve. _________________________________________________________________________________________ _________________________________________________________________________________________ 11. Demand function. _________________________________________________________________________________________ _________________________________________________________________________________________ 12. Substitute goods and complementary goods. _________________________________________________________________________________________ _________________________________________________________________________________________ 13. Normal goods, inferior goods, and giffen goods. _________________________________________________________________________________________ _________________________________________________________________________________________ 14. Extension and contraction of demand. _________________________________________________________________________________________ _________________________________________________________________________________________ 15. Increase and decrease in demand. _________________________________________________________________________________________ _________________________________________________________________________________________ 16. Movement along the demand curve and shift in demand curve. _________________________________________________________________________________________ _________________________________________________________________________________________QUESTION SET–IIDefend or refute the following statements. Write ‘yes’ or ‘no’ with reason: 1. Demand for a commodity can exist independent of its price. _________________________________________________________________________________________ _________________________________________________________________________________________ 2. Quantity demanded is a specific amount of a commodity that the consumer is ready to buy against a specific price, while demand is not. _________________________________________________________________________________________ _________________________________________________________________________________________ 3. Demand for a commodity refers to the entire demand schedule. _________________________________________________________________________________________ _________________________________________________________________________________________Introductory Microeconomics 10 Economics–XII
  • 11. 4. It is quantity demanded (and not demand for a commodity) that changes with respect to its own price. _________________________________________________________________________________________ _________________________________________________________________________________________ 5. Marginal utility of each unit of a commodity adds up to total utility. _________________________________________________________________________________________ _________________________________________________________________________________________ 6. Total utility will increase even when marginal utility decreases. _________________________________________________________________________________________ _________________________________________________________________________________________ 7. Total utility is maximum when marginal utility starts declining. _________________________________________________________________________________________ _________________________________________________________________________________________ 8. Increase in demand refers to extension of demand. _________________________________________________________________________________________ _________________________________________________________________________________________ 9. Decrease in demand refers to contraction of demand. _________________________________________________________________________________________ _________________________________________________________________________________________10. In case of inferior goods, law of demand fails. _________________________________________________________________________________________ _________________________________________________________________________________________11. Giffen goods must be inferior goods, while inferior goods, may or may not be giffen goods. _________________________________________________________________________________________ _________________________________________________________________________________________12. In case of substitute goods, a fall in price of Good-X causes a fall in demand for Good-Y. _________________________________________________________________________________________ _________________________________________________________________________________________13. In case of complementary goods, a rise in price of Good-X causes a rise in demand for Good-Y. _________________________________________________________________________________________ _________________________________________________________________________________________14. Indifference curve is not convex to the origin. _________________________________________________________________________________________ _________________________________________________________________________________________Introductory Microeconomics 11 Economics–XII
  • 12. 15. MRS (marginal rate of substitution) along an indifference curve tends to diminish. _________________________________________________________________________________________ _________________________________________________________________________________________16. All attainable combinations of Good-X and Good-Y are below the budget line of a consumer. _________________________________________________________________________________________ _________________________________________________________________________________________ MUX17. A consumer strikes his equilibrium when: = MUM. PX _________________________________________________________________________________________ _________________________________________________________________________________________ MUX MUY18. A consumer strikes his equilibrium when: = = MUM. PX PY _________________________________________________________________________________________ _________________________________________________________________________________________ PX19. A consumer strikes his equilibrium when: MRS = . PY _________________________________________________________________________________________ _________________________________________________________________________________________ PX P20. A situation when MRS > is better than when MRS = X . PY PY _________________________________________________________________________________________ _________________________________________________________________________________________ PX MUX P MUX21. A situation when > is better than when X = . PY MUY PY MUY _________________________________________________________________________________________ _________________________________________________________________________________________QUESTION SET–IIIWrite your comment on each of the following statements in a sentence or two: 1. MU must diminish as more and more standard units of a commodity are continuously consumed. _________________________________________________________________________________________ _________________________________________________________________________________________ 2. Cross price effect occurs in case of substitute goods, and not in case of complementary goods. _________________________________________________________________________________________ _________________________________________________________________________________________ 3. In an indifference curve map, higher IC always points to higher level of satisfaction. _________________________________________________________________________________________ _________________________________________________________________________________________Introductory Microeconomics 12 Economics–XII
  • 13. 4. Changes in income causes a shift in demand curve, while change in price does not. _________________________________________________________________________________________ _________________________________________________________________________________________ 5. Even when PX remains constant, QX may increase or decrease. _________________________________________________________________________________________ _________________________________________________________________________________________ 6. Elasticity of demand refers to change in quantity consequent upon change in price of the commodity. _________________________________________________________________________________________ _________________________________________________________________________________________ 7. When total expenditure on the commodity remains constant, price elasticity of demand also remains constant, no matter what the change in price is. _________________________________________________________________________________________ _________________________________________________________________________________________ 8. Elasticity of demand (with respect to price of the commodity) is constant along a straight line demand curve. _________________________________________________________________________________________ _________________________________________________________________________________________ 9. If price elasticity of demand is zero, it means expenditure on the commodity does not change with change in price of the commodity. _________________________________________________________________________________________ _________________________________________________________________________________________10. A commodity showing high elasticity of demand often has a large number of close substitutes in the market. _________________________________________________________________________________________ _________________________________________________________________________________________11. Elasticity of demand tends to be high over a short period of time than the long period. _________________________________________________________________________________________ _________________________________________________________________________________________12. Complementary goods often exhibit low elasticity of demand. _________________________________________________________________________________________ _________________________________________________________________________________________13. Luxuries of life often exhibit low elasticity of demand. _________________________________________________________________________________________ _________________________________________________________________________________________Introductory Microeconomics 13 Economics–XII
  • 14. 14. Higher the price level, higher should be the elasticity of demand. _________________________________________________________________________________________ _________________________________________________________________________________________15. A horizontal straight line demand curve shows zero elasticity of demand. _________________________________________________________________________________________ _________________________________________________________________________________________16. A vertical straight line demand curve shows that demand rises to infinity even when price remains constant. _________________________________________________________________________________________ _________________________________________________________________________________________17. Price elasticity of demand is identical with slope of demand curve. _________________________________________________________________________________________ _________________________________________________________________________________________18. From a point of intersection, a flatter demand curve shows greater elasticity of demand than a steeper demand curve. _________________________________________________________________________________________ _________________________________________________________________________________________19. In case of normal goods, income effect is positive, while in case of inferior goods, it is negative. _________________________________________________________________________________________ _________________________________________________________________________________________20. In case of giffen goods, income effect is always greater than the substitution effect. _________________________________________________________________________________________ _________________________________________________________________________________________QUESTION SET–IVComplete the following sentences: 1. When price of the commodity increases, demand for the commodity _____________________________ . 2. When demand for the commodity increases, demand curve_____________________________________ . 3. When demand curve shifts, price of the commodity____________________________________________ . 4. In case of normal goods, there is a positive relationship between_________________________________ . 5. Moving along an indifference curve, we find that MRS tends to__________________________________ .Introductory Microeconomics 14 Economics–XII
  • 15. 6. Moving along a price line, we find that price ratio (PX /PY ) remains________________________________ . 7. In case of IC analysis, a consumer strikes his equilibrium when___________________________________. 8. In case of utility analysis (and one-commodity case) a consumer strikes his equilibrium when _________________________________________________________________________________________. 9. In case of utility analysis (and 2-commodity case) a consumer strikes his equilibrium when _______ ________________________________________________________________________________________ . 10. Demand curve slopes downward because of the law of__________________________________________ . 11. Downward sloping demand curve shows the law of_____________________________________________ . 12. Convexity of IC to the origin shows__________________________________________________________ . 13. Elasticity of demand (with respect to price of the commodity) shows______________________________ . 14. Law of demand fails in situations of (i) ______________, (ii) ______________ , and (iii) _______________ . 15. Demand curve shifts to the right because of (i) ________________________, (ii) _____________________, and (iii) ______________________ . 16. When price of tea increases, demand for sugar will tend to ______________________________________ . 17. Even when price of the concerned commodity remains constant, people tend to buy less of it, because (i) ________________________, (ii) _________________________, and (iii) _________________________ . 18. If demand curve is a rectangular hyperbola, elasticity of demand = _______________________________ . 19. At the mid-point of straight line downward sloping demand curve, elasticity of demand = ___________ . 20. In case of a perfectly elastic demand, demand curve for the concerned commodity is________________ . 21. In case of a perfectly inelastic demand, demand curve for the concerned commodity is ______________ .HOTS (Higher Order Thinking Skills)Write ‘true’ or ‘false’ with a reason: 1. If 5% increase in PX causes 5% increase in expenditure on Good-X, elasticity of demand = 1. _________________________________________________________________________________ _________________________________________________________________________________ 2. If 5% increase in PX is accompanied with constant expenditure on the commodity, elasticity of demand = 1. _________________________________________________________________________________ _________________________________________________________________________________Introductory Microeconomics 15 Economics–XII
  • 16. 3. If slope of two demand curves is the same, they show the same elasticity of demand. _________________________________________________________________________________ _________________________________________________________________________________ 4. When slope of demand curve = 0, price elasticity of demand = ¥ _________________________________________________________________________________ _________________________________________________________________________________ 5. When slope of demand curve =¥ , price elasticity of demand = 0. __________________________________________________________________________________ __________________________________________________________________________________Introductory Microeconomics 16 Economics–XII
  • 17. S RK HE Producer Behaviour and SupplyWO 3A ET QUESTION SET–I Define the following concepts: 1. Production function. _________________________________________________________________________________________ _________________________________________________________________________________________ 2. Producer’s equilibrium _________________________________________________________________________________________ _________________________________________________________________________________________ 3. Supply and quantity supplied. _________________________________________________________________________________________ _________________________________________________________________________________________ 4. Individual supply schedule and market supply schedule. _________________________________________________________________________________________ _________________________________________________________________________________________ 5. Law of supply. _________________________________________________________________________________________ _________________________________________________________________________________________ 6. Contraction of supply and decrease in supply. _________________________________________________________________________________________ _________________________________________________________________________________________ 7. Extension of supply and increase in supply. _________________________________________________________________________________________ _________________________________________________________________________________________ 8. TP, AP and MP. _________________________________________________________________________________________ _________________________________________________________________________________________ 9. Returns to a factor. _________________________________________________________________________________________ _________________________________________________________________________________________ Introductory Microeconomics 17 Economics–XII
  • 18. 10. Law of variable proportions. _________________________________________________________________________________________ _________________________________________________________________________________________11. Increasing returns to a factor. _________________________________________________________________________________________ _________________________________________________________________________________________12. Diminishing returns to a factor. _________________________________________________________________________________________ _________________________________________________________________________________________13. Movements along the supply curve and shift in supply curve. _________________________________________________________________________________________ _________________________________________________________________________________________14. Joint supply and composite supply _________________________________________________________________________________________ _________________________________________________________________________________________15. Price elasticity of supply. _________________________________________________________________________________________ _________________________________________________________________________________________16. Perfectly elastic and perfectly inelastic supply. _________________________________________________________________________________________ _________________________________________________________________________________________ _________________________________________________________________________________________17. Elastic and inelastic supply. _________________________________________________________________________________________ _________________________________________________________________________________________18. Market period, short period and long period. _________________________________________________________________________________________ _________________________________________________________________________________________19. Fixed factors and variable factors. _________________________________________________________________________________________ _________________________________________________________________________________________20. Supply and stock. _________________________________________________________________________________________ _________________________________________________________________________________________Introductory Microeconomics 18 Economics–XII
