Applied and miscellaneous

Discuss the relationships between the conclusions and assumptions of the neoclassical school, the Weber-Sombart school, and the American institutionalists.

Trace the development of the demand concept from Adam Smith to the present, touching on the contributions of J.S. Mill, Cournot, Fleeming Jenkin, Walras, Böhm-Bawerk, and the statistical economists.

Describe the history and status of the real cost theory of value.

Point out the resemblances and the differences between the preconceptions, the methods of analysis, and the conclusions, of Adam Smith and the physiocrates [sic], or of the mercantilists and the physiocrates [sic], or of Malthus and Ricardo.

Discuss the feasibility and merits of inflation in the present stage of the depression.

(Answer either A or B)

A. State briefly the doctrine of market price and natural price of the early classical economists; contrast this with Marshall’s analysis of long-run and short on price, and give your own view of the correct classification of viewpoints with respect to time.

B. State and critically discuss the classical doctrine of productive and unproductive labor, and in view of the issues raised formulate a correct definition of production in economics.

The theory of marginal utility: its origin, principal forms or interpretations, your own view of its meaning and use in price theory, and the critical appraisal of its validity. Consider especially the relations between the use of the principle as an explanatory concept and as a premise for the discussion of social policy.

(Answer either A or B)

A. Discuss the effects of establishing by legal action be minimum wage above the wage actually received by, say, one-fourths of the workers actually employed: (a) under conditions of prosperity with approximately full employment; (b) under depression conditions with a large volume of unemployment.

B. Criticized the view that industry fails to distribute sufficient purchasing power to buy its product, resulting in economic on balance.

Briefly characterize and evaluate comparatively what you considered the significant “approaches” or methodologies in economic science. (The following are to be taken as suggestive catch-words: classical, inductive, institutional, historical, deductive, price theory, sociological, socialistic, control.) We are possible, cite examples of the different tendencies in the history of economic thought from the Greeks to the present.

State the classical doctrine of international gold flows and price levels and discuss some recent criticism of this doctrine.

“The primary cause of business depression is the rigidities of the price structure.” “Through their alternating contraction and expansion of the circulating medium the banks are responsible for the wide swings in industrial activity.” Discuss these statements.

Discuss the theoretical short-comings involved in a policy on the part of our federal government of progressively bidding up the price of gold in foreign markets.

If business recovery came without the assistance of governmental inflation it would be accompanied by an expansion of the circulating medium as a result of the lending operations of the commercial banks. What significant similarities and differences are there between such expansion and (a) government borrowing from the banks in order to finance public works, (b) outright “greenbackism”?

It has been argued that in as much as the demand for capital goods is a derived demand it follows that any voluntary saving will necessarily result in some degree of unemployment. That is to say, the savings will reduce the demand for consumers’ goods, thus reducing the demand for capital goods, and consequently not all the savings will be borrowed; hence unemployment. But the commercial banks, through their power to create circulating medium, make it possible for entrepreneurs to obtain the funds with which to create capital goods without the reduction in consumer demand which comes with saving. Hence the banks furnish a means of escape from the dilemma. Discuss.

Trace the development of the theory of consumer choice. Include in your answer an explanation of (a) the meaning attached by Smith to “effectual demand”, (b) the role assigned by Ricardo to demand in determining prices; (c) Jevons “the final degree of utility determines price”; (d) the contribution of Edgeworth, Fisher, and Pareto.

Using the Table below, explain the variations in the real income, the price level, the velocity of circulation, the government and private investment, the rate of unemployment, the ratio of savings to income, and whatever else you consider significant.

TABLE

The following figures are based on the Economic Report to the President, 1955.

Note: (a) All figures except those for item A are expressed as percentages of the corresponding 1937 figure; (b) item F is defined to be equal to “gross private domestic investment” plus “government purchase of goods and services” plus “net foreign investment”, all in 1947 prices.

Columns: 1929 | 1933 | 1937 | 1941 | 1945 | 1949 | 1953

A. Unemployment as percentage of civilian labor force: 3.2 | 24.9 | 14.3 | 9.9 | 1.9 | 5.0 | 2.5 B. Civilian employment: 103 | 84 | 100 | 109 | 114 | 127 | 134 C. Demand deposits and currency (non-deflated): 89 | 67 | 100 | 164 | 346 | 376 | 441 D. National income (non-deflated): 119 | 55 | 100 | 142 | 246 | 294 | 414 E. Consumer price index: 119 | 90 | 100 | 102 | 125 | 166 | 186 F. Gross national product less consumption (in 1947 prices): 100 | 41 | 100 | 160 | 281 | 165 | 262 G. D/C: 134 | 82 | 100 | 87 | 71 | 78 | 94 H. D/E: 100 | 61 | 100 | 139 | 197 | 178 | 222 I. H/B: 97 | 72 | 100 | 128 | 172 | 140 | 166 J. F/H: 100 | 67 | 100 | 115 | 146 | 93 | 118

It is often said that the U.S. economy is less likely to suffer a severe depression today than it was twenty or thirty years ago. List and discuss major changes which have taken place which bear on this statement.

Suppose the tax on capital income (dividends, interest) is increased. What will be the effect on the demand for cash if the tax proceeds are spent on: (a) aid to foreign countries; (b) federal contribution to medical aid in the United States.

In the Confederate States, the ratio of bank reserves to deposits grew rapidly during 1862-64. This ratio also grew in the period 1933-37 in the Unites States. Explain these phenomena. Evaluate the action taken by the Governors of the Federal Reserve Board in 1936 and 1937, when they raised the required minimum reserve ratio.

The stock of money (currency and demand deposits) per capita was about 800 dollars in June 1953 as against about 100 dollars in June 1910. Explain the increase.

(a) Discuss and evaluate alternative theories of “Profits” as a distributive share.

(b) It is frequently said that in a private enterprise economy the producers’ motive is to maximize “profits”. Discuss the meaning of “profits” in this connection in relation to your answer to (a).

Write briefly on the meaning of the capital concept and its importance in interpreting economic growth or change. Relate your discussion to the case of a Crusoe economy and state whether (and if so how) the principles are different for the competitive pecuniary social order.

Briefly outline or list the main features of the Ricardian theories of value and of distribution and contrast each point with a “sound” modern view.”

