1. The government has decided that the free-market price of cheese is too low.
○ a. Suppose the government imposes a binding price floor in the cheese market. Draw a supply-and-demand diagram to
show the effect of this policy on the price of cheese and the quantity of cheese sold. Is there a shortage or surplus of
cheese?
○ b. Farmers complain that the price floor has reduced their total revenue. Is this possible? Explain.
○ c. In response to farmers’ complaints, the government agrees to purchase all the surplus cheese at the price
floor. Compared to the basic price floor, who benefits from this new policy? Who loses?
2. A recent study found that the demand and supply schedules for Frisbees are as follows:
a. What are the equilibrium price and quantity of Frisbees?
b. Frisbee manufacturers persuade the government that Frisbee production improves scientists’ understanding of
aerodynamics and thus is important for national security. A concerned Congress votes to impose a price floor $2 above the
equilibrium price. What is the new market price? How many Frisbees are sold?
c. Irate college students march on Washington and demand a reduction in the price of Frisbees. An even more concerned
Congress votes to repeal the price floor and impose a price ceiling $1 below the former price floor. What is the new
market price? How many Frisbees are sold?
3. Suppose the federal government requires beer drinkers to pay a $2 tax on each case of beer purchased. (In fact,
both the federal and state governments impose beer taxes of some sort.)
○ a. Draw a supply-and-demand diagram of the market for beer without the tax. Show the price paid by consumers, the
price received by producers, and the quantity of beer sold. What is the difference between the price paid by consumers
and the price received by producers?
○ b. Now draw a supply-and-demand diagram for the beer market with the tax. Show the price paid by consumers, the
price received by producers, and the quantity of beer sold. What is the difference between the price paid by consumers
and the price received by producers? Has the quantity of beer sold increased or decreased?
4. Suppose a technological advance reduces the cost of making computers.
○ a. Draw a supply-and-demand diagram to show what happens to price, quantity, consumer surplus, and producer
surplus in the market for computers.
○ b. Computers and typewriters are substitutes. Use a supply-and-demand diagram to show what happens to price,
quantity, consumer surplus, and producer surplus in the market for typewriters. Should typewriter producers be happy or
sad about the technological advance in computers?
○ c. Computers and software are complements. Draw a supply-and-demand diagram to show what happens to price,
quantity, consumer surplus, and producer surplus in the market for software. Should software producers be happy or sad
about the technological advance in computers?
○ d. Does this analysis help explain why software producer Bill Gates is one of the world’s richest men?
5. In New York City the quantity of taxi cabs is restricted (owners must buy a medallion which confers the rights to
operate a cab).
○ a. Model the market for taxi rides in NYC (this means you need to draw a picture).
○ b. What happens to total welfare (consumer+producer surplus) because of the restriction?
○ c. What happens to total revenue received by taxi drivers who have a medallion?
○ d. Would consumers be better or worse off if the restriction was eliminated?
○ e. Would medallion holders be better or worse off if the restriction was eliminated?
○ f. Explain what effect, if any Uber has had on the market for rides in NYC?
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6. Hotel rooms in Smalltown go for 100 , and 1000 rooms are rented on a typical day.
○ a. To raise revenue, the mayor decides to charge hotels a tax of 10 per rented room. After the tax is imposed,
the going rate for hotel rooms rises to 108, and the number of rooms rented falls to 900. Calculate the amount of revenue
this tax raises for Smalltown and the deadweight loss of the tax. (Hint: The area of a triangle is ½.)
○ b. The mayor now doubles the tax to 20. The price rises to 116, and the number of rooms rented falls to 800 .
Calculate tax revenue and deadweight loss with this larger tax. Are they double, more than double, or less than double?
Explain.
○ c. What does this tell you about the reason many economists prefer low taxes?
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