,Besanko & Braeutigam – Microeconomics, 5th edition Solutions Manual
Chapter 1
Analyzing Economic Problems
Solutions to Review Questions
1. What is the difference between microeconomics and macroeconomics?
Microeconomics studies the economic behavior of individual economic decision makers, such as a
consumer, a worker, a firm, or a manager. Macroeconomics studies how an entire national economy
performs, examining such topics as the aggregate levels of income and employment, the levels of interest
rates and prices, the rate of inflation, and the nature of business cycles.
2. Why is economics often described as the science of constrained choice?
While our wants for goods and services are unlimited, the resources necessary to produce those goods
and services, such as labor, managerial talent, capital, and raw materials, are “scarce” because their
supply is limited. This scarcity implies that we are constrained in the choices we can make about which
goods and services to produce. Thus, economics is often described as the science of constrained choice.
3. How does the tool of constrained optimization help decision makers make choices? What
roles do the objective function and constraints play in a model of constrained optimization?
Constrained optimization allows the decision maker to select the best (optimal) alternative while
accounting for any possible limitations or restrictions on the choices. The objective function represents the
relationship to be maximized or minimized. For example, a firm’s profit might be the objective function and
all choices will be evaluated in the profit function to determine which yields the highest profit. The
constraints place limitations on the choice the decision maker can select and defines the set of alternatives
from which the best will be chosen.
4. Suppose the market for wheat is competitive, with an upward-sloping supply curve, a
downward-sloping demand curve, and an equilibrium price of $4.00 per bushel. Why would a
higher price (e.g., $5.00 per bushel) not be an equilibrium price? Why would a lower price (e.g.,
$2.50 per bushel) not be an equilibrium price?
If the price in the market was above the equilibrium price, consumers would be willing to purchase fewer
units than suppliers would be willing to sell, creating an excess supply. As suppliers realize they are not
selling the units they have made available, sellers will bid down the
Copyright © 2014 John Wiley & Sons, Inc. Chapter 1 - 2
,Besanko & Braeutigam – Microeconomics, 5th edition Solutions Manual
price to entice more consumers to purchase their goods or services. By definition, equilibrium is a state
that will remain unchanged as long as exogenous factors remain unchanged. Since in this case suppliers
will lower their price, this high price cannot be an equilibrium.
When the price is below the equilibrium price, consumers will demand more units than suppliers have
made available. This excess demand will entice consumers to bid up the prices to purchase the limited
units available. Since the price will change, it cannot be an equilibrium.
5. What is the difference between an exogenous variable and an endogenous variable in an
economic model? Would it ever be useful to construct a model that contained only exogenous
variables (and no endogenous variables)?
Exogenous variables are taken as given in an economic model, i.e., they are determined by some process
outside the model, while endogenous variables are determined within the economic model being studied.
An economic model that contained no endogenous variables would not be very interesting. With no
endogenous variables, nothing would be determined by the model so it would not serve much purpose.
6. Why do economists do comparative statics analysis? What role do endogenous
variables and exogenous variables play in comparative statics analysis?
Comparative statics analyses are performed to determine how the levels of endogenous variables change
as some exogenous variable is changed. This type of analysis is very important since in the real world the
exogenous variables, such as weather, policy tools, etc. are always changing and it is useful to know how
changes in these variables affect the levels of other, endogenous, variables. An example of comparative
statics analysis would be asking the question: If extraordinarily low rainfall (an exogenous variable) causes
a 30 percent reduction in corn supply, by how much will the market price for corn (an endogenous variable)
increase?
7. What is the difference between positive and normative analysis? Which of the
following questions would entail positive analysis, and which normative analysis?
a) What effect will Internet auction companies have on the profits of local automobile
dealerships?
b) Should the government impose special taxes on sales of merchandise made over the
Internet?
Positive analysis attempts to explain how an economic system works or to predict how it will change over
time by asking explanatory or predictive questions. Normative analysis focuses on what should be done
by asking prescriptive questions.
