Written Assessment ECO10004 Economic Principles

Part A - Introduction

Task 1: Economic Foundations and Market Forces

Table 1: Number of labour hours required to produce a motorcycle and a guitar in Ireland and
Scotland
One Motorcycle One Guitar
Scotland 15 hours 5 hours
Ireland 9 hours 2 hours

1. From the information provided in Table 1, which country has an absolute advantage in the
production of motorcycles? Which country has an absolute advantage in the production of
guitars? Explain. (1 mark) – Maximum number of words 80

The information provided in table 1 indicates that absolute advantage for motorcycle production is in
Ireland. Absolute advantage is determined by the production of a unit at a lower cost against
another entities’ cost per unit. Ireland cost per unit for producing a motorcycle is 9 labour hours
while Scotland’s is 15 labour hours, the 6-hour difference grants Ireland the absolute advantage.
Similarly, Ireland holds absolute advantage in guitar production as their labour hours are 2 hours
against Scotland’s 5 hours for a singular guitar.

2. From the information provided in Table 1, what is Ireland's opportunity cost of producing
one motorcycle? Explain. What is Scotland's opportunity cost of producing one motorcycle?
Explain. (2 marks) - Maximum number of words 80 + calculations

The calculation for opportunity cost for producing one motorcycle in Ireland is its hours of producing
one motorcycle divided by the hours of producing one guitar which is 9/2 = 4.5, while its opportunity
cost for guitars is 2/9 = 0.22. Similarly, the opportunity cost for Scotland to produce one motorcycle
is 15/5= 3 as the opportunity cost, while for guitars is 5/15 = 0.33. The choice of product to produce
will be determined by which opportunity cost is lower.

Answer questions 3, 4 and 5 from Table 1

Table 1: Quantity demanded and supplied for the “The Theatre Company”
Price ($) Quantity demanded Quantity supplied
4 1000 400
8 800 400
12 600 400
16 400 400
20 200 400

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 3. Draw the demand and supply curves for the “The Theatre Company”. What are the
equilibrium price and quantity of entry tickets? Explain why this is the equilibrium point. (1
mark) Maximum number of words 50

The equilibrium price and quantity are determined from the graph displayed where the demand and
supply curve intersect, the equilibrium point is at $16 a ticket and 400 tickets supplied. The quantity
of supply remains static due to the theatre only holding 400 people.

4. Explain, using the graph in question 3, what would happen if the price was initially $4?
Identify any surplus or shortage on the graph above. (2 marks) - Maximum number of
words 150
The graph indicates that if the initial price was $4 per ticket there would be an overdemand for
tickets leading to a shortage. This is due to the demand for the tickets being 1000 and the quantity
available to be supplied only being 400. In the demand curve displayed the price increases while the
demand decreases following the law of demand. The graph marks the demand and supply schedules
against the price per ticket indicating the relationship between price of the product and the quantity
of the product demanded. Following the law of demand, any ticket price below $16 creates
disequilibrium and a shortage of supply, while any ticket price above $16 per ticket creates a surplus
of tickets due to a lack in demand.

Shortage of 600 tickets @ $4

per ticket with a demand of
1000

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5. What would happen to the demand curve, supply curve, price and quantity if the theatre
was to double its capacity? Draw the new graph and explain. (2 marks) Maximum number
of words 80

By increasing the quantity supplied to 800 the supply curve has shifted to the right, therefore
changing the quantity supplied at all price levels. The equilibrium point is re-established at $8 per
ticket for 800 supplied. When the demand stays the same and the supply increases resulting in a
downward pressure on price. The equilibrium quantity demanded increases and the equilibrium
price goes down even though the demand curve does not move.

6. Using demand and supply analysis, how would the fact that young Australians now prefer to
rent than buy change the price and quantity in the housing market (keeping all else constant).
Briefly contrast the impact of a change in preference to the counter explanation that it is
prices rising that is reducing quantity demanded for housing. Explain. (4 MARKS) - Maximum
number of words 250

Due to young Australian’s changing their preference to renting as a substitute to buying, a shift in
demand occurs displaying a decrease in demand and leftward shift. This decrease in demand
coupled with the rising house price causes a surplus of housing as seen in the graph,
additionally shifting the equilibrium point. Given that there is a surplus of supply in the housing
market caused by the drop-in demand, you can expect a drop in the price of homes. As the
price of homes drop, the demand for houses will increase in the future, furthermore re-
establishing the equilibrium point and removing the surplus. The increase in future demand
due to a drop-in price is categorised by the desire for young Australian’s who previously had
turned to renting now having a greater ability to purchase housing. A drop-in price would cause
a change in quantity demanded and the change in preference by young Australia’s back to
buying as a result of the change in price would also shift the demand curve rightward. As the
market price lowers consumers are more inclined to engage in buying, although the lower price
means “lower profits create an incentive for producers to reduce the quantity supplied"
(Investopedia, 2018).

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 House Supply & Demand
1200000 Surplus

1000000

800000
Dema nd Curve
600000 Suppl y Curve
Price

Revi sed demand

400000 Change in demand
causing a short-term
200000
surplus of supply in the
0 housing market
0 20 40 60 80 100 120
Quantity

References:

Investopedia (2018). Supply and Demand. [online] Investopedia. Available at:

https://www.investopedia.com/exam-guide/cfa-level-1/microeconomics/supply-demand.asp
[Accessed 19 Mar. 2018].