  • 19. QUESTION SET–IIDefend or refute the following statements. Write ‘yes’ or ‘no’ with reason: 1. Production function is only a technical relationship between physical inputs and physical output. _________________________________________________________________________________________ _________________________________________________________________________________________ 2. A producer strikes his equilibrium when the difference between TR and TC is maximised. _________________________________________________________________________________________ _________________________________________________________________________________________ 3. Supply may remain constant even when quantity supplied changes. _________________________________________________________________________________________ _________________________________________________________________________________________ 4. Contraction of supply causes a shift in supply curve. _________________________________________________________________________________________ _________________________________________________________________________________________ 5. Extension and contraction of supply are related to factors other than price of the concerned commodity. _________________________________________________________________________________________ _________________________________________________________________________________________ 6. Supply increases in response to increase in price of the concerned commodity. _________________________________________________________________________________________ _________________________________________________________________________________________ 7. TP is maximum only when MP = 0. _________________________________________________________________________________________ _________________________________________________________________________________________ 8. MP can be negative, but not the AP. _________________________________________________________________________________________ _________________________________________________________________________________________ 9. Law of variable proportions must operate, even when all factors of production are variable. _________________________________________________________________________________________ _________________________________________________________________________________________ 10. Diminishing returns to a factor occur simply because supply of the factor cannot be increased. _________________________________________________________________________________________ _________________________________________________________________________________________Introductory Microeconomics 19 Economics–XII
  • 20. 11. AP and MP tend to be U-shaped. _________________________________________________________________________________________ _________________________________________________________________________________________12. Stage of increasing returns (when MP is increasing) is economically redundant, because the producer will not strike his equilibrium in this stage. _________________________________________________________________________________________ _________________________________________________________________________________________13. The producer strikes his equilibrium only when MP is diminishing. _________________________________________________________________________________________ _________________________________________________________________________________________14. In the short period, production is done only by using the variable factors. _________________________________________________________________________________________ _________________________________________________________________________________________15. Law of variable proportion operates only if factor ratio happens to change. _________________________________________________________________________________________ _________________________________________________________________________________________16. If a straight line upward sloping supply curve shoots from the origin, elasticity of supply is always equal to one. _________________________________________________________________________________________ _________________________________________________________________________________________17. If a straight line upward sloping supply curve shoots from the Y-axis, elasticity of supply < 1. _________________________________________________________________________________________ _________________________________________________________________________________________18. If a straight line upward sloping supply curve shoots from the X-axis, elasticity of supply > 1. _________________________________________________________________________________________ _________________________________________________________________________________________19. Stages of production are the consequences of the law of variable proportions. _________________________________________________________________________________________ _________________________________________________________________________________________20. Price elasticity of supply measures the change in quantity supplied in response to a change in price of the commodity. _________________________________________________________________________________________ _________________________________________________________________________________________Introductory Microeconomics 20 Economics–XII
  • 21. QUESTION SET–IIIWrite your comment on each of the following statements in a sentence or two: 1. MP must cut AP from its top. _________________________________________________________________________________________ _________________________________________________________________________________________ 2. If AP is falling, AP > MP. _________________________________________________________________________________________ _________________________________________________________________________________________ 3. If AP is rising, AP < MP. _________________________________________________________________________________________ _________________________________________________________________________________________ 4. If AP is falling, MP must also fall. _________________________________________________________________________________________ _________________________________________________________________________________________ 5. If AP is rising, MP must also rise. _________________________________________________________________________________________ _________________________________________________________________________________________ 6. TP must rise as more and more units of a variable factor are combined with the fixed factor. _________________________________________________________________________________________ _________________________________________________________________________________________ 7. MP is the rate of TP. _________________________________________________________________________________________ _________________________________________________________________________________________ 8. When MP is decreasing, TP increases at a constant rate. _________________________________________________________________________________________ _________________________________________________________________________________________ 9. When MP is increasing, TP increases at a decreasing rate. _________________________________________________________________________________________ _________________________________________________________________________________________ 10. When MP is constant, TP is also constant. _________________________________________________________________________________________ _________________________________________________________________________________________Introductory Microeconomics 21 Economics–XII
  • 22. 11. Increasing returns to a factor occur because the variable factor is abundantly used in production. _________________________________________________________________________________________ _________________________________________________________________________________________12. Diminishing returns to a factor occurs because fixed factor cannot be used as much as the variable factor. _________________________________________________________________________________________ _________________________________________________________________________________________13. Diminishing returns to a variable factor occur because the producer fails to buy the variable factor in the required quantity. _________________________________________________________________________________________ _________________________________________________________________________________________14. Supply never changes unless price changes. _________________________________________________________________________________________ _________________________________________________________________________________________15. It is more profitable for the producer to be in a stage of increasing returns than the stage of diminishing returns. _________________________________________________________________________________________ _________________________________________________________________________________________16. In a state of equilibrium, firm’s MC should be rising. _________________________________________________________________________________________ _________________________________________________________________________________________17. A producer supplies more of a commodity only at a higher price. _________________________________________________________________________________________ _________________________________________________________________________________________18. At a point of intersection of two supply curves, flatter curve shows higher elasticity of supply. _________________________________________________________________________________________ _________________________________________________________________________________________19. In the long period, elasticity of supply tends to be lower than in the short period. _________________________________________________________________________________________ _________________________________________________________________________________________20. If elasticity of supply = 0, supply curve becomes a horizontal straight line. _________________________________________________________________________________________ _________________________________________________________________________________________Introductory Microeconomics 22 Economics–XII
  • 23. QUESTION SET–IVComplete the following sentences: 1. Variable factors are those factors ____________________________________________________________ . 2. Fixed factors are those factors _______________________________________________________________ . 3. In a state of equilibrium, the producer maximises ______________________________________________ . 4. Break-even point occurs when ______________________________________________________________ . 5. Shut-down point occurs when ______________________________________________________________ . 6. MP is the rate of __________________________________________________________________________ . 7. MP = 0, when ____________________________________________________________________________ . 8. TP starts declining when ___________________________________________________________________ . 9. TP increases at increasing rate when _________________________________________________________ . 10. TP increases at diminishing rate when _______________________________________________________ . 11. Increase in supply is caused by (i) ________________, (ii) ________________, and (iii) ________________ . 12. Decrease in supply is caused by (i) ________________, (ii) ________________, and (iii) ________________ . 13. Extension of supply is caused by _____________________________________________________________ . 14. Contraction of supply is caused by ___________________________________________________________ . 15. Upward movement along a supply curve occurs because of ______________________________________ . 16. Downward movement along a supply curve occurs because of ___________________________________ . 17. Two examples of technological progress causing a shift in supply curve are (i) _____________________, and (ii) ______________________ . 18. Owing to improvement in technology, firm’s supply curve will shift to the _________________________ . 19. If price of inputs rises, firm’s supply curve will shift to the________________________________________. 20. Increase in excise tax will shift the firm’s supply curve to the _____________________________________. 21. When a cost saving technology is introduced, firm’s supply curve shifts to the ______________________. 22. During short period, production can be increased _____________________________________________ . 23. During long period, production can be increased ______________________________________________ . 24. Production does not respond to any change in price when elasticity of supply = ____________________. 25. When farm productivity reduces owing to natural calamity, farmer’s supply curve shifts to the _________________________________________________________________________________________ . 26. Three important factors affecting supply of a commodity are (i) ________________________________, (ii) ________________________________, and (iii) ________________________________. 27. Law of variable proportions operates because (i) _____________________, (ii) _____________________, and (iii) _____________________ .Introductory Microeconomics 23 Economics–XII
  • 24. HOTS (Higher Order Thinking Skills) 1. Draw a diagram showing that MR = MC when the difference between TR and TC is maximum. 2. Find TP when 10 units of the variable factor are combined with 05 units of the fixed factor and MP remains constant at 10 units. _________________________________________________________________________________________ _________________________________________________________________________________________ 3. At the existing level of output, MP = AP = 10 units. Would AP be equal to MP when production is increased and law of variable proportions is in operation? _________________________________________________________________________________________ _________________________________________________________________________________________ 4. Introduction of new technology increases MP. How would it affect supply curve of a firm? _________________________________________________________________________________________ _________________________________________________________________________________________ 5. How would you explain a situation when supply of a commodity increases without any increase in price of the commodity? _________________________________________________________________________________________ _________________________________________________________________________________________ 6. Write an equation for a short period production function. Give an example. _________________________________________________________________________________________ _________________________________________________________________________________________ 7. Why should TP be maximum when MP = 0. _________________________________________________________________________________________ _________________________________________________________________________________________ 8. If there is change in any other determinant of supply (other than price of the concerned commodity), the supply curve must shift to the right or left. Do you agree? Give reason. _________________________________________________________________________________________ _________________________________________________________________________________________ 9. Why a situation of increasing returns to a factor not sustainable? Give two reasons. _________________________________________________________________________________________ _________________________________________________________________________________________Introductory Microeconomics 24 Economics–XII
  • 25. S RK HE Cost and RevenueWO 3B ET QUESTION SET–I Define the following concepts: 1. Fixed cost and variable cost. _________________________________________________________________________________________ _________________________________________________________________________________________ 2. Total cost, average cost and marginal cost. _________________________________________________________________________________________ _________________________________________________________________________________________ 3. Explicit cost and implicit cost. _________________________________________________________________________________________ _________________________________________________________________________________________ 4. Money cost and real cost. _________________________________________________________________________________________ _________________________________________________________________________________________ 5. Private cost and social cost. _________________________________________________________________________________________ _________________________________________________________________________________________ 6. Prime cost and supplementary cost. _________________________________________________________________________________________ _________________________________________________________________________________________ 7. Total revenue and marginal revenue. _________________________________________________________________________________________ _________________________________________________________________________________________ QUESTION SET–II Defend or refute the following statements. Write ‘yes’ or ‘no’ with reason: 1. Fixed cost is constant even when output is zero. _________________________________________________________________________________________ _________________________________________________________________________________________ Introductory Microeconomics 25 Economics–XII
  • 26. 2. Variable cost is incurred before production is started. _________________________________________________________________________________________ _________________________________________________________________________________________ 3. Fixed cost must be greater than variable cost when output is zero. _________________________________________________________________________________________ _________________________________________________________________________________________ 4. Variable cost reduces as output increases. _________________________________________________________________________________________ _________________________________________________________________________________________ 5. Average fixed cost curve is a rectangular hyperbola. _________________________________________________________________________________________ _________________________________________________________________________________________ 6. Average variable cost tends to fall, stabilise and rise as output increases. _________________________________________________________________________________________ _________________________________________________________________________________________ 7. Total fixed cost is indicated by a vertical straight line. _________________________________________________________________________________________ _________________________________________________________________________________________ 8. Marginal cost includes both fixed cost and variable cost. _________________________________________________________________________________________ _________________________________________________________________________________________ 9. Average cost includes both fixed cost and variable cost. _________________________________________________________________________________________ _________________________________________________________________________________________10. Total cost is the sum total of marginal costs. _________________________________________________________________________________________ _________________________________________________________________________________________11. Total revenue is the sum total of marginal revenues. _________________________________________________________________________________________ _________________________________________________________________________________________12. Average revenue is the same as market price of the commodity. _________________________________________________________________________________________ _________________________________________________________________________________________Introductory Microeconomics 26 Economics–XII
  • 27. 13. Marginal revenue can never be negative. _________________________________________________________________________________________ _________________________________________________________________________________________14. When price is constant, AR > MR. _________________________________________________________________________________________ _________________________________________________________________________________________15. When price reduces as output increases, AR = MR. _________________________________________________________________________________________ _________________________________________________________________________________________16. Under perfect competition, AR and MR curves tends to slope downward. _________________________________________________________________________________________ _________________________________________________________________________________________17. Under monopoly, AR and MR curves are indicated by horizontal straight lines. _________________________________________________________________________________________ _________________________________________________________________________________________18. TR curve always shoots from the origin. _________________________________________________________________________________________ _________________________________________________________________________________________19. AR curve never shoots from the origin. _________________________________________________________________________________________ _________________________________________________________________________________________20. When MR = 0, TR is maximum. _________________________________________________________________________________________ _________________________________________________________________________________________QUESTION SET–IIIWrite your comment on each of the following statements in a sentence or two: 1. AC curve tends to be U-shaped. _________________________________________________________________________________________ _________________________________________________________________________________________ 2. MC is greater than AC when production is in a state of diminishing returns. _________________________________________________________________________________________ _________________________________________________________________________________________Introductory Microeconomics 27 Economics–XII
