Chicago. Price Theory (B). Final Exam Questions. Friedman, December 1959

 

Along with the exam questions and answers transcribed below, Milton Friedman’s papers include the official course registration list together with his hand-written grades that were calculated based on the results of this exam and a problem set. During the autumn quarter of 1959 thirty students were enrolled in Friedman’s course with two students receiving incompletes. For the remaining 28 students 2 A’s, 10 B’s, 10 C’s, 5 D’s and 1 F grades were awarded. The two A grades went to Arthur Lionel Broida (1963 economics Ph.D. “Liqudity as a Variable in Monetary Analysis”) and Charles N. Tingley [probably Charles Nicholas Tingley, Yale 1957. Worked for Humble Oil and Refining Company  at the time of his marriage to Cary Clift MacFadden in 1964].

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ECONOMICS 301
[Price Theory B]
Final Examination
December 16, 1959

1. [30 points total] The accompanying graph gives a set of consumption indifference curves for two commodities or services each of which for some range of quantities and in combination with some amounts of the other is capable of being either a “good” or a “bad” (a “product” or a “factor”) like books and bookshelves, or cutting the grass and playing the piano (either of which may be “labor” or “play”). Of the curves drawn, I₁ corresponds to the lowest level of utility. Answer this question on this paper, wherever relevant filling in the blanks.

1. 1. [3 points] What is the interpretation to be placed on point B? [Answer: Bliss]
   2. [8 points total; 2 points each] Mark of I₁ into four sectors [Answers circled on figure] according as

(1) _____both X and Y are “goods”
(2) _____X is a “good” and Y is a “bad”
(3) _____X is a “bad” and Y is a “good”
(4) _____X and Y are both “bads”

Use letters to designate the dividing points between the sectors and enter the description of each sector in the proper place above. [Answer: see X’s used in figure]

1. 3. Budget lines AC and A´C´ are the usual type which supposes that the consumer must pay for both products and has a fixed sum to spend on both.

(1) [1 point] The consumer’s optimum position for A´C´ is [Answer: D´].
(2) [4 points] The consumer’s optimum position for AC is [Answer: B].

1. 4. On budget lines EF and GH, one of the commodities is something the consumer must pay for (it is a “product” and has a positive price), the other is something he gets paid to accept (it is a “factor” and has a negative price). In addition for both lines, the consumer has a fixed sum derived from some other source to spend.

(1) [2 points] For EF [Answer: Y] is the product; [Answer: X] is the factor.
(2) [2 points] For GH [Answer: X] is the product; [Answer: Y] is the factor.

1. 5. For OK also one commodity is a product and one is a factor but there is no additional source of expenditures and hence no way from the line itself to know which is which. However, it does make a difference to the optimum position which is which.

(1) [2 points] If X is a factor and Y a product, then the optimum point is [Answer: B].
(2) [2 points] If Y is a factor and X a product, then the optimum point is [Answer: K].
(3) [5 points] Can you suggest a simple graphical way of distinguishing the two cases? [Answer: Shading areas].

2. [30 points] Find the mistakes (there are at least six) in the accompanying diagram showing long and short run marginal and average cost curves, and explain the general principle corresponding to each particular mistake.

[Answers: (1)SRMC ≠ SRAC at minimum; (2) SRAC < LRAC; (3) SRMC ≠ LRMC where SRAC = LRAC; (4) SRMC < SRAC when SRAC rising; (5) SRMC < LRMC when to left of point of tangency of SRAC and LRAC; (6) LRAC> LRMC when LRAC rising or LRMC ≠ LRAC when LRAC max).]

3. [24 points] Define briefly the following terms [3 points each]:
   1. Marginal revenue
   2. Fixed cost
   3. Income elasticity
   4. Profit
   5. Production function
   6. Diminishing returns
   7. Inferior good
   8. Luxury
4. [30 points] Discuss the following quotations:
   1. (from a newspaper story) “The Sun Rose Bar and Grill…advertised ‘the largest glass of beer in the city for five cents’ and did a tremendous business in eight-ounce glasses of beer as soon as the public realized it was no April Fool proposition…
      ‘If enough of us do this’ said…one of the proprietors, ‘the brewers will have to cut prices!’”.
   2. (from a newspaper story) “Domestic producers of oil contend that unrestricted imports hurt them not only because they swell the supply, but because a barrel of foreign crude costs about $1 less than a comparable barrel of U.S. crude.”
   3. “All of this is to say, of course, that in practice what we have to reckon with is not a unique marginal cost for a given level of output, but a complex of marginal costs, each of which is pertinent to a particular period of time. As a longer period of time is considered, more of the ‘fixed factors’ become variable. Because of this greater flexibility in the production process, long-run marginal cost will generally be less than short-run marginal costs.” A. Bergson in A Survey of Contemporary Economics.

 

Source: Hoover Institution Archives. Milton Friedman Papers, Box 77, Folder 2: “University of Chicago, Econ. 301”.

Image Source: Detail from picture of Milton Friedman at the Center for Advanced Study in the Behavioral Sciences, Stanford. University of Chicago Photographic Archive, pf1-06234, Hanna Holborn Gray Special Collections Research Center, University of Chicago Library.