Economics 1
Introduction to Economics
University of California, Berkeley
Spring 2008
Professor Martha Olney



Midterm #2 from previous terms

This is the second midterm from Prof. Olney's Spring 2007 offering of Economics 1.
 The exam was written as a 50 minute exam.


1.    Laptops can be beneficial to students for note-taking.  But web surfing, solitaire, email, you-tube, and more is distracting to students seated behind the laptop.
a.    Consider Sorena.  His private marginal cost of using the laptop in class is the wear and tear on the laptop and the risk the laptop will be lost or stolen.  His downward-sloping marginal benefit is better note-taking.  But Sorena also checks email, surfs the web, and watches an occasional you-tube video during class.
    Draw a graph at the right that shows (1) how many hours per semester Sorena would want to use his laptop, and (2) the socially optimal number of hours per semester that Sorena should use his laptop in class.  Explain.
b.    An econ student tells the prof she should impose a penalty (essentially, a tax) on laptop users who are doing more than just note-taking.  What determines the size of the penalty?  Will the penalty eliminate the distracting behavior?  Why or why not?

2.    Article #14, “The Lemongrass War,” describes competition between two Indonesian restaurants in Queens, New York: Padang Raya (owned by Mr. Rahman Imansjah) and Manangasli (owned by Ms. Nani Tanzil).
a.    Why does “monopolistic competition” characterize Padang Raya and Manangasli?
b.    Padang Raya opened first, in June 2004.  Draw a graph that shows the profit-maximizing price and quantity of meals sold and the profit earned at Padang Raya when Ms. Tanzil worked there as a chef.
c.    Then Ms. Tanzil was fired.  In August 2005, she opened her own restaurant, Manangasli.  In your graph, how would you show the effect of this new restaurant on Padang Raya?  (Tell us. Don’t draw it.)  Why?

3.    Suppose the economy can be described by the following equations (all values are billions of dollars per quarter):
C = 200 + 0.8Yd       
I = 300       
G = 400
EX = 500
IM = 500
TR = 400
TA = 500
a.    What is the equilibrium level of output and income?  Show all your work or you will receive zero (0) points on this question.  If you cannot solve this problem without a calculator, set it up and go as far as you can (cost of not fully solving = loss of 3 points).  No calculators allowed during the exam.
b.    Government spending for military equipment and personnel rises by $100 billion per quarter.  Will the equilibrium level of output and income rise by more than, less than, or exactly $100 billion per quarter?  Explain why.

4.    The Federal Open Market Committee (FOMC) of the Federal Reserve (the Fed) conducts monetary policy.
a.    When the Federal Reserve lowers interest rates, does investment spending fall, rise, or stay the same? Why?
b.    When the unemployment rate falls, does the inflation rate fall, rise, or stay the same?  Why?
c.    What is an inflation dove?  An inflation hawk? 
d.    The inflation rate and the unemployment rate are initially both at the Fed’s target or goal rates.  Then the price of oil rises due to supply restrictions.  What does the Fed do when oil prices rise if the FOMC members are inflation hawks?  What does it do if the FOMC members are inflation doves? 
    Draw a Phillips Curve graph at the right which shows the effects of the rise in oil prices and the Fed’s reaction.  Label the initial position “A”, the hawk position “H”, and the dove position “D”.

5.     Answer only two (2) of the three (3) parts in this question.
a.    Define “gross domestic product.”  What was the 2006 value of nominal GDP for the United States?
b.    Is everyone who is out of work “unemployed”?  Explain.  What was the February 2007 unemployment rate for the United States?
c.    What is the “consumer price index”?  What was the inflation rate in the U.S. between December 2005 and December 2006?


This is the second midterm from Prof. Olney's Fall 2005 offering of Economics 1.
 The exam was written as a 50 minute exam.

1. Suppose there are two industries – the red (cardinal) shirt industry and the blue-&-gold shirt industry.  Suppose both industries are initially in long-run competitive equilibrium. 
a.    Using the axes below, draw graphs that show the initial long-run competitive equilibria.  Label your curves with subscripts “a.”
b.    Heeding the call of “Take off that red shirt!  Take off that red shirt!,” many consumers stop buying red shirts and switch to blue-&-gold shirts.  In the short run, what happens to the price and quantity of red shirts?  In the short run, what happens to the price and quantity of blue-&-gold shirts?  Why?  On the axes below, show these short-run effects, using subscripts “b” on your curves and labels.
c.    In the long run, what happens to the number of firms producing red shirts?  To the number of firms producing blue-&-gold shirts?  Why?  On the axes below, show the long-run effects, using subscripts “c” on your curves and labels.