Copyright © 2014 John Wiley & Sons, Inc. Chapter 1 - 3
, Besanko & Braeutigam – Microeconomics, 5th edition Solutions Manual
a) Because this question asks whether dealership profits will go up or down (and by how
much) – but refrains from inquiring as to whether this would be a good thing
– it is an example of positive analysis.
b) On the other hand, this question asks whether it is desirable to impose taxes on
Internet sales, so it is normative analysis. Notably, this question does not ask what
the effect of such taxes would be.
Solutions to Problems
1.1 Discuss the following statement: “Since supply and demand curves are always
shifting, markets never actually reach an equilibrium. Therefore, the concept of equilibrium
is useless.”
While the claim that markets never reach an equilibrium is probably debatable, even if markets do not ever
reach equilibrium, the concept is still of central importance. The concept of equilibrium is important
because it provides a simple way to predict how market prices and quantities will change as exogenous
variables change. Thus, while we may never reach a particular equilibrium price, say because a supply or
demand schedule shifts as the market moves toward equilibrium, we can predict with relative ease, for
example, whether prices will be rising or falling when exogenous market factors change as we move
toward equilibrium. As exogenous variables continue to change, we can continue to predict the direction
of change for the endogenous variables, and this is not “useless.”
1.2 In an article entitled, “Corn Prices Surge on Export Demand, Crop Data,” The Wall Street
Journal identified several exogenous shocks that pushed U.S. corn prices sharply higher.(See the
article by Aaron Lucchetti, August 22, 1997, p. C17. on national income.) Suppose the U.S. market for corn is
competitive, with an upward-sloping supply curve and a downward- sloping demand curve. For
each of the following scenarios, illustrate graphically how the exogenous event described will
contribute to a higher price of corn in the U.S. market.
a) The U.S. Department of Agriculture announces that exports of corn to Taiwan and
Japan were “surprisingly bullish,” around 30 percent higher than had been expected.
b) Some analysts project that the size of the U.S. corn crop will hit a six-year low because of dry
weather.
c) The strengthening of El Niño, the meteorological trend that brings warmer weather to the
western coast of South America, reduces corn production outside the United States, thereby
increasing foreign countries’ dependence on the U.S. corn crop.
Copyright © 2014 John Wiley & Sons, Inc. Chapter 1 - 4
Chapter 1
Analyzing Economic Problems
Solutions to Review Questions
1. What is the difference between microeconomics and macroeconomics?
Microeconomics studies the economic behavior of individual economic decision makers, such as a
consumer, a worker, a firm, or a manager. Macroeconomics studies how an entire national economy
performs, examining such topics as the aggregate levels of income and employment, the levels of interest
rates and prices, the rate of inflation, and the nature of business cycles.
2. Why is economics often described as the science of constrained choice?
While our wants for goods and services are unlimited, the resources necessary to produce those goods
and services, such as labor, managerial talent, capital, and raw materials, are “scarce” because their
supply is limited. This scarcity implies that we are constrained in the choices we can make about which
goods and services to produce. Thus, economics is often described as the science of constrained choice.
3. How does the tool of constrained optimization help decision makers make choices? What
roles do the objective function and constraints play in a model of constrained optimization?
Constrained optimization allows the decision maker to select the best (optimal) alternative while
accounting for any possible limitations or restrictions on the choices. The objective function represents the
relationship to be maximized or minimized. For example, a firm’s profit might be the objective function and
all choices will be evaluated in the profit function to determine which yields the highest profit. The
constraints place limitations on the choice the decision maker can select and defines the set of alternatives
from which the best will be chosen.
4. Suppose the market for wheat is competitive, with an upward-sloping supply curve, a
downward-sloping demand curve, and an equilibrium price of $4.00 per bushel. Why would a
higher price (e.g., $5.00 per bushel) not be an equilibrium price? Why would a lower price (e.g.,
$2.50 per bushel) not be an equilibrium price?
If the price in the market was above the equilibrium price, consumers would be willing to purchase fewer
units than suppliers would be willing to sell, creating an excess supply. As suppliers realize they are not
selling the units they have made available, sellers will bid down the
Copyright © 2014 John Wiley & Sons, Inc. Chapter 1 - 2
,Besanko & Braeutigam – Microeconomics, 5th edition Solutions Manual
price to entice more consumers to purchase their goods or services. By definition, equilibrium is a state
that will remain unchanged as long as exogenous factors remain unchanged. Since in this case suppliers
will lower their price, this high price cannot be an equilibrium.