Assume an economic system in which real expenditure upon goods and services (real consumption, investment, government expense) is a function of real income and the interest-rate; show that the set of values which satisfy the conditions for equilibrium in the commodity market (make real savings and investment equal) need not contain the “full-employment” income level; i.e., that level of real income which would be produced when the quantity of labor supplied equals the quantity demanded, both the labor supply and labor demand being functions of the real wage.

Evaluate the assumptions of this system on terms of their realism, citing the relevant evidence; and indicate modifications which would result in the inclusion of the “full employment” level of income as one of the values satisfying the condition for equilibrium in the commodity market.

Under the so-called “security-reserve proposal” member banks would be required to keep a supplementary reserve against deposits over and above the reserves they are now required to keep in the form of a deposit with a Federal Reserve Bank. This supplementary reserve could be in the form of government securities.

a. What is the main purpose, or purposes, of this proposal?

b. What effect would it have on the ability of the banks to expand credit, and how?

c. In the light of present economic conditions, what can you say about the urgency of such a “reform”?

It is a common view today that an equal reduction of both taxes and governmental expenditure would contribute to an increase of the national income or counteract a tendency to depression. State your position and discuss carefully.

Write a brief essay on TWO of the following men and their contributions to economics:

Hume

Dupuit

Von Thünen

Menger

Jevons

Edgeworth

Taussig

Mitchell

“East coast gas wars are forcing big producers to chop prices to retailers. With some Manhattan service stations selling gas as low as 15.8¢ per gallon, Socony Mobil, Esso Standard Oil and others have cut wholesale prices up to ½¢ per gallon in most of the seaboard marketing area from Maine to Washington, D.C., the first price reduction in nearly a year” Time, July 25, 1955.

Explain why this quotation is bad economics.

Discuss the role of “Euler’s theorem” in distribution theory, and give your own position on the issues.

a) What was Malthus’ theory of population? In answering, distinguish explicitly between the two variants of his theory, according to the character of the restraints on population.

b) Tell how equilibrium is established under each variant.

c) What effect did the theory have on economic theory?

In a recent study, David Blank and George Stigler note the existence of an interrelation between the demand for higher education and the supply of faculty for institutions of higher education. “For”, they write, “the very presence of a much increased demand [for higher education] … carries with it a much increased supply of trained individuals” from whom faculty members can be recruited.

What do you regard as the essential feature of the interrelation? Can you cite other examples? Contrast with specific examples where this particular interrelation does not arise.

Suppose the increased demand for higher education led to no increase in the student body but was met entirely by severer rationing, by price or otherwise, of entry into college. Would the statement quoted above be rendered false?

Justify your answer.

Producers in one area of goods that are also produced elsewhere often claim that the distant producers keep their high quality product at home and sell only their low quality goods elsewhere. On the other hand, consumers often complain that local producers ship all their high quality products elsewhere and sell only the poor quality material locally (as in the standard California complaint that you can’t but a decent orange in retail markets in California). Obviously, either group might be right in some special case. But can you think of any general factors that would on the average tend to produce the one result or the other? I.e., in any particular case, what indirect information would you consider relevant in forming a judgment about which was right?

Indicate briefly the meaning of each of the following phrases, identify the economist (or economists) associated with each, and state his major contribution to economics:

Pareto optimum

Pigou effect

Walrasian equilibrium

Schumpeterian innovators

Cobb-Douglas production function

Conspicuous consumption

Wicksellian natural rate of interest

Contract curve

Discuss the scope and method of the English classical school in the light of modern criticism therof.

Explain, and discuss the validity, purpose, and usefulness of any three of the following Marshallian concepts:

(a) quasi-rent;

(b) consumers’ surplus;

(c) unit elasticity;

(d) maximum satisfaction;

(e) representative concern.

Discuss the contributions to economics of any five of the following:(a) Aristotle; (b) Cantillon ; (c) David Hume; (d) Cournot; (e) Senior; (f) J. B. Say; (g) Von Thunen; (h) Leon Walras.

What is the significance of margins in price theory.

“The price-processes of the market-place are a product of the institutional framework, and cannot be explained independently of the long evolution of the institutional framework of modern economic society which has molded them” Discuss.

In what respects did the Canonists carry economic inquiry beyond its previous status?

Compare the wage theories of Adam Smith, Ricardo, and John Stuart Mill.

Outline a research project for either:

(a) The statistical verification of an important proposition in price theory, or

(b) A statistical study in some phase of distribution theory.

It is often asserted that Americans love money more than Englishmen (or Europeans, or Latin Americans). Can you think of a way to test this proposition?

V. When someone offers a cigarette to pipe-puffing Surgeon General Luther Terry, he always grabs it. “Every one I accept I tear up,” he says. “That way there’s one less cigarette.” (Time, February 7, 1964).

Analyze the economics of the Surgeon General’s policy. In doing so, assume of course, that a substantial class of people with similar beliefs behave the same way, so the effect is at least potentially appreciable. Would it contribute to his objective of reducing smoking? If so, through what channels?

PROBLEM

for

ECONOMICS 301

Winter Quarter, 1964

Analyze the business practice discussed in the accompanying excerpt from a Wall Street Journal story of December 4 1963.

Under what circumstances, if any would you expect such a practice to be in the self-interest of the participating companies? How would you suggest testing your explanation?

II. Translate the following quotations into economics and discuss:

"Costs are down partly because contractors expanded their equipment to get ready for the Federal Government's enlarged program. But it was cut back in 1959. … Some contractors needed work to pay for their expensive equipment, and they began making low bids, often at cost, to get the work. They complain bitterly about the price-chopping competition." (Time, Dec. 12, 1960)

"Most foods will be much more abundant and a bit cheaper in 1959 than they were this year [1958]. This optimistic forecast was made by the Agriculture Department which warned, however, that retail price cuts won't be as deep as the prospect of plenty would seem to indicate. Higher marketing and processing costs, officials explained, will partly offset the expected decline in food prices at the farm."

IV. State briefly what seem to you the central features of Chamberlin's analysis of monopolistic competition and Stigler's criticism of the analysis.

Answer the following True, False, or Uncertain. Explain your answer briefly.

If two individuals engage in barter, or direct exchange of goods, then always either: a) One individual benefits by the transaction while the other one is hurt; or b) Both are neither benefited nor hurt.

In a perfect market economy, each consumer participates equally in determining what is produced.

