Intro Economics questions How do you calculate marginal rate of substitution? 1.

Question

Intro Economics questions

How do you calculate marginal rate of substitution?

1.What happens to the isoquant line if one cost or budget changes and which way do they move?

2.Long run average cost why it goes up and down

3.Production possibility frontier

4.How do we derive supply in perfect competition?

5. Producer surplus what is it and how do we calculate it

6. What are short run stages of production where does stage one and stage two and stage three begin

7. What are the conditions for maximizing profit?

Explanation / Answer

If we have an utility function U = F(X, Y), then

MRSX,Y = MUX / MUY where

MUX = dU / dX & MUY = dU / dY.

(1)

If the budget decreases, isocost line shifts inward since previous bundle of inputs cannot be afforded at a lower budget. So, isoquant comes down to a lower level (leftward, touching the new isocost).

If budget increases, isocost shifts rightward & new isoquant touches new isocost to the right.

(2)

LR Average cost (LRAC) increases with changes in factors that increase the total cost, for example, if there is a permanent decrease in supply of production factor, that factor price will increase, which will increase the LRAC.

Similarly, a technological innovation will lower the LRAC by improving current production technique, enhancing efficiency.

(3)

PPF is a curve that shows the combination of two outputs that an eonomy can produce, given its existing resources. If a production point is on or inside the PPF, that output combination is currently attainable, otherwise not. A PPF can shift with changes in technology, factor endowment and general economic conditions.

(4)

In perfect competition, each individual firm is a price taker who accept the market equilibrium price as their own price, and decide on their own output by equating price with their marginal cost. The market supply is obtained by horizontal summation of all individual firm supply (output).

(5)

Producer surplus is the difference between the minimum price at which a producer is willing to sell his output, and the price he actually receives. It is always positive or zero and cannot be negative. It is measured by the area between supply curve and price.

NOTE: Out of 8 questions, the first 6 are answered.

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