Solution Manual For Microeconomics, Sixteenth Canadian Edition

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INSTRUCTOR’S MANUAL
Christopher T.S. Ragan
McGill University
Microeconomics
Sixteenth Canadian Edition
Christopher T.S. Ragan

Contents
Part One: What Is Economics? 1
Chapter 1: Economic Issues and Concepts 3
Chapter 2: Economic Theories, Data, and Graphs 13
Part Two: An Introduction to Demand and Supply 26
Chapter 3: Demand, Supply, and Price 27
Chapter 4: Elasticity 39
Chapter 5: Price Controls and Market Efficiency 52
Part Three: Consumers and Producers 62
Chapter 6: Consumer Behaviour 63
Chapter 7: Producers in the Short Run 78
Chapter 8: Producers in the Long Run 91
Part Four: Market Structure and Efficiency 100
Chapter 9: Competitive Markets 101
Chapter 10: Monopoly, Cartels, and Price Discrimination 111
Chapter 11: Imperfect Competition and Strategic Behaviour 125
Chapter 12: Economic Efficiency and Public Policy 134
Part Five: Factor Markets 144
Chapter 13: How Factor Markets Work 146
Chapter 14: Labour Markets and Income Inequality 155
Chapter 15: Interest Rates and the Capital Market 167
Part Six: Government in the Market Economy 175
Chapter 16: Market Failures and Government Intervention 177
Chapter 17: The Economics of Environmental Protection 188
Chapter 18: Taxation and Public Expenditure 200
Part Twelve: Canada in the Global Economy 335
Chapter 32: The Gains from International Trade 336
Chapter 33: Trade Policy 345

________________________________________
Part One
What Is Economics?
________________________________________
This opening Part of the book provides an introduction to economics. The central themes of
Chapter 1 are scarcity, choice, opportunity cost, and the self-organizing role of markets. The
chapter also examines the gains from specialization and trade, the role of money, the effects of
globalization, and ends with a discussion of the various types of economic systems. Chapter 2
examines how economists build their models and test their theories. It also addresses central
methodological issues, the most important being the idea that the progress of economics (like all
scientific disciplines) depends on relating our theories to what we observe in the world around us.
Finally, the chapter has an extensive section on graphing.
***
Chapter 1 opens with a brief tour of some key economic issues in Canada and other countries—
from rising protectionism and the dangers of climate change to accelerating technological change
and growing income inequality. The purpose is to whet the reader’s appetite for the kinds of issues
economists are thinking about today. This offers a natural segue to the discussion of scarcity,
without which few of these issues would be very interesting. The chapter addresses the
fundamental concepts of scarcity, choice, and opportunity cost, illustrating these ideas with a
production possibilities boundary. (It is worth noting that these concepts are relevant to all
economies, whether they are organized by central planning or by free markets.) We then examine
the complexity of modern market economies, examining the decision makers, production, trade,
money, and globalization. Finally, we examine different types of economic systems, including
traditional, command, and free-market systems. We emphasize that all actual economies are
mixtures, containing elements of all three pure systems.
Chapter 2 provides a longer introduction to the methodological issues of economics than is
usually included in introductory texts. We do this because most students believe that the scientific
method is limited to the natural sciences. But to appreciate economics, they must understand that its
theories are also open to empirical testing and that these theories continually change as a result of
what the empirical evidence shows. We understand that some instructors feel their time is so
limited that they cannot spend class time on Chapter 2. We believe that even if it is not covered in
class, students’ attention should be called to the issues addressed in the chapter. Our experience is
that students benefit from some discussion of the scientific method and from the insight that the
social sciences are not all that different from the “hard” sciences, at least in their basic approaches.

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Instructor’s Manual for Ragan, Economics, Sixteenth Canadian Edition2
The chapter begins by making the distinction between positive and normative statements. We then
work carefully through the various elements of economic theories, including definitions,
assumptions, and predictions. Testing theories is as important as developing them, so we emphasize
the interaction between theorizing and empirical observation. We then present various types of
economic data, and this gets us into a detailed discussion of index numbers, time-series and cross-
section data, and graphs. The final section of the chapter goes through graphing in detail.

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Chapter 1: Economic Issues and Concepts 3
_______________________________________
Chapter 1: Economic Issues and Concepts
_______________________________________
This chapter is in three main sections, after a short introductory mention of some key economic
issues of the day. The first substantive section develops the concepts of scarcity, choice, and
opportunity cost. To ensure the student really understands what opportunity cost is all about, we
have a box that examines the opportunity cost of a university or college degree. This should be a
familiar example to which students can easily relate. The production possibilities boundary is
then introduced, and it is shown to embody the three key concepts of scarcity, choice and
opportunity cost. Its nature as a frontier between attainable and unattainable is worth stressing, as
is the fact that what is attainable is itself subject to change. Four key economic problems are then
discussed, and each one is expressed in terms of the production possibilities boundary. These
questions give the student an inkling of the types of questions addressed both in microeconomics
and in macroeconomics.
The chapter’s second section examines the complexity of modern economies, asking why
the things we want to purchase are almost always available. What produces this remarkable
coordination? We discuss the market as an instrument that brings order to the economy as a
whole. Along the way, the student is introduced to Adam Smith’s “invisible hand”. The section
also discusses who makes the choices in a market economy, and why incentives matter. We
show the circular flow of income and expenditure as a way of showing the interaction between
consumers and producers. We also examine the nature of maximizing decisions (both utility and
profit), and the importance of decisions at the margin. Finally, on the production side, we
examine the role of specialization, the division of labour, globalization, and the importance of
money in facilitating trade.
The chapter’s third and final section deals with comparative economic systems. Students
will read in almost every chapter of this book about a market economy. Contrasting it with
planned and traditional economies is a good way to gain some insight into the concept at the
outset. We emphasize that actual economies are rarely, if ever, well represented by the extremes;
instead, actual economies are mixed economies, with varying degrees of government ownership
and planning. Students are introduced to Karl Marx’s argument for a centrally planned economy.
While Marx had many things right, we argue that central planning has not been successful in
proving itself as an efficient way of organizing an economy, allocating resources, or generating
prosperity for a large fraction of the population.