If an increase in the demand for X results in an increase i n the price of X, the demand for X is upward sloping.

If the demand for X has unitary elasticity (η = -1), changes in the price of X will not affect the total expenditures on all other goods.

If one good is inferior, at least one other good purchased by the consumer has to be income-elastic (ηxI> 1).

If the marginal revenue is decreasing with an increase in the quantity X, the demand for X is inelastic.

The substitution effect of a decrease in price, as defined by Slutsky, is positive for a normal good and negative for an inferior good.

If the market for beef is in a stable equilibrium, changes in the supply of beef will have little or no effect on its price.

It is possible for a consumer to buy a fixed positive) quantity of X every month, whatever the price of X may be. (i.e., his demand for X has zero elasticity for all prices).

The demand for agricultural products is inelastic; hence plentiful harvests result in lower incomes for farmers, in a free market economy.

In view of (10), each individual farmer can improve his own position by destroying a part of his production in good years.

A linear and downward-sloping demand curve is always elastic at high prices and inelastic at low prices.

If the Laspeyres quantity index between two periods is 1.10 and the Paasche index is 0.90, the consumers’ taste must have changed,

The cross-elasticity of demand for left shoes with respect to the price of right shoes is zero.

A consumer with a utility function is in equilibrium if the marginal utility of each good is proportional to its price.

If all prices increase by 10%, but money income remains the same, the quantity of each good purchased will decrease.

The demand of a consumer for X cannot be infinitely elastic at every quantity of X, because of the budget constraint.

In an economy where the king distributes all the goods and services as free gifts to the consumers, all the prices are zero. Hence there is no place for price theory in that country.

The demand for X is of unitary elasticity, and 200 similar firms sell X. A reduction of 1% in the price PX charged by one firm will result in doubling that firm’s sales, if other firms sell the same quantity at any price.

Because of transportation costs, prices will differ in different geographical locations, whether or not there exists free competition in the market.

State whether each of the following statements about the U. S. economy is true, false, or uncertain, and explain your answers briefly.

Consumers decide what will be produced.

All consumers participate equally in determining what will be produced.

The government influences the composition of output in the private consumer goods sector.

The government determines the level of investment for the economy as a whole.

Comment briefly on the following statement:

“When equilibrium prices in competitive markets are disturbed, they tend to be re-established. Thus the first effect of an increased supply of eggs is to lower the price. At this lower price, consumption is increased, and the increase in demand tends to drive the price back up again.”

Jones lives in a rented house for which he pays $150 a month. He has the opportunity of buying an identical house for $25,000, of which $15,000 will be paid in cash and $10,000 can be borrowed on a mortgage. He has figured that his monthly expenses would be $100 if he bought: $50 for interest on the mortgage, $20 for local taxes, and $30 for maintenance and depreciation. His income tax and expenses for fuel and utilities will not be affected by the purchase. He argues that it will cost him less to live if he buy the house; his wife argues that it will not.

Under what conditions is Jones right? Under what conditions is Mrs. Jones right?

Is there any divergence between the “right answer” to this problem from the private standpoint of the Jones family and from the standpoint of society? Explain.

In the United States, about one-fifth to one-fourth of all income is property income. State briefly (a) the advantages of having private income from property in our economy (b) the costs or disadvantages. You may judge these according to any values you care to use, making the values as explicit as possible.

Three top executives leave company A and join company B. The price of company A’s stock falls and the price of company B’s stock rises. This proves that the executives are being exploited.

What effect would you expect the British devaluation of the pound from $2.80 to $2.40 to have had on the dollar price of Rolls Royce cars? Justify your conclusion, preferably by diagrams describing the position of the company, indicating explicitly any assumptions you regard as relevant. Assume that wage rates in Britain in pounds are not affected by the devaluation.

Briefly discuss the Ricardian conception of capital, specifically in relation to his theory of wages. Argue the question whether wages are paid out of (pre-existing) capital or out of (current) product.

Can you find any relation between the Böhm-Bawerk production-period theory of interest and the Ricardian theory of capital and profit? What is the crucial assumption about the nature and source of capital which underlies the production-period theory, and is it sound? How does diminishing returns to investment enter into Ricardo’s and Böhm-Bawerk’s theories?

(a) Describe and discuss briefly the circumstances that gave rise to the establishment of the Federal Reserve System and the major events (including its actions) in its history.

(b) In light of this survey of the record, comment on the following conclusion of one student: “The Federal Reserve System should be abolished. It served as an engine of inflation in two World Wars and post-war periods, hindered the re-establishment of satisfactory monetary standards throughout the world in the 1920’s, and failed to prevent the Great Depression, if indeed it was not itself largely responsible for the severity of that depression. The United States would have had a happier history if the pre-1913 monetary arrangements had been continued thereafter.”

“From the preceding considerations it would be seen, even if it were not otherwise evident, how great an error it is to imagine that the rate of interest bears any necessary relation to the quantity or value of the money in circulation. An increase in the currency has in itself no effect, and is incapable of having any effect, on the rate of interest.” (J.S. Mill)

“We can sum up the above in the proposition that in any given state of expectation there is in the minds of the public a certain potentiality towards holding cash beyond what is required by the transactions-motive or the precautionary-motive, which will realize itself in actual cash holding in a degree which depends on the terms on which the monetary authority is willing to create cash…Corresponding to the quantity of money created by the monetary authority, there will, therefore be set. par. a determinate rate of interest.” (J. M. Keynes)

“The saving schedule tells us what part of income the community desires to save. The technical conditions…expressed by the marginal-efficiency-of-investment function, determine the marginal efficiency of the amount of investment that the giving up of consumption permits undertaking. (The intersection of the two schedules determines) the equilibrium rate of interest.” (F. Modigliani).

Can you reconcile these opinions concerning the determinants of the interest rate? Explain fully, making and stating any assumption you like as to the conditions of production, the time period under consideration, and the flexibility of prices and costs.

What measures would you advocate—and give your reasons for inclusion and omission—for controlling the inflationary tendency in the U.S. under present conditions?

In the 1880’s there were a class of independent railroad ticket brokers called “scalpers,” who purchased tickets in quantity at reduced prices from the railroads and resold them to the public, typically at prices below the prices posted by the railroads and charged to people who bought tickets at the railroad windows.

