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Ismail Hassan
Special ECO101 Review Questions


1.  What is the difference between demand and change in demand?

Demand refers to the willingness and ability of people to pay for goods and/or services while change in demand refers to the change to that willingness and ability. Before we can speak of changes in demand of a good or service, we must first determine whether or not that is demand for that good or service. We cannot talk about changes to the willingness and ability of people to pay for goods and/or services before determining if the willingness and ability exist in the first place! When the demand for a particular good or service is in existence, only then would we be able to construct the demand schedule and subsequently the demand curve. In order words, without demand, then there is no demand schedule and no demand curve. The demand curve is downward sloping showing an inverse relationship between price and quantity demanded. The good or service own price does determine whether the demand for the good or service exists and it also determines the quantity demanded at various level of prices. The higher the price, the smaller the quantity demanded and the lower the price, the more the quantity demanded. This is consistent with the law of demand. Changes in quantity demanded of a particular good or service resulting from changes of its own price is shown by movement along the demand curve. However, its own price does not cause changes in demand for itself. It may, however, cause changes in demand for other related products.

A change in demand will shift the demand curve either to the left or right of its original position. If there is an increase in demand, the curve will shift to the right and when demand decreases, it shifts to the left. There are many factors that causes demand to change. Among them are changes in income levels, price of related goods, and changes in tastes and preferences.

2.  Changes in income level can change demand. Explain.

Income in itself is a determinant of demand because income affects the willingness and ability of people to pay for goods and/or services. A change in the income level can change that willingness and ability. If a person's income level increases, then his willingness and ability to pay for certain goods or services will also increase, hence shifting the demand curve to the right. And if his income decreases, his demand for certain goods or services may decrease, hence shifting the demand curve to the left.

Increases in income level do not necessarily shift the demand curve to the right, and on the same token decreases in income do not necessarily shift the demand curve to the left. Whether it shifts to the left or right depends on whether it is a normal or inferior good. The demand for normal goods will increase when income increases and will decrease when income decreases, while the demand for inferior goods will decrease when income increases and increase when income decreases. Examples of inferior goods are salted fish and margarines. Examples of normal goods are beef and butter.

3.What will happen to the supply of rubber if the price of palm oil increases?

Rubber and palm oil share the same limited resource land. If more land area is used to plant rubber than there would be less for palm oil and vice-versa. This is the concept of opportunity cost. To determine what happen to the supply of rubber, we must first look what effect would the increase of price be on palm oil. The law of supply states that the prices are high, quantity supplied would be high, and when prices are low, quantity supplied would be low. Therefore, when the price of palm oil increases, more palm oil will be supplied. Since to produce more palm oil requires more land area, then less rubber trees are planted, hence affecting its supply. We conclude, therefore, that the supply of rubber will decrease if the price of palm oil increases. This is shown by the shift of the supply curve of rubber to the left of its original position.

4.  Explain what happens to supply of bread if the government reduces the import taxes (duty) on flour.

If the government reduces the import duty on flour, the supply of bread will increase. The supply curve of bread will shift to the right of its original position. The reduction in import duty on flour will have a direct impact on production cost. Production cost will decrease and this allows producers to produce more at the same original production cost. Lets say that a bread producer usually imports 500 kilograms of flour from USA costing RM5000.00 including taxes. If the government reduces taxes say by RM500.00, the producer now will be able to import more than 500 kilograms of flour at the same cost of RM5000.00. With more flour, the producer can produce more bread.

5.  Why do we say there is no demand for rocks on campus?

For demand to exist, there must first be willingness and ability of people to pay for the good or service. In the case of rocks on campus, there is no willingness of people to pay for it because essentially people do not want or need it. Without willingness to pay, demand cannot exist.

6.  Should the government control the house rent? If yes, should it set a price ceiling or price floor?

The demand for houses, particularly in urban areas is high. I'd say the equilibrium price of rent in areas like Kuala Lumpur and Petaling Jaya is close to RM1000.00 for a two-bedroom terrace house. This is certainly out of the reach of the poor who earns far less than that amount monthly. If the poor cannot afford to pay such high rent, they may establish squatter areas that in turn create more problems to the local authority. Therefore, I think it is wise for the government to control house rent by putting a price ceiling, that is, putting a maximum price of rent of about RM500.00 per month. This price is certainly below equilibrium and will create a shortage, but at least it provides the opportunity for the poor to live comfortably. It also put inflation in check. But I think the government ought to control the rent of small houses and apartments only. Large houses that can be afforded by the rich should not be controlled. If the equilibrium price of rent for a 10-room bungalow is RM10000 a month, so be it. The rich can afford it anyway.

7.  The price of sugar is RM1.30 per kilogram. This price is below equilibrium. Why do you think the government controls the price of sugar by setting a ceiling price of RM1.30 per kilogram?

Many unfortunately, consider sugar, despite its notorious reputation as a disease generator, a necessity. We consume sugar in vast quantities in almost everything we eat and drink. This high demand for sugar will certainly put its equilibrium price high. And during festive seasons when the demand for sugar increases, the new equilibrium price will certainly put it above the reach of many. High equilibrium prices may also lead to inflation. With a price ceiling of RM1.30, more people will be able to afford sugar and will not put a strain on their budgets, especially during festive seasons.

8.  The price of a brand new Kelisa is RM37000.00 This price is certainly above equilibrium of about RM30000.00. Why do you think the government place a price floor of RM37000.00 on a Kelisa?

This is an extra credit question.  Students who are able to answer this question correctly will earn an extra 10 marks.  Submit your answer by Thursday, 24 July 2003. If you wish, you may email your answer to me.

9.  The government is planning to place a ceiling price on VCDs claiming that suppliers are reaping unreasonably high profits and cite high prices as being the number 1 reason why consumers are turning to cheaper pirated copies. Consumers are complaining that the price of VCDs is too high and are turning to pirated copies that are selling at as low as RM3.00 a copy (as opposed to about RM30.00 for a genuine one).  Despite being advised to lower their prices, VCD suppliers are not responding positively and continue to price their products well beyond the reach of most consumers.

(a)  What is meant by price ceiling?

(b)  If left to market forces, do you think the equilibrium price of genuine VCDs is at RM30.00?  Or would it be lower or higher.  Give reasons to your answer.

(c)  If the government control the price of VCDs by putting a ceiling price, where will the price be?  Show your answer with the aid of a suitable graph by assuming that the equilibrim price of gunuine VCDs is at RM30.00.  Will the condition create a surplus or shortage?

(d)  Who will benefit most if the government places a price ceiling?  Consumers or suppliers?

(e)  Give suggestions how the price of genuine VCDs can be reduced by market forces by examining the factors that can change demand and supply.

(f)  Do you agree with the government intention to control the price of VCDs?  Support your answer.

This is an extra credit question.  Students who submit their answers by July 31, 2003 stand to earn an extra 10 marks.