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Instructor’s Manual for Ragan, Economics, Sixteenth Canadian Edition4
Answers to Study Exercises
Fill-in-the-Blank Questions
Question 1
a) land, labour, capital; factors
b) opportunity cost
c) production possibilities boundary
d) scarcity (because points outside the boundary are unattainable); downward (or negative); the
opportunity cost associated with any choice
e) constant; increasing
f) increases (meaning that more units of good B must be given up to get an extra unit of good A)
Question 2
a) self; self-interest
b) incentives created by market prices
c) firms; households; governments
d) increase (maximize); increase (maximize)
e) margin; (marginal) cost
Question 3
a) division; specialization
b) trade
c) money
d) globalization

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Chapter 1: Economic Issues and Concepts 5
Review Questions
Question 4
Any realistic production possibilities boundary displays scarcity, the need for choice, and
opportunity cost.
Scarcity: The production possibilities boundary (PPB) separates attainable combinations of
goods from those that are unattainable. Thus scarcity is shown by the existence of some
unattainable bundles of goods.
Choice: Because of scarcity, societies must somehow choose how resources are to be allocated;
thus a particular point on the PPB must be chosen.
Opportunity Cost: The slope of the PPB is negative, revealing the opportunity cost that is
unavoidable every time a choice is made. For the economy as a whole, the decision to produce
more of one good must involve a decision to produce less of some other good.
Question 5
Consider any country’s production possibilities boundary, and suppose the two products are X
and Y. A technological improvement in industry X shifts the PPB out (along the X axis),
increasing the maximum amount of X that can be produced. Note that the maximum amount of
Y that can be produced has not changed. But since the PPB has shifted out, there are many
combinations of both goods that are now available that were not before, and some of these
involve producing more of both goods. Thus, even though the technology for producing Y has
not changed, the technological improvement in X does allow the country to choose to produce
more of both products.
Question 6
The central ideas illustrated by the two-good version of the production possibilities boundary
(PPB) are scarcity, choice, and opportunity cost. Exactly the same ideas can be illustrated in a
more realistic three-good version of the model, which is more complicated to draw, or by the much
more realistic N-good version of the model (with N  4), which is impossible to draw. Thus the
assumption of only two goods is merely a simplifying one: it allows us to easily grasp and illustrate
some central points that would be more difficult to understand in the more general N-good case.
Question 7
a) If all Canadian families had $80,000 of after-tax income (roughly the Canadian average), it
would be difficult to say that real poverty existed in Canada. At this level of income, all families
would easily have enough income to provide the essentials of food, shelter, and clothing, and
could also have much beyond these essentials. However, there would still be many things that

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Instructor’s Manual for Ragan, Economics, Sixteenth Canadian Edition6
these families could not afford, such as expensive university education, expensive vacations, a
cottage in the country, etc. Defining poverty with any precision is difficult, and we will say more
about this in Chapter 18.
b) Would scarcity exist in such a setting? Yes, certainly. By scarcity we mean simply an excess
of wants over the resources available to satisfy those wants. And scarcity would exist for each of
those families because most (if not all) of them would still desire to have more than they actually
had.
c) Scarcity is an excess of wants over the resources available to satisfy those wants. Poverty—at
least in its “absolute form”—is concerned with a level of resources below some threshold of
sufficiency. One can conceivably eliminate poverty, as in part (a), but that would not eliminate
scarcity.
Question 8
Microeconomics is the study of the allocation of resources within and across individual markets,
and the determination of relative prices and quantities in those specific markets. Little or no
attention is paid to the behaviour of the aggregate economy. Macroeconomics is the study of the
determination of aggregates such as aggregate output, employment, the price level, the
unemployment rate, and the exchange rate. When doing macroeconomics, little or no attention is
paid to what is going on in the individual markets for specific products.
Question 9
In the answers that follow, note that the statements are made ceteris paribus. In other words, the
predicted result of a change in some specific price is made under the assumption that nothing
else changes.
a) As the price of ski-lift tickets rises, you are likely to substitute toward other leisure activities
(whose price has not increased) and thus reduce your purchases of ski-lift tickets.
b) As the hourly wage for your weekend job rises, the opportunity cost of not working rises. So
you are more likely than before to decide not to go skiing, and to work instead.
c) As the fine for speeding rises, the cost of being caught speeding clearly increases. The benefit
of driving over the speed limit is presumably unchanged, however. So an increase in the value of
speeding tickets is likely to cause you to reduce your speed (and to watch more carefully for
hidden police cars!).
d) The higher the weight placed on the assignment, the greater is the incentive for you to work
hard on that assignment (and thus hopefully receive a higher grade on the assignment and on the
course). This is one obvious reason why professors like to put significant weight on midterm
exams – to get students to work hard early in the course rather than leaving all the work to the
few days before the final exam!

