Microeconomics Essay

PROJECT INSTRUCTIONS

The following scenario is the basis for the project.

Sam Student recently had an interesting conversation with Cathy Co-ed.

Sam: Cathy, can you believe what’s happening? Gasoline prices are beginning to decrease again after they had increased dramatically for a few months. About a month ago I had to pay well over $4.00 a gallon for regular gas; yesterday the price was $3.65 per gallon of regular. I don’t understand why gasoline prices are decreasing when more people are finding jobs and income levels are beginning to rise.

Cathy: I don’t understand either. You would think that with more people finding jobs and income levels beginning to rise that gasoline prices would go up not down.

Sam: It’s sort of like housing prices but in reverse. My sister and her husband looked at buying a house a year ago and the one they liked was listed at $350,000. It hasn’t sold and now the price is listed at $390,000. What’s with that?

Cathy: Again wouldn’t you think with low interest rates (mortgage rates) and an improving economy housing prices would decrease not increase? Everyone knows the only way more “stuff” is sold is at lower prices.

Sam: Another thing I don’t get is our economics instructor. She says that the prices of many products, even seemingly unrelated products like cotton, wheat, corn, soybeans, gasoline, beer, and pasta are interrelated. She also said that the cotton, wheat, corn, or rice harvests in other countries can impact prices in the U.S. That just isn’t the case in the real world. Product prices are always determined by the firm selling the product and the price of one product has nothing to do with the price of another product. Moreover, harvests in other countries do not impact prices in the U.S. I guess she is just living in the world of economic theory and not in the real world.

Cathy: I agree. When she mentioned gasoline prices I suggested that the prices of most products would be lower if we switched from using gasoline and diesel fuel (both of which are refined from crude oil) for powering cars and trucks to using ethanol (primarily made from corn) to power our vehicles instead. She responded by saying that was a possibility but that the prices of bread and cereal and pasta might also increase due to a switch to ethanol.

Sam: That’s just absurd. Production of ethanol wouldn’t have any affect on the price of bread and cereal. Would it? And how could the use of ethanol decrease the prices of some products and increase the prices of other products?

Cathy: Beats me. Also in class the other day she said that all firms have the same goal but then went on to say that only firms in certain market structures can attain that goal. That’s just does not seem possible either. Then she added that not all firms meet the microeconomic goals of society (productive efficiency and allocative efficiency) whatever they are.

Sam: When talking about government’s role in the micro-economy she said that the government gets involved in different markets for different reasons. How silly. We all know that government gets involved in markets to control the firms in those markets.

Cathy: Again, I agree. Did you here her talking about the Cubs in class too? I don’t know why she was talking about our favorite baseball team in the middle of a discussion of pure monopoly.

Sam: I don’t think she was talking about the Cubs baseball team. She was talking about something called CUB. I think that stands for Citizens Utility Board, but I was kind of dozing off at that point.

Cathy: Economics and prices are mind boggling. I don’t understand them at all especially when goods like gasoline and corn and pasta have nothing to do with one another. I guess the government just likes to raise prices on some goods and lower prices on other goods.

Sam: I don’t think it’s the government changing prices. I think it is the monopoly suppliers (farmers, beer and pasta producers, gasoline sellers, etcetera) who are changing prices. They all just want to make more money so they raise their prices. Increasing prices always increases a firm’s revenue. It is impossible for a firm to increase revenue by lowering the price of its product. Government needs to put price ceilings on all products, especially gasoline, so that we can get the amount of product we need at a price we can afford. All firms make too much money today.

Cathy: Well Sam, I hope our economics tutor can help us because I’m really confused.

As their economics tutor, please write an essay that will help Sam and Cathy understand the economics behind their perplexing questions.

PROJECT DIRECTIONS

1

. Be sure to address the questions and concerns Sam and Cathy have posed above using economic theory and logic.

2. Please write your paper as an essay, do not simply answer each question as it is presented.

3. Your paper should be about 4-5 pages in length – double-spaced, with normal margins (about 1 inch) and normal font size (usually size 12). (The paper can be longer than 4-5 pages, but should be no longer than 7 pages.)

4. In addition to / in combination with Sam and Cathy’s above questions consider the following questions as you prepare your paper: (Again, do not simply answer these questions as listed but develop them into an essay addressing the questions) You should answer these questions in general economic terms. You do not need to research specific reasons for any of these price changes.

· Why will/might the price of gasoline decrease even with more people finding jobs and income levels beginning to rise? What other factors, if any, may cause the price of gasoline to decrease? What factor(s) may be causing gasoline price to decrease slightly at the current time?

· If they are related, how and why are the prices corn and wheat and soybeans related? (For example, if the price and profitability of growing corn increases why will the prices of wheat and soybeans increase?)

· If they are related, how and why will the prices of beer and pasta change when the prices of corn, wheat, soybeans and ethanol change? (For example, if the price of wheat increases why will the price of pasta and beer increase?)

· Why might housing prices increase when mortgage rates (interest rates on loans for buying houses) are low and when the economy is improving?

· The price of cotton increased 400% in the past two and a half years. Cathy doesn’t buy shirts and blouses made of cotton, but she has seen an increase in the prices of the silk shirts and blouses she does buy. Why has the price of silk shirts and blouses increased? How and why does an increase in the price of cotton impact prices of clothing made from silk and other non-cotton fabrics?

· Do harvests of crops like cotton, wheat, corn, or rice in other countries impact prices in the U.S.? Why? Why not?

· What is the goal (are the goals) of all firms? How do firms achieve this goal (these goals)?

· What is the microeconomic goal (are the microeconomic goals) of society? How is this goal (are these goals) achieved? Do firms in all market structures achieve this goal (these goals)? Firms in which market structure(s) achieve society’s microeconomic goal(s)? Why?

· Government influences prices in both the purely competitive market (especially the agricultural market) and in the purely monopolistic market (especially public utilities). Does the government interfere in each of these markets in the same way and for the same reason(s)? How and why does the government involve itself in the markets for some agricultural goods? How and why does the government involve itself in purely monopolistic markets?

· What is CUB (Citizen’s Utility Board)? What is the purpose of CUB? Has CUB been successful, at least partially, in achieving its goal(s)?

· Does the government set most (if not all) prices in the U.S.?

· Do firms always earn more revenue if the price of their product increases? Is it possible for a firm to earn more revenue if it decreases the price of its product? Why? When?

· What impact will price ceiling have on the market on which they are imposed? Will the imposition of price ceilings help the consumer in the short run? Will the imposition of price ceilings help the consumer in the long run?

5. You may want to do some limited research in order to comment on the above questions. (However, even with no research you can address the proposed questions with logical economic analysis.) You may use your textbook as one source, but you may also want to search the Internet or use hard copy articles for some of your information (such as that regarding CUB). If you do any research, please include a listing of the articles you used at the end of you paper. (This does not need to be a formal bibliography, just a listing of the sources you used and where I can access them.)

6. Be sure to include your name and the project title on the paper. (I have received some papers in the past that were missing both of these.)

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