Test Item File 3: Principles of Macroeconomics 4 Demand and Supply Applications 1. Explain what the phrase “price rationing” means.Price rationing is the process by which the market system allocates goods and services to consumers when quantity demanded exceeds quantity supplied.Difficulty: E Type: D2. What two important functions are performed by the price system?(1.) The price system is an automatic mechanism for distributing goods and services.(2.) The price system determines the allocation of resources among producers and the final mix of outputs.Difficulty: E Type: C3. Explain how the price system eliminates a shortage.A shortage means that quantity demanded is greater than quantity supplied. This will lead to upward pressure on price. As price rises, quantity demanded falls and quantity supplied rises. This will continue until quantity demanded is equal to quantity supplied.Difficulty: E Type: A74Test Item File 3: Principles of Macroeconomics 4. Why is it true that shortages usually occur mainly when price controls are in effect?In the absence of price controls the shortage usually goes away quickly because prices are bid up to eliminate the excess demand. But with price controls in effect the shortage usually persists. This helps explain why we usually only see long lines ineffect when the government imposes a price ceiling like it did during the 1970s so-called gas crisis.Difficulty: M Type: C5. Most modern countries have prohibitions on the trading of human organs in themarket place. What impact do you believe such laws have had on the availability of organs for patients that need them? Furthermore, which people are most likely to be able to obtain the organs that they require and why? Explain the ethical dilemma that is at work that makes the strict application of basic economic principles difficult to put into practice in cases like this.This is likely to have the effect of creating a shortage of organs. The reason is fairly simple. If organs were available for sale perhaps more people might be willing to offer the organs of their deceased family members on the market. Yet at a price of zero there are likely to be many eager customers without the corresponding number of organs available. Making them available for sale in the market might actually eliminate the shortage. The difficulty in applying this basic economic principle is that we do not, as a society, consider human organs to be a commodity that can be bought and sold. There is also the ethical problem that may arise when someone wishes to “hold out” for more money with an eager and willing patient who perhaps cannot “afford” the price. However, even under a system where organs can be legally traded there may be ways for richer patients to get around the rules by making donations to hospitals in a transparent attempt to influence their decision.Difficulty: D Type: C6. Colleges and universities often do not pay salaries that are market-driven. For example, itis typical for a history professor to make the same as an economics professor. What kindsof problems are likely to result from this kind of a pay scale?75Chapter 4: The Price System, and Demand and Supply If the salary for the history professor is above the market-clearing level that he or she is likely to earn working anywhere else than that is going to result in an excess ofapplicants vis-à-vis the number of available positions (i.e. an excess supply of labor).In addition, if the salary paid to economists is lower than the going rate that economists could earn in the private sector then that will lead to a shortage of economics professors (i.e. and excess demand for labor).Difficulty: D Type: C7. The rash of hurricanes that pelted the Gulf Coast in 2005 resulted in a large decline in gasoline production as many offshore rigs were shut down and many refineries were taken off line while waiting out the hurricane. The decrease in supplies of gasoline led to a run up in prices. Many voters clamored for relief by calling on their congressman and senators to enact temporary price controls. Analyze the impact on the gasoline market that would have transpired had politicians actually headed the calls by voters to impose price controls on gasoline.If temporary controls had been put into effect the likely impact on the market wouldhave been to create a shortage of gasoline. Put simply, this would have resulted in long lines at gas stations and other means of rationing gas as customers attempt to look for ways around the price control. Difficulty: M Type: C8. Assume that the government of the state of New Jersey has determined that a large number of injuries and deaths have occurred as a result of accidents involving the installation and repairs of electrical equipment at private residences. In reaction to this problem the state assembly decided to pass a law which made a requirement that all certified electricians take and pass a tougher state licensing examination. Analyze the impact that this law is likely to have on the market for electricians and explain why safetymay not necessarily improve.If the state licensing examination becomes more difficult it is likely that there will befewer authorized and certified electricians in the state of New Jersey. As a result thisreduction in supply will lead to higher wages for those who do qualify. The result however may lead more homeowners to perform electrical work themselves which might wipe out or more than wipe out the positive impact of having more highly qualified electricians performing work at private residences.Difficulty: D Type: C9. Explain how low-skilled workers might actually be made worse off from a minimum wage law in terms of working conditions and job training. In addition, what might be the long-run impact on wages and earnings?76Test Item File 3: Principles of Macroeconomics Essentially employers are not being allowed to offer lower wages to workers in exchange for more on-the-job training. Therefore, it is at least reasonable to assume that in the face of having to pay higher wages per hour that firms may simply react by providing less training. In the end this may actually have the effect of making workers less productive than they might otherwise be and lead to a reduction in life-time wages and earnings.Difficulty: D Type: C10. Suppose you came across the following headline in a story of a daily newspaper: “Automobile prices are so high right now that there