Microeconomics Questions and Answers

Q: According to the Kaldor-Hicks compensation criterion, a change in economic policy leads to an improvement in social welfare if ...........

Welfare improves if the gainers can compensate the losers for their loss and still remain better off than before.The Kaldor-Hicks criterion is a potential compensation test. A change is an improvement if those who gain could, in principle, fully compensate those who lose and still be better off. The compensation need not actually be paid; it is enough that the gains exceed the losses.If the gainers can only 'just' compensate the losers, there is no net gain. The losers' opposition is irrelevant to the test, and compensation from the government is not part of it.

Q: Moral hazards are also a result of ...................

Moral hazard results from asymmetric information.Moral hazard arises after a contract is made, when one party's actions cannot be observed by the other. An insured driver may take less care because the insurer cannot monitor his driving. The problem exists because one side knows more about its own behaviour than the other: information is asymmetric.With symmetric or perfect information, the hidden action could be seen and priced into the contract, so moral hazard would not arise. 'Lack of information' is too general; the issue is that information is unevenly distributed, as with adverse selection.

Q: Social welfare function was first introduced by :

The social welfare function was first introduced by Bergson.Abram Bergson, in 'A Reformulation of Certain Aspects of Welfare Economics' (1938), introduced the social welfare function, which ranks social states according to the utilities of individuals and an explicit value judgement. Paul Samuelson developed it further, and it is often called the Bergson-Samuelson social welfare function.Adam Smith wrote on the invisible hand and the wealth of nations, Joan Robinson on imperfect competition, and Nicholas Kaldor on the compensation principle; none introduced the social welfare function.

Q: Edgeworth Box allows the study of the intersection of :

The Edgeworth Box studies two individuals trading two different goods.The box has the dimensions of the total quantities of two goods, and each point in it shows an allocation of both goods between two people, whose indifference curves are drawn from opposite corners. The points where their indifference curves are tangent form the contract curve, the set of Pareto-efficient allocations.With only one good, or one individual, there would be no exchange to study. Trade between countries in many goods needs more general models, though the box is also used for two countries and two goods.

Q: Efficiency in production requires that :

Efficiency in production requires that marginal rates of technical substitution are equal for all firms.Production is efficient when no reallocation of inputs could raise the output of one good without lowering another. If two firms had different MRTS between labour and capital, moving labour to the firm where it is relatively more productive, and capital the other way, would raise total output. So at an efficient allocation every firm has the same MRTS, which competitive firms achieve by equating it to the common factor price ratio.Equal marginal rates of substitution for all consumers is the condition for efficiency in exchange (consumption), not production, and unequal rates signal inefficiency.

Q: If the firm has both monopolistic power in the product market and monopolistic power in the input market then the factor is paid a price ..................

The factor is paid a price less than its marginal revenue product.A firm with monopoly power in the product market values an extra unit of the factor at its marginal revenue product, which is already below the value of the marginal product. If it is also a monopsonist in the input market, it faces an upward-sloping factor supply curve, so its marginal factor cost exceeds the factor price. It hires where MRP equals marginal factor cost and pays the lower price read from the supply curve.So the price is below MRP (monopsonistic exploitation) and below VMP. Payment equal to MRP would occur with a competitive input market.

Q: ................... utility means that an individual can attach specific values or numbers of utils from consuming each quantity of a good or basket of goods.

The blank is Cardinal utility.The cardinal approach of Marshall and the early marginalists assumes utility can be measured in units, called utils, so a consumer can say that one apple gives 10 utils and a second gives 8. That is exactly the 'specific values or numbers of utils' in the statement.Ordinal utility, the Hicks-Allen approach, only ranks bundles (first, second, third) without assigning numbers. Marginal utility is the extra utility from one more unit, a concept used by both approaches, and equi-marginal utility is the rule for allocating spending, not a way of measuring utility.

Q: The following diagram typically represents ............... of .............. production function.

The diagram shows total cost, linear.The line starts above the origin, at the level of fixed cost, and then rises at a constant slope as output grows. A cost that rises with output is total cost (fixed cost plus variable cost), and a constant slope means each extra unit adds the same cost, the case of a linear production function with a constant marginal cost: TC = a + bQ.Total fixed cost would be a horizontal line, since it does not change with output, which rules out both 'fixed cost' options. A non-linear total cost curve would bend (the familiar inverse-S shape), not run as a straight line.

