Economic Principles

This document provides study material and solved assignments on Economic Principles. It covers topics such as absolute advantage, opportunity cost, demand and supply, equilibrium, and factors affecting avocado prices.

Running head: ECONOMIC PRINCIPLES
Economic Principles
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1ECONOMIC PRINCIPLES
Table of Contents
Question 1..................................................................................................................................2
Question 2..................................................................................................................................2
Question 3..................................................................................................................................3
Question 4..................................................................................................................................3
Question 5..................................................................................................................................4
Question 6..................................................................................................................................5
References..................................................................................................................................7

2ECONOMIC PRINCIPLES
Question 1
Absolute advantage refers to the ability of a nation to produce a particular good or
service more efficiently (at a lower absolute cost) compared to others (Feenstra 2015). From
the given table, it is seen that in order to produce 1 motorcycle Australia needs 15 labor hours
while Ireland needs only hours. Ireland therefore has an absolute advantage in producing
Motorcycle. Australia in contrast has an absolute advantage in producing guitar as it requires
less labor hours (3 hours < 6 hours) to produce 1 Guitar.
Question 2
Opportunity cost is defined as an economic term implying the value of what is given
up in order to make some other choices (Viner 2016).
Opportunity cost One Motorcycle One Guitar
Australia 15/3 = 5 3/15 = 0.2
Ireland 9/6 = 1.5 6/9 = 0.67
The opportunity cost of producing one motorcycle in Ireland is (9/6) = 1.5 guitar.
Ireland needs 6 labor hours for producing one guitar while 9 labor labors for producing 1
motorcycle. Therefore, to produce 1 motorcycle Ireland needs to sacrifice 1.5 units if guitar.
The opportunity cost of one motorcycle in Australia is (15/3) = 5 guitars. This is because
using 15 labor hours (cost of one motorcycle) Australia can produce 5 guitars.

3ECONOMIC PRINCIPLES
Question 3
400 500 600 700 800 900 1000 1100 1200
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Demand, Supply and Equilibrium
Quantity demanded
Quantity supplied
Quantity
Price
Figure 1: Demand, Supply and Equilibrium for Boost Juice
The equilibrium price of Boost juice is $12 and equilibrium quantity of drinks are
600. Equilibrium in a market takes place corresponding to a point where demand equals
supply (Cowell 2018). For the equilibrium price of $12, quantity demanded of Boost juice
equals that of the quantity supplied of Boost juice indicating equilibrium point in the market.
Question 4
At any price above or below equilibrium price, there exists either shortage or surplus
in the market. The initial price of $20 is above the equilibrium price. The higher price
encourages suppliers to supply more because of a higher profitability. The quantity supplied
in the market then increases to 800. Following law of demand, an increase in price reduces
quantity demanded of a good and vice versa (Baumol and Blinder 2015). As price increases
to $20, the quantity demanded of Boost reduces to 200. Therefore, at price $20, quantity
supplied of Boost juice exceeds that of the quantity demanded. In the market, there exists an
excess supply or surplus of (800 – 200) = 600 Boost juice.

4ECONOMIC PRINCIPLES
Question 5
Figure 2: Effect of a decline in price of water
For the market for water tanks, water is the complementary good of water tanks. In
case of complementary good, an increase in price of the good reduces demand for the
complementary goods and vice-versa. If the price of water was to fall, then demand for water
increases. This in turn increases the demand for water tanks. The increase in demand for
water tanks causes a rightward shift the demand curve to the right. The expansion in demand
results in an increase in both equilibrium price and equilibrium quantity (Cowen and
Tabarrok 2015). This is explained in the above figure. The initial equilibrium point is at E. As
price of water falls, the demand for water tanks increase that shifts the demand curve from
DD to D1D1. Consequently, equilibrium point shifts from E to E1. The new equilibrium price is
set at P2 while the new equilibrium quantity is set at Q2.

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Question 6
One factor contributing to the rising price of avocado is the supply shortfall in the
market. Natural calamities like drought, storms and wildfires in Chile, Mexico and California
hampers avocado production. In California, production of Avocado has declined by 44
percent in 2017. The corresponding decline of harvests in Mexico was recorded to be 20
percent. Another factor causing a disruption in supply is the labor strikes in the country. As
supply fell short of demand, there is an increasing pressure on prices of avocado. This is
shown in the figure below.
Figure 3: Supply shortage and rise in avocado price
The initial equilibrium in the avocado market is at E. Price and quantity in the market
are P* and Q* respectively. A fall in supply of avocado due to drought, storm, wildfires and
labor strikes shift the supply curve inward to S1S1. Equilibrium moves upward to E1. Price
increases to P1 and equilibrium quantity decreases to Q1.
One possible way to avoid higher input cost of the café arising from increasing price of
avocado is to use some cheaper substitute of avocado. Increasing demand for substitute of

6ECONOMIC PRINCIPLES
avocado lowers the demand of it causing an overall reduction in production cost. The lower
production cost helps to increase profitability of the café.
Another way to deal with higher input cost and associated increase in cost of production is to
increase the price of sandwiches (McKenzie and Lee 2016). Higher price helps to recover the
cost and sustain profitability. Higher price however reduces demand. The extent of decline in
demand depends on the price elasticity of demand of sandwiches.

7ECONOMIC PRINCIPLES
References
Baumol, W.J. and Blinder, A.S., 2015. Microeconomics: Principles and policy. Nelson
Education.
Cowell, F., 2018. Microeconomics: principles and analysis. Oxford University Press.
Cowen, T. and Tabarrok, A., 2015. Modern principles of microeconomics. Macmillan
International Higher Education.
Feenstra, R.C., 2015. Advanced international trade: theory and evidence. Princeton
university press.
McKenzie, R.B. and Lee, D.R., 2016. Microeconomics for MBAs: The economic way of
thinking for managers. Cambridge University Press.
Viner, J., 2016. Studies in the theory of international trade. Routledge.