Microeconomics Questions and Answers

Answer: D

When two inputs are perfect substitutes, the isoquants are straight lines, and the firm can replace one input by the other at a constant rate, however much it uses. The elasticity of substitution is therefore infinite. It is zero for perfect complements (L shaped isoquants) and one for the Cobb Douglas function. The answer is infinity, option D. The isoquant is a straight line when the inputs are perfect substitutes, for example two grades of the same fuel.

Answer: B

The elasticity of supply is lower when the industry has little spare capacity, since firms cannot expand output easily when the price rises. Easy entry to the industry, the availability of substitutes (which is a point on the demand side) and a long run period all make supply more elastic. The answer is there is little spare capacity in the industry, option B. With spare capacity firms can raise output quickly, and supply is then more elastic.

Answer: B

A monopoly is a market with a single producer of a single product for which there is no close substitute. A few producers of a homogeneous product is oligopoly, many producers of a homogeneous product is perfect competition, and many producers of a differentiated product is monopolistic competition. The answer is option B. The monopolist has no close substitute and is therefore a price maker.

Answer: B

Product homogeneity means that the products of different sellers are physically identical, so that buyers regard them as perfect substitutes and have no reason to prefer one seller to another. Minor changes in a generic product and consumer preference for one product over another describe differentiation, and different prices for different products is not what homogeneity means. The answer is option B. Differentiated products, in contrast, have real or imagined differences such as brand, quality or packaging.

Answer: D

Under monopolistic competition the firm faces a downward sloping demand curve, which is fairly elastic since there are many close substitutes. The elasticity of the average revenue curve is therefore more than one, as the firm would not operate where demand is inelastic, since marginal revenue would be negative there. The answer is more than one, option D. If demand were inelastic, marginal revenue would be negative, and a profit maximiser would not operate there.

Answer: A

A barrier to entry is something that stops new firms from entering a market. Patents give the holder the sole right to produce a product for a period and thus keep others out. Perfect knowledge, low fixed costs and consumer sovereignty make entry easier or do not affect it. The answer is patents, option A. Other barriers include control of a key resource, economies of scale and legal licences.

Answer: A

A Nash equilibrium is the outcome in which each player chooses his best (optimal) strategy given the strategy chosen by the other players, so that no one can gain by changing his own strategy alone. The options saying that at least one player is not maximising, that all earn the same, or that there is no interdependence are not part of the definition. The answer is option A. It is named after John Nash, who gave the concept in 1950.

Answer: A

A production possibility frontier is curved outward (concave to the origin) because resources are not equally good at producing both goods: some are better suited to making guns and others to wheat. As more of one good is made, resources less suited to it have to be shifted, so the opportunity cost rises. Economies of scale would give a convex or straight curve, and the quantity of resources being not fixed would shift the curve, not bend it. The answer is option A.

Answer: A

A change in the price of the product itself moves the consumer along the same demand curve (a change in the quantity demanded), and it does not shift the curve. A change in the price of a substitute, in the population or in per capita income changes demand at every price and shifts the curve. The answer is change in price of the product itself, option A.

Answer: A

Average variable cost is total variable cost divided by the quantity of output produced, AVC = TVC/Q. It is not a ratio involving the price of inputs and average fixed cost in the way of the other options, and a ratio of TVC to an average variable price is not meaningful. The answer is TVC and total output produced, option A.