You are on page 1of 10

University of Hartford

Barney School of Business and Public Administration

MBA 614: Economic Analysis for Managers
Instructor: Dr. Ke Yang
Exam #1
Total: 100 points
Summer 2014

Read question carefully and be sure you answer all parts of the question you choose. Please make sure
you show all the reasoning and steps that lead to your final conclusion. Partial credit will be given if
your answer is on the right track but not complete.
Make sure all the notations and marks in your calculation and graphs are legible.
1. (20 points) If demand is represented by Qd = 50 -.5P +.005I where I is income and I=$50,000 and supply
is represented by Qs = 100 +.4P - 2W where W is wages and W=$15.00.
a) Compute the equilibrium price and quantity where wages=W=$15.00.
b) Compute the equilibrium price and quantity if income falls to I=$40,000?
c) Plot the demand and supply for the two income level. In the graph, mark all values that fully
identify the curve.
a) At equilibrium
Qs = Q
100 +.4P - 2W = 50 -.5P +.005I
100 + .4P -2(15) = 50 -.5P +.005(50,000)
P *= 255.55
Plugging this in supply equation we get Q* = 172.22 or 172
b) At equilibrium
Qs = Q
Or Qs = 100 +.4P - 2W = 50 -.5P +.005I
100 + .4P -2(15) = 50 -.5P +.005(40,000)
.9P = 180
P* = 200
Plugging this in supply equation we get Q* = 150
c) Supply intercept
Qs = 100 +.4P - 2W
Qs = 100 + .4P -2(15)
1/.4 Qs = 100/.4 + P -30/.4
=2.5Qs = 250+P-75
P= -175 +2.5 Q
Demand intercept
Old demand with income @50,000
= 50 -.5P +.005(50,000)
= 50 -.5P +250
1/.5 Q
= 50/.5 P + 250/.5
2 Q
= 100-P+500
P = 600 2 Q
New demand with income @ 40,000
= 50 -.5P +.005(40,000)
= 50 -.5P +200
1/.5 Q
= 50/.5 P + 200/.5
2 Q
= 100-P+400
P = 500 2 Q

172 150
Income @50,000
Income @40,000
University of Hartford
Barney School of Business and Public Administration
MBA 614: Economic Analysis for Managers
Instructor: Dr. Ke Yang
Exam #1
Total: 100 points
Summer 2014

2. (20 points) Suppose an investment can yield three possible cash flows with their probabilities given in
the parentheses: $600(p=0.5); $-100 (p=0.2) and $800 (p=0.3).
a) Compute the expected value and the standard deviation of this investment. Is this investment risky?
E(x) = .5 x 600 + (-100 x.2) + 800 x .3
= 520
Variance = .5(600 -520)
+ .2(-100-520)
+ .3 (800 -520)
= 103,600
SD = (103,600)
= 321.86
Higher SD reflects more risk. Here the difference between E(x) and SD is higher by a lot, we can
therefore classify this investment as risky.
b) The equation E(x)=359 + 0.5SD describes the indifference curve of this investor. Is this investor risk
averse, risk neutral, or risk loving? Explain your answer and draw the curve.
E(x)=359 + 0.5SD
520 = 359 + .5(321.86) or E(x) is 520 and SD is 160.93
Yes, person is risk averse. She is willing to take on more risk and stay equally happy only if there is an increase
in expected return. In other words- if you are compensated for additional risk you are risk averse. Since the
risk is bad the IC is positively sloped. The person gains utility from an increase in expected value but he
experiences a reduction in utility from increase in the Sd.

