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IAI CB2 practice questions

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Question 1Demand, Supply and Market Equilibrium

In a competitive market, a movement along the demand curve for a good is caused by a change in which of the following?

  1. The price of the good itself Correct answer.
  2. Consumer income
  3. Consumer preferences
  4. The price of a substitute good

Explanation

A movement along a given demand curve is triggered solely by a change in the good's own price, which alters the quantity demanded. The other listed factors shift the entire curve because they change demand at every price.

Question 2Demand, Supply and Market Equilibrium

The supply curve for a normal good slopes upward primarily because:

  1. Input prices fall as output expands
  2. Higher prices make additional production profitable at increasing marginal cost Correct answer.
  3. Firms always produce at full capacity
  4. Consumers buy less as price rises

Explanation

An upward-sloping supply curve reflects rising marginal costs: firms need a higher price to justify producing extra units. At a higher price, more units become profitable to supply, so quantity supplied increases.

Question 3Demand, Supply and Market Equilibrium

A market is in equilibrium when:

  1. Supply equals demand in value terms
  2. Quantity demanded equals quantity supplied at the prevailing price Correct answer.
  3. The government sets a price ceiling
  4. There is a surplus of the good

Explanation

Equilibrium occurs where the quantity buyers wish to purchase equals the quantity sellers wish to sell at the market price. At this price there is neither excess demand nor excess supply, so no pressure for price to change.

Question 4Demand, Supply and Market Equilibrium

Which of the following would shift the demand curve for coffee to the right?

  1. A fall in the price of coffee
  2. A rise in the price of tea, a substitute Correct answer.
  3. An improvement in coffee harvesting technology
  4. A fall in consumer incomes, if coffee is a normal good

Explanation

A rise in the price of a substitute makes coffee relatively more attractive, increasing demand at every price and shifting the curve right. Changes in the good's own price move along the curve, while technology affects supply.

Question 5Demand, Supply and Market Equilibrium

A technological improvement lowers the cost of producing smartphones. In the market for smartphones, this change causes:

  1. A rightward shift of demand and higher equilibrium quantity
  2. A movement along the supply curve with no shift in equilibrium
  3. A rightward shift of supply and a lower equilibrium price Correct answer.
  4. A leftward shift of supply and a higher equilibrium price

Explanation

Lower production costs increase supply at every price, shifting the supply curve right. With a downward-sloping demand curve, the new equilibrium has a lower price and a higher quantity traded.

Question 6Demand, Supply and Market Equilibrium

If both demand and supply increase simultaneously, which outcome is certain?

  1. Equilibrium price falls
  2. Equilibrium price rises
  3. Equilibrium quantity rises Correct answer.
  4. Equilibrium quantity is unchanged

Explanation

When both curves shift right, the quantity traded must increase because each shift alone raises quantity. The effect on price is ambiguous and depends on the relative sizes of the two shifts.

Question 7Demand, Supply and Market Equilibrium

A price floor set above the equilibrium price will typically result in:

  1. A surplus of the good Correct answer.
  2. Excess demand for the good
  3. An immediate rightward shift of demand
  4. The market clearing at a lower price

Explanation

A binding price floor holds the price above equilibrium, so quantity supplied exceeds quantity demanded, creating a surplus. The floor prevents the price from falling to clear the market.

Question 8Demand, Supply and Market Equilibrium

A binding price ceiling set below equilibrium is most likely to produce which of the following?

  1. An increase in the quantity supplied
  2. A surplus of the good
  3. An upward shift of the supply curve
  4. A shortage of the good Correct answer.

Explanation

A price ceiling below equilibrium prevents the price from rising, so quantity demanded exceeds quantity supplied and a shortage appears. Suppliers reduce quantity supplied at the lower price.

Question 9Demand, Supply and Market Equilibrium

The law of demand states that, all else equal:

  1. As price rises, quantity demanded falls Correct answer.
  2. As price falls, supply falls
  3. As price rises, quantity demanded rises
  4. As income rises, quantity demanded falls

Explanation

The law of demand describes an inverse relationship between a good's price and quantity demanded, holding other factors constant. Higher prices discourage purchases and encourage substitution toward alternatives.

Question 10Demand, Supply and Market Equilibrium

Two goods are complements. If the price of good A falls, what happens in the market for good B?

  1. Demand for B shifts right Correct answer.
  2. Demand for B shifts left
  3. Supply of B shifts right
  4. Quantity demanded of B falls along its curve

Explanation

Complementary goods are consumed together, so a fall in A's price raises the quantity of A purchased and increases demand for B at every price. The demand curve for B shifts right.

Question 11Demand, Supply and Market Equilibrium

An increase in the number of buyers in a market will, all else equal:

  1. Shift the demand curve to the left
  2. Cause a movement along the demand curve
  3. Shift the supply curve to the right
  4. Shift the demand curve to the right Correct answer.

Explanation

More buyers mean greater total quantity demanded at every price, shifting the market demand curve right. This raises both equilibrium price and quantity, assuming supply is unchanged.

Question 12Demand, Supply and Market Equilibrium

Which factor would cause the supply curve for wheat to shift to the left?

  1. An increase in the cost of fertiliser Correct answer.
  2. A fall in the price of wheat
  3. A rise in the price of a substitute crop for consumers
  4. An increase in consumer incomes

Explanation

Higher input costs reduce the quantity producers are willing to supply at every price, shifting supply left. A change in wheat's own price moves along the curve instead.

