NATIONAL LAW UNIVERSITY, JODHPUR

ECONOMICS I: GENERAL PRINCIPLES OF MICROECONOMICS

UG: II SEMESTER, C.A: II

MM: 10 Time: 50 Mts

Q.1 Answer the following questions briefly. (Marks 0.5*4=2)

(a) Ms ‘X’ owns a Chocolate store. She charges Rs100 per unit for her hand made chocolate.
You, the economist, have calculated the elasticity of demand for chocolate in her town to be
3.5. If she wants to increase her total revenue, what advice will you give her and why?
(b) If the cross elasticity of demand between peanut butter and milk is -4.31, then how
peanut butter and milk are related to each other?
(c) A 10 percent increase in income brings about a 15 percent decrease in the demand for a
good. Comment on the nature of good using income elasticity of demand.
(d) Discount stores sell relatively elastic goods. Ceteris paribus, explain why selling at a
relatively low price is profitable for them?
(a)Ms X should lower her price. Her price elasticity of demand for chocolate is elastic
(greater than one) and therefore, when she lowers her price she will sell a lot more chocolate.
The greater quantity sold will make up for her lower price, increasing her total revenue. In
other words, she is selling at a lower price but making up for it in volume of sales.
(b) Peanut butter and milk are complements because a negative cross price elasticity of
demand means that as the price of milk goes up, the demand for peanut butter goes down.
This would indicate that when the price of milk goes up, we buy less milk and we are also
buying less peanut butter (so we must buy these together -- they are complements).
(c). -15%/10% = -.15/.10 = (-)1.5. The good is an inferior good because the sign is
negative, indicating that an increase in income will bring a decrease in the demand for the
good.
(d). It is profitable because with elastic goods, dropping the price lower can bring them a lot
more business. Therefore, at the low prices they can sell a large volume of goods, making up
for the lower prices and bringing in more revenue (P x Q).

Q2. How can elasticity explain why drug interdiction could reduce the supply of drugs, yet
possible increase drug related crimes? (Marks 2.5)
Ans : Drug interdiction would increase drug related crimes in the short run while decreases it
in short run. Explain with Demand Supply and comparative statics
Q.3 Consider the market for gasoline that is initially in equilibrium with a market price of P 1
and a market quantity of Q1. Suppose that there is a war in the Middle East that disrupts
petroleum production while at the same time people’s incomes in the United States increases.
Assume gasoline is a normal good. Draw a graph illustrating the initial equilibrium and the
new equilibrium after these described changes. Provide a description of the possible
outcomes in this market due to these changes.

a. The market demand curve for gasoline will shift to the right since it is a
normal good while the market supply curve for gasoline will shift to the left
since petroleum is a major input to the production of gasoline: the equilibrium
 quantity may rise, fall or stay the same while the equilibrium price will
increase. The graphs below illustrate this idea.

(Marks 2.5)

Q.4 The market demand function of a commodity is given as

QA = 20 - 2PA - 0.5 P B + 0.01 Y, where QA is the quantity demanded of commodity A, PA

is the price of commodity A , PB is the price of commodity B and Y is the income of the
consumer. Determine price and cross elasticity for commodity A, when PA= Rs 5, P B = Rs
10 and Y= Rs 10000. Comment on the nature of good. (Marks 3)

OR
(a)A group of leaders from the coffee producing nations recently met to lament the large
harvest of coffee beans that had occurred in their countries. It was proposed that each country
should destroy a major produce of its crop so as to increase the price of coffee beans. Discuss
the economic rationale behind it.
Ans The coffee producers obviously believe that the demand for coffee beans is inelastic, i.e
TR would increase if P is increased. If the demand is inelastic then reducing the quantity
available for sale will increase TR received.
(b) What will be the value of Marginal revenue (MR) if demand curve is rectangular
hyperbola?
Ans Zero. Since for rectangular hyperbole e=1

E=AR/AR-MR
1=AR/AR-MR
AR=AR-MR
MR=0
(Marks 2+1=3)
MR=0