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Chapter 1: Economic Issues and Concepts 7
e) As tuition fees for one specific institution increase, you are likely to substitute toward other
institutions whose fees have not increased, and thus reduce your desire to attend the first
institution. (For small changes in tuition fees, this effect may be very small because of the
perceived large differences between some educational institutions.)
Question 10
There are two reasons why the specialization of labour is more efficient than self-sufficiency.
First, since individual abilities differ, specializing allows each person to focus their energies on
what they do best, leaving everything else to be done by others. As a result, total output will rise.
Second, as people specialize, they often “learn by doing” and become even better at their specific
task. Thus specialization often leads to improvements in ability that would not otherwise occur.
Question 11
The market for doctors’ services depends heavily on the specialization of labour. A person with
back pain will not know what is wrong. They go to a general practitioner (GP) who is somewhat
familiar with a broad range of symptoms and illnesses. The GP may rule out the simplest possible
causes for the pain, and in the process determine that the patient requires the services of a
specialist who diagnoses and treats the patient’s back. The patient is referred to this specialist who
may diagnose a ruptured disk and perform the delicate surgery necessary to solve the problem.
Given this reliance on specialization, the market depends on having relatively more GPs who see
a large number of patients and act as “gatekeepers” for patients to the more specific specialists.
Question 12
Traditional systems: Behaviour is based primarily on tradition, custom, and habit.
Command systems: Decisions about production and consumption are determined by a central
planning authority.
Free-market systems: Production and consumption decisions are made privately, by decentralized
producers and consumers.
Mixed systems: These economic systems contain elements of tradition, command, and free
markets.
Question 13
This quote, if put to a group of students, would stimulate much interesting discussion, not only
about views on how alternative economic systems work, but also about the words used to describe
them. The term planned economy, for example, describes the conscious use of centralized decision
making for key economic decisions, but the results of that process often look anything but planned,
with shortages in some sectors, surpluses in others, and often a rather dispirited and unmotivated

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Instructor’s Manual for Ragan, Economics, Sixteenth Canadian Edition8
private sector. On the other hand, the unplanned decentralized market economy––though surely
not perfect––creates a much more orderly looking set of outcomes.
Problems
Question 14
In general, the opportunity cost (measured in dollars) for any activity includes three things:
• the direct (dollar) cost of the activity, plus
• the dollar value of whatever you give up in order to do the activity, minus
• whatever dollar “savings” the activity generates
In this case, the direct cost of transportation, lift tickets and accommodation of $300 is definitely
included. The income of $120 that you give up also counts. Finally, we must deal with the
restaurant meals of $75. Surely you would have eaten some food even if you hadn’t gone skiing,
so the full $75 is not included. But given the relatively high price of restaurant meals compared
to buying your own groceries, you will probably include most of the $75. Thus the opportunity
cost of the ski trip is $420 plus some (large) fraction of the $75.
Question 15
a) The budget line is shown below. If all $240,000 is spent on ATVs, you could purchase 30 of
them; if all the money is spent on snowmobiles, you could purchase 20 of them. The downward
sloping line divides the attainable from the unattainable combinations of ATVs and
snowmobiles.
b) The opportunity cost of one ATV is the number of snowmobiles that must be given up to
purchase an additional ATV. Since each ATV costs $8000 and each snowmobile costs $12000,
the opportunity cost of one ATV is 2/3 of a snowmobile.
c) The opportunity cost of one snowmobile is the number of ATVs that must be given up to
purchase an additional snowmobile. It is equal to 1.5 ATVs. Note that the opportunity cost of an

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Chapter 1: Economic Issues and Concepts 9
ATV (in terms of forgone snowmobiles) is the inverse of the opportunity cost of a snowmobile
(in terms of forgone ATVs).
d) In this case, the prices of ATVs and snowmobiles are independent of how many are
purchased. This fact is reflected by the budget line being linear (of constant slope). So both of
the opportunity costs are independent of how many are purchased.
Question 16
In each scenario, one could choose to plot the production possibilities boundary, where the two
numbers provided are the two intercepts along the two axes. The slope of the boundary would
show the opportunity cost of each door (or each window). Alternatively, one can compare the
two maximum values, as provided in the question.
a) The factory could produce either 1000 windows or 250 doors (or many intermediate
combinations). In order to produce one extra door, it must give up 4 (=1000/250) windows. In
other words, the opportunity cost of one extra door is 4 windows.
b) The opportunity cost of one extra door is 1 window (=500/500).
c) The opportunity cost of one extra door is 3 windows (=1200/400).
d) The opportunity cost of one extra door is 1.35 windows (=942/697).
e) The opportunity cost of one extra door is 1.33 windows (=600/450).
Question 17
This question is good for forcing students to think through the computation of opportunity cost
and also in showing how the allocation of labour in particular ways can maximize total output.
a) You can catch 6 fish or collect 3 bundles of firewood in one day’s work. Thus, your
opportunity cost of one additional bundle of firewood is 2 fish. For your friend, the opportunity
cost of one additional bundle of firewood is 4 fish.
b) To allocate tasks in the output-maximizing way, each person should do the task for which they
have the lower opportunity cost. You have the lower opportunity cost of collecting firewood.
Your friend has the lower opportunity cost of catching fish (0.25 of a bundle for your friend as
compared to 0.5 of a bundle for you). So for the two of you to collectively maximize output you
should specialize in collecting firewood and your friend should specialize in catching fish.
c) What is the total amount of output after two days, if you allocate labour as in part (b)? In two
days, you would collect 6 bundles of firewood and your friend would catch 16 fish. The reverse
pattern of specialization would yield only 4 bundles of firewood and 12 fish, which is clearly
inferior.

