Friday, June 5, 2015

2015 AP Microeconomics FRQ #1

2015 AP Microeconomics FRQ #1

(a) Is the market price greater than, less than, or equal to the firms price? Explain.
       So, if it is a perfectly competitive industry,, (Price taker) the firm can't raise its price as all other firms would then be selling the exact same product at a cheaper price and sales would plummet. The perfectly competitive firm also has no incentive to lower its price as it can sell all it wants at that price. The perfectly competitive firm therefore will have a price that is equal to the market price.

Answer - The firms price will be equal to the market price.

(b) Draw a CLG for both the market and a typical firm and show the following:
(i) Market price and quantity, labeled Pm and Qm.
(ii) The firms quantity, labeled Qf.
(iii) The firms average revenue curve, labeled AR.
(iv) The firms average total cost curve, labeled ATC.
(v) The area representing total cost, shaded completely.

(c) If one firm in the market were to raise its price, what will happen to its total revenue? Explain.
If one firm decides to raise its price sales of its product will plummet as all of its competitors will have the same product at a lower price, therefore its total revenues will theoretically fall to zero. 

Answer - total revenue will fall
Answer - One point is earned for stating that the firm’s total revenue will fall to zero, because quantity decreases to zero, or because the firm is a price taker, or because the firm is facing a perfectly elastic demand, or the firm loses all of its customers, or the firm has no market power. 

(d) Now suppose the market is in long-run equilibrium. The government gives a lump-sum subsidy to each firm producing in the industry. Indicate wether each of the following will increase, decrease, or remain the same.

(i) The firms quantity in the short run. Explain.
As a lump-sum subsidy does not effect the MC curve of the firm so we can conclude that quantity of the firm will not decrease or increase.

Imagine that you own a coffee cart out in front of the school. Every day students file buy and buy approximately 100 cups of coffee from your cart. You pay Alice to handle the orders and take the money while you make the coffee. The school principal likes your ingenuity and determination so much that he gets the school board to give a $1,000 donation to your small business. (Of course he takes a photo shoot of him handing you the check with his arms around you. The school paper has this photo with the caption, "Supporting Student Innovators"). Now, you have an extra $1,000 dollars of cash in your pocket. Question? Does that money in your pocket increase the amount of coffee the students will drink? NO,, Will you pay Alice more money because the principal handed you $1,000? NO,,, So, if there is no increase in demand for your coffee and the wages you pay Alice don't increase (variable costs, marginal costs) then why would you increase your production of coffee.

Answer - A lump-sum subsidy will not effect your marginal costs and therefore will not effect your quantity produced.

(ii) The market price and quantity in the long-run. Explain.

Ok, so the school principal is handing out $1,000 to student innovators. You have received your $1,000 for your initiative, while the $1,000 has not increased your production it has increased your profit. You are $1,000 dollars richer. Now the principal feels so strongly about supporting young innovators that he offers a $1,000 to anyone who opens a coffee cart. Hang Yuk decides he would like to get in on this action (profits attract competitors) so he builds his own coffee cart and starts competing with you in supplying coffee to students in the morning. Now,, there are two coffee carts supplying coffee to students in the morning and an increase in the supply of a good tends to drive prices lower while lower prices are an incentive for consumers to consume more coffee.

Answer - The market price will fall with more suppliers and with more suppliers comes a higher quantity produced.

Answer - 
  • One point is earned for stating that the firm’s quantity will remain the same in the short run and for
    explaining that MR or MC will not change in the short run. (Or, because the lump sum subsidy has
    no effect on marginal revenue and/or marginal cost, or that only fixed costs will be affected.)
  • One point is earned for stating that the market price will decrease and the quantity will increase.
  • One point is earned for the explanation that positive profits lead to entry of new firms that will
    increase the industry supply.