Microeconomics_4__Besanko

Microeconomics_4__Besanko


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when the media
reported that the initial reports about the contami-
nation were a hoax. A series of floods in the
Midwest, however, destroyed significant portions
of the strawberry fields in Iowa, Illinois, and
Missouri. The market price was $8 per bushel, and
3.5 million bushels were sold.
Find linear demand and supply curves that are consistent
with this information.
2.29. Consider the following sequence of changes in
the demand and supply for cab service in some city. The
price P is a price per mile, while quantity is the total
length of cab rides over a month (in thousands of miles).
\ufffd
January: Initial demand and supply are given by the equa-
tions Q s \ufffd 30P \ufffd 30 (when P \ufffd 1), and Qd \ufffd 120 \ufffd 20P
February: Due to higher prices of gasoline, the supply of
cab service changed to Q s \ufffd 30P \ufffd 60 (when P \ufffd 2).
March: Over the spring break, the demand for taxi serv-
ice was higher and therefore the demand curve was given
by the equation Qd \ufffd 140 \ufffd 20P.
a) For each month find the equilibrium price and quantity.
b) Illustrate your answer with a graph. Illustrate the
equilibrium prices and quantities on the graph.
2.30. Consider the demand curve for pomegranates
in two countries. In one country, pomegranates are a
critical part of the diet and are central to the prepara-
tion of many popular food recipes. For most of these
dishes, there is no feasible substitute for pomegranates.
In the second country, households will purchase pome-
granates if the price is right, but consumers do not con-
sider them to be particularly special or unique, and few
popular dishes rely on pomegranates in their recipes.
Suppose pomegranates are native to both countries.
Suppose, further, that due to inherent limitations of
shipping options, there is no intercountry trade in
pomegranates. Each country\u2019s market for pomegranates
is independent of that of the other countries. Finally,
suppose that in both countries, droughts and other
weather-related shocks periodically cause unexpected
changes in supply conditions.
The following graphic shows the time paths of pome-
granate prices over a 10-year period in each country (the
solid line is the time path in one country; the dashed line
is the time path in the other country). Based on the in-
formation provided, which is the time path for each
country?
Pr
ic
e 
of
 p
om
eg
ra
n
a
te
s
Time
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72 CHAPTER 2 DEMAND AND SUPPLY ANALYSIS
A P P E N D I X : Price Elasticity of Demand along a Constant Elasticity Demand Curve
In this section, we show that the point price elasticity of demand is the same along a
constant elasticity demand curve of the form Q \ufffd aP\ufffdb. For this demand curve,
Forming the expression for the point elasticity of demand, we have
This shows that the price elasticity of demand for the constant elasticity demand curve
is simply the exponent in the equation of the demand curve, \ufffdb. (For more on the use
of derivatives, see the Mathematical Appendix at the end of the book.)
 \ufffd \ufffdb (after canceling terms)
 \ufffd \ufffdbaP\ufffd(b\ufffd1) \ufffd
P
aP\ufffdb
 (substituting in the expression for Q)
 \ufffdQ, P \ufffd
dQ
dP
 
P
Q
dQ
dP
\ufffd \ufffdbaP\ufffd(b\ufffd1)
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73
3.1
REPRESENTATIONS OF PREFERENCES
3.2
UTILITY FUNCTIONS
3.3
SPECIAL PREFERENCES
APPLICATION 3.1 Influencing Your Preferences
APPLICATION 3.2 How People Buy Cars: The
Importance of Attributes
CONSUMER PREFERENCES
AND THE CONCEPT 
OF UTILITY3
APPLICATION 3.3 Taste Tests
APPLICATION 3.4 Hula Hoops and Beanie Babies
APPLICATION 3.5 Does More Make You
Happier? Reference-Dependent Preferences
Why Do You Like What You Like?
The economic recession that swept across the globe in 2008 and 2009 led to remarkable adjustments in
consumer behavior, with changes especially noticeable in sectors like the automobile industry. Several 
factors contributed to these changes. Declining stock prices and incomes meant that consumers generally
had less money to spend on goods and services. Higher fuel prices and increased consumer interest in the
environment led many consumers to purchase more fuel-efficient vehicles. Government programs also 
influenced consumer behavior. In the summer of 2009, the United States government introduced a \u201cCash-
for-Clunkers\u201d program (officially called the Car Allowance Rebate System) that offered consumers as much
as $4,500 to trade in an old car for a more fuel-efficient new model. This subsidy to consumers led to 
increased vehicle sales, at least temporarily aiding an industry in financial difficulty. Starting in late 2008,
some European countries also offered similar cash incentives to induce consumers to trade in their old cars
for new ones.
As a consumer, you make choices every day of your life. Besides choosing among automobiles, you
must decide what kind of housing to rent or purchase, what food and clothing to buy, how much education
to acquire, and so on. Consumer choice provides an excellent example of constrained optimization, one of
the key tools discussed in Chapter 1. People have unlimited desires but limited resources. The theory of
consumer choice focuses on how consumers with limited resources choose goods and services.
c03consumerpreferencesandtheconceptofutility.qxd 6/14/10 2:54 PM Page 73
74
In the next three chapters, we will learn about consumer choice. In this chapter we will learn about con-
sumer preferences. We study consumer preferences to understand how a consumer compares (or ranks) the
desirability of different sets of goods. For this discussion we ignore the costs of purchasing the goods. Thus,
consumer preferences indicate whether the consumer likes one particular set of goods better than another,
assuming that all goods can be \u201cpurchased\u201d at no cost. For example, putting operating and purchase costs
aside, a consumer may prefer a fuel-efficient car to a less efficient one out of concern for the environment.
Of course, in the real world it does cost the consumer something to purchase goods, and a consumer
has limited income. This reality leads us to the second part of our discussion of consumer choice in Chapter 4.
When goods are costly, a consumer\u2019s income limits the set of goods she can purchase. In Chapter 4 we
will show how to describe the set of goods that is affordable given a consumer\u2019s income and the prices of
goods. Then we will use consumer preferences to answer the following question: Which goods among
those that are affordable will the consumer choose?
Why should we study consumer choice in such depth? Consumers are not the only parties interested in
consumer choice, and in Chapter 5 we will use the theory of consumer choice to derive a consumer\u2019s de-
mand curve for any good or service. Businesses care about consumer demand curves because they reveal
how much a consumer is willing to pay for a product. Governments also care about consumer preferences
and demands. For example, if a government is interested in helping low-income families buy food, policy
makers must decide how to do it. Should the government simply give the families a cash supplement and
let them spend the money in any way they wish? Or should the aid be in the form of certificates, such as
food stamps, that can only be used to buy food? One might also ask if a Cash-for-Clunkers program is the
best way to stimulate consumer purchases of fuel-efficient automobiles. As we will see, the effectiveness
and costliness of such government programs will very much depend on consumers\u2019 preferences.
CHAPTER PREVIEW After reading and studying this chapter, you will be able to:
\u2022 Represent consumer preferences in terms of market baskets of goods and services.
\u2022 Apply three basic assumptions about consumer preferences: Preferences