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Instructor’s Manual for Ragan, Economics, Sixteenth Canadian Edition10
Question 18
a) At point A, 2.5 tonnes of clothing and 3 tonnes of food are being produced per year. At point
B, annual production is 2.5 tonnes of clothing and 7 tonnes of food. At point C, annual
production is 6.5 tonnes of clothing and 3 tonnes of food.
b) At point A the economy is either using its resources inefficiently or it is not using all of its
available resources. Point B and C represent full and efficient use of available resources because
they are on the PPB.
c) At point B, the opportunity cost of producing one more tonne of food (and increase from 7 to
8) is the 2.5 tonnes of clothing that must be given up. The opportunity cost of producing one
more tonne of clothing (from 2.5 to 3.5) appears, from the graph, to be approximately 0.75
tonnes of food that must be given up.
d) Point D is unattainable given the economy’s current technology and resources. Point D can
become attainable with a sufficient improvement in technology or increase in available
resources.
Question 19
a) As the table shows, there are only 250 workers in Choiceland, and to construct the production
possibilities boundary (PPB) we must imagine all the combinations of workers in each sector.
Using the two middle columns from the table, we can plot the output levels on a graph to get the
following PPB:
b) If the economy is already producing 45 units of X and 900 units of Y, then 15 extra units of X
can only be produced by reducing the production of Y by 300 units. The opportunity cost of 15
units of X is therefore 300 units of Y (or 300/15 = 20 units of Y per unit of X). If the economy is
already producing 60 units of X (and 600 units of Y), the opportunity cost of producing an
additional 15 units of X is the full 600 units of Y that must be given up. This implies an

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Chapter 1: Economic Issues and Concepts 11
opportunity cost of 600/15 = 40 units of Y per extra unit of X. Thus, we see that the opportunity
cost of X rises when more of X is already being produced.
c) If the economy is producing 40 units of X and 600 units of Y, then either some resources are
not being used or they are being used inefficiently; the economy is operating inside the
production possibilities boundary. It would thus be possible to improve the use of resources and
increase output of X by 20 units without reducing the output of Y at all. In this sense, the extra
output of X has no opportunity cost in terms of forgone units of Y.
d) If any given amount of labour can now produce 10 percent more of good Y, then the PPB
shifts up in a particular way. Specifically, the Y values increase by 10 percent for any given X
value, as shown below.
Question 20
a) It doesn’t matter how the two axes are labelled in this case; just label them X and Y. The long
civil war destroys much of the country’s infrastructure and likely reduces the country’s ability to
produce all products. So the PPB shifts inwards, as shown below in part (a) of the figure.
b) The axes are now labelled Food and Clothing. The new technology doubles the maximum
amount of food that can be produced, and so shifts the PPB outward in the manner shown in
part (b) of the figure. Note that the vertical intercept (maximum amount of clothing) does not
change.
c) The axes are again labelled Food and Clothing, as in part (c). In this situation, the earthquake
destroys many clothing factories and so shifts the PPB inward, reducing the maximum possible
amount of clothing (but leaving unaffected the maximum possible amount of food).

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Instructor’s Manual for Ragan, Economics, Sixteenth Canadian Edition12
d) The axes are labelled X and Y, as shown in part (d) of the figure. The immigration increases
the labour force and increases the country’s ability to produce all products. The PPB shifts
outward, increasing the maximum possible amounts of both X and Y. Since the new level of
immigration is occurring each year, every year will see such an outward shift in the PPB.
*****

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______________________________________________
Chapter 2: Economic Theories, Data, and Graphs
______________________________________________
This chapter provides an introduction to the methods economists use in their research. We integrate
a detailed discussion of graphing into our discussion of how economists present economic data and
how they test economic theories.
In our experience, students typically do not learn enough about the connection between
theory and evidence, and how both are central to understanding economic phenomena. We
therefore recommend that considerable emphasis be placed on Figure 2-1, illustrating the process of
going from model building to generating hypotheses to confronting data and testing hypotheses,
and then returning to model building (or rebuilding). There is no real beginning or end to this
process, so it is difficult to call economics an entirely “theory driven” or “data driven” discipline.
Without the theory and models, we don’t know what to look for in the data; but without
experiencing the world around us, we can’t build sensible models of human behaviour and
interaction through markets. The scientific approach in economics, as in the “hard” sciences,
involves a close relationship between theory and evidence.
***
The chapter is divided into four major sections. In the first section, we make the important
distinction between positive and normative statements and advice. Students must understand this
distinction, and that the progress of any scientific discipline relies on researchers’ ability to
separate what evidence suggests is true from what they would like to be true. We conclude this
section by explaining why economists are often seen to disagree even though there is a great deal
of agreement among them on many specific issues. This leads to a box on where economists
typically get jobs and the kind of work they often do.
The second section explains the elements of economic theories and how they are tested.
We emphasise how a theory’s or model’s definitions and assumptions lead, through a process of
logical deduction, to a set of conditional predictions. We then examine the testing of theories. It
is here that we focus on the interaction of theory and empirical observation (Figure 2-1). We
emphasize the importance of the distinction between correlation and causation, with a simple
example.
The chapter’s third section deals with economic data. We begin by explaining the
construction of index numbers, and we use them to compare the volatility of two sample time
series. Index numbers are so pervasive in discussions of economic magnitudes that students must
know what these are and how they are constructed. We then make the distinction between cross-
sectional and time-series data, and at this point students are introduced to two types of graph.