  • 28. 3. AC is greater than MC, so long as AC is falling. _________________________________________________________________________________________ _________________________________________________________________________________________ 4. MC and AC are equal when AC tends to stabilise. _________________________________________________________________________________________ _________________________________________________________________________________________ 5. TC and TVC curves are parallel to each other. _________________________________________________________________________________________ _________________________________________________________________________________________ 6. The distance between AVC and AFC curves tends to reduce as output increases. _________________________________________________________________________________________ _________________________________________________________________________________________ 7. The distance between AC and AVC curves tends to increase at higher levels of output. _________________________________________________________________________________________ _________________________________________________________________________________________ 8. Short period TC curve starts from Y-axis. _________________________________________________________________________________________ _________________________________________________________________________________________ 9. Long period TC curve starts from the origin. _________________________________________________________________________________________ _________________________________________________________________________________________10. AFC continuously reduces as output increases. _________________________________________________________________________________________ _________________________________________________________________________________________11. Greater production always means greater revenue. _________________________________________________________________________________________ _________________________________________________________________________________________12. AR is always greater than MR under monopoly. _________________________________________________________________________________________ _________________________________________________________________________________________13. ATC and AVC tend to intersect at some level of output. _________________________________________________________________________________________ _________________________________________________________________________________________Introductory Microeconomics 28 Economics–XII
  • 29. 14. When MC > ATC, ATC must rise. _________________________________________________________________________________________ _________________________________________________________________________________________15. Area under MC curve = TVC. _________________________________________________________________________________________ _________________________________________________________________________________________16. TR curve under perfect competition is a straight line, sloping upward from the origin. _________________________________________________________________________________________ _________________________________________________________________________________________17. Under monopoly, TR curve increases only at a diminishing rate. _________________________________________________________________________________________ _________________________________________________________________________________________18. Under perfect competition, rate of TR never declines, but under monopoly and monopolistic competition, it can. _________________________________________________________________________________________ _________________________________________________________________________________________19. AR = 0, when TR is maximum. _________________________________________________________________________________________ _________________________________________________________________________________________20. MR tends to fall even when AR is constant. _________________________________________________________________________________________ _________________________________________________________________________________________QUESTION SET–IVComplete the following sentences: 1. TFC = __________________________________________________________________________________ . 2. TVC = __________________________________________________________________________________ . 3. TC = ___________________________________________________________________________________ . 4. ATC is U-shaped, because of _______________________________________________________________ . 5. AFC is a rectangular hyperbola, because _____________________________________________________ . 6. ATC and AVC never intersect each other, because _____________________________________________ . 7. Area under MC curve = TVC, because _______________________________________________________ . 8. ATC is always above AVC, because ___________________________________________________________ .Introductory Microeconomics 29 Economics–XII
  • 30. 9. Three examples of fixed costs are (i) _______________________, (ii) ________________________, and (iii) ________________________ . 10. Three examples of variable costs are (i) _______________________, (ii) ________________________, and (iii) ________________________ . 11. TFC curve is parallel to X-axis, because ______________________________________________________ . 12. Average and marginal cost tend to fall as output rises, because ___________________________________ . 13. The concept of fixed cost is not relevant in the long period, because ______________________________ . 14. Under perfect competition, both AR and MR are indicated by the same horizontal straight line, because _________________________________________________________________________________________ . 15. AR curve is above MR curve under monopoly because __________________________________________ . 16. MR is the rate of __________________________________________________________________________ . 17. When TR is increasing at a decreasing rate, MR should be ______________________________________ . 18. When TR is increasing at a constant rate, MR should be ________________________________________ . 19. When price is constant, TR increases at a _____________________________________________________ . 20. When MR is negative, TR __________________________________________________________________ .HOTS (Higher Order Thinking Skills) 1. Draw TC and TR curves in one diagram. Show that MR = MC only when TR and TC are parallel to each other. _________________________________________________________________________________________ _________________________________________________________________________________________ 2. MC is always variable cost. Why? _________________________________________________________________________________________ _________________________________________________________________________________________Introductory Microeconomics 30 Economics–XII
  • 31. S RK HE Forms of Market and Price DeterminationWO 4 ET QUESTION SET–I Define the following concepts: 1. Pure competition and perfect competition. _________________________________________________________________________________________ _________________________________________________________________________________________ 2. Monopoly and monopolistic competition. _________________________________________________________________________________________ _________________________________________________________________________________________ 3. Oligopoly and duopoly. _________________________________________________________________________________________ _________________________________________________________________________________________ 4. Equilibrium price and equilibrium quantity. _________________________________________________________________________________________ _________________________________________________________________________________________ 5. Market and market equilibrium. _________________________________________________________________________________________ _________________________________________________________________________________________ 6. Homogeneous product and product differentiation. _________________________________________________________________________________________ _________________________________________________________________________________________ 7. Normal profits, extra-normal profits and extra-normal losses. _________________________________________________________________________________________ _________________________________________________________________________________________ 8. Break-even price, market price and normal price. _________________________________________________________________________________________ _________________________________________________________________________________________ 9. Patent rights and cartels. _________________________________________________________________________________________ _________________________________________________________________________________________ Introductory Microeconomics 31 Economics–XII
  • 32. 10. Excess demand and excess supply. _________________________________________________________________________________________ _________________________________________________________________________________________ 11. Economic viability and non-viability of an industry. _________________________________________________________________________________________ _________________________________________________________________________________________ 12. Control price and support price. _________________________________________________________________________________________ _________________________________________________________________________________________QUESTION SET–IIDefend or refute the following statements. Write ‘yes’ or ‘no’ with reason: 1. There is a large number of buyers both under monopoly and monopolistic competition. _________________________________________________________________________________________ _________________________________________________________________________________________ 2. A monopoly firm is a price maker. _________________________________________________________________________________________ _________________________________________________________________________________________ 3. A firm under perfect competition has no control over price of the product. _________________________________________________________________________________________ _________________________________________________________________________________________ 4. Price of the product never changes under perfect competition. _________________________________________________________________________________________ _________________________________________________________________________________________ 5. Firm’s demand curve is indeterminate under oligopoly. _________________________________________________________________________________________ _________________________________________________________________________________________ 6. Product differentiation allows partial control over price. _________________________________________________________________________________________ _________________________________________________________________________________________ 7. A monopolist can exercise price discrimination. _________________________________________________________________________________________ _________________________________________________________________________________________Introductory Microeconomics 32 Economics–XII
  • 33. 8. A monopolist fixes price of his product on the basis of elasticity of demand for his product. _________________________________________________________________________________________ _________________________________________________________________________________________ 9. For a perfectly competitive firm, there are only normal profits in the long run. _________________________________________________________________________________________ _________________________________________________________________________________________10. A firm under monopolistic competition makes only normal profits in the long run. _________________________________________________________________________________________ _________________________________________________________________________________________11. There are no selling costs in perfect competition and monopoly forms of the market. _________________________________________________________________________________________ _________________________________________________________________________________________12. Firm’s demand curve under perfect competition is a horizontal straight line. _________________________________________________________________________________________ _________________________________________________________________________________________13. Firm’s demand curve under monopolistic competition is more elastic than under monopoly. _________________________________________________________________________________________ _________________________________________________________________________________________14. A firm under monopolistic competition cannot influence market price. _________________________________________________________________________________________ _________________________________________________________________________________________15. Under perfect competition, equilibrium price is determined by the forces of market demand and market supply. _________________________________________________________________________________________ _________________________________________________________________________________________QUESTION SET–IIIWrite your comment on each of the following statements in a sentence or two: 1. A firm under perfect competition gets only a break-even price in the long run. _________________________________________________________________________________________ _________________________________________________________________________________________ 2. Freedom of entry and exit ensures only normal profits in the long run. _________________________________________________________________________________________ _________________________________________________________________________________________Introductory Microeconomics 33 Economics–XII
  • 34. 3. A perfectly competitive firm operates at the lowest point of AC curve in the long run. _________________________________________________________________________________________ _________________________________________________________________________________________ 4. There is a high degree of interdependence among firms in oligopoly form of the market. _________________________________________________________________________________________ _________________________________________________________________________________________ 5. In case of excess demand, equilibrium price must rise. _________________________________________________________________________________________ _________________________________________________________________________________________ 6. For a non-viable industry, supply curve is placed above the demand curve. _________________________________________________________________________________________ _________________________________________________________________________________________ 7. Equilibrium price may not change even when market demand happens to change. _________________________________________________________________________________________ _________________________________________________________________________________________ 8. Equilibrium price never changes in a situation of perfectly elastic supply, no matter what the demand is. _________________________________________________________________________________________ _________________________________________________________________________________________ 9. In a situation when productivity increases owing to improvement in technology, equilibrium price tends to fall. _________________________________________________________________________________________ _________________________________________________________________________________________10. In a situation of war when people are fearing shortage of rice, equilibrium price of rice tends to rise. _________________________________________________________________________________________ _________________________________________________________________________________________11. Market price is always equal to or greater than the support price of a commodity. _________________________________________________________________________________________ _________________________________________________________________________________________12. In a situation when import of inputs becomes expensive, equilibrium price of the commodity tends to rise. _________________________________________________________________________________________ _________________________________________________________________________________________Introductory Microeconomics 34 Economics–XII
  • 35. 13. In case of inferior goods, a rise in income of the buyers causes a fall in equilibrium price of the commodity. _________________________________________________________________________________________ _________________________________________________________________________________________14. Equilibrium price may fall even when market demand tends to rise. _________________________________________________________________________________________ _________________________________________________________________________________________15. In a state of recession, when there is a substantial cut in production, and supply curve shifts to the left, equilibrium price may fall. _________________________________________________________________________________________ _________________________________________________________________________________________QUESTION SET–IVComplete the following sentences: 1. Three important features of perfect competition are (i) ___________________ , (ii) __________________ , and (iii) ___________________ . 2. Two basic characteristics of monopoly are (i) ______________________ , and (ii) _____________________ . 3. Three notable features of monopolistic competition are (i) ______________________________________ , (ii) ______________________________________ , and (iii) ________________________________________ . 4. Two distinct features of oligopoly are (i) ________________________ , and (ii) _______________________ . 5. Price line under perfect competition _________________________________________________________ . 6. Price line under monopolistic competition is more elastic than under _____________________________ . 7. A perfectly competitive firm cannot make extra-normal profits __________________________________ . 8. In a state of perfectly elastic demand, increase or decrease in supply does not affect _________________ . 9. Owing to a forward shift in demand curve, equilibrium price tends to ____________________________ .10. Rise in production cost owing to rise in input price, shifts the supply curve ________________________ .11. Common features of monopoly and monopolistic competition are (i) ___________________________ , (ii) _______________________ , and (iii) ________________________ .12. Common features of perfect competition and monopolistic competition are (i) _____________________, and (ii) ______________________ .13. Price is equal to MC in a situation of __________________________________________________________ .14. Price is greater than MC in a situation of ______________________________________________________ .15. In case of increase in excise tax, equilibrium price tends to ______________________________________ .Introductory Microeconomics 35 Economics–XII