In discussing the practice in its 1890 report, the Interstate Commerce Commission argues that (a) it raised the cost of transportation because it made it necessary, “to support the auxiliary force of scalpers,” and (b) also reflected “the avidity of nearly every railroad to do a greater amount of passenger business than any competitor.”

Is (a) correct? Is it consistent with (b)?

It is sometimes alleged that periods of economic depression are more conducive to the growth of economic regulation than prosperity. Develop a theory which elaborates the link between the level of economic activity and the propensity to regulate. Include a discussion of whether the goals of regulatory agencies (old as well as new) are likely to differ with the level of economic activity.

How do you explain the following empirical findings for manufacturing industries?

Let

$N_{it}$ = number of companies in the 4-digit industry $i$ in year $t$

$C_{it}$ = 4-firm concentration ratio, industry $i$, year $t$.

$Q_{it}$ = index of real output industry $i$, year $t$

$R_{it}$ = measured rate of return of all firms in industry $i$, year $t$.

For each $t$, holing log $N_{it}$ constant, $R_{it}$ is an increasing function of $C_{it}$.

For each $t$, holding $C_{it}$ constant, $R_{it}$ is an increasing function of log $N_{it}$.

For each $t$, $C_{it}$ and log $N_{it}$ are negatively correlated.

Between 1947 and 1967 the correlation between the change in $C_{it}$ and the change in log $N_{it}$ is 0.55.

Between 1947 and 1967 the correlation between the change in $C_{it}$ and the change in log $N_{it}$ is zero. The correlation is also zero between the change in log $Q_{it}$ and the change in $C_{it}$.

Comment briefly on each of the following passages (explanation, justification, disproof, qualification, as may be appropriate).

“It is not the case that an increased demand for mutton must in the long run necessarily operate to lower the price of wool. An increased demand for mutton will stimulate sheep farming, but it will also stimulate the substitution of crossbred [mutton type] for merino [wool type] breeds; and the resultant of these two opposite tendencies is logically indeterminate.”

“When Consols are at 93½ , and business in in a tranquil state, it matters not how many buyers of these securities there are at 93, or sellers at 94. They are really off the market. Those only are operative who may be made to buy or sell by a rise or a fall of an eighth. The question is, whether the price shall remain at 93½, or rise to 93 5/8, or fall to 93 3/8. This is determined by a very few persons and by the sale or purchase of very small amounts.”

“The degree of monopoly control by a seller equals the degree by which price exceeds marginal revenue.”

“The degree of monopoly control by an employer as employer equals the degree by which the value of the marginal product of labor exceeds the marginal supply price of labor.”

“Where it is the case that people would not give as large a total sum for a larger quantity of an article than for a smaller, this would be expressed geometrically by saying that the demand curve would cut negatively a rectangular hyperbola.” [negatively means cut from above]

“The fact that supplying labor with better or more instruments results in an increase in output has sometimes led to the conclusion that capital is productive, a phrase which must be used with care. The strictly accurate statement is that labor applied in some ways is more productive than labor applied in other ways. Tools and machinery, buildings and materials, are themselves made by labor, and represent an intermediate stage in the application of labor. Capital as such is not an independent factor in production, and there is no separate productiveness of capital.”

Resources are seriously misallocated in the broadcasting industry in the U.S., through the fact that the cost of broadcasts is borne by advertisers rather than by listeners and viewers directly.

It is a convention in economics to draw consumption indifference curves convex to the origin, but we have no way of knowing whether they really are.

Define the following terms precisely and indicate briefly the use made of each in economics:

Demand

Supply

Equilibrium

Indifference Curve

Marginal

Rate of Substitution

Marginal value product

Marginal efficiency of capital

Production function

Time preference

Profit

Rent

Run

Net advantages

Variable Costs

(a) Complaints are often heard about the “high” incomes of bootleggers in dry states, or gamblers where gambling is illegal, or smugglers, etc. Are high incomes in such cases evidence of the success or the failure of the laws? Explain your answer.

(b) A man buys a ticket in a lottery and wins. View this as a business transaction. How much, if any, of his prize is properly regarded as “profit”? Does your answer use the concept of “profit” implicit in the common statement “entrepreneurs seek to maximize profit”? Justify your answer and indicate the difference, if any, between the two concepts.

During every hyper-inflation there are always recurrent complaints of a “shortage of money.” How do you explain this phenomenon?

The following quotation is from an article on the illicit gold traffic:

“Traffic on the Asian gold-smuggling trails has doubled since Korea…Meanwhile savings which could be productively invested by banks lie idle; paper money is snubbed for gold, depreciates with every rise in the gold price, and becomes a weaker and weaker factor in national economies.” (H.R. Reinhardt, The Reporter, July 22, 1952, p.21).

Analyze this quotation. Precisely what effect would the willingness of people to hold bank deposits instead of gold have on productivity or productive investment, and through what channels? What of sense and what of nonsense is there in the statements after the semi-colon?

There has been much talk of the so-called “wage-price spiral.” What is generally meant by this term? Give a theoretical analysis of the so-called spiral, indicating under what circumstances you think it could or could not arise.

Define the following terms precisely and indicate briefly the use made of each in economics:

Demand

Supply

Indifference Curve

Rate of Substitution

Marginal value product

Marginal efficiency of capital

Production function

Time preference

What theories do you offer to explain the following phenomena?

(a) During a prolonged rise in the general level of prices, the price of soft drinks remained at five cents with no change whatsoever in the physical characteristics of the product.

(b) During a prolonged rise in the general level of prices the price of candy bars remained at five cents, at the same time, however, as the size of the bars decreased.

Briefly state the main changes in the body of accepted price theory at the turn from “classical” to “Austrian” (the subjective-value school), i.e., at the “revolution” of the 1870’s. Similarly describe the transition from Austrian to “New-classical” (Marshallian) doctrine.

During every hyper-inflation there are recurrent complaints of a “shortage of money.” How do you explain this phenomenon? Compare the situation during acute depression.

A part of the nation’s productive capacity is destroyed, say by a war. Ignoring any possible expectational and distributive effects, how will this affect: (a) the division of the national income between consumption and investment? and (b) the income-velocity of money. How, if at all, does your answer depend on whether wealth is a variable which influences behavior?

There has been much talk of the so-called “wage-price spiral.” What is generally meant by this term? Give a theoretical analysis of the so-called spiral, indicating under what circumstances you think it would or would not arise.