Q: A ................ results when each player adopts the strategy that gives her the highest possible pay off if her rival sticks to the strategy she has chosen.

The situation described is a Nash equilibrium.In a Nash equilibrium each player's strategy is the best response to the strategies the others have chosen, so no one can gain by changing strategy alone. The definition in the stem, the highest payoff given that the rival sticks to her chosen strategy, is exactly this mutual best response, named after John Nash.Partial and general equilibrium describe markets (one market, or all markets together), not strategic interaction between players, and long-run equilibrium refers to the time horizon over which firms adjust all inputs.

Q: Price set by an authority is called ................. price.

A price set by an authority is an administered price.Administered prices are fixed by the government or a regulator rather than by market supply and demand. In India, minimum support prices for crops and the issue prices of food grains under the public distribution system are standard examples.A transfer price is the price at which one division of a firm sells to another division. A limit price is a price an incumbent firm sets low enough to deter entry. 'Fixed price' is not a technical term for a price set by an authority.

101.

According to the Kaldor-Hicks compensation criterion, a change in economic policy leads to an improvement in social welfare if ...........

A.The losers do not oppose the change
B.The gainers can just compensate the losers
C.The gainers can compensate the losers for their loss and still remain better-off themselves than before
D.The gainers and losers get compensation from the government

Exam Year(s)

MH SET - 2019, SET Exam - 2019,

Answer: C

Welfare improves if the gainers can compensate the losers for their loss and still remain better off than before.

The Kaldor-Hicks criterion is a potential compensation test. A change is an improvement if those who gain could, in principle, fully compensate those who lose and still be better off. The compensation need not actually be paid; it is enough that the gains exceed the losses.

If the gainers can only 'just' compensate the losers, there is no net gain. The losers' opposition is irrelevant to the test, and compensation from the government is not part of it.

Discuss in Forum

102.

Moral hazards are also a result of ...................

A.Symmetric information
B.Lack of information
C.Asymmetric information
D.Perfect information

Exam Year(s)

MH SET - 2019, SET Exam - 2019,

Answer: C

Moral hazard results from asymmetric information.

Moral hazard arises after a contract is made, when one party's actions cannot be observed by the other. An insured driver may take less care because the insurer cannot monitor his driving. The problem exists because one side knows more about its own behaviour than the other: information is asymmetric.

With symmetric or perfect information, the hidden action could be seen and priced into the contract, so moral hazard would not arise. 'Lack of information' is too general; the issue is that information is unevenly distributed, as with adverse selection.

Discuss in Forum

103.

Social welfare function was first introduced by :

A.Adam Smith
B.Joan Robinson
C.Nicholas Kaldor
D.Bergson

Exam Year(s)

MH SET - 2019, SET Exam - 2019,

Answer: D

The social welfare function was first introduced by Bergson.

Abram Bergson, in 'A Reformulation of Certain Aspects of Welfare Economics' (1938), introduced the social welfare function, which ranks social states according to the utilities of individuals and an explicit value judgement. Paul Samuelson developed it further, and it is often called the Bergson-Samuelson social welfare function.

Adam Smith wrote on the invisible hand and the wealth of nations, Joan Robinson on imperfect competition, and Nicholas Kaldor on the compensation principle; none introduced the social welfare function.

Discuss in Forum

104.

Edgeworth Box allows the study of the intersection of :

A.two individuals trading two different goods
B.two individuals trading one good
C.one individual trading two different goods
D.two countries trading two sets containing several goods

Exam Year(s)

MH SET - 2019, SET Exam - 2019,

Answer: A

The Edgeworth Box studies two individuals trading two different goods.

The box has the dimensions of the total quantities of two goods, and each point in it shows an allocation of both goods between two people, whose indifference curves are drawn from opposite corners. The points where their indifference curves are tangent form the contract curve, the set of Pareto-efficient allocations.

With only one good, or one individual, there would be no exchange to study. Trade between countries in many goods needs more general models, though the box is also used for two countries and two goods.

Discuss in Forum

105.

Efficiency in production requires that :

A.marginal rates of substitution are unequal to all consumers
B.marginal rates of technical substitution are unequal to all firms
C.marginal rates of substitution are equal to all consumers
D.marginal rates of technical substitution are equal to all firms

Exam Year(s)

MH SET - 2019, SET Exam - 2019,

Answer: D

Efficiency in production requires that marginal rates of technical substitution are equal for all firms.