  • 36. HOTS (Higher Order Thinking Skills)Write ‘true’ or ‘false’ with a reason: 1. Firm’s demand curve as a horizontal straight line under perfect competition shows that an individual producer has no control over price of his product. _________________________________________________________________________________ _________________________________________________________________________________ 2. A monopoly producer cannot control both price as well as quantity of his product. _________________________________________________________________________________ _________________________________________________________________________________ 3. It is because of high degree of interdependence that firm’s demand curve remains indeterminate under oligopoly. _________________________________________________________________________________ _________________________________________________________________________________ 4. A situation of excess demand or excess supply is automatically corrected under perfect competition. _________________________________________________________________________________ _________________________________________________________________________________ 5. In a situation of constant demand, equilibrium quantity does not change even when supply increases or decreases. _________________________________________________________________________________ _________________________________________________________________________________ 6. A monopoly firm can make abnormal profits in the long run, but not a firm under monopolistic competition. _________________________________________________________________________________ _________________________________________________________________________________ 7. Price exceeds MC under monopoly, but not under perfect competition. _________________________________________________________________________________ _________________________________________________________________________________Introductory Microeconomics 36 Economics–XII
  • 37. SOLUTIONSIntroductory Microeconomics
  • 38. Worksheet–1 Unit-1: IntroductionQUESTION SET - I 1. Microeconomics is that branch of economics which studies economic problems (or economic issues) relating to individual economic units like a consumer or a producer. 2. Economy is the sum total of economic activities directed towards the satisfaction of unlimited wants using the scarce means. 3. Scarcity is a situation when demand for a good exceeds its supply even at a zero price. 4. Central problems are those problems which arise in every economy. At the micro level, these problems are: (i) What to produce? (ii) How to produce? and (iii) For whom to produce? At the macro level, these are (i) problem of fuller utilisation of resources, and (ii) problem of growth of resources. 5. Mixed economy is the one in which both private and public sectors play a significant role in production activity. Free play of the market forces is allowed but not without checks and balances by the government. 6. Market economy is the one in which decisions regarding what, how and for whom to produce are left to the market forces of supply and demand. 7. Centrally planned economy is the one in which decisions regarding what, how and for whom to produce are taken by some central authority. 8. Production possibility curve (or transformation curve) is a curve showing different possibilities of producing a set of two goods with (i) the given resources, and (ii) given technology. 9. Opportunity cost refers to value of a factor in its next best (or second best) alternative use. 10. Marginal opportunity cost refers to loss of output of Good-Y for producing an additional unit of Good-X, some resources are shifted from Good-Y to Good-X. 11. Marginal rate of transformation (MRT) is the same as marginal opportunity cost. It is estimated as under: DY Loss of output of Y é when some resources ù MRT= = êare shifted from Y to X ú DX Gain of output of X ë û 12. Positive economic analysis refers to such issues which are verifiable, or which can be verified against the facts. 13. Normative economic analysis refers to such issues which are suggestive in nature and are not verifiable.Introductory Microeconomics 39 Economics–XII
  • 39. QUESTION SET - II 1. No. Microeconomics does deal with the aggregates. Example: market demand is the aggregation of individual demand. 2. No. Opportunity cost is the value of a factor in its second best alternative use. It is implicit cost, not an explicit cost. Explicit cost is paid-out cost. 3. No. PPC is always concave to the origin, as marginal opportunity cost (indicating slope of the curve) must rise as more and more resources are shifted from Good-2 (on Y-axis) to Good-1 (on X-axis). 4. No. Every economy faces the central problems, though these are solved differently in different economies. Because, scarcity of resources is common to all economies. 5. Yes. Scarcity is a situation when demand for a good exceeds its supply even at a zero price. 6. No. Marginal opportunity cost increases as resources are shifted from Use-1 to Use-2. This is in accordance with the law of variable proportions. 7. Yes. PPC is drawn on the assumption of constant technology. Which is why PPC shifts in response to a shift in technology. 8. No. Economising the use of resources means that resources are to be used in a manner such that maximum output is realised per unit of input. It also means optimum utilisation of resources. 9. No. If resources are not fully utilised, total output in the economy will be less than the potential output and we are inside the PPC.10. No. If resources are not fully utilized (or are under-utilized) an economy may as well be inside the PPC.QUESTION SET - III 1. No. Choice between consumer goods and capital goods refers to the problem of ‘what to produce’. 2. No. Choice between labour intensive technology and capital intensive technology refers to the problem of ‘how to produce’. 3. No. Choice between ‘production for the poor’ and ‘production for the rich’ refers to the problem of ‘for whom to produce’. It is a problem relating to choice of users of goods and services. 4. No. In a market economy central problems are solved through the free play of the market forces. 5. No. In a centrally planned economy decisions relating to ‘what, how and for whom to produce’ are taken by some central authority of the government. 6. No. In a mixed economy both private and public sectors are engaged in the process of production.Introductory Microeconomics 40 Economics–XII
  • 40. 7. In a mixed economy, problem of resource allocation, finds its solution through the market forces of supply and demand, but not without checks and balances by the government. 8. No. Production possibility curve shows different combinations of two goods which can be produced with the given resources on the assumptions that (i) resources are fully and efficiently utilised, and (ii) technique of production remains constant. 9. Yes. Because economic activity is related to the use of scarce means for the satisfaction of human wants.10. Yes. A point below PPC points to under utilisation of resources. In such a situation actual output is less than potential output.QUESTION SET - IV 1. both private as well as public sectors play a significant role in production activity. 2. free play of the market forces. 3. central authority or the government. 4. a unit more of Good-2 is produced by shifting the resources from Good-1 to Good-2. 5. right. 6. under utilisation or inefficient utilisation of resources. 7. inside the PPC. 8. left. 9. right.NUMERICALS 1. Opportunity cost = Rs 2,500 P.M. 2. Marginal rate of transformation = 2. 3. Marginal opportunity cost = 2 units. 4. Marginal opportunity cost = 80 units. 5. 10, 15, 20, 25, 30.Introductory Microeconomics 41 Economics–XII
  • 41. HOTS (Higher Order Thinking Skills) 1. False. With an efficient or fuller utilisation of resources, the economy operates on the PPC and cannot shift to point beyond the PPC because PPC shows attainable combinations of two goods with given resources and technology. 2. False. Marginal opportunity cost = 5 units. Because, Loss of output of Good - 2 Marginal opportunity cost = Gain of output of Good - 1 when some resources are shifted from Good-2 to Good-1. 3. False. When an economy moves from a situation of underemployment to full employment, the economy is on PPC. 4. True. MRT is the same as marginal opportunity cost which is the slope of PPC. 5. False. Convexity of PPC to the origin points to decreasing slope of PPC and decreasing marginal opportunity cost. However, PPC is always concave to the origin. Because marginal opportunity cost must rise as more and more resources are shifted from Use-1 to Use-2. 6. True. Problem of resource allocation arises because resources have alternative uses. 7. False. If a country is operating inside the PPC, it corresponds to under utilisation or inefficient utilisation of resources. 8. True. It is possible to increase the production of Good-1 without any decrease in the production of Good-2. Because, being inside the PPC points to a situation when resources are not fully utilized (or are not efficiently utilised). 9. False. Opportunity cost is the cost of a factor in its best alternative use. Accordingly, it is the minimum cost of a factor, and therefore unavoidable. 10. Yes. Because resources may not be efficiently utilised.Introductory Microeconomics 42 Economics–XII
  • 42. Worksheet–2 Unit-2: Consumer Equilibrium and DemandQUESTION SET - I 1. Demand refers to various quantities of a commodity that the consumer is ready to buy at different possible prices of that commodity. Quantity demanded refers to a specific quantity to be purchased against a specific price of the commodity. 2. Marginal utility is the utility derived from an additional unit of a commodity. Total utility is the sum total of marginal utilities from the consumption of different units of a commodity. 3. Indifference curve is a curve showing different combinations of a set of 2-Goods, each combination offering the same level of satisfaction to the consumer. 4. Budget line is a line showing different combinations of a set of 2-Goods that the consumer can buy, given his income and prices of the goods. It is also called price line, as it shows price ratio between Good-X and Good-Y. 5. A consumer is in a state of equilibrium when he maximises his satisfaction by spending his given income on different goods and services, with a given set of prices. 6. The law of diminishing marginal utility states that marginal utility derived from the consumption of a commodity declines as more units of that commodity are consumed at a point of time. 7. Law of demand states that, other things remaining constant, more of a commodity is purchased in response to decrease in its price. 8. The price elasticity of demand is the degree of responsiveness of quantity demanded of a commodity to the change in its price. 9. Individual demand schedule is a table showing various quantities of a commodity which a consumer is ready to buy at different possible prices of the commodity at a point of time. Market demand schedule is a schedule showing various quantities of a commodity which all the buyers in the market are ready to buy at different possible prices of the commodity at a point of time.10. Demand curve is a graphic presentation of demand schedule, showing inverse relationship between price and quantity demanded of a commodity.11. Demand function shows the relationship between demand for a commodity and its various determinants.12. Substitute goods are those goods which can be substituted for each other. Complementary goods are those goods which complete the demand for each other.13. A normal good is that good in case of which there is a positive relationship between consumer’s income and quantity demanded. Implying that income effect is positive.Introductory Microeconomics 43 Economics–XII
  • 43. An inferior good is that good in case of which there is a negative relationship between consumer’s income and quantity demanded. A giffen good is that good in case of which income effect is negative as well as greater than substitution effect. Implying that the law of demand fails.14. When quantity demanded of a commodity changes due to change in own price of the commodity, other factors remain constant, it is a situation of extension and contraction of demand.15. When quantity demanded of a commodity changes owing to a change in other factors, other than price of the concerned commodity, it is a situation of increase and decrease in demand.16. Movement along the demand curve occurs when quantity demanded is related to changes in price of the commodity. Shift in demand curve occurs when demand for a commodity is related to factors other than price of the commodity.QUESTION SET - II 1. No. Demand for a commodity is always expressed with reference to price. 2. Yes. Because demand refers to various quantities of a commodity that the consumer is ready to buy against different possible prices. 3. Yes. Demand for a commodity refers to the entire demand schedule showing various quantities of the commodity that the buyers in the market are ready to buy at different possible prices at a point of time. 4. Yes. It is quantity demanded of a commodity that changes in response to change in its own price. Change in demand occurs even when price of the commodity remains constant. 5. Yes. Total utility is the sum total of marginal utilities. TU = SMU. 6. Yes. We know TU = SMU. Accordingly TU will increase so long as MU is positive, even when it is decreasing. 7. No. When marginal utility starts declining, total utility increases at a diminishing rate. Total utility is maximum when marginal utility is zero. 8. No. Increase in demand refers to increase in quantity demanded of a commodity at its existing price. It is a situation of forward shift in demand curve, not of extension of demand. 9. No. Decrease in demand refers to decrease in quantity demanded of a commodity at its existing price. It is a situation of backward shift in demand curve, not of contraction of demand. 10. No. In case of inferior goods, law of demand fails only when negative income effect is greater than substitution effect. When negative income effect is less than substitution effect law of demand does not fail.Introductory Microeconomics 44 Economics–XII
  • 44. 11. Yes. Because giffen goods by definition are those inferior goods in case of which two conditions are satisfied: (i) income effect is negative, and (ii) income effect is greater than substitution effect. In case of inferior goods, on the other hand, only one condition needs to be satisfied: that income effect is negative. 12. Yes. Because, cheaper good replaces the one which is more expensive. 13. No. In case of complementary goods, a rise in price of Good-X causes a fall in demand for Good-Y. Because consumption of both goods X and Y goes together. 14. No. Indifference curve is convex to the origin, in accordance with the general law that MRS tends to diminish. 15. Yes. As we move along the indifference curve marginal rate of substitution (MRS) tends to diminish. Because when we have less of a commodity, intensity of its desire increases. Accordingly, less and less of it is sacrificed for every additional unit of the other commodity. 16. No. All attainable combinations of Good-X and Good-Y are below as well as along the budget line. MU X 17. Yes. A consumer attains his equilibrium when = MUM, in case of single commodity. PX MU X MU Y 18. Yes. A consumer attains his equilibrium when = = MUM in case of two PX PY commodities. 19. Yes. In terms of indifference curve approach, a consumer strikes his equilibrium when: Slope of IC = Slope of Price Line Or P MRS = X PY PX 20. No. A consumer attains his equilibrium only when: MRS = . It is a point of PY maximum satisfaction. PX MU X 21. No. A consumer attains his equilibrium only when: = . It is a situation of PY MU Y maximum satisfaction.QUESTION SET - III 1. Yes. MU must diminishes as more and more standard units of a commodity are continuously consumed. This is in accordance with the law of diminishing marginal utility.Introductory Microeconomics 45 Economics–XII
  • 45. 2. No. Cross price effect can occurs in case of substitute goods as well as in case of complementary goods. Because substitute goods as well as complementary goods are related to each other. 3. Yes. Higher indifference curve shows higher level of satisfaction. Because, higher IC corresponds to higher level of income of the consumer or higher level of consumption of both goods X and Y. 4. Yes. Shift in demand curve occurs due to change in factors other than own price of the commodity such as change in income of the consumer, tastes or preferences. 5. Yes. QX may increase or decrease due to change in other determinants of demand even when PX remains constant. 6. No. Elasticity of demand is always measured as a percentage change in quantity demanded in response to a percentage change in price. 7. Yes. When total expenditure on the commodity remains constant, price elasticity of demand also remains constant (which is equal to one), no matter price of the commodity increases or decreases. 8. No. Price elasticity of demand along a straight line demand curve is different at different points on the demand curve. Because, at a particular point on the demand lower segment curve, Ed = , which tends to change from point to point. upper segment 9. No. When Ed = 0, demand remains constant, no matter what the price is. Implying that total expenditure may increase/decrease, but not the quantity demanded. 10. Yes. Elasticity of demand is high in case of goods with close substitutes. Because availability of close substitutes makes it possible for the consumer to switch from one commodity to the other in response to change in the relative price structure. 11. No. Elasticity of demand tends to be high over longer period of time. Because, during short periods consumers tend to be more sticky with regard to their consumption pattern. 12. Yes. Complementary goods often exhibit low elasticity of demand. Because, increase or decrease in the demand for Good-1 causes a simultaneous increase or decrease in the demand for Good-2 even when price of Good-2 has not changed. 13. No. Luxuries of life have greater elasticity of demand. Change in their prices has a great effect on their demand. Because, these goods are not essentials of life. 14. Yes. Elasticity of demand will be high at higher level of price of the commodity. æ lower segment ö Because corresponding to higher level of PX, the ratio ç ç upper segment ÷ tends to be ÷ è ø high. 15. No. A horizontal straight line demand curve parallel to X-axis shows infinite elasticity of demand (Ed = ¥).Introductory Microeconomics 46 Economics–XII
  • 46. 16. No. A vertical straight line demand curve parallel to Y-axis shows no change in the demand irrespective of change in price. DQ P 17. No. We know Ed = ´ DP Q DP Slope of the demand curve = DQ 1 P So that, Ed = ´ Slope of Demand Curve Q 18. Yes. From a point of intersection of the demand curve, flatter the curve, more elastic it is. Because, for a given change in PX, (at the point of intersection) flatter demand curve shows greater change in QX. 19. Yes. Income effect is positive when increase in income causes increase in demand. It occurs in case of normal goods. It is negative when increase in income causes decrease in demand. It occurs in case of inferior goods. 20. Yes. In case of giffen goods, income effect is higher than the substitution effect. Implying law of demand fails in case of giffen goods.QUESTION SET - IV 1. contracts. 2. shifts to the right. 3. remains constant. 4. income of the consumer and demand. 5. diminish. 6. constant. 7. IC and price line are tangent to each other. MU X 8. = MUM. PX MU X MU Y 9. = = MUM. PX PY 10. diminishing marginal utility. 11. demand. 12. diminishing marginal rate of substitution. 13. percentage change in quantity demanded due to percentage change in price of the commodity. 14. (i) articles of distinction (ii) ignorance of the buyer (iii) giffen goods.Introductory Microeconomics 47 Economics–XII
  • 47. 15. (i) increase in income of the consumer (ii) increase in price of substitute good (iii) decrease in price of complementary good. 16. decrease. 17. (i) fall in income (ii) decrease in price of substitute good (iii) increase in price of complementary good. 18. 1 (one). 19. 1 (one). 20. horizontal straight line parallel to X-axis. 21. vertical straight line parallel to Y-axis.HOTS (Higher Order Thinking Skills) 1. False. It is a situation of zero price elasticity of demand. Because, when expenditure on the commodity is increasing proportionate to increase in price, total purchase of the commodity remains constant. Constant purchase means zero elasticity of demand. 2. True. Because increase in price is not causing any change in expenditure on the commodity. This is in accordance with expenditure method of measuring elasticity. 1 P 3. False. Because Ed = ´ Slope of Demand Curve Q When slope of two demand curves is the same, elasticity of demand depends on the initial price and initial quantity of the commodity. 4. True. We know 1 P Ed = ´ Slope of Demand Curve Q 1 P = ´ 0 Q =¥ 5. True. We know 1 P Ed = ´ Slope of Demand Curve Q 1 P = ´ ¥ Q =0Introductory Microeconomics 48 Economics–XII
  • 48. Worksheet–3A Unit-3A: Producer Behaviour and SupplyQUESTION SET - I 1. Production function refers to the functional relationship between physical inputs and physical output. 2. Producer’s equilibrium refers to the situation in which he maximises his profits. 3. Supply refers to the schedule showing various quantities of a commodity offered for sale at its different possible prices. Quantity supplied refers to a specific amount offered for sale at a specific price of the commodity. 4. Individual supply schedule is a table showing different quantities of a commodity that an individual firm is ready to sell at different prices. Market supply schedule is a table showing different quantities of a commodity that all the firms in a market are willing to sell at different prices of that commodity at a given time. 5. The law of supply states that, other things being equal, quantity supplied increases with increase in price and decreases with decrease in price of a commodity. 6. When a fall in price of a commodity causes a decrease in its quantity supplied, it is called contraction of supply. If quantity supplied falls due to factors other than own price of the commodity, it is a situation of decrease in supply. 7. When a rise in the price of a commodity causes an increase in its quantity supplied, it is called expansion/extension of supply. If the quantity supplied increases in the market due to factors other than own price of the commodity, it is a situation of increase in supply. 8. Total product (TP) is the total quantity of a commodity produced in a given period. Marginal product (MP) is additional quantity of the commodity produced by using an additional unit of a variable factor. Average product (AP) is the output per unit of the variable factor. 9. Returns to a factor refer to the behaviour of physical output owing to change in physical input of a variable factor, fixed factors remaining constant. 10. Law of variable proportions states that as more and more of the variable factor is combined with the fixed factor, marginal product (MP) of the variable factor may initially increase and subsequently stabilise, but must finally decrease. 11. Increasing returns to a factor occur when, due to increasing application of the variable factor, marginal product (MP) of the factor tends to rise. 12. Diminishing returns to a factor occur when, due to increasing application of the variable factor, marginal product (MP) of the factor tends to diminish.Introductory Microeconomics 49 Economics–XII
