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Problem Sheet 2 Demand, Supply and Elasticity

1) A study found that lower airfares led some people to substitute flying for driving to their vacation destinations. This reduced the demand for car travel and led to reduced traffic fatalities, since air travel is safer per passenger mile than car travel. Using the logic suggested by that study, suggest how each of the following events would affect the number of highway fatalities in any one year. 1. An increase in the price of gasoline 2. A large reduction in rental rates for passenger vans 3. An increase in airfares 2) For each of the following scenarios, use a supply and demand diagram to illustrate the effect of the given shock on the equilibrium price and quantity in the specified competitive market. Explain whether there is a shift in the demand curve, the supply curve, or neither. (i) The Boston Transit Train Authority decides to increase the price of a Train token from $ 1.25 to $ 1.70, and also increases the price of monthly Train passes. Show the effect on demand, supply and on the equilibrium in the greater Boston area market for used cars. Are Train passes and cars substitutes or complements? (ii) America is the biggest producer of corn in the world. Bad weather conditions in the Midwest lead to a very low production of corn in the USA. Show the effect on the world corn market. (iii) The popularity of a new fad diet causes consumers tastes to shift away from bread. Show the effect on the market for butter, which is used mainly when people eat toast 3) Suppose the market demand and market supply for apartments in a city are given by the following functions: Qd = 5000 3p Qs = 1000 + p. (i) At what price does the market for apartments in the city clear? How many apartments are rented at this price? (ii) Suppose the city sets a maximum rent at $1200. Illustrate the rent control in a supply and demand diagram. Is there a shortage? If so, what is the excess demand? 4) Consider the following quote from The Wall Street Journal: A bumper crop of oranges in Florida last year drove down orange prices. As juice marketers costs fell, they cut prices by as much as 15%. That was enough to tempt some value-oriented customers: unit volume of frozen juices actually rose about 6% during the quarter.

(i)

(ii)

Given these numbers, and assuming there were no changes in demand shifters for frozen orange juice, what was the price elasticity of demand for frozen orange juice? What do you think happened to total spending on frozen orange juice? Why?

5) The Demand and Supply curve for Copper are given below: Demand: Q = 13.5 8P Supply : Q = -4.5 + 16P A massive strike in Chile has effected supply and reduced it by 20 percent. What is the percentage change in the price?