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Instructor’s Manual for Ragan, Economics, Sixteenth Canadian Edition14
This brings us to the chapter’s final section, on graphing. We show how a relation can be
expressed in words, in a table, in an equation, or on a graph. We then go into considerable detail
on linear functions, slope, non-linear functions, and functions with minima and maxima. In this
discussion, the student is introduced to the concept of the margin, described as the change in Y in
response to a one-unit change in X. In all cases, the graphs apply to real-world situations rather
than abstract variables. Pollution abatement, hockey-stick production, firm profits, and fuel
consumption are our main examples.
Answers to Study Exercises
Fill-in-the-Blank Questions
Question 1
a) models (or theories)
b) endogenous; exogenous
c) (conditional) prediction; empirical
d) (positively) correlated; causal
e) self-interest; utility; profits
Question 2
a) index; relative
b) absolute value of the price; absolute value of the price
c) cross-section
d) scatter
e) time-series

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Chapter 2: Economic Theories, Data, and Graphs 15
Question 3
a) Y/X
b) 500; positively; 4
c) 12; negatively; -0.2
d) tangent
e) zero; zero
Review Questions
Question 4
a) normative (“The government should impose…” is inherently a value judgement.)
b) positive (In principle, we could determine the impact that foreign aid actually has.)
c) positive (In principle, we could determine the extent to which fee increases affect access.)
d) normative (What is or is not unfair is clearly based on a value judgement.)
e) normative (Use of the expression “too much” is a value judgement.)
Question 5
a) In the Canadian wheat sector, the amount of rainfall on the Canadian prairies is an exogenous
variable; the amount of wheat produced is an endogenous variable.
b) To the Canadian market for coffee, the world price of coffee is exogenous; the price of a cup
of coffee at Tim Horton’s is endogenous.
c) To any individual student, the widespread unavailability of student loans is exogenous; their
own attendance at university or college is endogenous.
d) To any individual driver, the tax on gasoline is exogenous; his or her own decision regarding
which vehicle to purchase is endogenous.
Question 6
The observed correlation cannot lead to a certain inference about causality. It is consistent with
the theory that the increase in demand for homes leads to an increase in the price of lumber
(which is generally a pretty sensible theory!), but it is also consistent with a different theory – one
in which some unobserved factor leads to both the increase in demand for homes and separately
to the increase in the price of lumber. Correlation does not imply causality!

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Instructor’s Manual for Ragan, Economics, Sixteenth Canadian Edition16
Problems
Question 7
a) Using 2009 as the base year means that we choose $85 as the base price. We thus divide the
actual prices in all years by $85 and then multiply by 100. In this way, we will determine, in
percentage terms, how prices in other years differ from prices in 2009. The index values are as
follows:
Year Price ($) Physics textbook price index
2009 85 (85/85)  100 = 100
2010 87 (87/85)  100 = 102.4
2011 94 (94/85)  100 = 110.6
2012 104 (104/85)  100 = 122.4
2013 110 (110/85)  100 = 129.4
2014 112 (112/85)  100 = 131.8
2015 120 (120/85)  100 = 141.2
2016 125 (125/85)  100 = 147.1
2017 127 (127/85)  100 = 149.4
2018 127 (127/85)  100 = 149.4
2019 130 (130/85) × 100 = 152.9
b) The price index in 2014 is 131.8, meaning that the price of the physics textbook is 31.8 percent
higher in 2014 than in the base year, 2009.
c) From 2016 to 2019, the price index increases from 147.1 to 152.9⎯but this is not an increase
of 5.8 percent. The percentage increase in the price index from 2016 to 2019 is equal to [(152.9-
147.1)/147.1]×100 = 3.94 percent.
d) These are time-series data because the data are for the same product at the same place but at
different points in time.
Question 8
a) Using Calgary as the “base university” means that we choose $6.25 as the base price. Thus we
divide all actual prices by $6.25 and then multiply by 100. In this way, we will determine, in
percentage terms, how prices at other universities differ from Calgary prices. The index values
are as follows:

