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Package: Test Bank
Title: Microeconomics: Theory and Application, 12e

Chapter Number: 8
Question Type: Multiple Choice
1. Which of the following most completely describes the cost to a firm associated with the use of
its resources in a particular way?
a. Its monetary outlay for inputs

b. Its explicit cost
c. The implicit cost of not renting its own resources
d. The opportunity cost of its resources
Answer: D
Difficulty Level: Easy

Section Reference: The Nature of Cost
Learning Objective: Delineate the nature of a firm’s cost—explicit as well as implicit.
2. Which of the following can be classified as an implicit cost of production?
a. The cost of raw materials

b. Rent forgone on the office building
c. Interest paid on debt
d. Salary paid to workers
Answer: B
Difficulty Level: Medium

3. Jane Doe has her own law practice. She pays $1,500 in rent for her offices per month. She also
pays $4,000 a month in salaries to secretaries and staff, utility bills worth $500 a month, and
miscellaneous bills worth $1,000 a month. She recently received an offer to work for a legal firm
for $8,000 a month, but she declined that in order to run her own practice. Which of the following
most completely describes the cost Jane incurs per month to run her own practice?
a. $15,000
b. $7,000
c. $5,500
d. $6,000
Answer: A

4. A firm’s production cost equaling the opportunity cost of its resources reflects the fact that:
a. resources are best-suited to producing one particular good.

b. firms typically make one primary product.
c. resources can be used to make many different products.
d. firms often make more than one product.
Answer: C

5. Marico Corp. can manufacture 45,000 ball bearings per day at one of its production facilities. If
the company uses the same facility for manufacturing rivets, a total of 30,000 rivets can be
produced each day. Calculate Marico Corp.’s implicit cost per day of producing rivets at this
facility.
a. The monetary value of 45,000 ball bearings

b. The monetary value of 30,000 rivets
c. The monetary value of 15,000 ball bearings
d. The monetary value of 15,000 rivets
Answer: A

6. Suppose you quit your job as an accountant earning an annual salary of $50,000 to buy
foreclosed homes, fix them up, and then resell them. You have $200,000 of your own money to
invest in this, half of which you use to purchase three homes for a combined $500,000 (borrowing
the remaining $400,000), and spend the remaining $100,000 of your money on materials. Over the
course of one year you fix up all three homes and resell them for a total of $700,000. Assume that
your loan to purchase the homes is payable in one lump sum at the end of one year. If you can
borrow and lend money at a 6% annual rate of interest, what was your total cost of renovating these
three homes?
a. $572,000
b. $600,000
c. $624,000
d. $686,000
Answer: D
Difficulty Level: Hard

7. Suppose a builder constructs a house that he hopes to sell to a prospective future buyer before he
finishes building it. After spending six months and $300,000 in acquiring the land and constructing
the house, market conditions change and the builder fails to find a buyer willing to pay his asking
price of $360,000. The builder further realizes that by investing $300,000 in a bank deposit he
would have been able to earn $4,500 as interest. Which of the following is the economically
efficient way for the builder to view his investment?
a. The $300,000 is a sunk cost and should be ignored when negotiating a price for the home.
b. The $300,000 is the builder’s opportunity cost and he should not accept any offer below that.
c. He should advertise more heavily in an attempt to sell the home for at least $300,000.
d. He should raise the price even further to better reflect the additional opportunity costs of his time
and capital expenditures.
Answer: A

Section Reference: Short-Run Cost of Production
Learning Objective: Outline how cost is likely to vary with output in the short run and various
measures of shortrun cost.
8. Ben decides to expand his ice cream store so he can begin selling sub sandwiches. He spends
$20,000 in preparing his new sandwich shop. His marginal cost of selling sub sandwiches is $3 and
he estimates that he can sell 10,000 subs for $6 each. He soon learns of a nearby store that is now
selling identical subs for $3.50 each. Ben should:
a. quit selling subs since his average total cost of selling subs is greater than the $3.50 price he
would now have to charge.
b. sell subs for $3.50 each, considering the $20,000 to be a sunk cost and ignoring it.
c. sell subs as long the price he receives exceeds his average fixed costs of selling subs.
d. lower his price to $5 to cover his average total cost of selling subs.
Answer: B

9. The monetary cost of the space a restaurant rents to produce meals can be categorized as a:
a. variable cost.
b. marginal cost.
c. fixed cost.
d. opportunity cost.
Answer: C

10. Total fixed cost is the same regardless of:
a. how many new machines a firm purchases.

b. how many facilities a firm shuts down.
c. how much new capital a firm rents.
d. how much output the firm produces.
Answer: D

11. If fixed costs are $10,000 and variable costs are constant at $1.00 per unit over the relevant
range of output, what will the average total cost be when 10,000 units are produced?
a. $0.20
b. $2.00
c. $5.00
d. $1.00
Answer: B

12. If fixed costs are $1,000 and variable costs are constant at $1.00 per unit over the relevant
range of output, what will the average total cost be when 2,000 units are produced?
a. $0.50
b. $1.00
c. $1.50
d. $2.00
Answer: C

13. If there are no fixed costs and variable costs are constant at $1.00 per unit over the relevant
range of output, what will the average total cost be after 1 unit of output is produced?
a. $0
b. $1
c. $1.50
d. $2
Answer: B

14. If total fixed costs are $1,000, variable costs are constant at $5.00 per unit over the relevant
range of output and the average total cost is $6, how many units are being produced?
a. 10
b. 100
c. 1,000
d. 1,100
Answer: C

15. Identify the example of sunk cost from the following.
a. A higher wage demanded by the labor union

b. Failure to meet the annual sales target
c. The lumber used to produce office furniture
d. Raw materials damaged by fire in the warehouse
Answer: D

range of output and average total cost is $6, what is total variable cost?
a. $100
b. $1,000
c. $5,000
d. $6,000
Answer: C

17. A firm’s costs are determined by:
a. its production function.

b. the market price of its product.
c. the market demand curve.
d. its production possibility frontier.
Answer: A

range of output and average total cost is $6, what is average fixed cost?
a. $1
b. $5
c. $10
d. $1,000
Answer: A

range of output, what is marginal cost when 1 unit of output is produced?
a. $0
b. $0.50
c. $1
d. $2
Answer: C

