Economics 0011A/B Lecture Notes - Lecture 2: Mira-Bhayandar Municipal Corporation, Business Process, Robert Jensen

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Published on 2 Aug 2020
Department
Professor
ECO 101H1: Principles of Microeconomics Prof. Freitas, University of Toronto
Problem Set 1: Thinking like an Economist
Solutions
1a) Solution: $20. Opportunity cost is the value of the next best alternative. If you don’t order the beef you
would get the next preferred option, the chicken which gives you a benefit of $20. Both dishes cost $15 and
you use the same gift card to buy it. The resource you are using to get the beef is the same resource you are
using to get your next best alternative which is the chicken. When you choose the beef you are giving up the
enjoyment from chicken which you value at $20.
1b) Solution: $25. If you don’t choose the vegetarian you next best alternative is the beef which you value at $25.
1c) Solution: $23. You next best option now is the fish which you value at $23. Since the vegetarian option, even
with the higher value is not your second most preferred option, it is still not the next best option and hence
does not affect your opportunity cost.
1d) Solution: From an opportunity cost perspective, for every option that is not beef, your opportunity cost is $25,
the value of the beef. On the other hand, the opportunity cost of beef is $20. Beef has the lowest opportunity
cost. Beef also has the highest benefit, which means on net (Net benefits = Benefits-Opportunity Cost) beef
is the best option for you. You choose beef.
1e) Solution: Yes it matters. If you’re not very hungry today then you could save the gift card for a later date
when you’re hungrier and your value from that option could affect your calculation of opportunity cost. It
could be also higher than your value from the beef dish and then you would choose to use the card later.
1f) Solution: Yes it matters. If you didn’t have a gift card then you could have spent $15 in cash at another
restaurant or skipped lunch and spent it on something else. If that is a relevant option we need to know how
it is valued before you make you choice.
2a) Solution: 6 hours.
Whenever you see a “how many?” question your first instinct should be to calculate marginal costs and
benefits of an extra unit. Here your units are hours.
The marginal cost of an hour spent studying is the money you could have earned babysitting, which is $20.
For marginal benefit, we want the extra benefit from each additional unit. For any quantity Q, the marginal
benefit of the Qth hour is the total benefit when you have Qhours minus the total benefit from when you
have Q1 hours. Table 1does this calculation for you.
No. of hours Total Benefit Marginal Benefit Marginal cost
1 $67 $67 $20
2 $126 $59 $20
3 $177 $51 $20
4 $220 $43 $20
5 $255 $35 $20
6 $282 $27 $20
7 $301 $19 $20
8 $312 $11 $20
9$315 $3 $20
Table 1: Marginal benefits and costs of an extra hour spent studying.
For the first 6 hours, the marginal benefit is higher than the marginal cost. For the seventh hour, your
additional benefit is $19 but you are giving up $20 in babysitting wages so you choose to study only 6 hours.
201909 1 of 7Problem Set 1 Solutions
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ECO 101H1: Principles of Microeconomics Prof. Freitas, University of Toronto
2b) Solution: Hint: In ECO101, we want you to get the intuition so we will stick with linear equations. This means
that your equations will look something like the following:
Marginal cost will be MC(Q) = c+dQ, with both cand dnon-negative (i.e., either positive or equal to zero).
Marginal Benefit will be MB(Q) = abQ, with apositive and bnon-negative and most likely positive.
Question for you: why is it reasonable to assume that both aand bare non-negative? Think of stories and
examples to help you understand the intuition.
We want to find an equation of the formMB(Q) = abQ. From Table 1, we see that marginal benefit
decreases by $8 with each additional unit. This means b= 8. As M B(1) = 67 and marginal benefit decreases
by $8 with each additional unit, the intercept (i.e., marginal benefit when quantity equals 0) is 67 + 8 = 75.
We thus have MB(Q) = 75 8Q.
2c) What is your marginal benefit from spending 3.5 hours studying over the weekend? Use the equation you
derived in question above.
Solution: $47. We plug in 3.5 into the MB(Q)equation to find that MB(3.5) = 75 83.5 = 47. The marginal
benefit at the instant you study for 2.5 hours is $47.
2d) Solution: 6.88 hours (6.875 rounded to 2 decimal places becomes 6.88). Because we assume that hours studying
is a continuous variable, you study until marginal benefit is exactly equal to marginal cost.
marginal benefit = marginal cost
75 8Q= 20
55 = 8Q
Q=55
8= 6.875
2e) Solution: I know that at the optimal quantity, Q, your MB(Q) = M C. If you work 7.5 hours then it must
be that at 7.5 hours
marginal benefit = marginal cost
75 8(7.5) = MC
15 = MC
I can check my calculations by checking what you would choose if your MC was indeed $15.
marginal benefit = marginal cost
75 8Q= 15
60 = 8Q
Q=60
8= 7.5
2f) Solution: When we work with equations you can always safely assume that optimal quantities don’t have to
be integers, even if I don’t specify it in the question.
Same logic as with finding the equation for marginal costs. Start with the table and fill in marginal costs
which has been done for you in table 2below.
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