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Chapter 2: Economic Theories, Data, and Graphs 17
University Price per pizza Index of pizza prices
Dalhousie $6.50 (6.50/6.25)100 = 104
Laval 5.95 (5.95/6.25)100 = 95.2
McGill 6.00 (6.00/6.25)100 = 96
Queen’s 8.00 (8.00/6.25)100 = 128
Waterloo 7.50 (7.50/6.25)100 = 120
Manitoba 5.50 (5.50/6.25)100 = 88
Saskatchewan 5.75 (5.75/6.25)100 = 92
Calgary 6.25 (6.25/6.25)100 = 100
UBC 7.25 (7.25/6.25)100 = 116
Victoria 7.00 (7.00/6.25)100 = 112
b) The university with the most expensive pizza is Queen’s, at $8.00 per pizza. The index value
for Queen’s is 128, indicating that pizza there is 28 percent more expensive than at Calgary.
c) The university with the least expensive pizza is Manitoba, at $5.50 per pizza. The index value
for Manitoba is 88, indicating that the price of pizza there is only 88 percent of the price at
Calgary. It is therefore 12 percent cheaper than at Calgary.
d) These are cross-sectional data. The variable is the price of pizza, collected at different places at
a given point in time (March 1, 2016). If the data had been the prices of pizza at a single
university at various points in time, they would be time-series data.
Question 9
a) Using 2012 as the base year for an index number requires that we divide the value of exports
(and imports) in each year by the value in 2012, and then multiply the result by 100. This is done
in the table below.
Year Exports Export Index Imports Import Index
2012 11225 (11225/11225)(100) = 100 3706 (3706/3706)(100) = 100
2013 11687 (11687/11225)(100) = 104.1 3550 (3550/3706)(100) = 95.8
2014 11821 (11821/11225)(100) = 105.3 3262 (3262/3706)(100) = 88.0
2015 12219 (12219/11225)(100) = 108.9 3447 (3447/3706)(100) = 93.0
2016 12507 (12507/11225)(100) = 111.4 3659 (3659/3706)(100) = 98.7
b) It appears that imports were more volatile over this period than exports. Imports fell by about
12 percent in the first two years, and then increased by about 10 percent in the next two. In
contrast, exports increased fairly steadily, by a total of over 11 percent over the five years.

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Instructor’s Manual for Ragan, Economics, Sixteenth Canadian Edition18
c) From 2014 to 2016, the export index increases from 105.3 to 111.4. The percentage change is
equal to (111.4 – 105.3)/105.3 which is 5.8 percent. For imports the percentage change is (98.7 -
88.0)/88.0 which is 12.2 percent.
Question 10
This is a good question to make sure students understand the importance of using weighted
averages rather than simple averages in some situations.
a) The simple average of the three regional unemployment rates is equal to (5.5 + 7.2 + 12.5)/3 =
8.4. Is 8.4% the “right” unemployment rate for the country as a whole? The answer is no because
this simple, unweighted (or, more correctly, equally weighted) average does not account for the
fact that the Centre is much larger in terms of the labour force than either the West or East, and
thus should be given more weight than the other two regions.
b) To solve this problem, we construct a weighted average unemployment rate. We do so by
constructing a weight for each region equal to that region’s share in the total labour force. From
the data provided, the country’s total labour force is 17.2 million (5.3 + 8.4 + 3.5). The three
weights are therefore:
West: weight = 5.3/17.2 = 0.308
Centre: weight = 8.4/17.2 = 0.488
East: weight = 3.5/17.2 = 0.203
These weights should sum exactly to 1.0, but due to rounding they do not quite do so. Using
these weights, we now construct the average unemployment rate as the weighted sum of the three
regional unemployment rates.
Canadian weighted unemployment rate = (.308  5.5) + (.488  7.2) + (.203  12.5) = 7.75
This is a better measure of the Canadian unemployment rate because it correctly weights each
region’s influence in the national total. Keep in mind, however, that for many situations the
relevant unemployment rate for an individual or a firm may be the more local one rather than the
national average.
Question 11
a) These data are best illustrated with a time-series graph, with the month shown on the
horizontal axis and the exchange rate shown on the vertical axis.

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Instructor’s Manual for Ragan, Economics, Sixteenth Canadian Edition20
Question 12
a) Along Line A, Y falls as X rises; thus the slope of Line A is negative. For Line B, the value of
Y rises as X rises; thus the slope of Line B is positive.
b) Along Line A, the change in Y is –4 when the change in X is 6. Thus the slope of Line A is
ΔY/ΔX = -4/6 = -2/3. The equation for Line A is:
Y = 4 – (2/3)X
c) Along Line B, the change in Y is 7 when the change in X is 6. Thus the slope of Line B is
ΔY/ΔX = 7/6. The equation for Line B is:
Y = 0 + (7/6)X
Question 13
Given the tax-revenue function T = 10 + .25Y, the plotted curve will have a vertical intercept of
10 and a slope of 0.25. The interpretation is that when Y is zero, tax revenue will be $10 billion.
And for every increase in Y of $100 billion, tax revenue will rise by $25 billion. The diagram is
as shown below:

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Chapter 2: Economic Theories, Data, and Graphs 21
Question 14
a) The slope of the straight line connecting two points is equal to the change in Y between the
points divided by the change in X between the points. In this case, the change in Y from the first
point to the second is 3; the change in X is 9. Thus the slope of the straight line is 3/9 = 1/3.
b) From point A to point B, the change in Y is 20 and the change in X is -10. Thus the slope of
the straight line is -20/10 = -2.
c) The slope of the function is the change in Y brought about by a one-unit change in X, which is
given by the coefficient on X, -0.5.
d) The slope of the function is the change in Y brought about by a one-unit change in X, which is
given by the coefficient on X, 6.5.
e) The slope of the function is the change in Y brought about by a one-unit change in X, which is
given by the coefficient on X, 3.2.
f) The Y intercept of a function is the value of Y when X equals 0. In this case the Y intercept is
1000.
g) The Y intercept of a function is the value of Y when X equals 0. In this case the Y intercept is
- 100.
h) The X intercept of a function (if it exists) is the value of X when Y equals 0. In this case, when
Y equals 0 we have the equation 0 = 10 – 0.1X which yields -10 = -0.1X which gives us X = 100.