  • 49. 13. The movement along the supply curve represents expansion and contraction of supply due to change in own price of the commodity. Shift in the supply occurs due to factors other than change in own price of the commodity. 14. Joint supply refers to supply of goods produced and sold jointly like cotton and cotton seeds. Composite supply refers to supply of a commodity through its different sources. 15. Price elasticity of supply is a percentage change in quantity supplied in response to a percentage change in price of the commodity. 16. Perfectly elastic supply refers to a situation when a slight change in price causes infinite change in quantity supplied of a commodity. The supply curve is parallel to X-axis. Perfectly inelastic supply refers to a situation when the quantity supplied remains unchanged whatever be the price of the commodity. The supply curve is parallel to Y-axis. 17. Supply is said to be elastic when Es > 1. Supply is said to be inelastic when Es < 1. 18. Market period is a period when supply of a product can be increased only upto the extent of its existing stock. Short period is a period of time when output can be increased only through greater application of the variable factors. Long period is a period of time when production can be increased through greater application of all factors of production. 19. Fixed factors are those factors of production, the application of which does not change with the change in output. Variable factors are those factors of production, the application of which changes with the change in output. 20. Supply refers to various quantities of a commodity that the producers wish to sell at different possible prices of the commodity at a point of time. Stock of a commodity refers to the total quantity of that commodity available with the producers (at a point of time) for present or future sale.QUESTION SET – II 1. Yes. Production function is only a technical relationship between physical inputs and physical output. This tells us how best resources can be utilised for maximising output. 2. Yes. A producer strikes his equilibrium when he produces that amount of output at which the difference between total revenue and total cost is maximum. Because, gross profit = TR – TC.Introductory Microeconomics 50 Economics–XII
  • 50. 3. Yes. Because, supply refers to the entire supply schedule (or supply curve) while quantity supplied refers to a specific point on the supply curve which changes with change in own price of the commodity. 4. No. Contraction of supply causes a downward movement along a supply curve. 5. No. Extension and contraction of supply are related to own price of the commodity, other factors remaining constant. 6. No. Supply expands in response to increase in price of the concerned commodity. It increases in response to factors other than price of the concerned commodity. 7. Yes. When TP is maximum, change in TP= zero. Implying, MP (which measures the change in TP) must be zero when TP is maximum. 8. Yes. MP can be zero or negative but AP is never. Because, AP is the ratio between TP and units of the variable factor (which is always positive) while MP is change in TP. (owing to an additional unit of the variable factor) which can be zero or negative. 9. No. Law of variable proportions operates basically because of the fixity of factors of production. 10. Yes. It is because some factors are fixed that output is increased by using more and more units of the variable factor. It disturbs the ideal factor ratio and diminishing returns set in. 11. No. AP and MP tend to be inverse ‘U-shaped’. 12. Yes. Because in a stage of increasing returns, cost of producing even additional unit of output tends to fall. Accordingly, it would be irrational for the producer to stop production in this stage. 13. Yes. A producer strikes his equilibrium only when MP is diminishing. Because, diminishing MP means rising MC. The producer stops production when rising MC matches with MR. Beyond this point, rising MC would exceed MR, causing loss of profit. 14. No. In the short period production is done by using the both fixed and variable factors of production. In fact, short period is a period of time when some factors are fixed. 15. Yes. Factor ratio ought to change in case of law of variable proportions. It is precisely because the proportion of factors varies that the law is named as the law of variable proportions. 16. Yes. When a straight line upward sloping supply curve passes through the origin (no matter what the angle it forms), the elasticity of supply is equal to one. 17. No. When a straight line upward sloping supply curve shoots from the Y-axis, Es>1. 18. No. When a straight line upward sloping supply curve shoots from the X-axis, Es<1. 19. Yes. Stages of production are the consequences of the law of variable proportions. Percentage Change in Quantity Supplied 20. Yes. Price elasticity of supply = Percentage Change in PriceIntroductory Microeconomics 51 Economics–XII
  • 51. QUESTION SET – III 1. Yes. This is because, when AP rises, MP > AP; when AP falls, MP < AP. Accordingly, it is only when AP is constant at its top, that AP = MP. Implying that MP curve cuts AP curve from its top. 2. Yes. When AP is falling, AP>MP. See AP and MP corresponding to output range MN in the diagram. Y AP, MP AP=MP AP O X M N UNITS OF LABOUR MP 3. Yes. When AP is rising, AP<MP. See AP and MP corresponding to output range OQ in the diagram. Y AP, MP AP=MP AP O X Q UNITS OF LABOUR MP Y 4. Yes. If AP is falling, MP must also fall. Because, unless MP (showing additions to TP) is falling, AP AP, MP (showing average output) will not fall. 5. No. AP can rise even when MP is falling. See AP and MP corresponding AP to LQ range of output in the diagram. MP O X L Q UNITS OF LABOURIntroductory Microeconomics 52 Economics–XII
  • 52. 6. As more and more units of the variable factor are combined with the fixed factor, TP will rise only so long as MP is positive. Once MP becomes negative, TP will start falling. 7. Yes. Increasing MP implies TP is increasing at increasing rate. Diminishing MP implies that TP is increasing at diminishing rate. 8. No. When MP is decreasing, TP increases at a diminishing rate. 9. No. When MP is increasing, TP increases at an increasing rate. 10. No. Constant MP implies that TP is increasing at a constant rate. 11. Increasing returns to a factor occur because fixed factor is abundantly used in production. 12. Yes. As more and more units of a variable factor are combined with the fixed factor, the latter gets over utilised. Hence, the diminishing returns. 13. No. Diminishing returns to a variable factor occur because the producer fails to maintain the ideal ratio between fixed and variable factors. Because the use of fixed factors, by definition, cannot be changed during the short period. 14. No. Supply can change due to factors other than price of the concerned commodity such as technology and input prices. 15. No. A producer would maximise his profits only in the stage of diminishing returns when MP is declining but is still positive. 16. Yes. Falling MC means that the cost of producing an additional unit of output tends to reduce. In a situation when price is constant (as under perfect competition) this would mean a situation when the difference between the firm’s TR and TVC tends to increase. This means a situation when firm’s gross profit (TR – TVC) tends to rise. Why should a firm not increase output when its gross profits are rising? Certainly it will. Therefore, it is only when MC is rising that the firm will find its equilibrium output. 17. Yes. More of a commodity is offered at a higher price because other things remaining constant, higher price implies higher profit. Accordingly, the producer is induced to produce more and sell more. 18. Yes. Flatter curve shows high elasticity of supply at the point of intersection of two supply curves. Because, corresponding to a given change in price at the point of intersection) flatter curve shows greater change in quantity. 19. No. Longer the time period, greater will be the elasticity of supply. Because, over a long period of time, more and more factors are easily available and their input can be changed to increase (or decrease) output of the commodity. 20. No. If elasticity of supply = 0, supply curve becomes a vertical straight line parallel to Y-axis.Introductory Microeconomics 53 Economics–XII
  • 53. QUESTION SET - IV 1. of production the application of which changes with change in output. 2. of production the application of which does not change with the change in output. 3. profits. 4. TR = TC or AR = AC. 5. TR = TVC or AR = AVC. 6. TP. 7. TP is maximum. 8. MP is negative. 9. MP is increasing. 10. MP diminishes. 11. (i) technological improvement (ii) decrease in input prices (iii) increase in number of firms. 12. (i) increase in input prices (ii) decrease in number of firms. (iii) shift in goal of the firm from sales maximisation to profit maximisation. 13. increase in price of the concerned commodity. 14. decrease in price of the concerned commodity. 15. rise in price of the commodity. 16. fall in price of the commodity. 17. (i) use of computers (ii) use of diesel engines in place of steam engines. 18. right. 19. left. 20. left. 21. right. 22. through greater application of variable factors. 23. through greater application of all the factors of production. 24. 0 (zero). 25. left. 26. (i) price of the concerned commodity (ii) technology (iii) input prices.Introductory Microeconomics 54 Economics–XII
  • 54. 27. (i) factors of production are use-specific which compounds their scarcity (ii) some factors are fixed (iii) factors of production cannot always be substituted for each other.HOTS (Higher Order Thinking Skills) 1. Y TC (a) A b COST, REVENUE a TR AND PROFIT d Note: The difference between TR and TC c B (Maximum is maximum only when MR = MC P Profit) X O Q1 Q Q2 TP Y (b) MC REVENUE AND COST MR = MC MR O X Q1 Q Q2 OUTPUT 2. When MP remains constant at 10 units, and 10 units of the variable factor are used, TP = 10 + 10 + 10 + 10 + 10 = 50 (Q TP = SMP) 3. False. When production is increased beyond a point where MP = AP (implying AP is at its top) MP and AP should start declining. Fall in MP should be faster than the fall in AP. So that AP > MP. 4. Introduction of new technology increase MP. It implies a fall in MC. Accordingly supply curve of a firm shift to the right which shows that the producers are now willing to offer more quantity of a commodity at its existing price. 5. When supply of a commodity increases without any increase in price of the commodity, it is known as the situation of increase in supply. Increase in supply occurs when quantity supplied increases due to determinants other than price of the concerned commodity. 6. QX = f (L, K) Where, QX = Output of good-X L = Labour, a variable factor K = Capital, a fixed factor.Introductory Microeconomics 55 Economics–XII
  • 55. Example : 25X = f (4L, 2K ) From the above equation, it is clear that K is constant at 2 units. Output of commodity-X (25 units) can be produced by combining 4 units of L with 2 units of K. 7. MP is the rate of TP. When MP = 0, there is no change (or addition) in TP. Implying that TP should be maximum when MP = 0. 8. True. Shift in the supply curve occurs due to factors other than price of the concerned commodity. When other factors change in a positive direction, the supply curve shifts to the right, showing increase in supply; and when the changes occur in the negative direction, the supply curve shifts to the left showing a decrease in supply. 9. A situation of increasing returns to a factor is not sustainable owing to the following reasons: (i) some factors are fixed in supply. So that their use cannot be increased proportionate to the variable factors. (ii) factors of production are not perfect substitutes of each other.Introductory Microeconomics 56 Economics–XII
  • 56. Worksheet 3B Unit-3B: Cost and RevenueQUESTION SET - I 1. Fixed cost refers to the expenditure incurred on the fixed factors of production like plant and machinery. Variable cost refers to the expenditure incurred on the variable factors of production like casual workers. 2. Total cost refers to all expenses incurred by the producer to produce a given quantity of output. Average cost is the cost per unit of output produced. Marginal cost is the change in total cost by producing one more or less unit of output. 3. Explicit costs are those cash payments which a firm makes to others for the purchase of goods and services. Examples: (i) wages paid to labourers, (ii) payment made for the purchase of raw material. Implicit costs are opportunity costs of self-owned and self-employed resources. Examples: (i) interest on entrepreneur’s own capital, (ii) rent on entrepreneur’s own land used in business. 4. Money cost refers to the sum of monetary expenses incurred by the producer for producing a commodity. Real cost refers to the pains, the discomfort and disutility involved in supplying the factors of production by their owners. 5. Private cost refers to the expenditure incurred by an individual firm for producing a commodity. Social cost is the total cost to society of a production activity. Like the cost the society has to bear on account of water pollution and noise pollution. 6. Prime or variable costs are those costs which change as the level of output changes. Fixed or supplementary costs are those costs which do not change with change in the level of output. 7. Total revenue is the sum total of money receipts by a firm from the sale of its total output. TR = Price × Quantity Marginal revenue is the change in total revenue as a result of selling one more or less unit of output. MR = TRn – TRn–1 Or DTR MR = DQIntroductory Microeconomics 57 Economics–XII
  • 57. QUESTION SET - II 1. Yes. Because fixed costs are incurred even before output actually starts. 2. No. Variable costs are the expenditure incurred by the producer on the use of variable factors of production. These are incurred only after output actually starts. 3. Yes. Because fixed costs are incurred even when output is zero, while variable costs are incurred only after output actually starts (so that variable costs are zero when output is zero). 4. No. As the output increases, variable cost also increases. Because variable costs are largely the costs of raw material. 5. Yes. Average fixed cost (AFC) curve is a rectangular hyperbola. Because TFC does not change with output. Y 6. Yes. Average variable cost tends to fall, stabilise and rise as output increase due to the law of AVC variable proportions. See diagram. AVC O X OUTPUT Y 7. No. Total fixed cost is indicated by a horizontal TOTAL FIXED COST straight line parallel to X-axis. See diagram. 20 TFC 10 O X 1 2 3 4 5 OUTPUT 8. No. Marginal cost covers only the variable cost. Because, MC is an additional cost and it cannot be a fixed cost. 9. Yes. AC = AFC + AVC. 10. No. Sum total of marginal costs (MC) corresponding to different units of output become total variable cost (TVC). TVC = SMC. Because, marginal costs are variable costs only. 11. Yes. Sum total of marginal revenues for all the units of output is equal to total revenue. TR = SMRIntroductory Microeconomics 58 Economics–XII
  • 58. 12. Yes. We know that: TR AR = Q We also know that TR = P.Q (Where P = Price, Q = Quantity or Output sold) Relating the two equations, we can write that: TR AR = = P. Q Thus, it is proved that AR = Price. 13. No. MR can be negative, though only when price is declining as under monopoly and monopolistic competition. 14. No. When price is constant, AR is constant. Constant AR implies MR is also constant. Thus, when price is constant, AR = MR. 15. No. When price (= average revenue) reduces as output increases, MR declines faster than AR. So that AR > MR. 16. No. Under perfect competition, AR and MR curves coincide and are a horizontal straight line parallel to X-axis. Y 17. No. Under monopoly, AR and MR curves slope downward, as in the diagram: AR/MR AR MR O X OUTPUT 18. Yes. TR curve can shoots from the origin as TR = 0 when output is zero. 19. Yes. AR (= price) curve never shoots from the origin, because price of a commodity is often not zero. 20. Yes. MR is addition to TR. When MR = 0, addition to TR is zero, implying that TR is maximum.QUESTION SET – III 1. Yes. AC curve is U-shaped in accordance with the law of variable proportions: it tends to fall owing to increasing returns to a factor, it tends to stabilise owing to constant returns to a factor, and it tends to rise owing to diminishing returns to a factor. 2. Yes. When the production is in a state of diminishing returns, MC will be rising in accordance with falling MP. AC is rising, with the rising MC but less than MC or MC > AC.Introductory Microeconomics 59 Economics–XII
  • 59. Y 3. Yes. AC is greater than MC or MC is less than AC when AC falls. See AC and MC till point E in the diagram. In the diagram, AC is falling till point E AC MC AC, MC and MC continues to be lower than AC. E O X OUTPUT Y 4. Yes. MC and AC are equal when AC tends to stabilise or when AC is constant, MC = AC. See AC AC and MC corresponding to point E in the diagram MC AC, MC where AC = MC. E O X OUTPUT 5. Yes, it is true. TC and TVC curves are parallel to each other. Because the difference between TC and TVC is equal to TFC which is constant at all levels of output. 6. No, it is not true. Initially as output increases the Y distance between AVC and AFC curves may tend to AVC reduce but once the two curves cross each other (as AVC, AFC in the diagram), the difference between the two tends to increase. Because, while AVC tends to rise after a certain level of output, AFC continuously falls. AFC O X OUTPUT Y 7. No. The distance between AC and AVC curves tends to reduce as output increases. This is because as output increases the component of AVC in AC tends AC AVC AC, AVC to increase while the component of AFC in AC tends to decrease. See diagram. O X OUTPUTIntroductory Microeconomics 60 Economics–XII
  • 60. 8. Yes. TC = TFC + TVC and TFC remains constant even at zero level of output. At zero level of output, TVC = 0 TC = TFC Accordingly, TC curve starts from the Y-axis in the short period. 9. Yes. Long period total cost (TC) curve starts from the origin (or zero) because in the long period, all costs are variable costs and variable costs always vary with output, so that when output is zero, variable costs are also zero. 10. Yes. AFC continuously reduces as output increases. Because TFC remains constant at all levels of output. 11. No. Greater production does not always mean greater revenue (TR). Price (AR) may fall so much that higher output yields lower TR. 12. Yes. AR>MR under monopoly because AR tends to fall, and falling AR implies falling MR at a higher rate. 13. No. Because ATC is the sum of AFC and AVC. Since AFC can never be zero, AVC can never be equal or greater than ATC. Thus, ATC always remains above AVC. Y 14. Yes. When MC > ATC, ATC rises. See AC and MC beyond point E in the diagram. In the diagram, AC starts rising from point E and after that point E, AC MC AC, MC MC > AC. E O X OUTPUT 15. Yes. Total variable cost is the area covered Y under MC curve corresponding to a given level of output. In the diagram area OLKM is total variable cost when output is OL. M MC K MC O X L OUTPUT 16. Yes. Under perfect competition, AR and MR are constant. Constant MR implies TR increases at a constant rate. Therefore, TR is shown as a straight line sloping upward from the origin and it shoots from the origin. When Output= 0, TR = 0.Introductory Microeconomics 61 Economics–XII
  • 61. 17. Yes. TR curve increases only at a diminishing rate because a monopolist can sell more only if he lowers the price of his product. 18. Yes. Because rate of TR is equal to MR which is constant under perfect competition, but tends to decline under monopoly and monopolistic competition. 19. No. When TR is maximum, MR = 0 even when AR is declining as under monopoly and monopolistic competition. 20. No. When AR is constant, MR is also constant and AR = MR.QUESTION SET - IV 1. TC – TVC. 2. TC – TFC. 3. TFC + TVC. 4. law of variable proportions. 5. TFC remains constant at all levels of output. 6. AVC is only a component of AC. 7. MC covers only variable costs. 8. ATC = AFC + AVC. 9. (i) rent of building (ii) cost of plant and machinery (iii) wages of permanent staff. 10. (i) purchase of raw material (ii) wages of daily workers (iii) payment of electricity bill. 11. it is constant at all levels of output. 12. of increasing returns to a factor. 13. all factors are variable factors in the long period. 14. AR is constant. 15. when AR is decreasing, MR must be decreasing faster than AR. 16. TR. 17. decreasing. 18. constant. 19. constant rate, because constant price (AR) implies that AR = MR. 20. starts declining.Introductory Microeconomics 62 Economics–XII