Indicate briefly the meaning of each of the following phrases, identify the economist (or economists) associated with each, and state some of his major contributions to economics:

Engel’s Law

Say’s Law

Iron Law of Wages

Schumpeterian innovators

Conspicuous consumption

Contract curve

Elasticity of demand

(60 points) Indicate whether you believe each of the following statements to be true, false, or uncertain. In each case write a few sentences explaining your answer. Your grade will depend heavily on your explanation.

If the rate of obsolescence is constant over time for each type of capital equipment, a rise in the rate of interest will shorten the optimal life of capital equipment.

If oranges are substitutes for apples, apples are complementary to cheese, and cheese is a substitute for butter, oranges and butter are complements.

If a certain commodity is rationed and subject to price control, and there is a black market price for it, the black market price is the equilibrium price of the commodity in the absence of price control.

Let ${\sum }_i{p}_{i1}{x}_{i1}$ and ${\sum }_i{p}_{i2}{x}_{i2}$ be the expenditure of a firm on factors of production per unit of output at two points in time. If ${\sum }_i{p}_{i1}{x}_{i2}>{\sum }_i{p}_{i1}{x}_{i1}$ and ${\sum }_i{p}_{i2}{x}_{i1}<{\sum }_i{p}_{i2}{x}_{i2}$, the production function of the firm has changed between the two points of time.

A company cannot have a monopoly if its shareholders receive only the normal rate of earnings on their stock in it.

If the production function of an Industry is subject to constant returns to scale, the industry supply curve will be horizontal.

If it were possible to travel backwards as well as forwards in time, everyone would be a millionaire.

The development of better fertilizer will increase the value of farm land.

Manufacturers frequently advertise that their products contain extra ingredients, and they generally succeed in selling “extra-ingredient” products (e.g. Bufferin) at higher prices than “similar” single-ingredient products (e.g. aspirin). This implies that consumers have a diminishing marginal rate of substitution between the ingredients.

The removal of a barrier to competition anywhere in the economy must make society better off.

Given:

a three-product world,

the cross-elasticity of demand of x with respect to the price of z is zero,

the own-price elasticity of demand for x is -1,

y and z are substitutes,

expenditures on X occupy half of consumers’ budgets, expenditures on Y one quarter of consumers’ budgets in the initial situation,

it follows that the own-price elasticity of demand for y is greater than 1.5 in absolute value. (For this question consider all price-elasticities defined to include the substitution effect only.)

The price-elasticity of demand on the part of a competitive industry for a factor of production will be greater, the smaller is the share of that factor of production in the total costs of the industry in question.

If production in industry X (assumed to be competitive) is governed by a Cobb-Douglas production function, then no wage set by the trade union in that industry will produce greater total labor income than any other wage.

A tax of a fixed amount per unit of output, placed upon the product of an industry with constant costs, will necessarily result in a smaller rise in price if that industry is organized (and behaves) as a monopoly than if the industry is competitive.

In an industry employing just two factors of production, the elasticity of demand on the part of that industry for either factor must be less in absolute value than the elasticity of substitution between the two factors in that industry.

Discuss the relation between forward (and/or futures) prices and spot prices on commodity markets and foreign exchange markets and the role of “speculators” and “hedgers” in these markets. State some of the leading theories about this relationship and discuss the kinds of evidence used in testing them.

(30 minutes) The stock market break of May 28 elicited many explanations. Comment upon the relevance of each of the following explanations.

Stock prices had previously been too high.

There was a holding back by big buyers.

Inflation was no longer feared.

Sellers became panic-stricken.

The gold outflow, it was feared, would lead to exchange controls.

Remember that you are writing an examination in economic theory.

“The price paid for water is no indication of its true value in use because the water makes the production of additional wealth possible. Thus a farmer may pay his irrigation district $8.00 for water per acre of land, but the value of the crops grown might be in the neighborhood of $100 per acre.”

Part I

The income of farmers from the sale of their products depends on the prices at which the products sell. The general level of agricultural prices, in turn, depends primarily on the income of nonfarm population. But the income of the nonfarm population depends on the prices of nonfarm products which, in turn, depends partly on the income of farmers.

This kind of analysis is often criticized as circular reasoning and hence as incapable of leading to any useful conclusions. Is this criticism valid? Explain your answer.

Discuss the following quotation from Marshall:

"A useful history of the opposition to machinery is given in Industrial Democracy (by Sidney and Beatrice Webb)…It is combined with the advice (to trade unions) not generally to resist the introduction of machinery, but not to accept lower wages for working on the old methods in order to meet its competition. This is good advice for young men. But it cannot be followed by men who have reached their prime."

How would you expect prices in local, neighborhood, stores in large cities to compare with prices in the central shopping district (in Chicago, the "loop")? In your answer, distinguish among different products, and include an evaluation of the statement so often made by neighborhood stores that they can charge lower prices because they pay lower rents.

Part II

There are 100 each of A and B farms. The product schedules of one farm are

Number of laborers / Total Product (A Farm / B Farm): 1: 40 / 40 2: 90 / 80 3: 140 / 115 4: 185 / 145 5: 225 / 170 6: 260 / 190 7: 290 / 205 8: 315 / 215 9: 335 / 220

a) Determine wages, rents, and employment on both types of farms

(i) if there are 900 laborers and full competition

(ii) if with 900 laborers, the laborers on the A farms organize and succeed in setting a wage rate of 40,

(iii) if, with 900 laborers, the laborers on the A farms organize and succeed in raising the standard wage rate to 47.

b) State briefly the general economic principles illustrated by each part of the above problem.

Consider a hypothetical society in which there is no investment, either net or gross. All capital is completely permanent, not subject to change in form but capable of being used for different purposes. There is no lending or borrowing, no selling or buying of capital goods: whoever owns the capital goods is forced by the laws or conventions of society to hold them and is permitted only to rent them out (i.e., all capital is subject to the conventions that now govern human capital). Hence there is no market interest rate that matters, and all saving takes the form of hoarding of cash. The total amount of money in society is fixed in nominal units (say dollars). Wages are initially rigid (by law or otherwise) and the society is in a state of Keynesian unemployment equilibrium, unemployment keeping the real income down to a level at which dissaving equals saving, so total net saving is zero. Now wages are made flexible. Describe the process of adjustment to a new equilibrium position. Does this new position involve unemployment? What is the equilibrium condition on total net saving? What forces operate to bring about the satisfaction of this equilibrium condition?