20. Which of the following is correct?
a. Total Fixed Cost = Total Cost + Total Variable Cost

b. Total Cost = Total Variable Cost + Marginal Cost
c. Average Fixed Cost = Average Total Cost – Average Variable Cost
d. Average Total Cost = Marginal Cost + Average Fixed Cost
Answer: C

range of output, what is the marginal cost of the second unit?
a. $0
b. $0.50
c. $1
d. $2
Answer: C

22. A total product curve whose slope is continually rising at an increasing rate:
a. indicates that an infinite amount of labor is needed to produce a given level of output.
b. does not reflect diminishing marginal returns.
c. does not reflect increasing marginal returns.
d. describes a production function where labor is the only input.
Answer: B

23. If the marginal cost curve intersects the average variable cost curve at 1,000 units per day, the
rate of output at which average total cost is minimized is _____.
a. 1,000 units
b. more than 1,000 units
c. less than 500 units
d. 500 units
Answer: B

24. In the figure given below, curves F, C, and G denote the total cost, the total variable cost, and
the total fixed cost of a firm.
Error: Reference source not

found
In Figure 8-1, which of the following distances represent the total cost of producing BT units of
output?
a. SR
b. ST
c. RT
d. AB
Answer: B

Section Reference: Short-Run Cost Curves
Learning Objective: Detail the typical shapes of a firm’s short-run cost curves.
25. Refer to Figure 8-1. Which of the following is true at the output level BT?
a. The firm’s fixed cost is RT.

b. The firm’s average variable cost is RT/BT.
c. The firm’s marginal cost is RT/RB.
d. The firm’s variable cost is AB
Answer: B
26. Which of the following is true of the total variable cost curve in the short run?
a. It depicts the law of decreasing returns to scale.

b. It is a straight line parallel to the horizontal axis.
c. It is independent of the production function.
d. It lies below the short-run total cost curve.
Answer: D

27. Which of the following does not decline as output increases?
a. Marginal cost
b. Average fixed cost
c. Average cost
d. Total fixed cost
Answer: D

28. Which of the following statements is not true?
a. Average variable cost falls, reaches a minimum and begins to rise.

b. Average total cost falls, reaches a minimum and begins to rise.
c. Average fixed cost falls, reaches a minimum, and begins to rise.
d. Marginal cost falls, reaches a minimum and begins to rise.
Answer: C

Error: Reference source not found
Figure 8-1
Costs F
C
S
A G
B
T Output
Refer to Figure 8-1. The total fixed costs of the firm are identified by the distance:
a. RS.
b. ST.
c. BR.
d. BT.
Answer: A

30. Which of the following determines the shape of the marginal cost curve in the short run?
a. The marginal product of labor is first increasing and then decreasing

b. The wage rate first decreases and then increases throughout the range of output
c. The price of output produced by labor is first decreasing and then increasing
d. The presence of economies of scale in the product market
Answer: A

31. In the short run, a firm’s marginal cost rises because of:
a. a decline in output prices.

b. a decline in marginal productivity of inputs.
c. decreasing returns to scale.
d. the flexibility in input usage.
Answer: B

32. If TC represents the change in total cost, w the change in the wage rate, TFC the change in
total fixed cost, q the change in output, and AC the change in average cost, the marginal cost of
the firm can be defined as:
a. TC/w.
b. TFC/q.
c. AC/q.
d. TC/q.
Answer: D

33. In the short-run, diminishing marginal returns are associated with:
a. declining average variable costs.

b. rising marginal cost.
c. rising average fixed cost.
d. falling average total cost.
Answer: B

34. Which of the following statements about marginal cost is correct?
a. When the marginal product of a variable input is rising, the marginal cost will fall.
b. When marginal cost equals average cost, average cost is at its maximum.
c. In the short-run, the marginal cost curve is parallel to the average variable cost curve.
d. When marginal cost is falling, total fixed cost is rising.
Answer: A

35. The law of diminishing marginal returns:
a. is relevant in both the short and the long-run.

b. says that increasing fixed inputs eventually results in smaller and smaller increases in total
output.
c. says that increasing variable inputs eventually results in smaller and smaller increases in total
output.
d. says that increasing variable inputs eventually results in smaller and smaller increases in total
cost.
Answer: C

36. When output expands from the fourth to the fifth unit, the total variable cost of production rises
from $400 to $500, while the total fixed cost remains constant at $100. Compute the marginal cost
of producing the fifth unit.
a. $50
b. $200
c. $400
d. $100
Answer: D

37. When labor is the only variable input used in production, marginal cost [MC]:
a. is inversely related to the marginal product of labor [MPL].

b. is inversely related to the wage rate [w].
c. is positively related to MPL.
d. is negatively related to labor supply [SL].
Answer: A

38. If the marginal product of the variable input rises and then falls, the MC curve will:
a. rise and then fall.

b. fall and then rise.
c. downward sloping throughout.
d. not depend upon the path of the marginal product of the variable input.
Answer: B

39. Once diminishing returns have set in, each additional unit of the variable input:
a. decreases total output.

b. adds less to total output.
c. adds more to total output.
d. does not affect total output.
Answer: B

40. Once diminishing returns have set in, each additional unit of output:
a. requires less of the variable input than the previous unit.

b. requires less cost outlay than the previous unit.
c. requires more of the fixed input than the previous unit.
d. requires more cost outlay than the previous unit.
Answer: D

41. If total cost rises as the level of output produced increases, then:
a. marginal cost must be rising.

b. marginal cost must be constant.
c. marginal cost must be falling.
d. marginal cost must be positive.
Answer: D

42. A firm uses labor as an input in production. For the range of output where the average product
of labor is increasing:
a. the marginal product of labor must be below the average product of labor.
b. the total product is at a maximum.
c. the marginal cost must also be increasing.
d. the average variable cost must be decreasing.
Answer: D

43. Average fixed cost [AFC] is the:
a. horizontal distance between average total cost [ATC] and average variable cost [AVC].
b. vertical distance between ATC and AVC.
c. horizontal distance between ATC and the Y-axis.
d. vertical distance between ATC and the X-axis.
Answer: B

44. A firm uses labor as an input in production. In the short-run, its average cost will reach a
minimum where:
a. average product of labor reaches a maximum.

