14.01 Fall 2010
Problem Set 1

1. (25 points) For each of the following scenarios, use a supply and demand diagram to illustrate the effect
of the given shock on the equilibrium price and quantity in the specified competitive market. Explain
whether there is a shift in the demand curve, the supply curve, or neither.

(a) (5 points) An unexpected temporary heat wave hits the East Coast. Show the effect in the ice
cream market in New England.

(b) (5 points) The government introduces a tax on ice cream which is paid by producers. What is the
effect in the ice cream market?

(c) (5 points) China and Mexico are major producers of textiles. Workers in Mexico decide to go on
strike. Show the effect on the market for Mexican textiles.

(d) (5 points) Show the effect of the situation described in (c) on the market for Chinese textiles.

(e) (5 points) Suppose the government imposes a price cap on bottled water. Show the effect in the
bottled water market.

Problem 1 courtesy of William Wheaton. Used with permission.

2. (20 points) For each of the following pairs of goods, identify which one you would expect to have more
own-price elastic demand. Please explain your reasoning.

(a) (5 points) Computers (generally) vs. Apple MacBook Pro laptops.

(b) (5 points) Stereo headphones (generally) vs. hearing aids.

For each of the following goods, identify whether you would expect demand to be more (own-price)
elastic in the short run or the long run. As above, please briefly explain your reasoning.

(c) (5 points) Retail gasoline in the suburbs of Chicago.

(d) (5 points) Air conditioning units in Miami Beach, Florida.

Problem 2 courtesy of Luke Stein. Used with permission.

3. (30 points) Consider the market for apple juice. In this market, the supply curve is given by QS =
10PJ − 5PA and the demand curve is given by QD = 100 − 15PJ + 10PT , where J denotes apple juice,
A denotes apples, and T denotes tea.

(a) (7 points) Assume that PA is fixed at $1 and PT = 5. Calculate the equilibrium price and quantity
in the apple juice market.

(b) (7 points) Suppose that a poor harvest season raises the price of apples to PA = 2. Find the new
equilibrium price and quantity of apple juice. Draw a graph to illustrate your answer.

(c) (8 points) Suppose PA = 1 but the price of tea drops to PT = 3. Find the new equilibrium price
and quantity of apple juice.

(d) (8 points) Suppose PA = 1, PT = 5, and there is a price ceiling on apple juice of P ∗ = 5. What is J
the excess demand for apple juice as a result? Draw a graph to illustrate your answer.

Problem 3 courtesy of William Wheaton. Used with permission.

4. (25 points) You have been asked to analyze the market for steel. From public sources, you are able to
find that last year’s price for steel was $20 per ton. At this price, 100 million tons were sold on the
world market. From trade association data you are able to obtain estimates for the own price elasticities
of demand and supply on the world markets as −0.25 for demand and 0.5 for supply. Assume that
steel has linear demand and supply curves throughout.

(a) (10 points) Solve for the equations of demand and supply in this market and sketch the demand
and supply curves.

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