BBC403: MICROECONOMICS

TUTORIAL 7
PRICE MECHANISM AND ALLOCATION OF RESOURCES
Group A1

DANIYA ILYASSOVA
SAMAL KUSSANOVA
MAOOTAZ TORKMAN
YUNUSMETOV RUSLAN

BEB140007
BEA130004

AZRIANNA ALYSSA AZMIL BEE140005

BBC403: MICROECONOMICS
TUTORIAL 7
PRICE MECHANISM AND ALLOCATION OF RESOURCES
PART A: SHORT QUESTIONS.
Write the word or phrase that best completes each statement or answers
the question.
Question 1

1) Figure above shows the demand for on-campus student housing at the University
of Idaho, in Moscow, Idaho. The college has 2,000 rooms for rent.
a) What is the equilibrium rent and how many rooms are rented? If the college
sets a rent ceiling on on-campus housing of $125 a week, how would you
describe the on-campus housing market? Would the allocation of housing be
efficient? Would it be fair?
b) If the rent ceiling of $125 a week were strictly enforced and there were no
black market, who would gain and who would lose?
c) If a black market developed, as a result, of the $125 a week rent ceiling, what
range of rents would be offered for a room? Would the allocation of housing
be efficient? Would it be fair? Explain.

Answer

a) A1. At the market equilibrium the equilibrium rent is 150$ and equilibrium
quantity is 2000 rooms.
A2. If a rent ceiling on on campus housing imposed at 125$, which is below
the market equilibrium rent, the quantity of rent supplied decreased to
around 1900 rooms and quantity of rent demanded increased to 2500 rooms.
A shortage of around 600 rooms arises. With the rent ceiling 125$ the black
market occurs. At the rent of 125$, 1900 rooms are available, but some
students are willing to pay 155$ for the 1900 th room. Black market rents can
be as high as 155$ and resources of students are used in search up costly
activity.
A3. The allocation is inefficient because the marginal benefit exceeds the
marginal cost. Producer surplus and consumer surplus shrinks, and
deadweight loss occurs (area of green triangle). This loss is occurred because
of the students who could not find rooms and owners who cannot offer rooms
at the lower prices.
A4. The allocation is not fair because it prevents voluntary exchange and it is
not clear that rooms were rented for poor students.

b) If the rent ceiling of 125$ was strictly enforced, those students who rented
rooms at lower price would gain. Assuming that there are some other housing
owners outside the campus, the owners would gain because of increased
demand among students would increase their rent fees. From the other hand,
those students who could not rent apartments by lower price would lose and
college would lose because they would rent rooms at low price.
c) C1. If a black market develops, the maximum rent that someone would offer
is $155 a month. This rent equals the willingness of someone to pay for the
1 900th room. The range of rents would be 125$ 155$ per month.
C2. The allocation is inefficient: the marginal benefit exceeds the marginal
cost, resources are used inefficiently.
C3. The black market is not fair because it blocks voluntary transactions and
does not provide more rooms to all of those students most in need of cheap
rooms.
Question 2

The figure above shows a market for private math tutors in College Station
organized by the Students Union

a) What is the wage rate that math tutors earn and how many are
employed? If the Students Union sets the minimum wage for private math
tutors at $20 an hour, how many tutors are unemployed?
b) If the Students Union sets the minimum wage for private tutors at $12 an
hour, is this minimum wage efficient? Is it fair?
c) Is a minimum wage of $20 an hour efficient? Is it fair? If a black market
gets going, what wage rate might some tutors earn?
Answer

a) A1. The wage rate that math tutors earn is 15$ per hour and 100 tutors are
employed.
A2. At the minimum wage for tutors 20$ per hour, quantity demanded
decreases to 50 tutors and quantity supplied increases to 150 tutors. The
unemployment of tutors occurred: only 50 tutors are employed and other 100
unemployed.
b) B1. If Students` Union sets the minimum wage at 12$ an hour, which is below
the equilibrium wage, it has no impact on market, however the minimum
wage is inefficient: marginal benefit exceeds marginal cost.
B2. The minimum wage is unfair because only those tutors who would got job
benefit and it blocks voluntary exchange.
c) C1. With minimum wage 20$, which is above the equilibrium wage, only 50
tutors are hired and 100 are unemployed. It creates a deadweight loss (area

of green triangle) - the marginal benefit exceeds the marginal cost, therefore
the minimum wage is inefficient.
C2. The minimum wage is unfair from both views: it delivers unfair results
and imposes unfair rules.
C3. If a black market gets going and tutors can at lower price, some tutors
might earn 10$ per hour.