b. marginal product of labor reaches a maximum.
c. marginal cost begins to increase.
d. marginal cost equals average cost.
Answer: D

45. Which of the following statements about the relationship between marginal cost and average
cost is correct?
a. When MC is falling, AC is rising.

b. AC equals MC at MC's lowest point.
c. When MC exceeds AC, AC must be rising.
d. When AC exceeds MC, MC must be rising.
Answer: C

46. Which of the following statements regarding the relationship between average cost and
marginal cost is not true?
a. When marginal cost is below average total cost, average total cost falls.
b. When marginal cost is above average variable cost, average variable cost rises.
c. When marginal cost is equal to average total cost, average total cost is minimized.
d. When marginal cost is above average fixed cost, average fixed cost rises.
Answer: D

47. Which of the following is true?
a. When average cost is decreasing, total cost must also be decreasing.

b. When average cost is decreasing, average product of labor must be decreasing.
c. When average cost is decreasing, marginal cost must be less than average cost.
d. When average cost is decreasing, output must be decreasing.
Answer: C

48. The slope of the total variable cost curve equals the:
a. average variable cost.

b. marginal cost.
c. average cost.
d. marginal physical product.
Answer: B

In Figure 8-1, R identifies the point:
a. of inflection.
b. where AVC reaches a minimum.
c. where MC reaches a minimum.
d. where diminishing marginal returns set in.
Answer: B

50. Consider a graph with a total variable cost curve. Cost is on the vertical axis and output on the
horizontal axis. The marginal cost can be represented by:
a. a ray from the origin to a point tangent to the total variable cost curve.
b. a ray from the origin to a point on the total variable cost curve.
c. the slope at a particular point on the total variable cost curve.
d. the distance from the origin to a point on the total variable cost curve.
Answer: C

51. Suppose labor is on the horizontal axis and capital is on the vertical axis. If the wage rate is
$15 per worker per hour and the rental rate of capital is $10 per unit per hour, what is the slope of
the isocost curve?
a. –0.667
b. –1.5
c. –10
d. –15
Answer: B

Section Reference: Long-Run Cost of Production
Learning Objective: See how a firm will choose to combine inputs in its production process in the
long run when all inputs are variable.
52. Suppose labor is on the horizontal axis and capital on the vertical axis. If the total cost is
defined by the equation TC = $400 + $15L + $10K, the slope of the isocost curve is:
a. –0.667
b. –1.5
c. –8
d. –40
Answer: B

53. Which of the following can be identified from an isocost line?
a. The least costly combination of inputs needed to produce a given level of output
b. The relative prices of inputs
c. The technological relationships among inputs
d. The rate at which one input can be substituted for another in the production process
Answer: B

54. Although isocost lines and budget lines are similar, they differ in that:
a. budget lines are linear while isocost lines can be curved.

b. the consumer is constrained to the budget line while the firm can have more than one isocost
line.
c. the slope of a budget line equals the price ratio while the slope of an isocost line is not related to
prices.
d. budget lines do not have a constant expenditure.
Answer: B

55. Assume that labor is plotted on the horizontal axis and capital is plotted on the vertical axis. A
firm plans to spend $1,000 per week on inputs and confronts a wage rate of $10 per hour and a
capital rental rate of $20 per hour. Given this information, what will be the slope of the isocost
curve?
a. –2
b. –1/2
c. –100
d. –50
Answer: B

56. A tangency between an isocost line and an isoquant shows all the following, except:
a. the maximum output attainable by a firm at a given cost.
b. the minimum cost necessary to produce a given output.
c. an input combination where the ratio of marginal products equals the ratio of the input prices.
d. an input combination where the returns to labor and capital inputs are equal.
Answer: D

57. Which of the following is true of the expansion path?
a. It always slopes upward.

b. It slopes upward as long as input prices are constant.
c. It slopes upward as long as the firm uses more of both inputs as output increases.
d. It is always linear, but not necessarily upward-sloping.
Answer: C

58. The long-run expansion path for a firm:
a. is not necessarily linear, but always slopes upward.

b. may be backward-bending, if a firm uses less of one input as output increases.
c. may be backward-bending, if the firm uses more of both inputs as output increases.
d. is always linear, but not necessarily upward-sloping.
Answer: B

59. The expansion path identifies:

a. the least costly combination of inputs required to produce various levels of output.
b. the firm's demand curves for the inputs.
c. the various combinations of inputs that can be used to produce a given level of output.
d. the least-cost combination of outputs.
Answer: A

60. The point of tangency between an isoquant and the isocost line indicates:
a. that in the long run fixed costs are equal to variable costs.
b. the maximum cost incurred for producing one unit of output.
c. that in the long run marginal costs tend to exceed fixed costs.
d. the minimum cost necessary to produce a particular level of output.
Answer: D

61. The rule of cost minimization indicates that a firm should:
a. employ inputs so as to maximize output.

b. employ inputs such that the marginal product per dollar spent is equal for all inputs.
c. minimize total costs.
d. minimize marginal costs.
Answer: B

62. Suppose the wage rate is $15 per hour and the rental rate of capital is $10 per hour. If the
marginal product of labor is 60 and the marginal product of capital 10, the profit maximizing firm
should:
a. hire more labor and less capital.
b. utilize more capital and less labor.
c. maintain its current input mix of capital and labor.
d. employ more of both capital and labor.
Answer: A

63. Which of the following is true at every point on the expansion path?
a. It shows the combinations of inputs having the maximum productivity.

b. It shows the various levels of output that can be produced using a given level of inputs.
c. It shows the various combinations of inputs that can be used to produce a given level of output.
d. It shows the maximum output attainable at a given cost.
Answer: D

64. Each point on an expansion path:
a. has a constant input price ratio.

b. has the same marginal rate of technical substitution [MRTS].
c. has the same total cost.
d. is cost-minimizing.
Answer: D

65. Suppose a firm that uses labor and capital as the only inputs in production is currently on the
long-run expansion path. The marginal product of labor and capital at this least cost combination
are 60 units and 80 units respectively and the wage rate of labor is $6. Calculate the rental cost of
capital borne by the firm.
a. $10
b. $8
c. $5
d. $12
Answer: B