$ 520
160.93 Sd(x)
Risk Premium $161

c) How much would this person pay for the investment opportunity (certainty equivalent of the current
investment)? How much is risk premium for the current investment?
The certainty equivalent (i.e. risk free investment) is $359. She would be willing to accept a certain return of
$359 (the vertical intercept of her indifference curve) at zero risk
The risk premium $161.
RP= E(x) RFI (Risk free investment).
3. (20 points) Patrick consumes only two goods: Celtic Music concerts and Celtic Springs Water. Patrick
earns $100 per month at his part-time job in the library. The price of Celtic concerts is $10. The price of
Celtic Springs Water is $2. Patrick currently goes to 5 Celtic concerts and consumes 25 bottles of Celtic
Spring Water in a month.
(a) Draw Patrick's budget constraint and optimal consumption bundle. Please put Celtic concerts on the x-
Budget constraint
Celtic Music Concert ( good x) and Celtic Spring Water (good y)
= $10 and Income (I) = $100 -> I/P
= 100/10
=$2 and I = $100 -> I/P
= 100/2 = 50
Optimal Consumption Bundle has two assumptions
1) the optimal bundle lies on the budget line and 2) Indifference curve (IC) is tangent to the BL at the
optimal bundle.
Equation for BL = I = (P
) x + (P
) y (here P
= price of x or price of Celtic Music concert and x is the
quantity we have to buy of music concert. Similarly, P
is the price of the spring water and y is the quantity
of the water and I = income)
= 100 = 10x + 2y
We also know that if the indifference curve and budget line are tangent, they have the same slope at that
Slope of IC = -MRS
= - MU
/ MU
and given that U = x*y slope of IC is y/x
Slope of BL = -P
/ P
= -10/2

University of Hartford
Barney School of Business and Public Administration
MBA 614: Economic Analysis for Managers
Instructor: Dr. Ke Yang
Exam #1
Total: 100 points
Summer 2014

We mentioned that Slope of IC = Slope of BL
-y/x = -10/2 or y = 5x
No we have two equations and two unknowns, Using them to solve optimal bundle of x and y
100 = 10x + 2y and y = 5x
100 = 10x +2(5x) -> 100 =10x+10x -> x= 5. Plugging this in y = 5x we get y=25, which means that the
optimal bundle is Celtic Music concert = 5 and Celtic spring water is 25. As plotted in the graph his existing
income of 100 is allowing to gain maximum utility and currently consumes optimal bundle.

(b) In April Patrick receives a 5% pay increase. Meanwhile the inflation raises the price of concerts to
$10.50 and the price of Celtic Springs Water to $2.10. Draw Patrick's new budget constraint and optimal
consumption bundle. Please put Celtic concerts on the x-axis. How many Celtic concerts does he attend in
April? How many bottles of water does he drink in April?
Using the same principle as above the answer is going to remain the same since there is a proportionate increase
of 5% in Patricks income, Price of music concert and spring water. So the optimal bundle will remain as 5
music concerts and 25 spring water. The curve is going to remain same as above. He will attend 5 concerts and
will drink 25 bottles.
Spring Water (y)
Music Concert (x)
I/Px =10
I/Py = 50
Optimal Point
4. (20 points) The demand equation for crossing the G.W.Bridge in New York City is P = 50-0.0001Q
where P is the toll at the bridge and Q is the number of vehicles that cross the bridge every day.
a. Compute the toll that would maximize revenue for the state of New York. At this toll, how many cars
would cross the bridge?
If P = 50-0.0001Q then D = 50,000-10,000P
TR = PxQ
TR= 50-0.0001Q x Q
TR = 50-0.0001Q

MR = Change in TR/ change in Q
TR is max when MR is 0 therefore
0 = 50 0.0002Q - > Q = 25000 and pugging this in the price equation we get P= 25
Total maximum revenue is 250000 x 25 = $6,250,000

b. What is the price elasticity at this toll? Explain your answer. Also illustrate this price/quantity
combination in a graph with demand curve and marginal revenue curve.
Point PEoD = P/Q * change in Q / change in P
Using the original demand equation we can find out that when price changes by1 there is a change in Q of -
25/250000 * -10,000/1 = 1 = Point price elasticity
This means that the price is unit elastic which means with move higher in prices for toll will cause a
proportional decrease in the number of cars crossing the toll.
University of Hartford
Barney School of Business and Public Administration
MBA 614: Economic Analysis for Managers
Instructor: Dr. Ke Yang
Exam #1
Total: 100 points
Summer 2014