4. Statistical demand curves for fluid milk are derived by two different procedures.

(1) Data for a particular year for the 48 states of the United States are used to obtain a correlation equation expressing (a) the price of fluid milk in a state as a function of (b) per capita consumption of fluid milk in that state and (c) per capita income in that state.

(2) Data for a period of years for the United States are used to obtain a correlation equation expressing (a) the price of milk in the United States as a function of (b) the per capita consumption of fluid milk in the United States and (c) the per capita income in the United States.

Under what conditions, if any, would you expect the results to be identical? If the results are not identical, discuss the relative advantages and disadvantages of each. Indicate the conditions under which you would expect (1) to give a better estimate of “the” demand curve for milk and, the conditions under which you would expect (2) to give a better estimate. How, if at all, could one determine which set of conditions prevails.

“Productivity” is a catch-word in most general discussions of wage policy, as for example in the following quotation:

“General increases in wage rates exceeding the average growth of productivity raise costs and will ordinarily result in high prices,” from which it is implied that wage rates “ought” to rise by the same percentage as “productivity”. Sometimes, this argument is carried over to particular industries or occupation; and sometimes, the conclusion is drawn that wages “cannot” “on the average” rise by more than “productivity”.

Discuss from the point of view of price theory, with special reference to the meaning of the concepts used and the validity of the inferences drawn. Do not get involved in business cycle, or income and employment theory.

Consider a hypothetical society in which there is no investment, either net or gross. All capital is completely permanent, not subject to change in form but capable of being used for different purposes. There is no selling or buying of capital goods: whoever owns the capital goods is forced by the laws or conventions of society to hold them and is permitted only to read them out (i.e., all capital is subject to the conventions that now govern human capital). Lending or borrowing is prohibited, so that there is no market rate of interest that matters, and all saving takes the form of hoarding of cash. The total amount of money in society is fixed in nominal units (say dollars).

Although this economy is stationary in the aggregate, it is not static. Explain the meaning of the sentence and its bearing on the willingness of people to hold money.

Wages are initially rigid (by law or otherwise) and the society is in the state of Keynesian unemployment equilibrium. Explain. What is it that assures that the aggregate amount actually saved is equal to zero? What is it that assures that the aggregate amount people wish to save is equal to zero?

Wages are now made flexible. Describe the process of adjustment to a new equilibrium position. Does this new position involve unemployment? What is the equilibrium condition on saving? What forces operate to bring about the satisfaction of this condition?

Discuss the factors that determine the rent of capital goods and the wages of labor at equilibrium when both are flexible.

Lending and borrowing is [sic] now introduced, but all other assumptions are retained, so that all loans are in essence “consumption loans”. What determines the equilibrium rate of interest? What effect, if any, would the introduction of lending and borrowing have on the price level?

“The statement that wages tend to equal the net product of the worker’s labor… is not, as some have thought, an independent theory of wages, but only a particular way of wording the familiar doctrine that the value of everything tends to be equal to its expense of production.” (Marshall)

Explain why “the statement that wages tend to equal the net product of the worker’s labor” is not “an independent [i.e., complete] theory of wages.”

Prove that it is “only a particular way of wording the familiar doctrine…” in doing so, interpret “everything” to mean “final products,” not “labor.”

The income of farmers from the sale of their products depends on the prices at which the products sell. The general level of agricultural prices, in turn, depends primarily on the income of the nonfarm population. But the income of the nonfarm population depends on the prices of nonfarm products which, in turn, depends partly on the income of farmers.

This kind of analysis is often criticized as circular reasoning and hence is incapable of leading to any useful conclusions. Is this criticism valid? Explain your answer.

Beef sold in rural New England is mostly purchased from Chicago. Yet it is said that the retail price of the better cuts of beef is substantially less than in Chicago for the same grade of meat. Assuming that this is in fact the case. How would you explain this phenomenon in strictly economic terms? (I.e., do not give the easy – and probably wrong – explanation of irrationality, gouging, or the like). How would you test the validity of your suggested explanation?

Indicate whether each of the following statements is TRUE, FALSE, or UNCERTAIN. In each case write a few sentences explaining your answer. Your grade will be determined by your explanation.

It is immediately obvious that if the firm has any significant degree of monopoly power, sales maximization would be better for the rest of the economy than profit maximization.

When a firm increases its price because its raw material costs have risen, the buyers accept the price increase more readily.

If A and B are produced in fixed proportions and consumed in fixed proportions, one of the two will be free.

Marshall asserts that the rents of different qualities of agricultural land will approach equality as the economy grows in population and wealth.

An industry whose output is increasing cannot be making negative profits.

The prohibition on environmental pollution by (say) a factory cannot increase national income.

A competitive industry is more likely to cartelize when the probability of expropriation increases.

Regulation of a competitive industry by the government will decrease the probability of cartelization.

In the social security systems of most countries, the age of retirement after which old age pensions are “payable” is lower for women than for men (usually 60 as compared with 65 years of age), even though on the average women live significantly longer than men. This is a clear case of discrimination against men, which should be protested by the Men’s Liberation Movement.

The U.S. personal income tax system allows married couples to “split” their aggregate income equally and pay tax on the results at the same rates as single people would. This is a clear case of discrimination in favor of heterosexuality that should be vigorously protested by the Gay Liberation front.

If the elasticity of supply is less than unity, and the elasticity of substitution in production greater than unity, a fall in the price of a factor must increase the demand for it.

Labor can be “Exploited” only if there is monopoly in the product market.

“Monopolistic competition robs the old concept of industry (and also the Chamberlinian group) of any theoretical significance…The value of these groupings is only a concrete, empirical one…Which firms shall be included in any one group will have to be decided, not on an a prioribasis, but after an empirical survey of market realities…In the general pure theory of value, the group and the industry are useless concepts…When the study of competition is freed from the narrowing assumptions of pure competition, only two terms remain essential for the analysis: the individual firms, on the one hand; the whole collectivity of competitors on the other.” (Triffin)

(a) Explain why “monopolistic competition robs the old concept of industry…of any theoretical significance.”

(b) Explain the general position summarized in this quotation and discuss it critically.

