METU

Department of Economics
Econ 210: Principles of Economics
Section All
Fall 2022-2023

Problem Set 3

Review:

Price ceiling: A maximum price that sellers may charge for a good, usually
set by government. When the ceiling price is below the equilibrium price, a
persistent product shortage result. Here that shortage is shown by the
horizontal distance between 𝑄𝑑 and 𝑄𝑠.

Price Floor: A minimum price below which exchange is not permitted.

When the price floor is above the equilibrium price, a persistent product
surplus result. Here that shortage is shown by the horizontal distance
between 𝑄𝑠 and 𝑄𝑑.
Excise Tax: Tax that is levied on a specific good. The result of taxes is an
increase in equilibrium price and reduce equilibrium quantities. If the tax is
levied on supplier, it would shift the supply curve to the left.

Ex: Effect of excise tax on airlines:

Part A: Problems

Q1: Suppose that the demand and supply schedules for rental apartments
in the city of Gotham are as given in the table below.

a) What is the market equilibrium rental price and the market equilibrium
number of apartments demanded and supplied per month?
b) Government sets a price ceiling at $1,500. Will there be a surplus or a
shortage, of how many apartments? How many apartments will actually be
rented each month?
c) Government sets a price floor at $2,500. Will there be a surplus or a
shortage, of how many apartments? How many units will actually be rented
each month?

Solution:

a) The market equilibrium price is determined by the relationship quantity

supplied equals quantity demanded. Thus, to find the equilibrium price we
find the price where the quantities are equal, which occurs at the rent
(price) of $2,000. The equilibrium quantity at this price is 12,500
apartments.
b) Since it is lower than equilibrium price, there will be a shortage. 10,000
apartments will be rented. Shortage = 𝑄𝐷 – 𝑄𝑆 at 𝑃 = $1,500 =>Shortage =
15,000 − 10,000 = 5,000
c) Since it is higher than equilibrium price, there will be a surplus. 10,000
apartments will be rented.
Surplus = 𝑄𝑆 − 𝑄𝐷
at 𝑃 = $2,500 => Surplus = 15,000 − 10,000 = 5,000

Q2: Suppose that a band will give a concert to the students in METU
Stadium in the forthcoming days. METU has approximately 25000 students.
The percentage distribution of all METU students in terms of the demand for
the concert ticket is as follows:
• 30 % of the students are willing to pay 20 TL or more
• 50 % of the students are willing to pay 15 TL
• 75 % of the students are willing to pay 10 TL
• 90 % of the students are willing to pay 5 TL
• 100 % of the students are willing to pay 1 TL

a) Derive the demand schedule.

b) Draw the demand curve.

c) 25000 students want to go to the concert. However, only 12500 concert

ticket will be sold due to the capacity constraint of the stadium. If the ticket
sales are based on willingness to pay, what would be the equilibrium price of
the concert ticket? Show the result on your graph.
d) If the university administration intervenes to the price in the way that
ticket price cannot go above 10 TL, is this a price ceiling or a price floor?
What will be the quantity exchanged at new price? Will there be an excess
supply or excess demand in the market? Show this on your graph.
Solution:

a) We need to calculate the quantities demanded that corresponds to the

prices are:
0.3*25000=7500,
0.5*25000=12500,
0.75*25000=18750,
0.9*25000=22500,

So, the demand schedule is

b)
c) 𝑄𝑆 = 𝑄𝐷 = 12500, 𝑃 = 15

d)

This is a price ceiling because the maximum price allowed is below the
equilibrium price. The ceiling prevents the price from rising higher. The
quantity exchanged at new prices is 12500. There is a market shortage at a
price of 10 TL because at that price, the quantity of people who
want to buy the concert ticket (the quantity demanded) exceeds the
quantity of people who can buy the concert ticket (the quantity supplied).
Excess demand (shortage)=18750-12500=6250
Q3: Use the graph below that shows the effect of a $ 4 per-unit tax on
suppliers to answer the following:

a) What are equilibrium price and quantity before the tax? After the tax?
b) What is total tax revenue collected after the tax is implemented?

Solution:

First, we need to write supply and demand equations.