  • 62. HOTS (Higher Order Thinking Skills) Y TC 1. (a) A b COST, REVENUE a TR AND PROFIT d Note: The difference between TR and TC c B (Maximum is maximum only when MR = MC P Profit) X O Q1 Q Q2 TP Y (b) MC REVENUE AND COST MR = MC MR O X Q1 Q Q2 OUTPUT Profit is maximised when the difference between TR and TC is maximum and when MR = MC. Distance between TR and TC curves is measured by drawing tangents on these curves. The distance is maximum when the tangent lines are parallel to each other. 2. Marginal cost is an additional cost and additional cost cannot be fixed cost, it can be variable cost. Accordingly, the sum total of marginal costs corresponding to different units of output become TVC. SMC = TVC.Introductory Microeconomics 63 Economics–XII
  • 63. Worksheet 4 Unit-4: Forms of Market and Price DeterminationQUESTION SET - I 1. A firm is said to be operating under conditions of pure competition when there are many firms, producing a homogeneous commodity with freedom of entry and exit, independent decision-making. Perfect competition is said to exist, when besides conditions of pure competition, two more conditions are satisfied, viz (i) there is perfect knowledge of the market conditions among buyers and sellers, and (ii) there is perfect mobility of factors of production. 2. Monopoly is a market form with a single seller and many buyers of a commodity. Monopolistic competition is a form of the market with many buyers and sellers, where differentiated product is sold with a partial control over price. 3. Oligopoly is a form of the market in which there is a large number of buyers, but only a few big sellers of a commodity. Duopoly is a form of market in which there are two sellers of a commodity with many buyers. 4. Equilibrium price is the price which corresponds to the equality between market demand and market supply of a commodity. Equilibrium quantity is the quantity which corresponds to the equilibrium price in the market. 5. Market refers to the mechanism of sale and purchase of goods and services. Market equilibrium is a situation of zero excess demand and zero excess supply. Or, it is a situation where: market demand = market supply. 6. Homogeneous product refers to a product of which all units are identical in all respects. Product differentiation is a situation when different producers in the market try to differentiate their product (with respect to size, weight, packaging, etc.) with a view to attracting the buyers and exercising partial control over price. 7. Profits are said to be normal when: TR = TC or AR = AC. Profits are said to be extra-normal or abnormal when: TR > TC or AR > AC. Extra-normal or abnormal losses occur when: TR < TC or AR < AC. 8. Price which is equal to average cost is known as break-even price. Market price is the price that exists in the market at a particular point of time. Normal price is the price that prevails in the long period. 9. Patent rights is the official recognition of the originators of a new product or technology. No one else can use their technology without obtaining a license. A cartel is a formal collusive agreement among rival firms in the market under oligopoly. Firms collude to avoid competition.Introductory Microeconomics 64 Economics–XII
  • 64. 10. When market demand exceeds market supply of a commodity at a given price it is known as excess demand. Excess supply means market supply of a commodity is more than market demand for a commodity at the given price. 11. Economic viability of an industry refers to the situation when demand and supply curves of the industry meet at some positive level of output. Non-viability of an industry refers to a situation when demand curve and supply curve do not intersect each other at any positive quantity. In such a situation, supply curve lies above the demand curve. 12. Control price means price of the good is fixed below its equilibrium price with a view to ensuring some minimum supply of the essential commodities to a targeted group of people. Support price is fixed by the government above the equilibrium price with a view to ensuring some minimum income to the farmers.QUESTION SET - II 1. Yes. In case of monopoly, there is single seller and large number of buyers. Under monopolistic competition, there are large numbers of both buyers and sellers. 2. Yes. Monopolist is a price maker because he is the single seller of a commodity with no close substitutes. 3. Yes. Under perfect competition, there are large number of buyers and sellers of a homogeneous product. No single seller by changing his supply can influence the price. 4. No. Under perfect competition, an individual firm cannot change the price. But market price can change owing to changes in demand and supply. 5. Yes. Firm’s demand curve is indeterminate or cannot be drawn under oligopoly because of high degree of interdependence between the firms. 6. Yes. Because of product differentiation, each firm can decide its price policy independently. So that each firm has a partial control over price of its product. 7. Yes. A monopolist can charge different prices for the same commodity from different buyers because of no close substitutes of his product. 8. Yes. Often, higher price is fixed when elasticity of demand is low. Low price is fixed when elasticity of demand is high. 9. Yes. Under perfect competition, only normal profits prevail in the long run because of freedom of entry and exit of the firms in the market. 10. Yes. A firm makes only normal profits in the long run under monopolistic competition because of freedom of entry and exit of the firms in the market.Introductory Microeconomics 65 Economics–XII
  • 65. 11. Yes. It is because homogeneous products are sold at a uniform price under perfect competition and because monopoly product has no close substitutes in the market. 12. Yes. Because price of the product is given to a firm under perfect competition. 13. Yes. Firm’s demand curve under monopolistic competition is more elastic than under monopoly because of availability of close substitutes under monopolistic competition. 14. No. A firm under monopolistic competition has partial control over the price owing to product differentiation. 15. Yes. Under perfect competition, equilibrium price is determined at the point of intersection of market demand and market supply. An individual firm cannot change it.QUESTION SET - III 1. Yes. A firm under perfect competition gets only a break-even price in the long run. It is a price which corresponds to normal profits in the long run. 2. Yes. It is due to the freedom of entry and exit feature of the market that normal profits prevail in the long run under perfect competition and under monopolistic competition. 3. Yes. A perfectly competitive firm makes only normal profits(AR= AC) in the long run which happens only at the lowest point on the AC curve. 4. Yes. Because there is only a small number of big firms in the market. 5. No. In case of excess demand, market price is less than equilibrium price. Excess demand will push the market price back to its equilibrium level. i.e., equilibrium price is restored in the economy. 6. Yes. In case of non-viable industry, supply curve is entirely above the demand curve. These curves do not meet anywhere. See diagram. Y Non-viable industry: supply curve is above the demand curve S PRICE S D D O X SUPPLY/DEMAND 7. Yes. Because market supply may change proportionate to market demand.Introductory Microeconomics 66 Economics–XII
  • 66. 8. Yes. Equilibrium price will remain unchanged when supply is perfectly elastic whether demand increases or decreases. See diagram. Here price remains constant at OP when demand increases to D1D1 and also remains constant at OP when demand decreases to D2D2. Y D1 D D2 S PRICE P S D1 D D2 O X QUANTITY 9. Yes. Owing to improvement in technology supply of the good in the market will increase causing a rightward shift of the supply curve. Accordingly, equilibrium price will decrease. 10. Yes. Because, fearing shortage, demand curve for rice will shift forward, causing a rise in equilibrium price. 11. Yes. In a situation of support price (which is the minimum price assured to the producers) market price ought to be equal or greater than the support price. 12. Yes. When import of inputs become expensive, the supply of the commodity reduces and supply curve shifts to the left. Accordingly, equilibrium price of the commodity tends to rise. 13. Yes. The income effect for an ‘inferior good’ is negative. It implies that for an increase in income of its buyers, the demand for the good falls. Diagrammatically, demand curve, DD, as shown in the diagram shifts leftward, i.e., from DD to D1D1. The new equilibrium struck at point E1. The equilibrium price decreases from OP to OP1. Y D D1 S E P PRICE E1 P1 S D D1 O X Q1 Q QUANTITYIntroductory Microeconomics 67 Economics–XII
  • 67. 14. Yes. Because supply may rise proportionately greater than the rise in demand. See diagram. Y D2 D1 S1 S2 PRICE P1 P2 D2 D1 O X Q QUANTITY 15. No. With a substantial cut in production, supply curve shifts to the left and equilibrium price will increase. See diagram. Y D S1 S PRICE P1 P E S1 D S O X Q1 Q QUANTITYQUESTION SET - IV 1. (i) large number of buyers and sellers (ii) homogeneous product (iii) freedom of entry and exit of firms. 2. (i) single seller and large number of buyers (ii) no close substitutes. 3. (i) large number of buyers and sellers (ii) product differentiation (iii) freedom of entry and exit of firms. 4. (i) a few firms (ii) large number of buyers.Introductory Microeconomics 68 Economics–XII
  • 68. 5. is a horizontal straight line parallel to X-axis. 6. monopoly. 7. in the long run. 8. equilibrium price. 9. increases. 10. to the left. 11. (i) not a uniform price (ii) imperfect knowledge of market condition (iii) imperfect mobility of factors. 12. (i) large number of buyers and sellers (ii) freedom of entry and exit of firms. 13. perfect competition. 14. monopoly. 15. increase.HOTS 1. True. Under perfect competition, demand curve of the firm is a horizontal straight line parallel to X-axis. It implies the firm will sell the product at the prevailing price which is determined by the industry. The individual firm cannot influence the price. Y Firm’s Demand Curve under Perfect Competition PRICE P AR=MR O X Q1 Q2 OUTPUT 2. True. As a single seller he can fix whatever price he wishes to fix for his product. But he can sell more only by lowering the price of his product. 3. True. Firm’s demand curve is indeterminate under oligopoly because there is a high degree of interdependence between the firms. Price and output policy of one firm has a significant impact on the price and output policy of the rival firms in the market. When one firm lowers its price, the rival firms may also lower the price. And, when one firm raises the price, the rival firms may not do it. Accordingly, it becomes very difficult to estimate change in firm’s sales caused by a change in price. ImplyingIntroductory Microeconomics 69 Economics–XII
  • 69. that a precise relationship between price and sales cannot be established. Or, that the firm’s demand curve cannot be drawn. 4. True. In a situation of excess supply, supply is more than demand. Excess supply forces the market price to slide down to its equilibrium level. In a situation of excess demand, demand is more than supply. Shortage of supply shall push the price to its equilibrium level. 5. True. In a situation of constant demand or perfectly inelastic demand, increase or decrease in supply causes a full impact on price of the commodity but equilibrium quantity does not change. 6. True. A monopoly firm can make abnormal profits in the long run because of lack of freedom of entry and exit of firms in the market. Due to freedom of entry and exit of firms under monopolistic competition, a producer cannot earn abnormal profits in the long run. 7. True. Because under perfect competition AR = MR, while under monopoly AR > MR. While equilibrium in both cases is struck when MR = MC.Introductory Microeconomics 70 Economics–XII
  • 70. CBSE Question Papers–2010 Introductory Microeconomics
  • 71. CBSE QUESTION PAPERS–2010 MICROECONOMICS1 MARK QUESTIONS 1. Define an indifference curve. Ans. Indifference curve is a curve showing different combinations of a set of 2-Goods, each combination offering the same level of satisfaction to the consumer. 2. Name the characteristic which makes monopolistic competition different from perfect competition. Ans. Product differentiation makes monopolistic competition different from perfect competition. 3. Why is demand for water inelastic? Ans. Demand for water is inelastic because water is the essential of life. 4. State one feature of oligopoly. Ans. There are only a few big sellers of a commodity and a large number of buyers in the oligopoly market. 5. In which market form demand curve of a firm is perfectly elastic? Ans. In perfect competition, demand curve of a firm is perfectly elastic. 6. Define an indifference map. Ans. A set of indifference curve is known as indifference map. 7. What is law of demand? Ans. Law of demand states that, other things remaining constant, more of a commodity is purchased in response to decrease in its price and vice-versa. 8. Define a budget line. Ans. Budget line is a line showing different combinations of a set of 2-Goods that the consumer can buy, given his income and prices of the goods. 9. What is meant by inferior good in economics? Ans. Inferior good is that good the demand for which decreases as income of the buyers increases. 10. In which market form can a firm not influence the price of the product? Ans. Under perfect competition, a firm cannot influence the price of the product. 11. Define monopoly. Ans. Monopoly is a market form with a single seller and many buyers of a commodity. 12. What can you say about the number of buyers and sellers under monopolistic competition? Ans. The number of buyers and sellers of a commodity is very large under monopolistic competition.Introductory Microeconomics 73 Economics–XII
  • 72. 13. What is meant by normal good in economics? Ans. Normal good is a good whose demand increases with rise in income and decreases with fall in income of the consumer. 14. When is the demand for a good said to be perfectly inelastic? Ans. Demand for a good is perfectly inelastic when there is no change in quantity demanded in response to any change in price of the good. 15. Give the meaning of marginal utility. Ans. Marginal utility is the utility derived from an additional unit of a commodity. MUn = TUn – TUn–1 16. What is meant by demand in economics? Ans. Demand refers to the desire to buy a commodity backed by willingness and ability to purchase that commodity, at a given point of time and at a given price. 17. Under which market form is the product homogeneous? Ans. The product is homogeneous in perfectly competitive market. 18. In which market form is a firm a price taker? Ans. A firm is a price taker under perfectly competitive market.3 MARKS QUESTIONS 1. Distinguish between ‘increase in demand’ and ‘increase in quantity demanded’ of a commodity. Ans. Increase in Demand Increase in Quantity Demanded 1. Increase in demand refers to increase in 1. Increase in quantity demanded refers to purchase of a commodity at its existing increase in purchase of a commodity due to price. a fall in its price. 2. Increase in demand occurs due to change 2. Increase in quantity demanded occurs due in factors other than price of the to change in price of the commodity. commodity. 3. Diagrammatically, this is shown by a 3. Diagrammatically, this is shown by a forward shift in demand curve. downward movement on the same demand curve. 2. Explain the law of diminishing marginal utility with the help of a utility schedule. Or Goods X and Y are substitutes. Explain the effect of fall in price of Y on demand for X. Ans. The law of diminishing marginal utility states that the marginal utility derived from the consumption of a commodity must decline as more and more units of that commodity are consumed at a point of time. Two basic assumptions of the law are: (i) only standard units of the commodity are consumed, like a cup of tea (not a spoon of tea) or a glass of water (not a drop of water), and (ii) consumption of the commodity is continuous. This law can be explained with the help of the following table.Introductory Microeconomics 74 Economics–XII
  • 73. Utility Schedule Units of Commodity-X MUX 1 25 2 20 3 15 4 10 5 5 6 0 7 –5 The above table reveals that as the consumer consumes more of commodity-X, the marginal utility diminishes. Accordingly, marginal utility curve (MU) slopes downward from left to right. Or Substitute goods are those goods which can be substituted for each other. If price of a commodity increases, demand for its substitute will increase and vice versa. Therefore, when price of Y falls, consumers switch over from X to Y and hence demand for X falls. Pepsi and Coca Cola, tea and coffee are the examples of substitute goods. For example, if price of Pepsi falls, consumers will shift from the consumption of Coca Cola to Pepsi, accordingly demand for Coca Cola falls. Diagrammatic Illustration: Fig. 1 Y Initially, the consumer purchases Q1 quantity of X when its price is OP. Now, PY PX falls, PX remaining constant,. P As a result, demand curve for X shifts to the left. The consumer now purchases Q2 S D1 of X even when PX remains D2 constant. O X Q2 Q1 QX 3. At a price of ` 5 per unit of commodity A, total revenue is ` 800. When its price rises by 20 per cent, total revenue increases by ` 400. Calculate its price elasticity of supply. Ans. Given, initial price (P) = ` 5 Rise in price (DP) = 20% of ` 5 20 = ×`5 100 =`1 New Price (P1) = P + DP =`5+`1 =`6Introductory Microeconomics 75 Economics–XII
  • 74. Initial total revenue (P × Q) = ` 800 New total revenue (P1 × Q1) = ` 800 + ` 400 = ` 1200 800 When P = 5, Q = = 160 5 1200 When P1 = 6, Q1 = = 200 6 P = ` 5, P1 = ` 6, DP = P1 – P =`6–`5 =`1 Q = 160, Q1= 200, DQ = Q1 – Q = 200 – 160 = 40 P DQ Price Elasticity of Supply (Es ) = ´ Q DP 5 40 = ´ = 1.25 160 1 Price elasticity of supply =1.25. 4. Explain the implications of freedom of entry and exit of firms under perfect competition. Ans. (i) In case of perfect competition, a firm can enter or leave the industry in the long run. By definition, short period is too short for the new firms to enter the industry and the existing firms to leave the industry. (ii) Because of free entry and exit, firms in the long run earn only normal profits (TR = TC or AR = AC). In case extra-normal profits are earned, new firms will join the industry. Market supply will increase. Market price will fall. Extra-normal profits will be wiped out. In case of extra-normal losses, some of the existing firms will leave the industry. Market supply will decrease. Market price will increase. Extra-normal losses will be wiped out. 5. Given below is the cost schedule of a firm. Its average fixed cost is ` 20 when it produces 3 units. Output (Units) 1 2 3 Average Variable Cost (`) 30 28 32 Calculate its marginal cost and average total cost at each given level of output. Ans. Output Average Total Average Total Marginal Average (Units) Variable Fixed Cost Fixed Cost Variable Cost Total Cost Cost (`) (`) (`) Cost (`) (`) (`) (AFC+AVC) 1 30 60 60 30 30 90 2 28 60 30 56 26 58 3 32 60 20 96 40 52Introductory Microeconomics 76 Economics–XII
  • 75. When Output = 3 units, AFC = ` 20 TFC = AFC × Q = ` 20 × 3 = ` 60 6. Distinguish between ‘decrease in demand’ and ‘decrease in quantity demanded’. Ans. Decrease in Demand Decrease in Quantity Demanded 1. Decrease in demand refers to decrease in 1. Decrease in quantity demanded refers to purchase of a commodity at its existing price. decrease in purchase of a commodity due to rise in its price. 2. Decrease in demand occurs due to change in 2. Decrease in quantity demanded occurs due factors other than price of the commodity. to change in price of the commodity. 3. Diagrammatically, it is shown by a 3. Diagrammatically, it is shown by a upward backward shift in demand curve. movement along the same demand curve. 7. Price of commodity A is ` 10 per unit and total revenue at this price is ` 1,600. When its price rises by 20 per cent, total revenue increases by ` 800. Calculate its price elasticity of supply. Ans. Given, initial price (P) = ` 10 Rise in price (DP) = 20% of ` 10 20 = × ` 10 = ` 2 100 New price (P1) = P + DP = ` 10 + ` 2 = ` 12 Initial total revenue (P ×Q) = ` 1,600 New total revenue (P1× Q1) = ` 1,600 + ` 800 = ` 2,400 1,600 When, P = ` 10, Q = = 160 10 2,400 When, P1 = ` 12, Q1 = = 200 12 P = ` 10, P1 = ` 12, DP = P1 – P = ` 12 – ` 10 =`2 Q = 160, Q1 = 200, DQ = Q1 – Q = 200 – 160 = 40 P DQ Price Elasticity of Supply (ES) = ´ Q DP 10 40 = ´ = 1.25 160 2 Price elasticity of supply =1.25.Introductory Microeconomics 77 Economics–XII