Total Revenue





Price per unit


# of cars MR
Quantity 25000o
N= 1

c. Suppose the company in charge of the maintenance of the bridge successfully negotiates a 20%
increase in its annual fee. The State of New York hires you to advise them how to cover this cost. Would
you advise them to raise the toll you computed in part a)? (Yes, or No, explain your answer). Would you
advise them to raise revenue some other way? Explain your answer.
Since we know that the PEoD is unit elastic. We know that increasing prices will decrease the total
revenue. For example if we were to increase the price to cover additional 20% and raise the price to $30.
Plugging this in the demand equation from above D = 50,000-10,000P. We get total number of cars as
200,000. This will reduce the TR to $6,000,000. Therefore I will not advise to change the price of the
Additional cost of increase in annual fee can be covered through non toll revenue such as billboard
advertisements on toll booth, revenue from service plazas, leveraging surplus property, expanding tag
usage and cost cutting by employing automated toll booths.

University of Hartford
Barney School of Business and Public Administration
MBA 614: Economic Analysis for Managers
Instructor: Dr. Ke Yang
Exam #1
Total: 100 points
Summer 2014

5. (20 points) England and Scotland both produce scones and sweaters. Suppose that an English worker
can produce 50 scones per hour or 1 sweater per hour. Suppose that a Scottish worker can produce 40 scones
per hour or 2 sweaters per hour.
Panel A (time to produce the product) Scones Sweaters
England for 1 unit of each .0200 hrs 1 hrs
Scotland for 1 unit of each .0250 hrs .50 hrs
Panel B (production in 1 hour)
England 50 1
Scotland 40 2
Total Units 90 OR 3
a. Which country has the absolute advantage in the production of each good? Which country has the
comparative advantage?
England to make 1 sweater will have to give up 50 scones and Scotland to make 1 sweater will have to give up
20 scones. Therefore, Scotland has comparative advantage in producing sweaters since it is giving up less
scones to make 1 sweater (20 scones instead of 50 scones in case of England) Conversely, England has absolute
advantage over Scotland in making scones since its giving up .020 of a sweater vs Scotland, which is giving up
.050 of the sweater to produce 1 cone.

b. If England and Scotland decide to trade, which commodity will Scotland trade to England? Explain.
Since Scotland has a comparative advantage in making sweaters they will make more of sweaters and specialize
in that product
c. If a Scottish worker could produce only 1 sweater per hour, would Scotland still gain from trade? Would
England still gain from trade?
Even if it only produces 1 sweater per hour, Scotlands opportunity cost will remain lower than England in
making scones since the rate of output is lower in Scotland. Therefore Scotland will gain from trading with
England. Scotland can trade 1 sweater it makes for 50 scones (assuming Englands total demand for sweater is
1) However, England will not gain much from this trade because before they were getting 2 sweaters for 50
scones and now they will get only 1 sweater. And if England decides to move to sweater production and decides
to trade with Scotland on scones- it will only get 40 scones.

Bonus Question (5 points): Comment on how you like the course so far and what we can do to improve your
learning experience of economic theory class, particularly when you take it online. (50-100words)
The course is really interesting. It allows me to grasp how markets function. But I am a little disappointed with
the way it had been taught. I was expecting lectures to go through details about nuances of several equations
and theories, which are hard to understand from just the book and PPTs. It feels very plain and less interactive.
Additionally- I think this course needs to link and discuss various real life instances to the course since this is a
graduate level course (I mean theories is all good, but I am looking for something for more than just formulas
and something like real life application) What will improve this course is recorded lectures where the instructor
explains the theories, applies to real life situations and discusses managerial applications, rather than relying on
books and text cases. I feel like I have been left to my devices. So far it feels like its more focus on theory than
practice. I honestly dont think the current level of instructions on presentations even makes a small dent.