Markets and Equilibrium

ECON3101
S1 2014
Revision Questions for Midterm 15 April 2014
1. If markets have a high intensity of competition, we should more likely to
observe higher or lower prots?
2. What are the main ve elements/assumption of the environment for a
perfectly competitive market?
3. If Demand > Supply at a certain price and nothing else changes, should
we expect the price to increase, decrease or remain the same? Explain
why.
4. Consider a one good market model in which buyers are all the same and
take the market price as given. A typical buyer solves:
max ln qd
qd

s.t. pqd = I

where I is income. What is the buyers demand curve?

5. Consider the same market as in 4. above, in which sellers are all the same,
take price as given and solve:
max pqs
qs

qs2 :

What is the supply curve for the seller?

6. Join your answers from 4. and 5. to solve for the equilibrium price. Show
carefully how you get it.
7. Consider the two goods market with c1 and c2 . A typical buyer solves the
following problem:
maxfln c1 + ln c2 g s.t. p1 c1 + p2 c2 = I:
c1 ;c2

Solve for demands cd1 and cd2 .

8. Remain in the same market as in 7. but now consider the supply side. In
each market, rms are perfectly competitive and take prices as given. In
market 1 rm solves:
maxfp1 q1 (q1 )2
q1

and in market 2 rm solves:

maxfp2 q2
q2

Solve for the supply curves q1s and q2s .

1

(q2 )2 :

9. Join your results from 7. and 8. and nd the equilibrium prices p1 and
p2 .
10. Explain in the two period model how the possibility of borrowing and
lending expands the possible set for consumption c1 and c2 .
11. In the two period model, show on a well labelled graph, with indierence curve, budget constraint and income y1 and y2 , a situation where a
household is borrowing in period one and repays the debt in period two.
12. Consider the Intertemporal Budget Constraint (IBC) of the two-period
model. What is the maximum a household could borrow in the rst period?
13. If a borrowing constraint exist in the two-period model of borrowing and
lending, what could be the main reasons for this constraint?
14. What mainly determines the interest rate in the economy?
15. Suppose that we observe an sudden increase in interest rate and there is
a strong evidence that it is driven by changes in the demand side. What
factors could have created a shift in demand and in which direction (left
or right)?
16. Who are the main suppliers and demanders in the market that determines
the interest rate?
17. Suppose that we observe an sudden decrease in interest rate and there is
a strong evidence that it is driven by changes in the supply side. What
factors could have created a shift in supply and in which direction (left or
right)?
18. Consider the following story: "After some market research, there is some
evidence that investorscondence is on the rise." If indeed this rise occurs,
what are the likely outcomes on the interest rate and saving? Explain
using the tools we have learned.
19. Why is the interest rate on credit cards higher than mortgage rates? Explain.
20. In the two-period model with prices, write down and explain the Intertemporal Budget Constraint (IBC).
21. In the two-period model with prices and for the case of log utility we have
obtained the following demand curves for each period:
cd1 =

y1 + R1 y2
p1 (1 + )

and
cd2 =

p2 (1 + )
2

[Ry1 + y2 ]:

Suppose that households suddenly become more impatient and everything

else remains the same. What would happen to cd1 and cd2 ?
22. Considering the same model as in 21., how do prices change aect saving?
23. In the same model as 21. again, we have derived the following equilibrium
prices:
1=2
y1 + R1 y2
p1 = 2
(1 + )
and

1=2

p2 =
Suppose that <
p2 ? Explain why.

1
R,

(1 + )

[Ry1 + y2 ]

would this imply that p1 is bigger, lower or equal to

24. Consider the model with labour income. Households solve:

maxfc + ln `g s.t. pc = wh and ` + h = 1.
c;`

Find the supply of labour hours by the households, that is, hd . How does
it dier from the one found in the lecture on Week 6?
25. Consider again the model with labour income in 24. But now assume that
household has a non-labour income that we denote by d (dividend). The
budget constraint becomes:
pc = wh + d:
Suppose that the dividend d is a share of rms prot. If the market is
perfectly competitive and in the long run, how would this change your
answer in 24.?