Question 3
The table shows the demand and supply schedules for on-campus housing.
a) If the college puts a rent ceiling on rooms of $650 a month, what is the rent,
how many rooms are rented, and is the on-campus housing market efficient?
b) If the college puts a strictly enforced rent ceiling on rooms of $550 a month,
what is the rent and how many rooms are rented, and is the on-campus
housing market efficient? Explain why or why not.
c) Suppose that a strictly enforced rent ceiling on rooms of $550 a month a
black market develops. How high could the black market rent be and would
the campus housing market be fair? Explain your answer.

Answer
a) If a college puts rent ceiling 650$ a month, which is above the equilibrium
price, the minimum wage would have no impact for market.
- The rent equals 650$ per month
- 1750 rooms are rented, while the total number of rooms supplied is 2000
- The on campus housing market inefficient: quantity supplied exceeds
quantity demanded (MC>MB).
b) If the college puts a strictly enforced rent ceiling on rooms of $550 a month:
- The rent equals 550$ per month
- All 2000 rooms are rented, while the total number of rooms demanded
equals 2250 rooms.
- The on campus housing market is inefficient because marginal benefit
exceeds the marginal cost and deadweight loss arises.
c) If black market develops:
6

The highest rent could be 650$per month

The on campus housing market is unfair because it blocks voluntary
exchange and it is not necessarily that rooms were provided to students
who are most in need.

Question 4
The market for pizza is characterized by a downward-sloping demand curve and an
up-ward sloping supply curve.
a) Draw the competitive market equilibrium. Label the price, quantity, consumer
surplus and producer surplus. Is there any deadweight loss? Explain.
b) Suppose that government forces each pizzeria to pay a $1 tax on each pizza
sold. Illustrate the effect of this tax on the pizza market, and label consumer
surplus and producer surplus, government revenue, and deadweight loss.
How does each area compare to the pre-tax case?
c) If tax were removed, pizza eaters and sellers would be better off, but the
government would lose tax revenue. Suppose consumers and producers
voluntary transfer some of their gains to government. Could all parties
(including the government) be better off than they were with a tax? Explain
using the labeled areas in your graph.
Answer

a) Figure 1 illustrates the competitive market for pizza. The total surplus is area
of A+B+C+D+F+E, which is the sum of consumer surplus, area A+B+C (blue
triangle), and producer surplus, area D+F+E (red triangle). There is no
deadweight loss in competitive market, because the marginal cost equals the
marginal benefit and market is efficient and there is no tax.
7

b) Figure 2 illustrates market for pizza with government forces to pay 1$ tax for
sellers. The price paid by buyers, Pb, becomes higher than the price received
by sellers, Ps. Because of the tax, marginal benefit exceeds marginal cost:
producer surplus declines to area F (red triangle) and consumer surplus
declines to area A (blue triangle) and deadweight lost arise. Part of each
surplus goes to government revenue area B+D (yellow rectangle) and
deadweight loss, area C+E. (green triangle).
c) If the tax were removed and consumers and producers voluntarily transferred
some of their gains, B+D, to the government to make up for the lost tax
revenue, then everyone would be better off than without the tax. The
equilibrium quantity would be Q1 and the equilibrium price would be P1.
Consumer surplus would be A+C (A+B-C), because consumers voluntarily
transfer B to the government. Producer surplus would be E+F (E+F-D),
because producers voluntarily transfer D to the government. Both consumers
and producers are better off than the case when the tax was imposed. If
consumers and producers gave a little bit more than B+D to the government,
then all three parties, including the government, would be better off. This
illustrates the inefficiency of taxation

Question 5
A subsidy is the opposite of a tax. With a $0.50 tax on buyers of ice-cream cones,
the government collects $0.50 for each cone purchased; with a $0.50 subsidy for
the buyers of ice-cream cones, the government pays buyers $0.50 for each cone
purchased.
a) Show the effect of a $0.50 per cone subsidy on the demand curve for icecream cones, the price paid by consumers, the price received by sellers, and
the quantity of cones sold.
b) Do consumers gain or lose from the policy? Do producer gain or lose? Does
government gain or lose?
Answer

a) The effect of a $0.50 per cone subsidy is to shift the demand curve up by
$0.50 at each ice cream cone, because at each cone a consumer's
willingness to pay increases to $0.50 higher. The effects of such a subsidy are
shown in Figure 3. Before the subsidy, the price is P1. After the subsidy, the
price received by sellers is Ps and the effective price paid by consumers is Pd
(Ps 0,50$) Before the subsidy, the quantity of cones sold is Q1; after the
subsidy the quantity increases to Q2.

b) Because of the subsidy, consumers are better off, because they consume
more at a lower price. Producers are also better off, because they sell more at
a higher price. The government loses, because it has to pay for the subsidy.