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Instructor’s Manual for Ragan, Economics, Sixteenth Canadian Edition22
Question 15
Let A be the firm’s annual spending on advertising and let R be the firm’s annual revenues. The
equation for advertising (A) as a function of revenues (R) is A = 100,000 + (0.15)R.
Question 16
a) For each relation, plot the values of Y for each value of X. Construct the following table:
(i) Y = 50 + 2X (ii) Y = 50 + 2X + .05X2 (iii) Y = 50 + 2X - .05X2
X Y X Y X Y
0 50 0 50 0 50
10 70 10 75 10 65
20 90 20 110 20 70
30 110 30 155 30 65
40 130 40 210 40 50
50 150 50 275 50 25
Now plot these values on scale diagrams, as shown below. Notice the different vertical scale on
the three different diagrams.
b) For part (i), the slope is positive and constant and equal to 2. For each 10-unit increase in X,
there is an increase in Y of 20 units. For part (ii), the slope is always positive since an increase in
X always leads to an increase in Y. But the slope is not constant. As the value of X increases, the
slope of the line also increases. For part (iii), the slope is positive at low levels of X. But the
function reaches a maximum at X=20, after which the slope becomes negative. Furthermore,

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Chapter 2: Economic Theories, Data, and Graphs 23
when X is greater than 20, the slope of the line becomes more negative (steeper) as the value of X
increases.
c) For part (i), the marginal response of Y to a change in X is constant and equal to 2. This is the
slope of the line. In part (ii), the marginal response of Y to a change in X is always positive, but
the marginal response increases as the value of X increases. This is why the line gets steeper as X
increases. For part (iii), the marginal response of Y to a change in X is positive at low levels of X.
But after X=20, the marginal response becomes negative. Hence the slope of the line switches
from positive to negative. Note that for values of X further away from X=20, the marginal
response of Y to a change in X is larger in absolute value. That is, the curve flattens out as we
approach X=20 and becomes steeper as we move away (in either direction) from X=20.
Question 17
The four scale diagrams are shown on the next page, each with different vertical scales. In each
case, the slope of the line is equal to
Y/
X, which is often referred to as “the rise over the run” –
the amount by which Y changes when X increases by one unit. (For those students who know
calculus, the slope of each curve is also equal to the derivative of Y with respect to X, which for
these curves is given by the coefficient on X in each equation.)
Question 18
The six required diagrams are shown below. Note that we have not provided specific units on the
axes. For the first three figures, the tax system provides good examples. In each case, think of
earned income as being shown along the horizontal axis and taxes paid shown along the vertical
axis. The first diagram might show a progressive income-tax system where the marginal tax rate

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Instructor’s Manual for Ragan, Economics, Sixteenth Canadian Edition24
rises as income rises. The second diagram shows a proportional system with a constant marginal
tax rate. The third diagram shows marginal tax rates falling as income rises, even though total tax
paid still rises as income rises.
For the second set of three diagrams, imagine the relationship between the number of
rounds of golf played (along the horizontal axis) and the golf score one achieves (along the
vertical axis). In all three diagrams the golf score falls (improves) as one golfs more times. In the
first diagram, the more one golfs the more one improves on each successive round played. In the
second diagram, the rate of improvement is constant. In the third diagram, the rate of
improvement diminishes as the number of rounds played increases. The actual relationship
probably has bits of all three parts—presumably there is a lower limit to one’s score so eventually
the curve must flatten out.
Question 19
a) The slope of any curve at any point is equal to the slope of a tangent line to that curve at that
point. At point A on the curve shown in the question, the slope of the tangent line is ½ = 0.5, and
hence this is the slope of the curve at point A. For point B, the slope of the tangent line is 1 and
so this is the slope of the curve at point B. For point C, the slope of the tangent line is 2/.5 = 4
and so this is the slope of the curve at point C.
b) The marginal cost of producing good X is shown by the slope of the curve (the change in total
cost as output increases by one unit). The slope is clearly rising as the monthly level of
production rises, showing that marginal cost increases as output increases.