(a) What is the Pigou effect? What relevance does it have to the theory of the rate of interest?

(b) List some economic decisions that would be affected by a change in the rate of interest. Indicate why they would be affected and if possible the direction of the effect.

In an economy using fiduciary money, it costs nothing to create additional cash balances. Hence, it is desirable to encourage wealth-holders to hold additional cash balances so long as they get any additional non-pecuniary return from them. One way to do so is through a deliberate policy of announced deflation.

For individuals, additions to cash balances are a substitute for real saving in the form of direct investment or loans to finance direct investment; hence, the larger the additions to cash balances, the lower will tend to be the volume of real capital formation. Since economic growth depends on the volume of real capital formation, it is desirable to discourage the hoarding of cash. One way to do so is through a deliberate policy of announced inflation.

Both statements offer plausible, yet they lead to precisely opposite policy conclusions. Can you reconcile them? If not, which, in your opinion, is in error? What is the source of the mistake?

Indicate in each box whether the change in the indicated variable would, under the specified conditions, tend to be an increase (+), decrease (-), no change (0), or is uncertain (?). In each case, of course, assume other relevant variables unchanged.

Make usual assumptions about behavior functions.

The table columns are organized under two conditions — Underemployment / Rigid Wages, and Full Employment / Flexible Wages — with the following variables for each: Employment, Interest rate, Real stock of money, Consumption (Underemployment, Rigid Wages); and Price level, Interest rate, Real stock of money, Consumption (Full Employment, Flexible Wages).

Assumed change:

(1) Rise in tariff

(2) Increase in government taxes, no change in government expenditures

(3) Reduction in legal reserve requirements of member banks

(4) Discovery of vast oilfields

(5) Substitution of tax on land values for tax on wages, no change in revenue

(6) Emergence of widespread fear of civil disturbances

An earthquake destroys half the physical capital in a country but miraculously there is negligible loss of life. The earthquake was most unusual, was unexpected and no one expects a repetition.

Show graphically the effect on (1) the stock demand and supply for capital; (2) the flow demand and supply curves.

Assuming flexible prices and full employment throughout, what, if anything, can you say about the initial effects on (1) rental rate on capital goods; (2) sales price of capital goods; (3) interest rate [i.e., ratio of (1) to (2)]; (4) real wage rate; (5) fraction of income consumed; (6) absolute level of investment.

What about ultimate effects on these variables?

Assuming initially rigid wages and underemployment, what, if anything, can you say about initial effects on items listed in (b)?

“The relation between the volume of economic activity and the price level is not simple. As a first approximation, the classical law of supply and demand leads one to expect that the change in the price level will depend mainly on the size of the gap between capacity and actual output” 1966 Annual Report, Council of Economic Advisers, pp. 63-64.

“Money prices, as opposed to relative prices, can never be governed by the conditions of the commodity market itself (or of the production of goods)” K. Wicksell, Interest and Prices (1898), p. 24.

In your opinion, does this shift in economic theory over the past 68 years reflect progress or retrogression? Justify your answer.

Consider a hypothetical economy in which initially, government expenditures (G) are 100, private investment (I) is 50, and private consumption (C) is 350, so that national product (Y) is 100 + 50 + 350 = 500, and tax receipts (T) are 90. Assume that G and T are both reduced by 10 to 90 and 80 respectively, and that wage rates are rigid.

If you neglect any effects on the rate of interest, what would be the resulting values of C, I, and Y? Prove your answer in general by a simple algebraic analysis.

Would you expect any effects on the interest rate if nominal quantity of money is constant? If so, what effect? How would this in turn affect I, C, and Y? Give hypothetical numbers that might correspond to final outcome.

Again, prove your answer.

What additional complications, if any, are relevant in generalizing these effects of a balanced budget change to actual circumstances?

Discuss the “real balance effect,” indicating what you think to be its meaning, and what role it has played in discussions of the possibility of under-employment equilibrium. In the course of your answer indicate what economists have been the main contributors to the discussion and what their specific contributions have been.

MONETARY vs. FISCAL POLICY

Define fiscal policy as deliberate changes in the government tax structure or expenditure structure for a given behavior of the quantity of money; monetary policy as a change in the rate of change of the quantity of money for a given tax and expenditure structure.

Using the standard income-expenditure model, and assuming prices are rigid, analyze the effect on real income and interest rates of an increase in taxes which would raise the full-employment surplus (or lower the full-employment deficit) by X billion dollars. Specify the parameters on which the result depends and indicate limiting cases.

Using the same model, indicate how to determine the change in monetary policy that would have the same effect on real income. How would other effects of the two policies differ?

The standard model is in terms of comparative statics, so (1) and (2) would be analyzed in terms of a comparison of two alternative positions at a single date. In addition, the only stock variable in the standard model is the quantity of money. Modify the analysis in (1) in both respects. That is, indicate the time path of adjustment you might expect and why, taking into account any effects on such stock variables as total holdings of government and private securities.

Similarly, analyze the time path of the effect of a decline in the rate of monetary growth by, say, X percentage points, again allowing for effect on stocks.

Soviet planners do use open markets to permit relative prices to influence resource allocation. Briefly explain the role of prices in an economic system and the possible effects of restricting the role of prices.

In the present real world we seldom observe “market clearing” prices. Sometimes we even observe zero prices. How can you account for these two phenomena that appear to contradict economic theory?

Gresham’s law states: “Bad goods drive out the good (goods).” However, we see good wine and bad wine, bad books and good books, bad women and good women; and bad economics professors and good ones. Reconcile Gresham’s law with the evidence above.

Gresham’s Law states: “Bad goods drive out the good (goods)”. However, we see good wine and bad wine, bad books and good books, bad professors and good professors. Reconcile Gresham’s Law with the empirical evidence cited above. Does the evidence tend to refute Gresham’s Law? Why?

Give brief (a sentence or two) comments to the following:

(a) Is life priceless? What evidence can you offer to support your contention?

(b) What do the concepts of externality and property rights have to do with allocation of resources?

(c) A jet plan can fly across the U.S. three hours faster than a propeller plane. Which is more efficient?

What economic forces explain each of the following phenomena? Give a logically complete discussion in each case.

(1) The tendency for married couples with small children to spend relatively more on entertainment when they go out than do married couples without small children. (Note: this does not mean that couples with small children go out more often!).