2.  The Chang Lin Tien Center for East Asian Studies is being constructed near Moffitt Library.  From 7 a.m. to 3 p.m., construction noise pollutes the air, making it difficult for students in nearby library buildings to concentrate.  Students complain to the ASUC (student association), asking that the construction noise stop no later than 1 p.m.  The construction company estimates that it will cost an additional $30,000 per day to work from 5 a.m. to 1 p.m. rather than 7 a.m. to 3 p.m.
a.  Does the existence of the ASUC make it more likely that the students and the construction company will be able to come to an agreement to reduce noise? Are there other conditions that must also exist in order for the ASUC and the construction company to come to an agreement?  Explain.
b.   The ASUC negotiates a fine: on any day that the construction company makes noise after 1 p.m., the construction company must pay the ASUC $35,000.  The money raised with the fine will be used to buy ear plugs and noise-blocking headphones for students to use in the library.  Will the noise now stop at 1 p.m.?  Explain.
c.   Suggest another possible approach – other than a fine – that the ASUC can use to address the complaints about the construction noise.  In terms of efficiency, is your approach better than the $35,000 fine?  In terms of equity, is your approach better than the fine?  Explain.

3.  On November 1, the Federal Reserve raised interest rates. 
a.   In one sentence, define “investment spending.”  What effect should the Fed’s action have on investment spending?  All else constant, what effect should it have on employment?  Explain your answers.
b. When you are home for Thanksgiving, your Uncle Alvin says to you, “Hey, you’re taking economics.  I’ve got all my retirement savings in bonds.  But the prices of these bonds keep going down.  What’s up with that?”  What do you say to Uncle Alvin?

4.
a.   Name and define the three characteristics of money.  Name something that is money in one economy but not money in another economy and explain your choice.
b.   Think about yourself.  Are you employed, unemployed, or out of the labor force?  Explain your answer.
c.   State two differences between the consumer price index (CPI) and the GDP deflator.
d.   Within 0.4 percentage points, what is the current unemployment rate in the U.S.?

5. Suppose that the country of Oskiland can be characterized by the following equations (all amounts are in millions of dollars per year):

        C = 100 + 0.8Yd                EX = 600                TR = 200
        I = 200                                IM = 600                 TA = 300
        G = 400

a.    What is the equilibrium level of output and income?  Show all your work or you will receive zero (0) points on this question.  If you cannot solve this problem without a calculator (tsk tsk), set it up and go as far as you can.  No calculators allowed during the exam.
b.    Increased confidence in the future spurs the government of Oskiland to build a new $100 million football stadium.  Explain – using economics and not mathematics – why income in Oskiland will increase by more than $100 million.
c.    Suppose that the workers hired to build the new football stadium are “guest workers” from another country, Treeville.  They spend less than half of their wages in Oskiland and send the rest of their income to their family in Treeville.  Will income in Oskiland still increase by as much as it would have if the workers had all been permanent residents of Oskiland?  Explain.



This is the second midterm from Prof. Olney's Spring 2005 offering of Economics 1.
 The exam was written as a 50 minute exam.

1     Briefly define any three of the following six terms.  Spend less than one minute on each term.
A.    Gross domestic product (GDP)
B.    Income (Y)
C.    Unemployed person
D.    Consumer price index
E.    Money
F.    Government budget deficit

2     In 2001, the Federal Reserve (“Fed”) lowered interest rates eleven times in an effort to fight recession.
A.    To lower interest rates, would the Fed buy bonds or sell bonds?  Draw a graph at right to show what would happen in the bond market.  What happens to the price of bonds?  Explain why a change in the price of bonds changes the interest rate.

B.    Define “investment spending.”  What effect should the drop in interest rates have had on investment spending?  Why? 

3A.    Suppose the federal government eliminates $100 billion in taxes paid by the wealthiest 1/2 percent of the population.  At the same time, they reduce Social Security payments to all the elderly by $100 billion. If everyone has the same marginal propensity to consume, what effect would this legislation have on equilibrium income?  Explain your answer.
B.    Is it reasonable to assume that the marginal propensity to consume by the super-wealthy is the same as the marginal propensity to consume by the elderly?  Does the effect on income depend on whether these two mpc’s are the same? Why? Be complete.