66. Assume that Donnell Corp. is currently producing 500 units of output per period, using 25
units of labor and 20 units of capital. Values for the marginal product of each input and the prices
of the inputs are as follows: MPK = 100, MPL = 200, w = 2, and r = 3. Given the information above,
which of the following is true?
a. The firm is currently using the optimal levels of capital and labor.
b. The firm should increase capital and reduce labor usage.
c. The firm should increase labor and reduce capital usage.
d. The firm is not using the optimal levels of capital and labor, and it is impossible to determine the
optimal levels from the given information.
Answer: C

67. A firm is employing 100 units of labor and 50 units of capital to produce 200 widgets. Labor
costs $10 per unit and capital $5 per unit. For the quantities of inputs employed, MPL = 2 and MPK
= 5. In this situation, the firm:
a. is producing the maximum output possible given the prices and relative productivities of the
inputs.
b. could lower its production costs by using more labor and less capital.
c. could increase its output at no extra cost by using more capital and less labor.
d. should use more of both inputs in equal proportions.
Answer: C
68. A firm employs 100 units of labor and 50 units of capital to produce 200 widgets. Labor costs
$10 per unit and capital costs $21 per unit. For the quantities of inputs employed, MPL = 3 and MPK
= 3. In this situation, the firm:
a. is producing the maximum amount possible at the lowest possible cost.

b. could lower its production costs by using more capital and less labor.
c. could increase its output at no extra cost by using more labor and less capital.
d. should keep its input usage unchanged.
Answer: C

69. If the marginal product of labor is four times the marginal product of capital and the price of
labor is twice the price of capital, then:
a. labor will be substituted for capital by a profit maximizing firm.

b. capital will be substituted for labor by a profit maximizing firm.
c. output cannot be expanded any further by using the same input levels.
d. input usage should be left unchanged.
Answer: A

70. Which of the following is true of cost minimization?
a. It is equivalent to profit maximization.

b. It is sufficient for profit maximization.
c. It is necessary for profit maximization.
d. It is unrelated to profit maximization.
Answer: C

71. Which of the following assumptions is made by economists while constructing a firm’s
marginal cost [MC] and average cost [AC] curves?
a. Input prices are constant.

b. Output is constant.
c. Output price is constant.
d. Technology will vary.
Answer: A

Section Reference: Input Price Changes and Cost Curves
Learning Objective: Show how input price changes affect a firm’s cost curves.
72. Consider a firm that uses labor and capital as the only inputs. Suppose labor is on the
horizontal axis and capital is on the vertical axis. Further, the expansion path has shifted down and
average cost curves have shifted up. Which of following provides the most likely explanation for
what has happened?
a. The wage rate decreased

b. The wage rate increased
c. The price of capital decreased
d. The price of capital increased
Answer: D

73. Suppose a firm is using two inputs, labor, and capital. What will happen if the price of labor
falls?
a. The firm's average cost curve will shift upward.

b. The firm's marginal cost curve will shift downward.
c. To produce the same level of output, the firm would need more capital.
d. The firm’s total cost of production will increase.
Answer: B

74. Which of the following depicts the change in per-unit cost of production resulting from a
decrease in the input prices, given the output produced by the firm is constant?
a. An upward shift of the marginal cost curve

b. A rightward shift of the total cost curve
c. A downward shift of the average cost curve
d. An upward shift of the isocost curve
Answer: C

75. Which of the following explains the shape of the long-run average cost curve?
a. Returns to scale
b. Returns to labor
c. Returns to capital
d. Rental rate on capital
Answer: A

Section Reference: Long-Run Cost Curves
Learning Objective: Differentiate between a firm’s long-run and short-run cost curves.
76. Which of the following is guaranteed by increasing returns to scale in production experienced
in the long run?
a. Negative marginal costs

b. Zero average costs
c. Declining average costs
d. Rising marginal costs
Answer: C

77. If constant returns to scale apply to the entire range of production, then the long-run total cost
curve would most likely:
a. be a straight line from the origin.

b. to increase at a decreasing rate initially, and then increase at an increasing rate.
c. to increase at an increasing rate initially, and then increase at a decreasing rate.
d. be U-shaped.
Answer: A

78. Increasing returns to scale imply that:
a. average costs are constant.

b. average costs are falling.
c. average costs are increasing.
d. average costs are negative.
Answer: B

79. The long-run average cost curve always:
a. reflects the law of diminishing returns.

b. reflects constant returns to scale.
c. shows the least-cost method of production for each level of output.
d. has an inverted U-shape.
Answer: C
80. Suppose the government restricts the amount of capital equipment firms can purchase in an
attempt to increase employment. If a firm expands output then its long-run average costs will be:
a. less than they would be without the restriction.

b. more than they would be without the restriction.
c. the same as they would be without the restriction.
d. uncertain. Need more information
Answer: B

81. Assume that with 20L and 30K a given firm can produce 100 units of output and with 40L and
60K it can produce 175 units (where L and K denote the labor and capital inputs). Based on this
information, we can conclude that:
a. decreasing returns to scale exist.

b. average cost is decreasing.
c. average cost is constant.
d. increasing returns to scale exist.
Answer: A

82. Decreasing returns to scale imply:
a. decreasing long run average cost and increasing short-run average cost.
b. increasing long run average cost.
c. constant long run average cost.
d. increasing long run average cost and decreasing short run average cost.
Answer: B

83. Economies of scale:
a. is the same thing as increasing returns to scale.

b. exist if a firm increases its output more than in proportion to its total input cost.
c. exist if a firm increases its output precisely proportional to its total input cost.
d. refers to the ability to make large-scale investments in capital.
Answer: B

84. Which of the following is true?
a. Diseconomies of scale imply increasing returns to scale.

b. Increasing returns to scale implies diseconomies of scale.
c. Increasing returns to scale implies economies of scale.
d. Economies of scale imply increasing returns to scale.
Answer: C

85. Suppose a bakery is currently producing 1,500 loaves of bread per day using 20 workers and 80
units of capital. After hiring five more workers and twenty additional units of capital, the firm’s
output increases by 600 loaves per day. This change exhibits:
a. increasing marginal product of labor.

b. constant returns scale.
c. increasing returns to scale.
d. diminishing marginal product of labor.
Answer: C

