2017 AP Microeconomics FRQ #1
(A) Draw a CLG for the corn market and a representative corn farmer (Firm). On your graph show each of the following.
(i) The equilibrium price and quantity in the corn market, labelled PM & QM.
(ii) The profit maximising quantity of corn produced by the representative farmer earning zero economic profit (normal profit) labelled QF.
(B) Assume the demand for ethanol increases. On your graph in part (A) show what will happen to each of the following in the short-run
(i) The market price and quantity of corn labelled P* & Q*.
(ii) The area of profit or loss earned by the corn farmer. Shaded completely.
If the demand for Ethanol increases then the demand for corn must increases as corn is an input for Ethanol.
(C) Relative to your answer in part (B), state what will happen to the market equilibrium price and quantity of corn in the long-run. Explain.
Profits in the short run, attract firms
Firms enter in the long-run
Firms enter and produce more Supply, Supply increases
Increased Supply means quantity produced increases
Increased Supply drives prices lower
(D) Soybeans are produced in a perfectly competitive market. Assume farmers can grow either corn or soybeans on the same land. What happens to the price of soybeans in the next planting season if the price of corn increases? Explain.
Ok, if the price of corn increases farmers will want to plant more of it as the profits on each bushel will be greater than on a bushel of soy beans. So farmers switch from soybean production to corn production hunting for profits. This reduces the supply of soybeans in production. Less supply means hire prices for soybeans.
(E) Assume instead that the government sets a binding price ceiling in the corn market.
Draw a new CLG of the corn market and show each of the following.
(i) The binding price ceiling, labelled PC.
(ii) The quantity purchased by consumers in the corn market, labelled QC.
Understand that a binding price ceiling is one that is below the equilibrium point. Binding also means effective which implies it must effect the market and an effective price ceiling is one that is below equilibrium.
Remember that ceilings are low, and floors are high.