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_______________________________________
Part Two
An Introduction to Demand and Supply
_______________________________________
This Part of the book develops the core of the demand-and-supply apparatus. Chapter 3 presents
the basics, explaining in detail the concepts of demand and supply. Chapter 4 presents a thorough
treatment of elasticity. Chapter 5 offers many examples to help students put this basic economic
theory to use, including an initial and intuitive discussion of economic surplus and market
efficiency.
***
Chapter 3 covers the basic theory of demand, supply, and price. This is the student’s first really
decisive hurdle. When it is cleared, students will have mastered some economic theory and will be
ready to start applying it. A box addresses the kinds of industries where the model of demand and
supply can usefully be applied, and also those where it can’t.
Elasticity, examined in detail in Chapter 4, is a more advanced concept. There is some
disagreement among teachers about how much should be included in an introductory economics
course, but some minimum is required to enable us to discuss the magnitude as well as the
direction of changes in prices and quantities. Since the discussion of the various elasticities tends to
be rather dry, we explore in detail an important situation in which elasticity is central to the
analysis. This is the issue of tax incidence, where we show that the burden of a sales tax depends
on the demand and supply elasticities.
Chapter 5 is designed to illustrate that even the simple demand-and-supply apparatus can
be usefully applied to important current problems. We think it is valuable early in the course to
show that microeconomics does shed insight on such problems. Students like to get a payoff in
understanding from their investment in learning theory, and it is possible to give it to them. The
first section discusses the effects of government-controlled prices. Following a general discussion
of the theory, we go on to examine the specific example of rent controls. We also have a box that
presents the basic analysis of minimum wages as an example of a binding price floor. The
chapter’s final section provides an intuitive introduction to the ideas of economic surplus and
market efficiency, and then uses these concepts to circle back and examine the inefficiency of
legislated price controls.

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___________________________________
Chapter 3: Demand, Supply, and Price
___________________________________
This fundamental chapter is divided into three sections: demand, supply, and price determination.
The first two sections of the chapter are treated with a conscious parallelism. We talk in some
detail about demand here, but virtually identical comments apply to supply.
A point worth emphasizing to the students is that when we think about a demand curve, we
are not asserting that price is the only, or even the most important, determinant of quantity
demanded. Students are introduced to the important distinction between movements along curves
and shifts of curves and the related terminology that distinguishes between “changes in quantity
demanded” and “changes in demand”. Figures 3-3 and 3-4 are designed to clarify this distinction.
The terminology is important and we suggest that you spend some time on it in class. A
mathematician would distinguish between the value of the function and the function itself. We
label a shift in the demand curve as an increase or a decrease in demand, in contrast to movements
from one point to another along a given demand curve, which we label a change in quantity
demanded. Despite our renewed efforts at clarity on these points, students should be alerted to
possible confusions, especially early in their use of the concepts of supply and demand. Careful
attention to context almost always makes clear what is being discussed.
Our use of the expressions “a change in quantity demanded” and “a change in demand”,
although quite orthodox, have given some instructors trouble in the past. It is therefore worthwhile
to spend some time explaining our approach. Since we do not want to teach students things that
they will have to unlearn in their subsequent courses, we follow the established practice of defining
quantity demanded as the dependent variable in the demand function:
Qid = D(pi, p-i, Y, tastes, ...),
with pi being the product’s own price, p-i being a vector of all other prices, and Y being money
income. With this definition, a “change in quantity demanded” occurs in response to a change in
any of the independent variables, not just the product’s own price. Thus a movement along a
demand curve is always a change in the quantity demanded; but a change in quantity demanded is
not necessarily a movement along a demand curve, since it can have causes other than just a
change in the product’s own price.
The demand curve––which is simply the relationship between price and quantity
demanded, ceteris paribus––refers to the relation
Qid = d(pi),
where all of the other independent variables are held constant. A “change in demand” refers to a
shift in this relation due to a change in any one of the variables that are normally being held
constant.

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Instructor’s Manual for Ragan, Economics, Sixteenth Canadian Edition28
Confusion sometimes arises because some textbooks define a change in quantity demanded
to be only a movement along a demand curve. This begs the question of how to describe a change
in Qid when an independent variable other than pi changes. Our usage conforms with common
usage in economics in calling any change in Qid a change in quantity demanded. A movement
along a given demand curve is only one such change.
The final section of this chapter is both straightforward and basic. We begin with a brief
discussion of the concept of a market. We have a box explaining that the demand-and-supply
model can only be used in markets that satisfy some conditions, in particular large numbers of
producers and consumers and more-or-less identical products. We then bring together a market
demand curve and a market supply curve to examine an equilibrium price. The next step is to
introduce the standard shifts of the curves to derive the comparative static predictions, often called
the laws of supply and demand. We have added a worked-out numerical example of a market
equilibrium.
The chapter closes with a brief discussion of “Relative Prices”. The section explains the
importance of relative prices and how, in basic price theory, a “rise” or a “fall” in price means a
rise or a fall relative to all other prices. Our own experience is that it is useful to meet this issue
head on rather than sweeping it under the carpet.
***
A Caveat. Perhaps the biggest mistake that new instructors to a principles course make in
teaching the material of this chapter is to assume that, because it is so basic to them, it can be
covered very quickly. Our experience suggests that this is not the case and that a good deal of
repetition is important. Figures 3-7 and 3-8 are worth developing on the blackboard or on an
overhead, or by using the Powerpoint slides for this text that are available from the publisher. You
may also find it valuable to spend the time necessary to work through a few numerical examples of
market equilibrium similar to the one in the main text or in the Study Exercises.
Answers to Study Exercises
Fill-in-the-Blank Questions
Question 1
a) desired; actual
b) time; time; flow
c) price; quantity demanded; increases
d) consumers’ income; prices of other goods; tastes; population; changes in weather

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