86. Suppose a firm has two plants producing the same good. Each plant is producing 200 units of
the good. In plant A, the short run average cost of production is $20 and in plant B it is $30. If the
firm wants to produce a total of 400 units at the lowest cost in the long run, it should:
a. switch production from plant B to plant A until the average cost of production at each plant is the
same.
b. produce only at plant A and shut down plant B.
c. switch production from plant B to plant A until the average cost is the same at the two plants.
d. continue to use the same input ratio.
Answer: A

87. Long-run costs of production are generally lower than the short run costs because:
a. all inputs are fixed in the long run.

b. firms cannot change their scale of production in the long run.
c. there is greater flexibility in input usage in the long run.
d. there is no scope for learning by doing in the long run.
Answer: C

Section Reference: Learning by Doing
Learning Objective: Explain the impact of learning by doing on production cost.
88. Learning by doing:
a. results in higher costs in the long run than in the short run.
b. is a result of technological progress.
c. increases productivity of the inputs.
d. results from the increased use of inputs in production.
Answer: C

89. Which of the following is true of learning by doing?
a. It results from economies of scale.

b. It results from an increase in the price of inputs.
c. It results from the substitution of one input by a costlier input.
d. It results from a firm’s cumulative output experience.
Answer: D

90. When average costs fall as output increases, it is due to _____; when they fall at a given level
of output it is due to _____.
a. economies of scale; learning by doing

b. economies of scale; diseconomies of scale
c. learning by doing; economies of scale
d. learning by doing; diseconomies of scale
Answer: A

91. The possibility of learning by doing ensures:
a. equal profits for all firms in an industry.

b. uniform price for a product.
c. lower production costs to a pioneering firm.
d. lower production costs to a market entrant.
Answer: C

92. Learning by doing is illustrated by:

a. a movement along the average cost curve to a lower cost.
b. a downward shift of the average cost curve.
c. a movement along the average cost curve to a higher cost.
d. an upward shift of the average cost curve.
Answer: B

93. Which of the following factors can lead to learning by doing?
a. Substantial loss suffered in the long run

b. Decreasing returns to scale
c. Significant addition to inventory stock
d. Increased skill of the existing workforce
Answer: D

94. Some firms can attain lower production costs through their cumulative production experience.
The average cost curve of such firms shift downward with each successive bulk increase in total
production. The situation described above refers to:
a. economies of scale.
b. economies of scope.
c. learning by doing.
d. the familiarity index.
Answer: C

95. Learning by doing:
a. is synonymous with economies of scale.

b. causes the average cost curve to shift down.
c. causes the firm’s marginal cost curve to shift up and to the left.
d. occurs when output increases in greater proportion to the increase in inputs.
Answer: B

96. Which of the following changes shift the long-run AC curve?
a. Learning by doing
b. Economies of scale
c. Diminishing marginal productivity
d. Constant returns to scale
Answer: A

97. An important determinant of market structure is:
a. the difference between short-run average cost and long-run average cost for a given rate of
output.
b. the elasticity of market demand where it intersects the industry supply curve.
c. the slope of the expansion path.
d. the level of output at which long-run average cost is at a minimum relative to market demand.
Answer: D

Section Reference: Importance of Cost Curves to Market Structure
Learning Objective: Understand how the minimum efficient scale of production is related to market
structure.
98. Assume that the long run average cost for a representative firm in an industry is minimized at
$10 per unit of output. Further assume that total industry output is X at a price of $10, and that each
firm in this industry produces 0.2X at an average cost of $10. Under these conditions we would
expect the market to have:
a. a single firm.
b. two firms.
c. infinite number of firms.
d. five firms.
Answer: D

structure.
99. The minimum efficient scale is:
a. the level of output at which average cost per unit is smallest.

b. the scale of operations at which marginal cost is minimized.
c. the scale of operations at which average fixed cost per unit is minimized.
d. the level of output at which total cost is minimized.
Answer: A

structure.
100. The technological relationships reflected in the firms' long run cost curves are an important
factor in determining the market structure of an industry because:
a. they determine the size of the market.

b. they influence the price elasticity of demand for the product.
c. they influence the demand for the product in the short run.
d. they determine the number of firms that can exist in an industry in the long run.
Answer: D

structure.
101. Economic analysis suggests that if the marginal cost of pollution abatement differs for two
firms, the least cost pollution abatement strategy would require:
a. that both firms are limited to the same total pollution.
b. that the firms engage in different levels of pollution abatement but incur the same marginal cost
of abatement.
c. that the firms engage in different levels of pollution abatement as long as they incur different
marginal costs.
d. that the firms engage in different levels of pollution abatement but incur the same opportunity
cost.
Answer: B

Section Reference: Using Cost Curves: Controlling Pollution
Learning Objective: Describe how cost curves can be applied to the problem of controlling
pollution.
102. If the marginal cost of pollution abatement differs between two firms, the total cost of
pollution abatement can be lowered by:
a. increasing abatement where its marginal cost is high and reducing it where marginal cost is
lower.
b. decreasing abatement where its average cost is high and reducing it where average cost is lower.
c. increasing abatement where its marginal cost is less and reducing it where marginal cost is
greater.
d. decreasing abatement where its marginal cost is less and increasing it where marginal cost is
greater.
Answer: C

Section Reference: Using Cost Curves: Controlling Pollution
Learning Objective: Describe how cost curves can be applied to the problem of controlling
pollution.
103. Economies of scope exist if:
a. it is cheaper to have only one firm in an industry.

b. it is cheaper for one firm to produce two products jointly than for separate firms to produce them
separately.
c. it is more expensive to have one firm in an industry.
d. it is cheaper for two firms to work together to make two products than for one firm to make both
by itself.
Answer: B
Section Reference: Economies of Scope
Learning Objective: Cover economies of scope—is it cheaper for one firm to produce products
jointly than it is for separate firms to produce the same products independently?
104. Identify the correct statement.
a. Economies of scope are unrelated to economies of scale.

b. Economies of scope imply economies of scale, but not vice versa.
c. Economies of scope imply economies of scale, and vice versa.
d. Economies of scope usually imply diseconomies of scale.
Answer: A