QS=50P -100 or P = 1/50 (QS + 100)
QD=500-50P or P =1/50 (500- QD)
With the tax on producers, supply curve becomes:
P = 1/50 (QS + 100) + 4
P = 0,02QS + 6

a) Initial equilibrium:
QS=50P -100 = 500-50P= QD
P*=6 and Q*=200
Final equilibrium:
P = 0,02QS + 6 should be equal to P =1/50 (500- QD)
Therefore, 0,02QS + 6 = 10-0,02 QD
Q**=100 and P**=8
b) Total tax revenue can be calculated by either:
𝑇𝑅 = 𝑡𝑎𝑥 × 𝑞𝑢𝑎𝑛𝑡𝑖𝑡𝑦
𝑇𝑅 = 4 $ ∙ 100 = 400
Or by using graph:
𝑇𝑅 = (𝐵 + 𝐶 + 𝐸)
𝑇𝑅 = (8 − 4) ∙ 100 = 400
Q4: Match the graph that best illustrates the event described.

a) The price for a gallon of milk is projected to hit $6 in the United States
because fewer dairy cows are available from Canada due to illness and there
is greater foreign demand for dairy products. Market: milk.
b) Hurricanes and heavy rains lead to a huge increase in tomato prices.
Market: tomatoes.
c) Low interest rates and a booming economy lead to a boom in housing
construction. As a result, plywood prices rise 24%. Market: plywood
(“kontrplak” in Turkish).

Solution:
a) Graph 3
b) Graph 1
c) Graph 2
Q5: Consider the following demand and supply curves.

i. At a price of $10, there would be a _________ (shortage/surplus) of

________ units.
ii. At a price of $10, _______ units will be sold.
iii. At a price of $25, there would be a _________ (shortage/surplus) of
________ units.
iv. At a price of $25, _______ units will be sold.

Solution:
i. At a price of $10, there would be a shortage of 600 units.
ii. At a price of $10, 200 units will be sold.
iii. At a price of $25, there would be a surplus of 300 units.
iv. At a price of $25, 500 units will be sold.
Part B: Multiple Choice Questions

Q1: To have an effect on a market, a price ceiling must

a) be above equilibrium
b) be equal to equilibrium
c) be below equilibrium
d) none of the above

Q2: A price above equilibrium price will lead to a(n)

a) surplus
b) shortage
c) excess demand
d) price increase

Q3: The U.S. imposes substantial taxes on cigarettes but not on loose
tobacco. When the tax on cigarettes went into effect, the demand for home
cigarette rolling machines most likely:
a) decreased, causing the price of cigarette rolling machines to fall and the
quantity of machines purchased to fall.
b) decreased, causing the price of cigarette rolling machines to rise and the
quantity of machines purchased to fall.
c) increased, causing the price of cigarette rolling machines to rise and the
quantity of machines purchased to rise.
d) increased, causing the price of cigarette rolling machines to rise and the
quantity of machines purchased to fall.

Q4: Suppose the price of tomatoes dramatically increases. Which of the

following could cause this change?
a) Hurricanes during the late summer damage the Florida crop, shifting
supply left
b) A reduction in tariffs of tomatoes from Central American, shifting supply
right
c) A news report stating that a pesticide used on tomatoes might cause
cancer, shifting the demand to the right
d) Advertising for ketchup increases demand for ketchup, shifting the
demand curve to the left

Q5: "Because of unusually good growing conditions, the supply of

strawberries has substantially increased." This statement indicates that:
a) the demand for strawberries will necessarily rise
b) the equilibrium quantity of strawberries will fall
c) the amount of strawberries that will be available at various prices has
increased
d) the price of strawberries will rise

Q6: The figure below shows the supply and demand curves for two markets:
the market for original Picasso paintings and the market for designer jeans.
Which graph most likely represents which market?
a) Graph B represents the market for original Picasso paintings and Graph A
represents the market for designer jeans.
b) Graph A represents the market for original Picasso paintings and Graph B
represents the market for designer jeans.
c) Graph A represents both the market for original Picasso paintings and
designer jeans.
d) Graph B represents both the market for original Picasso paintings and
designer jeans.

PART C: FILL IN THE BLANKS / True – False

1- Suppose that there are 17 identical firms operating in a market and each
has the supply function: Qs=10P-5. So, the equation for the market supply is
𝑄𝑠 = 170𝑃 − 85.

2- A price ceiling sets a minimum price for a good. True/False

3- A price floor keeps the price of a good from falling too low. True/False
4- If a price floor is set below the equilibrium price, the price floor will have
no effect on the market. True/False