there are 8 questions Document Preview: Business economics The diagrams should be provided where necessary and explanation should be provided as each part carries marks thanks Question 1: Explain the...

Question 1
a)
An externality is the impact of one person’s action on the well-being of a
bystander. If the effect of the bystander is adverse, it is called negative
externality; if it is beneficial, it is called positive externality. In the presence of
externalities, society’s interest in a market outcome extends beyond the well
being of buyers and sellers in the market; it also includes the well being of
bystanders who are affected. Because buyers and sellers neglect the external
effects of their action when deciding how much to demand or supply, the
market equilibrium is not efficient in the presence of externality. That is,
equilibrium fails to maximize the total benefit to society as a whole. This means
that externality cause market to allocate resources inefficiently.
b)
Public goods are neither rival nor excludable. That is, people cannot be
prevented from using a public good, and one person’s enjoyment of public good
does not reduce another person’s enjoyment of it. Because people are not
charged for their use of the public good, they have an incentive to free ride
when the good is provided privately. Because public goods are not excludable,
the free rider problem prevents the private market from supplying adequate
quantity.
C)
i) Yes, they can be consumed jointly by many individuals simultaneously.
Consumption of judicial system is neither excludable nor rival. People cannot
be prevented from taking the benefit of the judicial system.
ii) No. This is both excludable and rival. It is possible to prevent someone from
using it. It is rival because if one person uses it another person cannot use the
same pencil.
iii)Yes. Quarantines services are pure public goods because as they do not
directly benefit the person who is infected or owner of the animal which are
carrying an infectious disease and do not exclude the other people from taking
the benefit of this service.
iv) Yes. The enjoyment the Great Wall provides to the people who come to see
it is neither excludable nor rival.
v) No. Benefit of using the contact lens can be enjoyed by only those who use it.
It is possible to prevent some from using it so it is excludable. One per uses
contact lens another cannot use the same contact lens so it is rival in nature
Question 2
a) A commodity is normal good if income elasticity of demand (YED) is
positive and inferior if YED is negative. A normal good can be further classified
as a necessity if YED is less than one and as luxury if YED is greater than one.
In this example pre recorded compact disk is luxury and cabinet makers work is
necessity. Impact of recession will be more on pre recorded compact disk
because 10% fall in consumer income lead to 50% reduction in its demand. In
the case of cabinet maker’s work 10% fall will lead to 5% fall in its demand.
b) We can use cross elasticity of demand to determine whether the pre-recorded
music compact discs and MP3 music players are in competition with each other.
Cross price elasticity of demand is the percentage change in the quantity
purchased of a commodity divided by the percentage change in the price of
another commodity. If cross price elasticity of demand for the pre-recorded
music compact discs and MP3 music players is positive both are substitutes
because a change price of one commodity lead to change in the demand of the
other...