When the price is below the equilibrium price, consumers will demand more units than suppliers have
made available. This excess demand will entice consumers to bid up the prices to purchase the limited
units available. Since the price will change, it cannot be an equilibrium.
5. What is the difference between an exogenous variable and an endogenous variable in an
economic model? Would it ever be useful to construct a model that contained only exogenous
variables (and no endogenous variables)?
Exogenous variables are taken as given in an economic model, i.e., they are determined by some process
outside the model, while endogenous variables are determined within the economic model being studied.
An economic model that contained no endogenous variables would not be very interesting. With no
endogenous variables, nothing would be determined by the model so it would not serve much purpose.
6. Why do economists do comparative statics analysis? What role do endogenous
variables and exogenous variables play in comparative statics analysis?
Comparative statics analyses are performed to determine how the levels of endogenous variables change
as some exogenous variable is changed. This type of analysis is very important since in the real world the
exogenous variables, such as weather, policy tools, etc. are always changing and it is useful to know how
changes in these variables affect the levels of other, endogenous, variables. An example of comparative
statics analysis would be asking the question: If extraordinarily low rainfall (an exogenous variable) causes
a 30 percent reduction in corn supply, by how much will the market price for corn (an endogenous variable)
increase?
7. What is the difference between positive and normative analysis? Which of the
following questions would entail positive analysis, and which normative analysis?
a) What effect will Internet auction companies have on the profits of local automobile
dealerships?
b) Should the government impose special taxes on sales of merchandise made over the
Internet?
Positive analysis attempts to explain how an economic system works or to predict how it will change over
time by asking explanatory or predictive questions. Normative analysis focuses on what should be done
by asking prescriptive questions.
Copyright © 2014 John Wiley & Sons, Inc. Chapter 1 - 3
, Besanko & Braeutigam – Microeconomics, 5th edition Solutions Manual
a) Because this question asks whether dealership profits will go up or down (and by how
much) – but refrains from inquiring as to whether this would be a good thing
– it is an example of positive analysis.
b) On the other hand, this question asks whether it is desirable to impose taxes on
Internet sales, so it is normative analysis. Notably, this question does not ask what
the effect of such taxes would be.
Solutions to Problems
1.1 Discuss the following statement: “Since supply and demand curves are always
shifting, markets never actually reach an equilibrium. Therefore, the concept of equilibrium
is useless.”
While the claim that markets never reach an equilibrium is probably debatable, even if markets do not ever
reach equilibrium, the concept is still of central importance. The concept of equilibrium is important
because it provides a simple way to predict how market prices and quantities will change as exogenous
variables change. Thus, while we may never reach a particular equilibrium price, say because a supply or
demand schedule shifts as the market moves toward equilibrium, we can predict with relative ease, for
example, whether prices will be rising or falling when exogenous market factors change as we move
toward equilibrium. As exogenous variables continue to change, we can continue to predict the direction
of change for the endogenous variables, and this is not “useless.”
1.2 In an article entitled, “Corn Prices Surge on Export Demand, Crop Data,” The Wall Street
Journal identified several exogenous shocks that pushed U.S. corn prices sharply higher.(See the
article by Aaron Lucchetti, August 22, 1997, p. C17. on national income.) Suppose the U.S. market for corn is
competitive, with an upward-sloping supply curve and a downward- sloping demand curve. For
each of the following scenarios, illustrate graphically how the exogenous event described will
contribute to a higher price of corn in the U.S. market.
a) The U.S. Department of Agriculture announces that exports of corn to Taiwan and
Japan were “surprisingly bullish,” around 30 percent higher than had been expected.
b) Some analysts project that the size of the U.S. corn crop will hit a six-year low because of dry
weather.
c) The strengthening of El Niño, the meteorological trend that brings warmer weather to the
western coast of South America, reduces corn production outside the United States, thereby
increasing foreign countries’ dependence on the U.S. corn crop.
Copyright © 2014 John Wiley & Sons, Inc. Chapter 1 - 4