Production is efficient when no reallocation of inputs could raise the output of one good without lowering another. If two firms had different MRTS between labour and capital, moving labour to the firm where it is relatively more productive, and capital the other way, would raise total output. So at an efficient allocation every firm has the same MRTS, which competitive firms achieve by equating it to the common factor price ratio.

Equal marginal rates of substitution for all consumers is the condition for efficiency in exchange (consumption), not production, and unequal rates signal inefficiency.

Discuss in Forum

106.

If the firm has both monopolistic power in the product market and monopolistic power in the input market then the factor is paid a price ..................

A.Equal to its Marginal Revenue Product (MRP)
B.Less than its Marginal Revenue Product (MRP)
C.Greater than its Marginal Revenue Product (MRP)
D.Equal to its Value of Marginal Product (VMP)

Exam Year(s)

MH SET - 2019, SET Exam - 2019,

Answer: B

The factor is paid a price less than its marginal revenue product.

A firm with monopoly power in the product market values an extra unit of the factor at its marginal revenue product, which is already below the value of the marginal product. If it is also a monopsonist in the input market, it faces an upward-sloping factor supply curve, so its marginal factor cost exceeds the factor price. It hires where MRP equals marginal factor cost and pays the lower price read from the supply curve.

So the price is below MRP (monopsonistic exploitation) and below VMP. Payment equal to MRP would occur with a competitive input market.

Discuss in Forum

107.

................... utility means that an individual can attach specific values or numbers of utils from consuming each quantity of a good or basket of goods.

A.Ordinal
B.Marginal
C.Cardinal
D.Equi-marginal

Exam Year(s)

MH SET - 2020, SET Exam - 2020,

Answer: C

The blank is Cardinal utility.

The cardinal approach of Marshall and the early marginalists assumes utility can be measured in units, called utils, so a consumer can say that one apple gives 10 utils and a second gives 8. That is exactly the 'specific values or numbers of utils' in the statement.

Ordinal utility, the Hicks-Allen approach, only ranks bundles (first, second, third) without assigning numbers. Marginal utility is the extra utility from one more unit, a concept used by both approaches, and equi-marginal utility is the rule for allocating spending, not a way of measuring utility.

Discuss in Forum

108.

The following diagram typically represents ............... of .............. production function.

Graph of cost in rupees against output: a straight line starts from a positive point on the cost axis and rises steadily to the right

A.Total cost, non-linear
B.Total fixed cost, linear
C.Total cost, linear
D.Total fixed cost, non-linear

Exam Year(s)

MH SET - 2020, SET Exam - 2020,

Answer: C

The diagram shows total cost, linear.

The line starts above the origin, at the level of fixed cost, and then rises at a constant slope as output grows. A cost that rises with output is total cost (fixed cost plus variable cost), and a constant slope means each extra unit adds the same cost, the case of a linear production function with a constant marginal cost: TC = a + bQ.

Total fixed cost would be a horizontal line, since it does not change with output, which rules out both 'fixed cost' options. A non-linear total cost curve would bend (the familiar inverse-S shape), not run as a straight line.

Discuss in Forum

109.

A ................ results when each player adopts the strategy that gives her the highest possible pay off if her rival sticks to the strategy she has chosen.

A.Partial equilibrium
B.Nash equilibrium
C.General equilibrium
D.Long-run equilibrium

Exam Year(s)

MH SET - 2020, SET Exam - 2020,

Answer: B

The situation described is a Nash equilibrium.

In a Nash equilibrium each player's strategy is the best response to the strategies the others have chosen, so no one can gain by changing strategy alone. The definition in the stem, the highest payoff given that the rival sticks to her chosen strategy, is exactly this mutual best response, named after John Nash.

Partial and general equilibrium describe markets (one market, or all markets together), not strategic interaction between players, and long-run equilibrium refers to the time horizon over which firms adjust all inputs.

Discuss in Forum

110.

Price set by an authority is called ................. price.

A.Transfer
B.Fixed
C.Administered
D.Limit

Exam Year(s)

MH SET - 2020, SET Exam - 2020,

Answer: C

A price set by an authority is an administered price.

Administered prices are fixed by the government or a regulator rather than by market supply and demand. In India, minimum support prices for crops and the issue prices of food grains under the public distribution system are standard examples.

A transfer price is the price at which one division of a firm sells to another division. A limit price is a price an incumbent firm sets low enough to deter entry. 'Fixed price' is not a technical term for a price set by an authority.

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