  • 76. 8. Explain any two factors that affect price elasticity of demand Ans. The elasticity of demand is affected by the following two factors: (i) Nature of Commodity: Goods may be: necessaries, luxuries and comforts. Demand for necessaries (like salt) is highly inelastic; demand for luxuries (like ACs) is highly elastic; and demand for comforts (like air coolers) is moderately elastic. (ii) Availability of Substitutes: Commodities which have substitutes, have elastic demand, like tea and coffee. Commodities having no substitutes like liquor and cigarettes, etc. have inelastic demand. 9. Total revenue at a price of ` 4 per unit of a commodity is ` 480. Total revenue increases by ` 240 when its price rises by 25 per cent. Calculate its price elasticity of supply. Ans. Given, initial price (P) = ` 4 Rise in price (DP) = 25% of ` 4 25 = ×`4 100 =`1 New Price (P1) = P + DP =`4+`1 =`5 Initial total revenue (P × Q) = ` 480 New total revenue(P1 × Q1) = ` 480 + ` 240 = ` 720 480 When, P = ` 4, Q = = 120 4 720 When P1 = ` 5, Q1 = = 144 5 P = ` 4, P1 = ` 5, DP = P1 – P =`5–`4 = `1 Q = 120, Q1 = 144, DQ = 144 – 120 = 24 P DQ Price Elasticity of Supply (ES) = ´ Q DP 4 24 = ´ 120 1 = 0.8 Price elasticity of supply = 0.8. 10. Explain the implication of ‘homogeneous products’ feature of perfect competition. Ans. A product being perfectly homogeneous implies that all units of a commodity are identical in size, quality, shape, colour, weight, etc. In a state of perfect competition, a perfectlyIntroductory Microeconomics 78 Economics–XII
  • 77. homogeneous product is sold in the market at a uniform price. If ever an individual firm tries to charge higher price, it would lose all its buyers to a large number of other sellers in the market. In a perfectly competitive environment, homogeneous product does not allow a firm any control over its price. Accordingly, firm’s demand curve (under perfect competition) becomes a horizontal straight line. 11. Explain the effect of the following on the price elasticity of demand of a commodity: (i) Number of substitutes (ii) Nature of the commodity. Ans. (i) Larger the number of substitutes of a commodity, greater is the elasticity of demand. This is because the consumer gets a choice of shifting from one commodity to the other when price of one commodity changes in relation to price of the other. On the other hand, if a commodity has no close substitute, elasticity of demand will be low. Because, in such a situation the consumer has little choice of shifting from one commodity to the other when price changes. (ii) Goods may be necessaries, luxuries or comforts. Demand for necessaries (like salt, vegetables) is highly inelastic. Demand for luxuries (like ACs) is highly elastic. Demand for comforts (like TV, coolers) is moderately elastic. 12. Explain any two causes of ‘increase’ in demand of a commodity. Or Explain the inverse relationship between price and quantity demanded of a commodity. Ans. Two causes of increase in demand of a commodity are: (i) Income of the Consumer: Demand for a commodity is directly related to income of the consumer. Increase in income causes a rise in demand of the good and hence a rightward shift of the demand curve. (ii) Price of Related Goods: In case of substitute goods, demand for a commodity rises with rise in price of the substitute good. Accordingly, demand curve shifts to the right. In case of complementary goods, demand for a commodity rises with a fall in the price of complementary good. Accordingly, demand curve shifts to the right. Or The quantity demanded of a commodity decreases with rise in its price and increases with a fall in its price. So, there is an inverse relationship between price and quantity demanded of a commodity. This is explained in terms of the law of diminishing marginal utility. According to this law, utility derived from every successive unit of consumption of a commodity tends to diminish. Accordingly, for every additional unit that the consumer intends to buy, he should be willing to pay less and less price. 13. A firm’s average fixed cost, when it produces 2 units, is ` 30. Its average total cost schedule is given below. Calculate its marginal cost and average variable cost at each level of output. Output (Units) 1 2 3 Average Total Cost (`) 80 48 40Introductory Microeconomics 79 Economics–XII
  • 78. Ans. Output Average Total Fixed Average Average Total Marginal (Units) Total Cost Cost Fixed Cost Variable Variable Cost (`) (`) (`) Cost (`) Cost (`) (`) 1 80 60 60 20 20 20 2 48 60 30 18 36 16 3 40 60 20 20 60 24 AFC = ` 30, when output = 2 TFC = AFC × 2 = ` 30 × 2 = ` 60 We know, TFC remains constant at all levels of output. 14. Total revenue is ` 400 when the price of the commodity is ` 2 per unit. When price rises to ` 3 per unit, the quantity supplied is 300 units. Calculate the price elasticity of supply. Ans. When price (P) = 2, total revenue (P × Q) = 400 400 Quantity supplied (Q) = = 200 units 2 P = ` 2, P1 = ` 3, DP = P1 – P =`3–`2=`1 Q = 200 units, Q1 = 300 units, DQ = Q1 – Q = (300 – 200) units = 100 units P DQ Price Elasticity of Supply (Es) = ´ Q DP 2 100 = ´ =1 200 1 Price elasticity of supply = 1. 15. Why is the number of firms small in an oligopoly market? Explain. Ans. By definition, oligopoly is a form of the market in which there is a small number of big firms. However, each firm is so big that it controls a significant segment of the market. It is so significant that the price and output policy of one firm has a direct bearing on the price and output of the rival firms in the market. Which is why, it is not possible to draw any unique demand curve (AR curve) for an oligopoly firm. Often the oligopoly firms tend to form trusts and cartels with a view to avoiding price competition. By forming trusts and cartels (like OPEC) they tend to earn monopoly profits. Only a small number of big firms can form trusts and cartels to earn monopoly profits. 16. Given below is the cost schedule of a firm. Its total fixed cost is ` 120. Calculate the marginal cost and average variable cost at each level of output. Output (Units) 1 2 3 Average Total Cost (`) 160 96 80Introductory Microeconomics 80 Economics–XII
  • 79. Ans. Output Average Total Fixed Total Total Average Marginal (Units) Total Cost Cost Cost Variable Variable Cost (`) (`) (`) Cost (`) Cost (`) (`) 1 160 120 160 40 40 40 2 96 120 192 72 36 32 3 80 120 240 120 40 48 17. Giving reason, distinguish between the behaviour of demand curves of firms under perfect competition and monopolistic competition. Ans. The demand curve of firms under perfect competition is perfectly elastic or a horizontal straight line parallel to X-axis. A firm cannot influence or alter the price because due to homogeneous product, uniform price prevails in the market. Implying that a firm can sell any quantity at the given price. Therefore, the demand curve will be perfectly elastic, showing Ed = ¥. The demand curve of firms under monopolistic competition is less than perfectly elastic. Under monopolistic competition, the seller sells a differentiated product, so he exercises partial control over price. But he can sell more only by lowering the price; certainly not at the existing price. This is what makes the demand curve less than perfectly elastic. 18. From the following cost schedule of a firm, calculate marginal cost and average variable cost at each level of output. Output (Units) 1 2 3 Total Cost (`) 80 96 120 Average Fixed Cost (`) 60 30 20 Ans. Output Total Average Total Fixed Total Average Marginal (Units) Cost Fixed Cost Cost Variable Variable Cost (`) (`) (`) Cost (`) Cost (`) (`) 1 80 60 60 20 20 20 2 96 30 60 36 18 16 3 120 20 60 60 20 24 19. Why is the demand curve more elastic under monopolistic competition than under monopoly? Explain. Ans. The demand curve under both the market structures, i.e., in monopoly and in monopolistic competition, is downward sloping. However, the demand curve for a monopolistic competitive firm is flatter, i.e., more elastic than the demand curve for a monopoly firm. This is so because a product under monopolistic competition has a large number of close substitutes while there are no close substitutes of a monopoly product.Introductory Microeconomics 81 Economics–XII
  • 80. 20. Explain two causes of ‘decrease’ in demand of a commodity. Or Explain the conditions of consumer’s equilibrium using utility approach (in case of two commodities). Ans. Two causes of decrease in demand of a commodity are: (i) Income of the Consumer: Demand for a commodity is directly related to income of the consumer. Decrease in income causes a fall in demand of the good and hence a leftward shift of the demand curve. (ii) Price of Related Goods: In case of substitute goods, demand for a commodity falls with fall in price of the substitute good. Accordingly, demand curve shifts to the left. In case of complementary goods, demand for a commodity falls with a rise in the price of complementary good. Accordingly, demand curve shifts to the left. Or There are 2 basic conditions of consumer’s equilibrium using utility approach (in case of 2 commodities). These are as under: Condition-1: That the rupee worth of satisfaction from Good-1 should be equal to rupee worth of satisfaction from Good-2. So that, MU X MU Y = PX PY This also implies that, MU X P = X MU Y PY Or that, ratio of marginal utility across Goods 1 and 2 should be equal to their price ratio. Condition-2: That the rupee worth of satisfaction for each good should be equal to marginal utility of money. So that, MU X = MU M (Marginal utility of money) PX MU Y and, = MU M PY MU X MU Y Implying that, = = MU M PX PY 21. When the price of a commodity rises from ` 4 per unit to ` 5 per unit, total revenue increases from ` 600 to ` 750. Calculate its price elasticity of supply. Ans. Given, P = ` 4, P1 = ` 5, DP = P1 - P =`5–`–4 =`1 When P = ` 4, total revenue (P × Q) = ` 600 600 Quantity supplied (Q) = = 150 units 4Introductory Microeconomics 82 Economics–XII
  • 81. When P1 = ` 5, total revenue (P1 ´ Q1 ) = ` 750 750 New quantity supplied (Q1 ) = = 150 units 5 Q = 150 units, Q1 = 150 units, DQ = Q1 - Q = (150 – 150) units = 0 units P DQ Price Elasticity of Supply (Es) = ´ Q DP 4 0 = ´ =0 150 1 Price elasticity of supply = 0 (Zero). 22. Total fixed cost of a firm is ` 60. Given below is its average variable cost schedule. Calculate its marginal cost and average total cost at each level of output. Output (Units) 1 2 3 Average Variable Cost (`) 20 16 18 Ans. Output Average Total Fixed Average Total Marginal Average (Units) Variable Cost (`) Fixed Cost Variable Cost Total Cost Cost (`) (`) Cost (`) (`) (`) 1 20 60 60 20 20 80 2 16 60 30 32 12 46 3 18 60 20 54 22 38 23. Explain how firms are interdependent in an oligopoly market. Ans. Under oligopoly there is a high degree of interdependence between the firms. Price and output policy of one firm has a significant impact on the price and output policy of the rival firms in the market. When one firm lowers its price, the rival firms may also lower the price. And, when one firm raises the price, the rival firms may not do so. Accordingly, it becomes very difficult to estimate change in firm’s sales caused by a change in price. Implying that a precise relationship between price and sales cannot be established. Or, that the firm’s demand curve cannot be drawn. 24. Explain the chain of effects of rise in price of related goods on the demand of a commodity. Ans. Related goods are of two types: Substitute goods and complementary goods. In case of substitute goods, demand for a commodity rises with rise in price of the substitute commodity. Accordingly, demand curve DD as shown in Fig. 2 shifts rightward to D1D1, the equilibrium price increases from OP to OP1 and equilibrium quantity increases from OQ to OQ1. In case of complementary goods, demand for a commodity falls with rise in price of the complementary commodity. Accordingly, demand curve DD as shown in Fig. 2 shifts leftward to D2D2, the equilibrium price decreases from OP to OP2 and equilibrium quantityIntroductory Microeconomics 83 Economics–XII
  • 82. decreases from OQ to OQ2. (Assumption: Supply and other factors affecting demand remained unchanged.) Y Fig. 2 D1 S D D2 P1 E1 PRICE P E P2 E2 S D1 D D2 O X Q2 Q Q1 QUANTITY 25. From the following schedule, calculate the price elasticity of supply: Price per unit (`) Total Revenue (`) 4 800 5 1,200Ans. Given, P = ` 4, P1 = ` 5, DP = P1 - P =`5–`4 =`1 When P = ` 4, total revenue (P × Q) = ` 800 800 Quantity supplied (Q) = = 200 units 4 When, P = ` 5, total revenue (P1 ´ Q1 ) = ` 1,200 1,200 New quantity supplied (Q1 ) = 5 = 240 units Q = 200 units, Q1 = 240 units, DQ = Q1 - Q = (240 – 200) units = 40 units P DQ Price Elasticity of Supply (Es ) = ´ Q DP 4 40 = ´ 200 1 = 0.8 Price elasticity of supply = 0.8.Introductory Microeconomics 84 Economics–XII
  • 83. 26. From the following cost schedule of a firm, calculate marginal cost and average total cost at each level of output. Fixed cost is ` 120. Output (Units) 1 2 3 Average Variable Cost (`) 40 32 36 Ans. Output Average Total Fixed Average Total Marginal Average (Units) Variable Cost Fixed Cost Variable Cost Total Cost Cost (`) (`) (`) Cost (`) (`) (`) 1 40 120 120 40 40 160 2 32 120 60 64 24 92 3 36 120 40 108 44 76 27. Explain the chain of effects of increase in income of buyers of a commodity on its demand. Ans. For a normal commodity, an increase in the income of its buyers means increase in its demand. Accordingly, demand curve DD as shown in Fig. 3, shifts rightward to D1D1 . Refer Fig. 3. Initially equilibrium struck at point E with OP and OQ level of equilibrium price and equilibrium quantity respectively. With an increase in income of the buyers of the normal commodity, the new equilibrium is attained at point E1. The equilibrium price increases from OP to OP1 , and equilibrium quantity increases from OQ to OQ1 other things remaining unchanged. (Assumption: Supply and other factors affecting demand remained unchanged.) Y Fig. 3 D1 S D P1 E1 PRICE P E S D1 D O X Q Q1 QUANTITY 28. From the following schedule, calculate the price elasticity of supply: Price per unit (`) Total Revenue (`) 5 800 6 1,200Introductory Microeconomics 85 Economics–XII
  • 84. Ans. Given, P = ` 5, P1 = ` 6, DP = ` 6 – ` 5 = ` 1 When P = ` 5, total revenue (P × Q) = 800 units 800 Quantity supplied (Q) = = 160 units 5 When, P = ` 6, total revenue (P1 ´ Q1 ) = ` 1,200 1,200 New quantity supplied (Q1 ) = = 200 units 6 Q = 160, Q1 = 200, DQ = Q1 - Q = 200 – 160 = 40 P DQ Price Elasticity of Supply (Es ) = ´ Q DP 5 40 = ´ 160 1 = 1.25 Price elasticity of supply = 1.25. 29. Given below is the cost schedule of a firm. Its total fixed costs are ` 90. Calculate marginal cost and total cost at each level of output. Output (Units) 1 2 3 Average Variable Cost (`) 30 24 27 Ans. Output Average Total Fixed Total Variable Marginal Total (Units) Variable Cost Cost Cost Cost Cost (`) (`) (`) (`) (`) 1 30 90 30 30 120 2 24 90 48 18 138 3 27 90 81 33 1714 MARKS QUESTIONS 1. Explain the problem of ‘what to produce’. Or Explain any two main features of a centrally planned economy. Ans. What to produce is the problem relating to choice of goods and services to be produced. Because resources are scarce, we cannot produce everything in whatever quantity we wish to. We are bound to face the problem of choice.Introductory Microeconomics 86 Economics–XII
  • 85. Let us assume that resources are available worth ` 4 crore. Assuming technology to be constant, we can utilise these resources entirely for the production of (say) guns and produce 400 guns, or utilise these resources entirely for the production of bread and produce (say) 400 tonnes of bread. We need guns for the defence and bread for the masses. Can we produce 400 guns as well as 400 tonnes of bread, even when we need both of them? No, because resources do not permit it. Hence, the obvious problem of choice relating to what to produce and how much to produce. Or Two main features of a centrally planned economy are as follows: (i) In centrally planned economy, decisions relating to what, how and for whom to produce are taken by some central authority appointed by the government. (ii) Market forces are regulated or controlled by the government. 2. When the price of a commodity falls by ` 2 per unit, its quantity demanded increases by 10 units. Its price elasticity of demand is (–)1. Calculate its quantity demanded at the price before change which was ` 10 per unit. Ans. Suppose the initial quantity demanded = X units. P = ` 10, P1 = ` 10 – ` 2 = ` 8, DP = P1 – P = ` 8 – ` 10 =–`2 Q = X units, Q1 = (X + 10) units, DQ = Q 1 – Q = X + 10 - X = 10 units Ed = (–) 1 P DQ Elasticity of Demand (Ed) = ´ Q DP 10 10 –1 = ´ X -2 100 –1 = -2X 2X = 100 X = 50 Quantity demanded before change in price = 50 units. 3. Explain the effect of increase in income of buyers of a ‘normal’ commodity on its equilibrium price. Ans. For a normal commodity, an increase in the income of its buyers means increase in its demand. Accordingly, demand curve DD as shown in Fig. 4, shifts rightward to D1D1 . Refer Fig. 4. Initially equilibrium struck at point E with OP and OQ level of equilibrium price and equilibrium quantity respectively. With an increase in income of the buyers of the normal commodity, the new equilibrium is attained at point E1. The equilibrium price increases from OP to OP1 , and equilibrium quantity increases from OQ to OQ1 other things remaining unchanged. (Assumption: Supply and other factors affecting demand remained unchanged.)Introductory Microeconomics 87 Economics–XII
  • 86. Y Fig. 4 D1 S D P1 E1 PRICE P E S D1 D O X Q Q1 QUANTITY 4. Explain the problem of ‘how to produce’. Or Distinguish between microeconomics and macroeconomics. Give examples. Ans. The problem of how to produce is a problem relating to choice of technology. Broadly, it is the problem of deciding input ratio of different factor inputs and efficient use of resources. There are two techniques of production: (i) Labour intensive technique in which labour is used more than capital, and (ii) Capital intensive technique in which capital is used more than labour. An economy must decide as to which technique is to be used so that productivity is maximised or cost is minimised. Or Microeconomics Macroeconomics 1. Microeconomics studies economic 1. Macroeconomics studies economic relationships or economic problems at the relationships or economic problems or level of an individual– an individual firm, economic issues at the level of the economy an individual household or an individual as a whole. consumer. 2. Microeconomics is concerned with 2. Macroeconomics is concerned with determination of output and price for an determination of aggregate output and a individual firm or industry. general price level in the economy as a whole. 3. Study of microeconomics assumes that 3. Study of macroeconomics assumes that macro variables (like aggregate output and micro variables (like distribution of income general price level) remain constant. and wealth) remain constant. 4. Examples: Saving and consumption 4. Examples: Total output, aggregate pattern of an individual household, price demand and general price level. level of a firm or industry.Introductory Microeconomics 88 Economics–XII
  • 87. 5. When price of a commodity falls by ` 1 per unit, its quantity demanded rises by 3 units. Its price elasticity of demand is (–) 2. Calculate its quantity demanded if the price before the change was ` 10 per unit. Ans. Let the initial quantity be X units. Given, P = ` 10, DP = ( -) `1 , Q = X units, DQ = 3 units Ed = (–) 2 P DQ Price Elasticity of Demand (Ed) = ´ Q DP 10 3 (–) 2 = ´ X –1 30 (–) 2 = –X 2X = 30 Þ X = 15 Quantity demanded before change in price = 15 units. 6. How does the equilibrium price of a ‘normal’ commodity change when income of its buyers falls? Explain the chain of effects. Ans. For a normal commodity, a fall in the income of its buyers means decrease in its demand. Accordingly, demand curve DD as shown in Fig. 5, shifts leftwards to D1D1 . Refer Fig. 5. Initially equilibrium is struck at point E with OP and OQ level of equilibrium price and equilibrium quantity respectively. With a fall in income of the buyers (in case of normal commodity), the new equilibrium is attained at point E1 . The equilibrium price decreases from OP to OP1 and equilibrium quantity decreases from OQ to OQ1 other things remaining unchanged. (Assumption: Supply and other factors affecting demand remain unchanged.) Y Fig. 5 D D1 S P E PRICE P1 E1 D S D1 X O Q1 Q QUANTITY 7. The price elasticity of demand of a commodity is (–) 1.5. When its price falls by ` 1 per unit its quantity demanded rises by 3 units. If the quantity demanded before the price change was 30 units, what was the price at this demand? Calculate. Ans. Suppose the initial price be ` X. P = ` X, DP = (–) ` 1, Q = 30 units, DQ = 3 units Ed = (–) 1.5Introductory Microeconomics 89 Economics–XII
  • 88. P DQ Elasticity of Demand(Ed) = ´ Q DP X 3 (–) 1.5 = ´ 30 –1 3X (–) 1.5 = -30 3X = 45 45 X= = 15 3 Price before change = `15. 8. Quantity demanded of a commodity rises by 6 units when its price falls by ` 1 per unit. Its price elasticity of demand is (–) 1. If the price before the change was ` 20 per unit, calculate quantity demanded at this price. Ans. Suppose the initial quantity demanded be X units. P = ` 20, DP = (–) ` 1, Q = X units, DQ = 6 units, Ed = (–) 1 P DQ Price Elasticity of Demand (Ed) = ´ Q DP 20 6 (–) 1 = ´ X –1 120 (–) 1 = -X X = 120 Quantity demanded before change in price = 120 units. 9. Explain the problem of for whom to produce. Or Giving suitable examples, explain the meaning of microeconomics and macroeconomics. Ans. The problem of ‘for whom to produce’ is a problem relating to choice of users of the goods and services. Should we produce for those who can pay high price? If yes is the answer, we shall end up producing goods and services for a relatively richer section of the society or even for a richer section of the world community. Their quality of life would improve, but that of the poor would stagnate or deteriorate further. As such, the gulf between rich and the poor would keep on widening which no welfare state can afford to accept. On the other hand, if goods are produced for the poor only, they may not afford to buy, reducing profits of the producers. When producers do not earn profits, where will investment come from? Accordingly, the level of production would shrink and quality of life of the entire population would suffer. Or Microeconomics studies economic relationships or economic problems at the level of an individual–an individual firm, an individual household or an individual consumer. Microeconomics is concerned with determination of output and price for an individual firm or industry. Examples: Consumption and saving pattern of the households, distribution of income and wealth.Introductory Microeconomics 90 Economics–XII
