Transcript ECON 1001 AB Introduction to Economics I Dr. Ka

ECON 1001 AB
Introduction to Economics I
Dr. Ka-fu WONG
Fifth week of tutorial sessions
KKL 925, K812, KKL 106
Clifford CHAN
KKL 1109
[email protected]
Covered and to be covered
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Covered last week
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Dr. Wong finished up to slide #26 of kf005.ppt
You should have at least read up to Chapter 5 Demand: The
Benefit Side of the Market, and the Appendix
If not, please press hard on it. Start reading Chapter 6
Your first Economics Naturalist writing assignment is due this Friday
October 12.
To be covered in the tutorial sessions this week
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Problems in chapter 5: #1, #3, #5, #7, #8 and #9
You are advised to work on the even ones as well
Problem #1, Chapter 5
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In which type of restaurant do you expect the service to
be more prompt and courteous: an expensive gourmet
restaurant or an inexpensive diner? Explain.
Solution to Problem #1 (1)
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Refer to chapter 1
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We discussed that the amount you are willing to spend on a
certain product reveals the value or the benefit of the product
If you are rational and are willing to pay $800 for an admission
ticket to watch a concert, the value or benefit of the concert must
be at least $800
In the question, two options are given: an expensive
gourmet restaurant and an inexpensive diner
Both the restaurant and the diner are actually
businesses selling food and services
Solution to Problem #1 (2)
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In of terms of Economics goods, is “food” a normal good
or an inferior good?
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Food is both a necessity and a normal good. If your income
increases, you will probably increase your consumption in food or
increase your consumption in expensive food like premium beef
and seafood
In of terms of Economics goods, is “service” a normal
good or an inferior good?
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Service is also a normal good. If your income increases, you will
probably spend more on service or spend more on expensive
service like hiring a in-house maid to do all the housework or
hiring an professional accountant to look over your wealth
management
Solution to Problem #1 (3)
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Thus, “Willingness to pay for FOOD”, and that for
SERVICE are increasing functions with income
Expensive gourmet restaurants like those in ifc or in
luxurious hotels target on diners who earn higher
incomes
Inexpensive diners like those on campus target on diners
who earn lower incomes
Solution to Problem #1 (4)
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To attract diners earning higher incomes and charge
them a higher price, expensive gourmet restaurants
provide high quality of food as well as high quality of
service
To attract diners earning lower incomes and charge them
a lower price, inexpensive diners provide low quality of
food as well as low quality of service (self-serve on
campus)
Problem #3, Chapter 5
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Martha’s current marginal utility from consuming orange
juice is 75 utils per ounce and her marginal utility from
consuming coffee is 50 utils per ounce. If orange juice
costs 25 cents per ounce and coffee costs 20 cents per
ounce, is Martha maximizing her total utility from the two
beverages? If so, explain how you know. If not, how
should she rearrange her spending?
Solution to Problem #3 (1)
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Notion of marginal utility
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The extra (additional) satisfaction one derives from one’s
consumption activities
Thus, we can draw a parallel line between marginal utility and
marginal benefit
Recall from chapter 1 and chapter 2
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Rule of allocating resources
For a resource that is perfectly divisible, and for activities for
which the marginal product of the resource is not always higher
in one than in the others, the rule is:
 Allocate the resource so that its marginal benefit is the same in
every activity
Solution to Problem #3 (2)
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Since the marginal utility from consuming (75 utils)
orange juice is not the same as the marginal utility from
consuming coffee (50 utils), Martha has not maximized
total utility from drinking orange juice and coffee
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Alternatively, we can take a different approach to the
problem as follows
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When the quantity of each good can be varied continuously, we
can solve this problem by applying the Rational Spending Rule:
 Spending should be allocated across goods so that the
marginal utility per dollar is the same for each good
Solution to Problem #3 (3)
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Currently,
The marginal utility from drinking orange juice per dollar
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= Marginal utility from consuming orange juice / Price per ounce
= 75 utils / $0.25
= 300 utils per dollar from her last dollar spent on orange juice
The marginal utility from drinking coffee per dollar
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= Marginal utility from consuming coffee / Price per ounce
= 50 utils / $0.20
= 250 utils per dollar from her last dollar spent on coffee
Solution to Problem #3 (4)
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As the marginal utilities from consuming orange juice
and coffee are not the same, Martha has not maximized
her total utility from drinking orange juice and coffee
To improve her total utility from consuming orange juice
and coffee, Martha should drink more orange juice and
less coffee
Why?