105. Dine-in restaurants provide two distinct products, food and a place to sit and eat. This is an
example of:
a. economics of scale.
b. economies of scope.
c. a poor pricing strategy.
d. a loss leader.
Answer: B

106. Consider the cubic total cost function TC = a + bQ + cQ2 + dQ3, where a = 0, b = 25, c = -10,
and d = 1. The firm's minimum efficient scale would be an output of _____ units.
a. ten
b. five
c. one
d. two
Answer: B
Section Reference: Estimating Cost Functions
Learning Objective: Overview how cost functions can be empirically estimated through surveys
and regression analysis.
107. For the cubic total cost function TC = a + bQ + cQ2 + dQ3, where a = 0, b = 25, c = -10, and d
= 1, the firm’s average variable cost is minimized at an output of:
a. ten.
b. five.
c. two.
d. one.
Answer: B

108. For the cubic total cost function TC = a + bQ + cQ2 + dQ3, where a = 0, b = 25, c = -10, and d
= 1, the marginal cost at an output of one unit equals:
a. $0.
b. $5.
c. $8.
d. $10.
Answer: C

109. Which of the following is true for the cubic total cost function TC = a + bQ + cQ2 + dQ3,
where a = 0, b = 25, c = -10, and d = 1?
a. Marginal cost equals average total cost

b. Marginal cost equals average variable cost
c. Total cost equals total variable cost
d. Total cost equals total fixed cost
Answer: C

110. A firm incurs a total cost of $500 per day for producing 10 semi-electronic toys. When its
production increases to 15 toys, the total cost rises to $700. The firm observes that at each level of
output between 10 toys and 15 toys, the marginal cost of production is below the average cost of
production. Which of the following can be definitely concluded about the firm’s cost curves when
its output is anywhere between 10 toys and 15 toys?
a. The marginal cost curve is positively sloped for this range of output
b. The total fixed cost curve is negatively sloped for this range of output.
c. The average cost curve is negatively sloped for this range of output.
d. The average variable cost curve is positively sloped for this range of output.
Answer: C

Section Reference: The Mathematics behind Production Cost
Learning Objective: Explain the mathematics behind production costs.
111. At 20 units of output, the slope of a firm’s average cost curve is recorded as +1.5. Calculate
the firm’s average cost at this output level if its marginal cost is $300.
a. $270
b. $300
c. $230
d. $200
Answer: A

112. At 30 units of output, the slope of a firm’s average cost curve is recorded as +1.20. Calculate
the firm’s marginal cost at this output level if its average cost is $300.
a. $300
b. $130
c. $336
d. $120
Answer: C

Question Type: Essay
113. For the total variable cost (TVc. curve below, draw a total cost curve and a positive total fixed
cost (TFc. curve. Then derive the associated marginal cost (Mc., average total cost (ATc., average
variable (AVc., and average fixed cost (AFc. curves. Explain the appropriate relationships among
the curves.
Answer:
Total Cost
TC
TVC
Slope=min ATC
Slope=min AVC
TFC
O Q1 Q2 Q3 Output
Per-unit
cost MC ATC
AVC
AFC
O Q1 Q2 Q3 Output
Error: Reference source
not found
Total fixed cost is simply a horizontal line in the Total Cost (Tc. graph. Note that there are two
graphs. Did you remember to draw a separate graph for the per-unit curves (MC, AFC, AVC,
ATc.? The TC curve is above the TVC curve by exactly TFC at all points. Now derive the per-unit
cost curves in the bottom graph. AVC is a U-shaped curve because the slope of a ray from origin in
the Total Cost graph to any point on the TVC curve at first falls and then rises, with the min AVC
at output level q2. Note that the horizontal axis is “output” in both the Total Cost and Per-Unit Cost
graphs, so we can drop the arrows down from output level q2 and find the minimum AVC in the
lower graph.
Next, draw the marginal cost curve (Mc.. We know that MC intersects AVC at the latter’s
minimum point. This is because of the relationship between marginal and average. When MC is
below AVC, AVC will decline; when MC is above AVC, AVC rises. Thus, when AVC is at a
minimum, MC = AVC. Similar reasoning requires that MC also intersects the ATC curve at ATC’s
minimum.
Note that MC is also a U-shaped curve. MC is the slope of TC (or of TVC because a change in
fixed cost is zero). We can see that the slope of TC initially falls and then begins to rise after the
inflection point at output level q1.
We must also capture the relationship between ATC and AVC. ATC is U-shaped for the same
reasons that AVC was U-shaped above. The slope of a ray from the origin in the Total Cost graph
to any point on the TC curve at first falls and then rises, and the min ATC is at output level q3. The
ATC curve asymptotically approaches AVC because their difference, AFC, approaches zero as
output rises to infinity. So your ATC curve should get closer and closer to AVC as you move along
the horizontal axis (i.e., as output rises). Note that the minimum of ATC is slightly larger than the
minimum of AVC. In other words, q2 does not equal q3. This is because ATC = AFC + AVC and
when AVC is at a minimum at q2, AFC is falling (it is always falling as output rises), so it takes a
bit more output before the rising AVC overtakes the still falling AFC. Thus, q2 < q3. Do not draw
the minimum of ATC directly above the minimum of your AVC curve.
Finally, since AFC = TFC/q and TFC never changes, then as q increases, the AFC curve
continually falls and asymptotically approaches zero (it does not intersect the horizontal axis).

114. Do you think the marginal cost curve of a petroleum refinery will be U-shaped? Explain your
answer.
Answer: Oil refineries are large scale plants, processing about a hundred thousand to several
hundred thousand barrels of crude oil a day. They use high-end technology and machinery for their
production. The marginal cost of production in this industry will decline when production increases
at low levels of output because the potential capacity of the fixed plant and equipment is quite high.
When the refinery reaches the output level where all its plant and equipment is put to the optimum
use, marginal cost will reach its minimum. Thereafter, if the refinery tries to over utilize the
existing plant and equipment the marginal cost of production will increase as diminishing returns to
capital will set in.
The shape of the marginal cost curve indicates that the cost of producing additional units of output
initially declines, reaches a minimum, and thereafter starts rising. Marginal cost falls at first
because the fixed plant and equipment are not designed to produce very low rates of output, and
production is very expensive when output is low. Declining marginal cost comes to an end at some
point, and thereafter marginal cost rises with output. Eventually, marginal cost must rise because
the plant will ultimately be over utilized as output expands beyond the level for which it was
designed. At that point, marginal cost begins to rise, and each additional unit of output costs more
than the previous one.

