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Midterm

ECON 1010 Study Guide - Midterm Guide: Instant Coffee, Ferrari P, Arc ElasticityExam


Department
Economics
Course Code
ECON 1010
Professor
All
Study Guide
Midterm

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1
Copyright © 2009 Pearson Education, Inc. Publishing as Prentice Hall.
Chapter 1 - EXERCISES
1. Decide whether each of the following statements is true or false and explain why:
a.
Fast-food chains like McDonald’s, Burger King, and Wendy’s operate all over the United
States. Therefore the market for fast food is a national market.
This statement is false. People generally buy fast food locally and do not travel large
distances across the United States just to buy a cheaper fast food meal. Because there
is little potential for arbitrage between fast food restaurants that are located some
distance from each other, there are likely to be multiple fast food markets across the
country.
b.
People generally buy clothing in the city in which they live. Therefore there is a clothing
market in, say, Atlanta that is distinct from the clothing market in Los Angeles.
This statement is false. Although consumers are unlikely to travel across the country
to buy clothing, they can purchase many items online. In this way, clothing retailers in
different cities compete with each other and with online stores such as L.L. Bean. Also,
suppliers can easily move clothing from one part of the country to another. Thus, if
clothing is more expensive in Atlanta than Los Angeles, clothing companies can shift
supplies to Atlanta, which would reduce the price in Atlanta. Occasionally, there may
be a market for a specific clothing item in a faraway market that results in a great
opportunity for arbitrage, such as the market for blue jeans in the old Soviet Union.
c.
Some consumers strongly prefer Pepsi and some strongly prefer Coke. Therefore there is no
single market for colas.
This statement is false. Although some people have strong preferences for a particular
brand of cola, the different brands are similar enough that they constitute one market.
There are consumers who do not have strong preferences for one type of cola, and there
are consumers who may have a preference, but who will also be influenced by price.
Given these possibilities, the price of cola drinks will not tend to differ by very much,
particularly for Coke and Pepsi.

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2
Copyright © 2009 Pearson Education, Inc. Publishing as Prentice Hall.
2. The following table shows the average retail price of butter and the Consumer Price Index from
1980 to 2000, scaled so that the CPI = 100 in 1980.
ˇ
1980
1985
1990
1995
2000
CPI
100
130.58
158.56
184.95
208.98
Retail price of butter
(salted, grade AA, per lb.)
$1.88
$2.12
$1.99
$1.61
$2.52
a.
Calculate the real price of butter in 1980 dollars. Has the real price
increased/decreased/stayed the same since 1980?
Real price of butter in year t =
t
CPI
CPI
1980
*(nominal price of butter in year t).
ˇ
1980
1985
1990
1995
2000
Real price of butter (1980 $)
$1.88
$1.62
$1.26
$0.87
$1.21
The real price of butter decreased from $1.88 in 1980 to $1.21 in 2000, although it did
increase between 1995 and 2000.
b.
What is the percentage change in the real price (1980 dollars) from 1980 to 2000?
Real price decreased by $0.67 (1.88 1.21 = 0.67). The percentage change in real price
from 1980 to 2000 was therefore (0.67/1.88)*100% = 35.6%.
c.
Convert the CPI into 1990 = 100 and determine the real price of butter in 1990 dollars.
To convert the CPI into 1990 = 100, divide the CPI for each year by the CPI for 1990
and multiply that result by 100. Use the formula from part (a) and the new CPI
numbers below to find the real price of milk in 1990 dollars
.
1980
1985
1990
1995
2000
63.07
82.35
100
116.64
131.80
$2.98
$2.57
$1.99
$1.38
$1.91
d.
What is the percentage change in the real price (1990 dollars) from 1980 to 2000? Compare
this with your answer in (b). What do you notice? Explain.
Real price decreased by $1.07 (2.98 1.91 = 1.07). The percentage change in real price
from 1980 to 2000 was therefore (1.07/2.98)*100% = 35.9%. This answer is the same
(except for rounding error) as in part (b). It does not matter which year is chosen as the
base year when calculating percentage changes in real prices.

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3
Copyright © 2009 Pearson Education, Inc. Publishing as Prentice Hall.
3. At the time this book went to print, the minimum wage was $5.85. To find the current value of
the CPI, go to http://www.bls.gov/cpi/home.htm. Click on Consumer Price Index- All Urban
Consumers (Current Series) and select U.S. All items. This will give you the CPI from 1913 to the
present.
a.
With these values, calculate the current real minimum wage in 1990 dollars.
The last year of data available when these answers were prepared was 2007. Thus, all
calculations are as of 2007. You should update these values for the current year.
Real minimum wage in 2007 =
2007
1990
CPI
CPI
* (minimum wage in 2007) =
342.207
7.130
* $5.85 =
$3.69. So, as of 2007, the real minimum wage in 1990 dollars was $3.69.
b.
Stated in real 1990 dollars, what is the percentage change in the real minimum wage from
1985 to the present?
The minimum wage in 1985 was $3.35. You can get a complete listing of historical
minimum wage rates from the Department of Labor, Employment Standards
Administration at http://www.dol.gov/esa/minwage/chart.htm.
Real minimum wage in 1985 =
1985
1990
CPI
CPI
* $3.35 =
6.107
7.130
* $3.35 = $4.07.
The real minimum wage therefore decreased from $4.07 in 1985 to $3.69 in 2007 (all in
1990 dollars). This is a decrease of $4.07 3.69 = $0.38, so the percentage change is
(0.38/4.07)*100% = 9.3%.
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