Economics Answer Note #86

Question 1 The people of a certain town have received a donation of GhC1.5m to construct a dam estimated to cost GhC30,000 and tar the stretch of road that connects their village to a vibrant international market. Answer the following questions: 1. What is the opportunity cost of building the dam? 2. What methods are adopted by the USA, Ghana, and Cuba to solve these problems? Answer The opportunity cost of building the dam in this particular scenario would be the alternative use of the GhC1.5m donation. Instead of using it solely for the construction of the dam, the funds could have been allocated to other development projects that would benefit the town. These could include improving the existing infrastructure, investing in education or healthcare, or supporting local businesses. In terms of methods adopted by different countries to solve similar problems, the USA, Ghana, and Cuba have varying approaches. In the USA, public-private partnerships are often used to fund infrastructure projects, where both the government and private companies share the cost and risks involved. Ghana, on the other hand, relies heavily on foreign aid and loans to finance such projects. Cuba, being a socialist country, focuses on state-led initiatives and relies on its own resources for development projects. Question 2 If Good C increases in price by 20% a pound, and this causes the quantity demanded for Good D to increase by 30%, what is the cross-price elasticity of the two goods? Round your answer to one decimal place. What is the relationship between the two goods? Answer According to the given information, there is a relationship between the price of Good C and the quantity demanded for Good D. This relationship can be measured by calculating the cross-price elasticity of the two goods. Cross-price elasticity measures the change in the quantity demanded for one good in response to a change in price of another good. Step-by-step calculation for cross-price elasticity: 1. Calculate the percentage change in price of Good C: 20%. 2. Calculate the percentage change in quantity demanded for Good D: 30%. 3. Substitute the values in the formula for cross-price elasticity: (Change in quantity demanded of Good D / Initial quantity demanded of Good D) / (Change in price of Good C / Initial price of Good C) 4. Rounded to one decimal place, the cross-price elasticity of Good C and Good D is 1.5. Question 3 The people of a certain town have received a donation of GhC1.5m to construct a dam estimated to cost GhC30,000 and tar the stretch of road that connects their village to a vibrant international market. What is the opportunity cost of building the dam? What methods are adopted by the USA, Ghana and Cuba to solve these problems? Answer The opportunity cost of building the dam in this scenario would be the value of the next best alternative that is foregone. In other words, it is the cost of not using the donated funds for the construction of the dam and instead using it for another purpose, such as tarring the road connecting the village to the international market. To calculate the opportunity cost, we first need to determine the value of the next best alternative. In this case, it is the cost of tarring the road, estimated to be GhC30,000. Therefore, the opportunity cost of building the dam would be GhC30,000. Now, let us examine the methods adopted by the USA, Ghana, and Cuba to solve similar problems of resource allocation. The USA, being a developed country, has a robust infrastructure and allocation system in place. One of the main methods used by the USA is cost-benefit analysis (CBA), which evaluates the potential benefits and costs associated with a project before making a decision. In this case, CBA would weigh the benefits of building the dam against the opportunity cost of not tarring the road and determine which option is more economically advantageous. Ghana, being an emerging economy, also follows a similar approach to resource allocation. However, it also takes into consideration the socio-economic impact of projects on the local communities. One method used by Ghana is participatory budgeting, which involves engaging with the local community and stakeholders in the decisionmaking process. This allows for a more inclusive and holistic approach to resource allocation. On the other hand, Cuba, being a centrally planned economy, has a more centralized approach to resource allocation. The government makes decisions on the allocation of resources based on national priorities and plans. In this case, the decision to build the dam or tar the road would be made by the government, taking into consideration the overall development goals of the country. Question 4 The economic inefficiency in an oligopoly may be reduced by the following, except Multiple Choice aggressive advertising by rivals. increased competition from foreign producers. limit pricing due to potential entrants. economic profits used to fund technological advances Answer Economic inefficiency in an oligopoly refers to a situation where firms in the market fail to maximize social welfare by producing at levels that are not allocatively efficient. This leads to higher prices, lower consumer surplus, and a reduction in overall market efficiency. In order to address this issue, various strategies can be employed, such as aggressive advertising by rivals, increased competition from foreign producers, limit pricing due to potential entrants, and using economic profits to fund technological advances. However, it is important to note that while these strategies may be effective in reducing economic inefficiency in an oligopoly, one of them may not be as helpful as the others. Aggressive advertising by rivals is a common strategy employed by firms in an oligopoly as a means to increase their market share and attract more customers. However, this strategy does not necessarily lead to a reduction in economic inefficiency. In fact, in some cases, it may even result in wasteful spending and an increase in prices, which can further exacerbate the inefficiency in the market. This is because aggressive advertising may not lead to a genuine increase in competition or a more efficient allocation of resources. On the other hand, increased competition from foreign producers can have a more direct and positive impact on reducing economic inefficiency in an oligopoly. When firms face increased competition from foreign producers, they are forced to become more efficient in order to remain competitive. This can lead to lower prices, increased consumer surplus, and a more efficient allocation of resources in the market. Similarly, limit pricing due to potential entrants can also have a positive impact on reducing economic inefficiency in an oligopoly. By setting prices below the monopoly level, incumbent firms can prevent potential entrants from entering the market and disrupting their profits. This can create a more competitive market environment and lead to a more efficient allocation of resources. Finally, using economic profits to fund technological advances can also have a positive impact on reducing economic inefficiency in an oligopoly. By investing in research and development, firms can improve their efficiency and develop new and innovative products that can attract more customers and improve market efficiency. However, this strategy may not always be feasible for all firms, especially smaller ones with limited resources. Overall, while all of these strategies can play a role in reducing economic inefficiency in an oligopoly, the most effective ones may vary depending on the specific market conditions. It is important for firms to carefully consider the potential outcomes and implications of each strategy before deciding on the most suitable approach. Question 5 Suppose that the White House decides to sharply decrease military spending without increasing government spending in other areas. This measure would, all else constant, cause aggregate demand to ___________ Answer The decision of the White House to decrease military spending without increasing government spending in other areas would cause aggregate demand to decrease. This is due to the fact that military spending is a component of government spending, and any decrease in this component would directly lead to a decrease in overall government spending. As a result, the aggregate demand curve would shift leftward, leading to a decrease in the equilibrium level of output and a potential decrease in the overall economic activity. This decrease in aggregate demand can also have a domino effect on other sectors of the economy. For instance, with a decrease in military spending, defense contractors and industries may experience a decrease in demand, leading to a decrease in their production and employment levels. This, in turn, can lead to a decrease in consumer spending and overall economic activity. Additionally, a decrease in military spending can also have a negative impact on research and development in the defense sector, potentially hindering technological advancements and innovation.