115. On the following per-unit cost graph, show two ways to identify total fixed cost. Explain your
answer.
Per-unit
cost MC ATC
AVC
AFC
Output
Answer:
Per-unit
q2 ATC
cost MC
a d AVC
b
c
f
e
AFC
O q1 Output
Rectangles “abcd” and “efq1O” both represent Total Fixed Costs. In other words, they have equal
areas. Why? ATC = AFC + AVC. Therefore, ATC – AVC = AFC. Now to get TFC from AFC
we multiply by q. That gives us the area abcd for output level q2. The other way to depict TFC in
this figure is to find the AFC at a given output level (directly from the AFC curve) and multiply it
with the output level. Thus, for q1 level of output, TFC = Oq1*f q1 = area efq1O.

116. Answer the following:

a) Consider a firm which produces baseball bats using wood and workers. On a graph with capital
(wood) on the vertical axis and labor (workers) on the horizontal axis, draw an isoquant and isocost
line such that the firm is minimizing the total cost of producing Q1 baseball bats. Let this initial
point be profit-maximizing.
b) Suppose forest fires cause the price of wood to rise. Trace the effects of this change on the firm’s
optimal combination of inputs. Will they now produce more or less than Q1 bats? Why?
Answer:
a) Let the price of wood be r and the price of labor be w. The firm will minimize the total cost of
producing Q1 bats at total cost, TC1. They will employ La workers (note that you can also think of
this as hiring workers for La hours of work) and Ka units of capital. At the tangency point a, MPL/w1
= MPK/r1 indicating that the firm is minimizing costs.
Capital
TC1/r1
TC2 isocost line

TC1/r2 Expansion path for w1, r1
Ka a Expansion path for w1, r2
b
Kb
c
Kc Q1
Q2
O Lc La Lb TC1/w1 Labor
b) Let the price of wood be r and the price of labor be w. The tangency point a in the figure,
MPL/w1 = MPK/r1 indicates that the firm is minimizing costs. We are told that the firm is
maximizing profits at point a.
Now the price of capital rises to r2. This will cause the vertical intercept of the isocost line to shift
down. To produce the same Q1 bats at the new prices, w1 and r2, the firm should operate at point b.
This is found by moving the new isocost line out parallel until it is tangent to the original Q1
isoquant. Since capital is now relatively more expensive, the firm shifts toward labor (Lb > La) and
away from capital (Kb < Ka); this is the input substitution effect. The minimum cost to produce Q1
bats has risen from TC1 to TC2. Higher total cost implies that the firm’s average cost and marginal
cost curves will shift up (not shown). Since marginal cost rises and marginal revenue stays the
same, we now have MC > MR at point b! Thus, point b is not profit-maximizing. Since MC >
MR, the firm should produce fewer than Q1 bats, thus lowering its MC until it again equals MR. In
the graph above, we have assumed that production falls to Q2 bats and inputs are Lc and Kc. Note
that the final input combination does not have to end up on the intermediate isocost line; that would
simply be by coincidence. We know that the firm will move backward down the expansion path
through point b. Note that any expansion path is unique for the given input prices. When input
prices change, we must consider a new expansion path.
Section Reference 01: Long-Run Cost of Production
Section Reference 02: Input Price Changes and Cost Curves
Learning Objective 01: See how a firm will choose to combine inputs in its production process in
the long run when all inputs are variable.
Learning Objective 02: Show how input price changes affect a firm’s cost curves.
117. Talco Inc., a manufacturer of steel pipes, uses 500 workers and 100 machines to produce
10,000 pipes, each 28mm thick, every day. Its operations research team reports that the marginal
productivity of labor is 40 steel pipes while that of capital is 240 steel pipes. If workers are paid $8
per day and the rental cost of capital is $40 per day, examine whether the company is following the
golden rule of cost minimization.
Answer: The golden rule of cost minimization says that to minimize cost, a firm should employ
inputs in such a way that the marginal product per dollar spent is equal across all inputs. According
to the information provided in the question with respect to Talco Inc., the ratio of the marginal
product of labor to the cost of labor is 5. On the other hand, the ratio of the marginal product of
capital to the cost of capital is 6. This implies that MPL/w is less than MPK/r. Therefore, the
company is currently not following the golden rule of cost minimization. It should ideally increase
the usage of capital (machines) and decrease the labor usage to minimize its cost.

118. Using an isoquant and isocost curves, with labor on the horizontal axis and capital on the
vertical axis,
a) show a firm’s efficient combination of capital and labor needed to produce 100 television sets
per day. (You may use abstract quantities such as K1 and L1 or actual numbers.)
b) Is this the least cost means of producing this level of output? Explain.
c) Next, using a dashed line, on the same graph draw the change that would occur in the long run if
the cost of labor were to rise relative to the cost of capital and the firm’s output were to remain
fixed at 100 television sets per day.
d) Now, suppose that before the price change took effect, labor in this industry had succeeded in
protecting against job loss by forbidding firms from getting rid of labor and substituting it with
capital. Draw the new isocost curve assuming the company still wishes to produce 100 television
sets each day.
e) Is labor made better off in the long run as a result of this labor saving campaign? Explain.
Answer:
a)
At isocost1 and Q=100, the firm utilizes L1 units of labor and K1 units of capital.
b) Notice that at L1 units of labor the marginal product of labor is less than it is at L2. Notice also
that the ratio of the input prices is greater than the marginal rate of technical substitution. In other
words, at L1 units of labor and K1 units of capital, the firm can give up two units of labor and
replace it with one unit of capital and remain on the same isoquant. But at the prevailing market
prices (i.e., isocost2), the firm can decrease the amount of labor by, say, four and replace it with one
unit of capital.
What this means is that the marginal product per dollar spent across both inputs is not equal and
that the firm will consequently be a high cost producer of television sets relative to competitors.
This leaves it open for new entrants – domestic or foreign imports – to enter the market and in the
long run drive the television manufacturer out of business.
c) The increase in the price of labor relative to capital shifts the isocost curve to isocost2 and the
firm’s least cost means of producing 100 television sets is L2 units of labor and K2 units of capital.
d) If the firm is not able to replace labor with capital, it continues operating at L1 units of labor and
K1 units of capital. Notice, however, that the price change remains in effect, which means the firm’s
cost of producing 100 television sets is greater than if it could replace some labor with capital. This
is shown by the shift from isocost2 to isocost3, a higher cost means of producing 100 television sets
than either isocost1 or isocost2. (Remember, the shift from isocost1 to isocost2 was due to the
increase in the price of labor. If the firm still employs the same number of workers using the same
amount of capital, the cost associated with isocost3 must be greater.)
e) In the short run it appears that labor at this form is made better off due to the wage increase, and
the fact that there is no job loss. However, the cost to the firm of manufacturing 100 television sets
at the new wage level using K1 units of capital and L1 units of labor is not minimized. It is therefore
not efficient given the relative prices of labor and capital. In a competitive market this firm is likely
to be driven out of the television business, which means labor hired by this firm to produce
televisions decreases to zero.