Drinking more orange juice will drive down the marginal
utility from consuming orange juice per dollar
Drinking less coffee will drive up the marginal utility from
consuming coffee per dollar
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Note utility is a decreasing function with consumption
Problem #5, Chapter 5
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Sue gets a total of 20 utils per week from her
consumption of pizza and a total of 40 utils per week
from her consumption of yogurt. The price of pizza is $1
per slice, the price of yogurt is $1 per cup, and she
consumes 10 slices of pizza and 20 cups of yogurt each
week.
True and false: Sue is consuming the optimal
combination of pizza and yogurt.
Solution to Problem #5 (1)
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Insufficient information!!!
To prove whether Ann is consuming an optimal
combination of pizza and yogurt, we need to check
whether the Rational Spending Rule holds in her case
Rational Spending Rule holds if the marginal utilities per
dollar from the consumptive activities are the same
Unlike Problem #3 in which marginal utilities of
consumptive activities are given, Problem #5 provides
total utilities of consumptive activities
Thus, we can only come out with the average utilities per
dollar from consuming pizza and yogurt
Problem #7, Chapter 5
For the demand curve
shown, find the total
amount of consumer
surplus that results in the
gasoline market if
gasoline sells for $2 per
gallon
10
Price ($/gallon)
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2
80
100
1,000s of gallons/yr
Solution to Problem #7 (1)
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Reservation price refers to the maximum price that one
will pay to buy a certain product or service
Consumer’s surplus refers to the difference between a
buyer’s reservation price for a product and the price
actually paid
For example, I am willing to pay $30 for a Ham and
cheese source sandwich sold at Starbucks for which it is
sold for only $20
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My maximum willingness to pay (reservation price) is $30
The actual price I have to pay is $20
Consumer surplus = $30 - $20 = $10
Solution to Problem #7 (2)
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If we keep calculating the consumer surplus in such a way
that one’s reservation price minus the actual market price
of gasoline ($2), we will get a total consumer surplus that
is equal to the area under the demand curve but above
the actual price ($2)
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Consumer’s surplus when the gasoline is $2 per
gallon
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= ($10-$2) * 800,000 gallons * (1/2) = $320,000
Consumer’s surplus when the gasoline is $0 per gallon
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= ($10-$0) * 100,000 gallons * (1/2) = $500,000
Solution to Problem #7 (3)
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Consumer’s surplus
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The area under the demand curve but above the
actual market price
It is a triangle under a linear demand curve but
above the actual market price
Problem #8 (1), Chapter 5
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Tom has a weekly allowance of $24, all of which he
spends on pizza and movie rentals, whose prices are $6
per slice and $3 per rental, respectively. If slices of pizza
and movie rentals are available only in whole-number
amounts, list all possible combinations of the two goods
that Tom can produce each week with his allowance
Problem #8 (2), Chapter 5
Pizza / week
Utils / week from
pizza
Movie rentals /
week
Utils / week from
movie rentals
0
0
0
0
1
20
1
40
2
38
2
46
3
54
3
50
4
68
4
54
5
80
5
56
6
90
6
57
7
98
7
57
8
104
8
57
Solution to Problem #8 (1)
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Tom has a weekly allowance of $24 which he can spent
on pizza and movie rentals
$6 for a slice of pizza
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$3 for a movie rental
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Possible combinations of pizza and rentals
0 slices of pizza, 8 movie rentals
1 slice of pizza, 6 movie rentals
Total $
$24
$24
2 slices of pizza, 4 movie rentals
$24
3 slices of pizza, 2 movie rentals
4 slices of pizza, 0 movie rental
$24
$24
Problem #9, Chapter 5
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Refer to Problem #8. Tom’s total utility is the sum of the
utility he derives from pizza and movie rentals. If these
utilities vary with the amounts consumed as shown in the
table, and pizzas and movie rentals are again
consumable only in whole-number amounts, how many
pizzas and how many movie rentals should Tom
consume each week?
Solution to Problem #9 (1)
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To find the optimal combination of consumption in pizzas
and movie rentals, we need to calculate the total utility of
each possible combination of consumption on the two
goods
Possible combinations of pizza
and movie rentals
Total utility
per week
0 slices of pizza, 8 movie rentals
Total $
per
week
$24
1 slice of pizza, 6 movie rentals
$24
20 + 57 = 77
2 slices of pizza, 4 movie rentals
$24
38 + 54 = 92
3 slices of pizza, 2 movie rentals
$24
54 + 46 = 100
4 slices of pizza, 0 movie rental
$24
68 + 0 = 68
0 + 57 = 57
Solution to Problem #9 (2)
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Recall marginal utility
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The extra (additional) satisfaction one derives from one’s
consumption activities
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The higher level of utility, the higher level of satisfaction
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Based on the above table, Tom should consume 3 slices
of pizza and 2 movie rentals per week, as this is the
optimal combination yielding the maximum total utility
(100)
The end
Thanks for coming!
Good luck on your
writing assignment!!!