  • 89. Macroeconomics studies economic relationships or economic problems or economic issues at the level of the economy as a whole. Macroeconomics is concerned with determination of aggregate output and a general price level in the economy as a whole. Examples: Aggregate saving, aggregate investment, general price level. 10. The quantity demanded of a commodity falls by 5 units when its price rises by ` 1 per unit. Its price elasticity of demand is (–) 1.5. Calculate the price before change if at this price quantity demanded was 60 units. Ans. Let the price before change = ` X. Given, P = ` X, DP = ` 1 Q = 60 units, DQ = (–) 5 units Ed = (–) 1.5 P DQ Price Elasticity of Demand (Ed) = ´ Q DP X –5 (–) 1.5 = ´ 60 1 -5X (–) 1.5 = 60 5X = 90 90 X= = 18 5 Price before change = ` 18. 11. How is the equilibrium price of a commodity affected by a rise in the prices of its substitutes? Explain the chain of effects. Ans. An increase in the prices of substitutes of a commodity means increase in its demand. Accordingly, demand curve DD as shown in Fig. 6, shifts rightwards to D1D1 . Refer Fig. 6. Initially equilibrium is struck at point E with OP and OQ level of equilibrium price and equilibrium quantity respectively. With an increase in the prices of substitutes of a commodity, new equilibrium is attained at point E1 . The equilibrium price increases from OP to OP1 and equilibrium quantity increases from OQ to OQ1 , other things remaining unchanged. (Assumption: Supply and other factors affecting demand remain unchanged.) Y Fig. 6 D1 S D P1 E1 PRICE P E D1 S D X O Q Q1 QUANTITYIntroductory Microeconomics 91 Economics–XII
  • 90. 12. Price elasticity of demand of a commodity is – 0.5. Its quantity demanded falls by 5 units when its price rises by ` 1 per unit. Calculate the quantity demanded if the price before the change is ` 5 per unit. 4 Ans. Let the initial quantity demanded be X units. Given, P = ` 5, DP = ` 1 Q = X units, DQ = (–) 5 units Ed = – 0.5 P DQ Price Elasticity of Demand = ´ Q DP 5 –5 –0.5 = ´ X 1 -25 –0.5 = X X = 50 Quantity demanded before the change in price = 50 units. 13. Explain the chain of effects of an ‘increase’ in supply of a commodity on its equilibrium price. Ans. Effect of increase in supply of a commodity on its equilibrium price is discussed with reference to the following figure: In Fig. 7, E is the initial equilibrium where supply and demand curves intersect each other. OQ is the equilibrium quantity and OP is the equilibrium price. Y Fig. 7 D S S1 P E PRICE P1 E1 S D S1 O X Q Q1 QUANTITY Increase in supply implies a shift in supply curve to the right. It is indicated by S1S1. Now new equilibrium is determined at E1. Corresponding to it, equilibrium price decreases from OP to OP1. Hence, the conclusion that when supply for a commodity increases, equilibrium price tends to decrease, other things remaining constant.Introductory Microeconomics 92 Economics–XII
  • 91. 14. Price elasticity of demand of a commodity is (–) 0.75. When its price falls by ` 1 per unit its quantity demanded rises by 4 units. Calculate its quantity demanded if the price before the change was ` 12 per unit. Ans. Suppose the initial quantity demanded is X units. Given, P = ` 12, DP = (–) ` 1, Q = X units, DQ = 4 units Ed = (–) 0.75 P DQ Price Elasticity of Demand = ´ Q DP 12 4 (–) 0.75 = ´ X –1 48 (–) 0.75 = –X X = 64 Quantity demanded before the change in price = 64 units. 15. Explain the chain of effects of ‘decrease’ in supply of a commodity on its equilibrium price and quantity. Ans. Effect of decrease in supply of a commodity on its equilibrium price and equilibrium quantity is discussed with reference to Fig. 8. Y Fig. 8 D S1 S P1 E1 PRICE P E S1 D S O X Q1 Q QUANTITY In Fig. 8, E is the initial equilibrium where supply and demand curves intersect each other. OQ is the equilibrium quantity and OP is the equilibrium price. Decrease in supply implies a shift in supply curve to the left. It is indicated by S1S1. Now new equilibrium is determined at E1. Corresponding to it, equilibrium quantity decreases from OQ to OQ1. Equilibrium price increases from OP to OP1. Hence, the conclusion that when supply for a commodity decreases, equilibrium price tends to increase but equilibrium quantity tends to decrease, other things remaining constant.Introductory Microeconomics 93 Economics–XII
  • 92. 6 MARKS QUESTIONS 1. Using indifference curves approach, explain the conditions of consumer’s equilibrium. Ans. Consumer’s equilibrium refers to a situation when a consumer maximises his satisfaction spending his given income across different goods and services. In terms of IC analysis, a consumer attains equilibrium when: (i) IC and price line are tangent to each other. Or When: slope of IC and slope of price line are equal to each other. (ii) When IC is convex to the origin, at the point of equilibrium. In Fig. 9 AB is the budget or price line. IC1, IC2 and IC3 are indifference curves. A consumer can buy any of the combinations, A, B, C, D and E of good-X and good-Y shown on the price line AB. He cannot get any combination on IC3 as it is away from price line AB. He can buy those combinations which are not only on price line AB but also coincide with the highest indifference curve which is IC2 in this case. Out of A, B, C, D and E combinations, the consumer will be in equilibrium at combination ‘E’, because at this point price line (AB) is tangent to the highest indifference curve IC2. Also, at E, IC is convex to the origin. No doubt, the consumer can buy ‘C’ or ‘D’ combinations as well but these will not give him maximum satisfaction being situated on lower indifference curve IC1. It means consumer’s equilibrium point is the point of tangency of price line and indifference curve. At equilibrium, P Slope of Indifference Curve = Slope of Budget or Price Line or MRSXY = X PY In a state of equilibrium, the consumer is buying OL amount of Good-Y and OM amount of Good-X. It is here that he is maximising his satisfaction. Any departure from this point would only mean lesser satisfaction. Y Fig. 9 A C Consumer’s Equilibrium GOOD-Y E L IC3 IC2 D IC1 O X M B GOOD-X 2. State whether the following statements are true or false. Give reasons for your answer. (a) When total revenue is constant average revenue will also be constant. (b) Average variable cost can fall even when marginal cost is rising. (c) When marginal product falls, average product will also fall.Introductory Microeconomics 94 Economics–XII
  • 93. Ans. (a) False. When total revenue is constant, average revenue should be diminishing as shown in Fig. 10 Y (a) Fig. 10 Constant TR TR TR O X Q Y OUTPUT (b) AR AND MR AR MR=0 O X Q MR OUTPUT (b) The statement is true. Average variable cost can fall even when marginal cost is rising. See AVC and MC corresponding to output range MQ in Fig. 11. MC Y Fig. 11 AVC COST O X M Q OUTPUT (c) The statement is false. Average product can rise even when marginal product falls. See AP and MP corresponding to output range MQ in Fig. 12. Fig. 12 Y AP, MP AP O X M Q UNITS OF LABOUR MPIntroductory Microeconomics 95 Economics–XII
  • 94. 3. Explain the law of variable proportions with the help of total product and marginal product curves. Or Explain producer’s equilibrium with the help of a marginal cost and marginal revenue schedule. Ans. Law of variable proportions states that as more and more of the variable factor is used with the fixed factors, a stage must come when marginal product (MP) of the variable factor starts diminishing. Diminishing MP may become zero or negative. Of course, initially, MP may rise owing to better coordination between the factors and better utilisation of the fixed factor. But, continuous increase of the variable factor must cause mismatch between the variable and the fixed factor, and MP must ultimately decline. Fig. 13 explains the behaviour of TP and MP. Y Fig. 13 T TOTAL PRODUCT TP K L S O X Y Increasing Diminishing Returns Returns MARGINAL PRODUCT E O X L S – ve MP UNITS OF THE VARIABLE FACTOR Diagram shows that: (i) MP tends to rise till OL units of the variable factor are used with the constant application of the fixed factor. This corresponds to point E on the MP curve. This is a situation of increasing returns to a factor. (ii) When MP is rising, TP tends to rise at an increasing rate. This occurs till point K on the TP curve. This corresponds to the situation of increasing returns to a factor. (iii) Beyond OL units of the variable factor, MP tends to decline, and TP increases only at diminishing rate. This occurs between E and S on MP curve, and between K and T on TP curve. This corresponds to a situation of diminishing returns to a factor.Introductory Microeconomics 96 Economics–XII
  • 95. (iv) Beyond OS units of the variable factor, MP becomes negative. Now TP starts declining. Economists sometimes refer to this situation as a situation of negative returns. Or According to marginal cost and marginal revenue approach, a producer strikes his equilibrium when: (i) MR = MC and (ii) MC is rising or MC curve cuts MR curve from below. Consider the following schedule and see how equilibrium is worked out: Output (Units) MR (`) MC (`) 1 16 20 2 16 18 3 16 16 4 16 15 5 16 16 6 16 17 The above table shows that MR and MC is equal to 16 at output levels 3rd and 5th. But the producer attains equilibrium at 5th unit only because here both the conditions of equilibrium, viz. (i) MR = MC and (ii) MC is rising, are satisfied. Thus, a producer is in equilibrium when he produces 5 units of the output. 4. State whether the following statements are true or false. Give reasons for your answer. (i) When there are diminishing returns to a factor, total product first increases and then starts falling. (ii) When marginal revenue falls to zero, average revenue becomes maximum. (iii) The difference between total cost and total variable cost falls with increase in output. Ans. (i) False. This is because in a situation of diminishing returns to a factor marginal product tends to fall. Falling marginal product implies that total product should be increasing, though at a diminishing rate. It simply implies diminishing slope of TP (total product) curve, NOT diminishing TP. (ii) False. When marginal revenue is zero, average revenue should be diminishing, as in Fig. 14. Fig. 14 Y AR, MR AR Zero MR O X MR OUTPUT (iii) False. Because the difference between total cost and total variable cost is equal to total fixed cost which remains constant at all levels of output.Introductory Microeconomics 97 Economics–XII
  • 96. 5. State and explain the characteristics of indifference curves. Ans. The principle characteristics of indifference curves are as follows: 1. Indifference curves are negatively slopped or they slope downward: An indifference curve slopes downwards from left to right. It shows that more of one commodity implies less of the other, so that total satisfaction (at any point on IC) remains the same. 2. Indifference curves are convex to the point of origin: An indifference curve will ordinarily be convex to the point of origin. This is because of diminishing marginal rate of substitution. 3. Indifference curves never touch or intersect each other: Each indifference curve represents different levels of satisfaction. So their intersection is ruled out or in other words, indifference curves never cut each other. 4. Higher indifference curve represents higher level of satisfaction: In indifference map, a higher indifference curve represents those combinations which yield higher level of satisfaction than the combinations on the lower indifference curve. 5. Indifference curve touches neither X-axis nor Y-axis: It is often assumed that a consumer buys a combination of different quantities of two goods. Hence, an indifference curve touches neither X-axis nor Y-axis. 6. State whether the following statements are true or false. Give reasons for your answer: (i) When marginal revenue is constant and not equal to zero, then total revenue will also be constant. (ii) As soon as marginal cost starts rising, average variable cost also starts rising. (iii) Total product always increases whether there is increasing returns or diminishing returns to a factor. Ans. (i) False. Because when marginal revenue is constant, total revenue is increasing at a constant rate. (ii) No, the statement is false. Average variable cost can fall even when marginal cost starts rising. See AVC and MC corresponding to output range MQ in Fig. 15. MC Y Fig. 15 AVC COST O X M Q OUTPUT (iii) Yes, the statement is true. This is because in a situation of increasing returns to a factor, marginal product tends to rise. Accordingly, total product should be increasing at an increasing rate. Under diminishing returns to a factor, marginal product tends to fall. Falling marginal product implies that total product should be increasing, though at a decreasing rate.Introductory Microeconomics 98 Economics–XII
  • 97. 7. What are the conditions of consumer’s equilibrium under the indifference curve approach? What changes will take place if the conditions are not fulfilled to reach equilibrium? Ans. Consumer’s equilibrium refers to a situation when a consumer maximises his satisfaction spending his given income across different goods and services. In terms of IC analysis, a consumer attains equilibrium when: (i) IC and price line are tangent to each other. Or When: slope of IC and slope of price line are equal to each other. and (ii) IC is convex to the origin, at the point of equilibrium. In Fig. 16 AB is the budget or price line. IC1, IC2 and IC3 are indifference curves. A consumer can buy any of the combinations, A, B, C, D and E of good-X and good-Y shown on the price line AB. He cannot get any combination on IC3 as it is away from price line AB. He can buy those combinations which are not only on price line AB but also coincide with the highest indifference curve which is IC2 in this case. Out of A, B, C, D and E combinations, the consumer will be in equilibrium at combination ‘E’, because at this point price line (AB) is tangent to the highest indifference curve IC2. No doubt, the consumer can buy ‘C’ or ‘D’ combinations as well but these will not give him maximum satisfaction being situated on lower indifference curve IC1. It means consumer’s equilibrium point is the point of tangency of price line and indifference curve. At equilibrium, P Slope of Indifference Curve = Slope of Budget or Price Line or MRSXY = X PY Also, at point E, the IC2 is convex to the origin. Accordingly, equilibrium is stable. If IC2 was not convex at the point of equilibrium, we shall never have stable equilibrium. In a state of equilibrium, the consumer is buying OL amount of Good-Y and OM amount of Good-X. It is here that he is maximising his satisfaction. Any departure from this point would only mean lesser satisfaction. Y Fig. 16 A C Consumer’s Equilibrium GOOD-Y E L IC3 IC2 D IC1 O X M B GOOD-XIntroductory Microeconomics 99 Economics–XII
  • 98. 8. From the following schedule find out the level of output at which the producer is in equilibrium, using marginal cost and marginal revenue approach. Give reasons for your answer. Price per unit Output Total Cost (`) (Units) (`) 8 1 6 7 2 11 6 3 15 5 4 18 4 5 23 Or Explain the law of returns to a factor with the help of total product and marginal product schedule. Ans. Price per Output Total Total Marginal Marginal unit (Units) Cost Revenue Revenue Cost (`) (`) (`) (`) (`) 8 1 6 8 8 6 7 2 11 14 6 5 6 3 15 18 4 4 5 4 18 20 2 3 4 5 23 20 0 5 The producer is in equilibrium at 3rd unit of output according to MR and MC approach. Reason: At output level 3, both MR and MC are equal which is 4 in this case. Or Law of variable proportions states that as more and more of the variable factor is combined with the fixed factor, marginal product (MP) of the variable factor may initially increase and subsequently stabilise, but must finally decrease. Accordingly, the law exhibits three phases of production. The law of variable proportions is explained with the help of following table and Fig. 17.Introductory Microeconomics 100 Economics–XII
  • 99. Law of Variable Proportions Units of Units of Total Marginal Land Labour Product Product 1 1 2 2 Increasing MP implying 1 2 5 3 increasing returns to a factor. 1 3 9 4 1 4 12 3 1 5 14 2 1 6 15 1 Diminishing MP implying 1 7 15 0 diminishing returns to a factor 1 8 14 -1 Note: Where MP stops increasing, from that very point it starts diminishing. Thus overlapping is indicated in the above table when MP = 4. The table shows that as more and more units of labour are combined with fixed amount of land, MP (marginal product) tends to rise till 3 units of labour are employed. In this situation, TP (total product) increases at the increasing rate. This is a situation of increasing returns to the factor. But, with the application of 4th unit of labour, situation of diminishing returns sets in: MP starts decreasing and TP increases only at the decreasing rate. Diminishing MP reduces to zero when 7th unit of labour is added, and MP becomes negative (-1) when 8th unit of labour is also employed. Total output is maximum (= 15), when marginal output is zero and it starts declining (from 15 to 14) when marginal output = – 1 (negative). Diagrammatic Illustration: Y Fig. 17 T TOTAL PRODUCT TP K L S X O Y Increasing Diminishing MARGINAL PRODUCT Returns Returns E O X L S – ve MP UNITS OF THE VARIABLE FACTOR In the diagram, increasing returns to a factor occurs between O and K on the TP curve and diminishing returns to a factor occurs between K and T on the TP curve.Introductory Microeconomics 101 Economics–XII
  • 100. 9. Explain consumer’s equilibrium with the help of indifference curves approach. Use diagram. Ans. A consumer is in a state of equilibrium when he maximises his satisfaction by spending his given income on different goods and services at given price. In terms of IC analysis, a consumer attains equilibrium when: P MRS (Marginal rate of substitution) = X (Slope of the price line). PY Fig. 18 illustrates this situation. Fig. 18 Y GOOD-Y P L Q IC O X M P GOOD-X Q is the point of equilibrium. Here, IC and price line (PP) are tangent to each other. Or, it is here that the slope of IC = slope of price line. Or, it is here that: P MRS (indicated by the slope of IC) = X (indicated by the slope of price line). PY In a state of equilibrium, the consumer is buying OL amount of Good-Y and OM amount of Good-X. It is here that he is maximising his satisfaction. Any departure from this point would only mean lesser satisfaction. 10. From the following schedule find out the level of output at which the producer is in equilibrium. Give reasons for your answer. (Use total revenue and total cost approach.) Output (Units) Marginal Revenue (`) Total Cost (`) 1 8 6 2 6 11 3 4 15 4 2 18 5 0 23 Or What type of changes take place in total product and marginal product when there are (a) increasing returns to a factor? (b) diminishing returns to a factor? Why do these changes take place?Introductory Microeconomics 102 Economics–XII
  • 101. Ans. Output Marginal Total Cost Total Revenue Profit (Units) Revenue (`) (TC) (`) (TR) (`) ( p = TR - TC) (`) 1 8 6 8 2 2 6 11 14 3 3 4 15 18 3 4 2 18 20 2 5 0 23 20 –3 Producer is in equilibrium at 3rd unit of output. Reason: Profit is maximum at output level of 3rd unit. At this level, the difference between TR and TC is maximum, i.e., 3 and thereafter starts falling. Therefore, producer’s equilibrium is at 3rd unit of output. Or (a) When there are increasing returns to a factor, total product increases at an increasing rate and marginal product also rises in this case. This change occurs owing to the following reasons: (i) Greater application of the variable factor ensures better utilisation of the fixed factor. (ii) Greater application of the variable factor facilitates better division of labour, and (iii) Greater application of the variable factor improves co-ordination between the factors. (b) When there are diminishing returns to a factor, total product increases at a decreasing rate and marginal product starts declining in this case. Reasons for this kind of change are as follows: (i) Fixity of the Factor: As more and more units of a variable factor are combined with the fixed factor, the latter gets over-utilised. Hence, the diminishing returns. (ii) Factors of production are imperfect substitutes of each other. (iii) The coordination between factors gets distorted so that marginal product of the variable factor declines. 11. Explain the relationship between: (a) Marginal revenue and Total revenue. (b) Marginal revenue and Average revenue. Ans. (a) Relationship between Marginal Revenue (MR) and Total Revenue (TR): (i) When MR is positive and constant, TR should increase at a constant rate. (ii) When MR is falling, TR should increase at a decreasing rate. (iii) When MR is zero, TR should be maximum. (iv) When MR is negative, TR starts declining.Introductory Microeconomics 103 Economics–XII
  • 102. (b) Relationship between Marginal Revenue (MR) and Average Revenue (AR): (i) When average revenue is constant, it is equal to marginal revenue, as under perfect competition. (ii) When average revenue is diminishing, it is greater than marginal revenue. It is true in situations of monopoly and monopolistic competition. (iii) Marginal revenue can be zero or negative but not the average revenue. zzzIntroductory Microeconomics 104 Economics–XII

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