(2) The tendency for non-poor persons to transfer income or goods-in-kind to poor persons. (Avoid making interpersonal utility comparisons.) State the assumptions that underlay the choice to make money income transfers versus goods-in-kind transfers and which is more efficient?

(3) The lessened tendency for physical attributes such as race and sex to be used as criteria for choice for higher level positions of employment (managers, executives, etc.) than for lower level positions of employment (janitors, dishwashers, etc.). Does the same reasoning explain why nepotism is virtually absent in professional sports?

(4) The virtual absence of manual labor operating elevators, picking cotton, picking tomatoes and theater ushers in the United States.

Give very brief answers to the following:

(a) Collusions have a natural tendency to break down.

(b) “Bad money tends to drive out good money.”

(c) To incur a cost is equivalent to saying that one has sacrificed an opportunity.

(d) On a television interview a famous theatrical producer expressed delight that tickets to his performance were sold out for the next five months. Explain why he might have cause to be sad instead.

Formulate a high quality question (not one found in the handout). Answer this question.

“A rise in the interest rate tends to moderate aggregate demand and so is anti-inflationary. But interest is a cost of business and the increase in cost tends to raise prices. Hence on balance it is not clear whether w rise in the interest rates tends to counter inflation.” Analyze.

“Human life is priceless.” Analyze.

The Marxist doctrine of distribution is “to each according to his needs and from each according to his ability” while the capitalist doctrine is “. . . to each according to what he produces.” Explain the meaning of each statement.

“A substantial number of relatively unskilled persons reported that they cannot find work. At the same time there are many unfilled jobs for relatively skilled people. Apparently, the problem is that there are more unskilled people than unskilled jobs.” What is wrong with that reasoning?

“On a proportional basis, there are too many Negroes and too few Jews among professional athletes. This shows that sports have overcome racial discrimination but not religious discrimination.” Comment.

Give economic interpretation of the following excerpts from Exodus and Deuteronomy: Nonsense is forbidden!

(a) “The woman shall not wear that which pertaineth unto man, neither shall a man put on a woman’s garment: for all that do so are an abomination unto the Lord thy God.”

(b) “Thou shalt not plow with an ox and an ass together.”

(c) “He that is wounded in the stones, or hath his privy member cut off shall not enter into the congregation of the Lord.”

(d) “Honor thy father and mother. . . .” (How come honoring of children is not required by the Commandments?)

(e) “Thou shalt have no other gods before me.”

(f) “And if a man entice a maid that is not betrothed, and lie with her, he shall surely endow her to be his wife. If her father utterly refuses to give her unto him, he shall pay money according to the dowry of virgins.”

(g) “A bird in the hand is worth six in the bush.”

In macroeconomic analysis, the possibility of economic equilibrium with a degree of unemployment is ordinarily assumed. But in microeconomic analysis, we generally postulate that prices must be such to clear markets. Is it possible to give a microeconomic explanation for unemployment, without calling upon wage rigidities due to government or union action to keep wage rates from falling: Show how it is, if it is.

Give short, but complete, answers to the following:

(a) “Automation is destroying 300,000 jobs a month.” Is destroying jobs socially good or bad? Does automation mean that people will be left without jobs. Why?

(b) If in some town the minimum wage rate for taxi-driver employees were raised to $5.00 an hour, what would happen to the ratio of cabs driven by the owners to cabs driven by employees of cab owners? Why?

(c) If you were a visitor in some underdeveloped country in which all lending and borrowing are effectively prohibited, is there an interest rate; if so, where could you get date to compute it; how could you tell when it changes?

(d) Why do you think that the commandments: “Thou shalt have no other Gods before me” and “Thou shalt not make unto thee any graven image. . . .” are the two most important among the Ten Commandments, in the eyes of God?

Write brief answers explaining each of the following:

(a) Explain what Hayek might mean when he asserts that: “The most significant fact about the price system is the economy of knowledge with which it operates.”

(b) Why does specialization lead to a larger output? What is meant by specialization in this context?

(c) If two people work jointly in production, it is impossible to tell who produced how much. What then is the meaning of the statement that each gets paid according to what he produces?

(d) Give at least three reasons why the observation of a negative rate of interest is highly improbable.

Unemployment means that there are not enough jobs to go around. Apply economic analysis to this statement.

Give economic interpretation of the following excerpts from Exodus and Deuteronomy: Nonsense is forbidden!

(a) “The woman shall not wear that which pertaineth unto man, neither shall a man put on a woman’s garment: for all that do so are an abomination unto the Lord thy god.”

(b) “Thou shalt not plow with an ox and an ass together.”

(c) “He that is wounded in the stones, or hath his privy member cut off shall not enter into the congregation of the Lord.”

(d) “Thou shalt have no other gods before me.”

(e) “Thou shalt not make unto thee any graven image…thou shalt not bow down thyself to them…“

(f) “Honor thy father and mot her….”

(g) “And if a man entice a maid that is not betrothed, and lie with her, he shall surely endow her to be his wife. If her father utterly refuses to give her unto him, he shall pay money according to the dowry of virgins.”

“On a proportional basis, there are too many Negroes and too few Jews among professional athletes. This shows that sports has finally overcome racial prejudice, it has not overcome religious prejudice.” Comment.

Is human life priceless? What evidence can you offer to support your contention?

Why do market rates of interest rise whenever people expect increasing inflation in the future?

Why did Professor Williams invest additional resources to make this class an effective one? He could have received the same pay for doing considerably less work. Why didn’t you allocate the amount of resources necessary to earn an A in this class?

What is wrong with this way of thinking?

“Higher wages help everybody. Workers are helped because they can now purchase more of the things they need. Business is helped because the increase in workers’ purchasing power will increase the demand for products. Taxpayers are helped because workers will now pay more taxes. Union activities and legislation mandating higher wages for workers will promote economic progress.”

“Jobs are the key to economic progress. Unless we create more jobs, our standard of living will fall.” (True or false? Explain.)

Do the following comments reflect sound economic reasoning? Explain why or why not. (a) “I paid $200.00 for this economics course. Therefore, I am going to attend the lectures even if they are useless and boring.” (b) “Since we own rather than rent, housing does not cost us anything.” (c) I own 100 shares of stock that I can’t afford to sell until the price goes up enough for me to get back at least my original investment.” (d) “It costs to produce private education, whereas public schooling is free.”