Section Reference 01: Long-Run Cost of Production
Section Reference 02: Input Price Changes and Cost Curves
Section Reference 03: Importance of Cost Curves to Market Structure
Learning Objective 01: See how a firm will choose to combine inputs in its production process in
the long run when all inputs are variable.
Learning Objective 02: Show how input price changes affect a firm’s cost curves.
Learning Objective 03: Understand how the minimum efficient scale of production is related to
market structure.
119. Explain why the long-run average cost curve is usually U-shaped although all inputs are
variable in the long run?
Answer: The law of diminishing marginal return accounts for the U-shape of the short-run average
variable cost curve. In the long run, there are no fixed inputs, so the law of diminishing returns is
not directly applicable. Here, returns to scale and not returns to the factor determine how output
varies when all inputs are varied in proportion. It has been observed that increasing returns to scale
is usually common at low output levels, while decreasing returns to scale are likely to prevail at
high output levels. Increasing returns to scale mean that at higher output levels each unit of output
requires (on average) a smaller quantity of all inputs. Since inputs are available at fixed prices,
smaller average input requirements imply smaller average unit costs. Therefore, increasing returns
to scale imply that the average unit cost is falling. By the same reasoning, constant returns to scale
imply a constant average cost, and decreasing returns to scale imply a rising average cost. Hence,
the LRAC is also U-shaped.

120. Consider two firms A and B. Firm A notices that its total costs have declined by 10 percent
each time its cumulative output has doubled. Firm B notices that its average cost of production
declined by 10 percent after it increased production by 5 percent and hired 50 more workers to
work with its existing unused equipments. Explain graphically whether the experiences of these
two firms will have similar implications on the long run average cost of production.
Answer: Improvements in productivity resulting from a firm’s cumulative output experience is
referred to as learning by doing. Therefore, the decrease in production cost experienced by Firm A
results from learning by doing. The experience gained by the firm over time with the production
process has helped to improve the effectiveness with which it combines inputs to produce the final
output. In the graph given below, learning by doing is represented by a drop in the height of the
long run average cost curve (from AC to AC’) at all output levels.
Cost
Economies of scale
AC
Learning by
doing AC'
O Q1 Q2 Output
The decrease in the average cost of production experienced by Firm B mostly results from
economies of scale. These are cost advantages obtained by a firm due to expansion. The presence
of economies of scale when output is expanded from Q1 to Q2 units is represented by a movement
down along the average cost curve.

121. Consider the cost function C0 = 20L + 30K and production function Q = L0.3K0.7 of a firm.
Derive the first order conditions if the firm is maximizing its output subject to the given cost
constraint.
Answer: For dealing with a constrained optimization problem, we begin by forming the Lagrangian
expression as given below:
Z = L0.3K0.7 + λ(C0 - 20L - 30K)
The first-order conditions for a maximum involve setting the three partial derivatives
(with respect to the variables, L, K, and λ) equal to zero:
∂Z/∂L = 0.3L-0.7K0.7 - 20λ = 0
∂Z/∂K = 0.7K-0.3L0.3 - 30λ = 0
∂Z/∂λ = C0 - 20L - 30K = 0

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Package: Test Bank

Title: Microeconomics: Theory and Application, 12e

Question Type: Multiple Choice

a. Its monetary outlay for inputs

Difficulty Level: Easy

2. Which of the following can be classified as an implicit cost of production?

a. The cost of raw materials

Difficulty Level: Medium

Difficulty Level: Medium

a. resources are best-suited to producing one particular good.

Difficulty Level: Medium

a. The monetary value of 45,000 ball bearings

Difficulty Level: Medium

Difficulty Level: Hard

Difficulty Level: Medium

Difficulty Level: Medium

Difficulty Level: Medium

10. Total fixed cost is the same regardless of:

a. how many new machines a firm purchases.

Difficulty Level: Medium

Difficulty Level: Medium

Difficulty Level: Medium

Difficulty Level: Easy

Difficulty Level: Medium

15. Identify the example of sunk cost from the following.

a. A higher wage demanded by the labor union

Difficulty Level: Medium

Difficulty Level: Medium

17. A firm’s costs are determined by:

a. its production function.

Difficulty Level: Easy

Difficulty Level: Medium

Difficulty Level: Medium

20. Which of the following is correct?

a. Total Fixed Cost = Total Cost + Total Variable Cost

Difficulty Level: Medium

Difficulty Level: Medium

Difficulty Level: Medium

Difficulty Level: Medium

Error: Reference source not

Difficulty Level: Medium

a. The firm’s fixed cost is RT.

a. It depicts the law of decreasing returns to scale.

Difficulty Level: Medium

27. Which of the following does not decline as output increases?

Difficulty Level: Medium

28. Which of the following statements is not true?

a. Average variable cost falls, reaches a minimum and begins to rise.

Difficulty Level: Medium

Difficulty Level: Medium

a. The marginal product of labor is first increasing and then decreasing

Difficulty Level: Easy

a. a decline in output prices.

Difficulty Level: Medium

Difficulty Level: Medium

33. In the short-run, diminishing marginal returns are associated with:

a. declining average variable costs.