4     Microsoft is an extremely profitable company.  It is the only seller of the Windows Operating System, so we can think of Microsoft as a monopolist.  Draw a graph at the right that illustrates the profit maximizing point for Microsoft.  Why do economists say that monopolists such as Microsoft are bad for society?

5      The price of gas has increased a lot and is expected to increase more.  Consider the markets for two types of cars: “gas guzzlers” (cars that use lots of gas) and “hybrids” (cars that use very little gas).
A.    The price of used hybrid cars recently increased so much that one-year-old hybrid cars are now selling for more than their original sales price.  Why?  Draw graph(s) at the bottom of the page to support your answer.
B.    When Matt said, “We better sell our gas guzzler and buy a hybrid now before the price of hybrid cars rises even more!” his economist girlfriend Suzi said “Relax, Matt.  Eventually the price of hybrid cars will come back down.  Then we can sell our gas guzzler at a good price and buy a hybrid.” She’s right.  Why?  Show what happens in the graph(s) you drew at the bottom of the page.

6 a.    Suppose the economy can be described by the following equations.  What is the equilibrium level of income?  Show all your work or you will receive zero (0) points on this question.  If you cannot solve this problem without a calculator (tsk tsk), set it up and go as far as you can.  No calculators allowed during the exam.

            C = 200 + 0.8YD
            I = 60
            G = 200
            EX = 0
            IM = 0
            TR = 100
            TA = 300

b.    What is the value of the spending multiplier in this economy?  Show all your work or you will receive zero (0) points on this question. 



This is the second midterm from Prof. Olney's Spring 1999 offering of Economics 1.
 The exam was written as a 50 minute exam.

1.    For each of the following, indicate whether the individual is Unemployed, Employed, or Out of the Labor Force.  Give a one-sentence explanation of your answer. 
    a)    A woman who volunteers with Habitat for Humanity 40 hours per week
    b)    A student who is actively looking for a part-time job

2.    Draw the graph that illustrates the profit maximizing point for a monopoly firm making abnormal economic profit. Explain your graph.  If the firm were instead part of an industry characterized by monopolistic competition, could it earn abnormal profit in the long run?  Why or why not?

3.   
    A)  The City of San Francisco wants to build a new stadium for the 49ers in Hunter’s Point in San Francisco.  Estimated construction costs are $525 million.  The workers who would do the construction all live in the Bay Area.  Explain the process by which construction of the stadium would generate more than $525 million worth of additional income and output in the Bay Area economy.  Be clear and complete.

    B)  The new stadium may not be built due to legal struggles and other dysfunction in the DeBartolo family which owns the 49ers.  Concerned about the economic impact of the loss of the stadium, Mayor Willie Brown asks the State of California to provide additional transfer payments totaling $525 million to the residents of San Francisco.  Will the additional income and output generated from the $525 million in transfer payments be the same as what would have been generated from the $525 million in construction costs?  Explain your answer clearly and completely.

4.    How do banks create money?  If the Federal Reserve increases reserves by $100 billion, will banks create $100 billion in new money, more than $100 billion, or less than $100 billion?  Explain your answers clearly.

5.    Suppose the economy can be described by the following equations.  What is the equilibrium level of income?  Show all your work or you will receive zero (0) points on this question.    If you cannot solve this problem without a calculator (tsk tsk), set it up and go as far as you can.  No calculators allowed during the exam.

            C = 100 + 0.9YD
            I = 50
        G = 200
        EX = 0
        IM = 0
        TR = 200
        TA = 300

6.      An important event in economic history is the migration of African Americans from the South to the North in the early twentieth century.  In this question you will use general equilibrium analysis to analyze the effects of the migration on wages of Southern Black workers and on wages of Northern Black workers.

Suppose that initially the wages of Southern Black workers (WS) equaled the wages of Northern Black workers (WN).  Then, increased use of machinery (capital) in the north increased the marginal product of workers in the north, increasing wages for Northern Black workers.  In response, great numbers of workers moved from the South to the North.  Illustrate these events in two graphs below: [a] initial conditions; [b] increased use of machinery; [c] migration.  Use [a], [b] and [c] to label your curves.   What happens to wages of the remaining Southern Black workers as a result of the migration?  Give your answer and briefly explain your graphs in the area below the graphs.
   
 

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