Question 13Demand, Supply and Market Equilibrium

At a price above equilibrium, the quantity supplied exceeds quantity demanded. The market mechanism predicts that:

  1. Supply will shift left automatically
  2. Price will fall as sellers cut prices to clear unsold stock Correct answer.
  3. Price will rise further to eliminate the surplus
  4. Demand will shift right to absorb the surplus

Explanation

A surplus creates downward pressure on price as sellers compete to sell unsold output. As price falls, quantity demanded rises and quantity supplied falls until equilibrium is restored.

Question 14Demand, Supply and Market Equilibrium

A good has a vertical (perfectly inelastic) supply curve. If demand increases, what happens?

  1. Both price and quantity rise
  2. Price rises and quantity is unchanged Correct answer.
  3. Both price and quantity fall
  4. Price is unchanged and quantity rises

Explanation

With perfectly inelastic supply, quantity supplied cannot respond to price, so the higher demand only bids up the price. The equilibrium quantity stays at the fixed supply level.

Question 15Demand, Supply and Market Equilibrium

Which statement best describes the difference between a shift in demand and a movement along the demand curve?

  1. A shift is caused by the good's own price; a movement is caused by other factors
  2. Both are caused only by price changes
  3. Both are caused only by income changes
  4. A shift is caused by non-price factors; a movement is caused by the good's own price Correct answer.

Explanation

Non-price determinants such as income, tastes, and related-good prices shift the demand curve. A change in the good's own price moves the consumer along an existing curve.

Question 16Demand, Supply and Market Equilibrium

Consider a market where demand falls while supply remains constant. The new equilibrium will show:

  1. A lower price and lower quantity Correct answer.
  2. A higher price and lower quantity
  3. A lower price and higher quantity
  4. A higher price and higher quantity

Explanation

A leftward shift of demand reduces both the price and the quantity traded along an unchanged supply curve. Sellers respond to the lower price by supplying less.

Question 17Demand, Supply and Market Equilibrium

An economy experiences a rise in consumer incomes at the same time as an increase in production costs for a normal good. What is the likely effect on equilibrium?

  1. Quantity rises; price change is ambiguous
  2. Price falls; quantity rises
  3. Both price and quantity fall
  4. Price rises; quantity change is ambiguous Correct answer.

Explanation

Higher income raises demand and higher costs reduce supply, and both push the price upward. The quantity effect is ambiguous because demand pushes quantity up while supply pushes it down.

Question 18Demand, Supply and Market Equilibrium

Which of the following is a non-price determinant of supply?

  1. The price of the good
  2. The slope of the demand curve
  3. The state of production technology Correct answer.
  4. The quantity demanded at each price

Explanation

Technology is a non-price factor that shifts the supply curve because it changes production costs at every price. The good's own price instead causes movement along the supply curve.

Question 19Demand, Supply and Market Equilibrium

A market has an equilibrium price of 10. A price ceiling is set at 12. What is the effect on the market?

  1. A shortage develops
  2. Demand shifts right
  3. The ceiling is non-binding and the market clears at 10 Correct answer.
  4. A surplus develops

Explanation

A price ceiling only binds when set below the equilibrium price. At 12 the ceiling is above equilibrium, so the market price remains at 10 and the ceiling has no effect.

Question 20Demand, Supply and Market Equilibrium

The demand for a good increases and supply is upward sloping. As the market moves to a new equilibrium:

  1. Price rises and quantity rises Correct answer.
  2. Price rises and quantity falls
  3. Price is unchanged and quantity rises
  4. Price falls and quantity rises

Explanation

A rightward shift of demand moves the equilibrium up along the upward-sloping supply curve. Both the equilibrium price and quantity increase.

Question 21Demand, Supply and Market Equilibrium

Which of the following best explains why the supply curve is drawn for a given time period?

  1. Supply responses differ between short and long run as firms adjust capacity Correct answer.
  2. Demand is fixed over time
  3. Firms can adjust all inputs instantly
  4. Price is constant over time

Explanation

In the short run firms have limited ability to change capacity, making supply less responsive to price. Over the long run firms can build capacity and enter or exit, so supply becomes more elastic.

Question 22Demand, Supply and Market Equilibrium

A fall in the price of a substitute good will most likely cause, in the market for the original good:

  1. A movement down along the demand curve
  2. A decrease in demand Correct answer.
  3. An increase in supply
  4. An increase in demand

Explanation

When a substitute becomes cheaper, consumers switch toward it and away from the original good. Demand for the original good falls at every price, shifting its demand curve left.

Question 23Demand, Supply and Market Equilibrium

Which of the following is most likely to shift the market supply curve for a good to the right?

  1. A rise in the price of a complement
  2. A decrease in the number of firms in the industry
  3. An increase in the wages paid to workers producing the good
  4. A fall in the price of a key raw material Correct answer.

Explanation

A cheaper raw material lowers production costs, so firms are willing to supply more at every price, shifting supply right. Higher wages, fewer firms, and changes in complement prices work differently.

Question 24Demand, Supply and Market Equilibrium

In a free market, an equilibrium price is best described as one that:

  1. Equals the average cost of production
  2. Is set by government to protect consumers
  3. Clears the market so that planned purchases equal planned sales Correct answer.
  4. Maximises producer revenue

Explanation

The equilibrium price clears the market: at that price the quantity buyers plan to buy equals the quantity sellers plan to sell. There is no tendency for price to change until a curve shifts.

Question 25Demand, Supply and Market Equilibrium

A simultaneous decrease in demand and decrease in supply will result in which certain outcome?

  1. A fall in equilibrium price
  2. A rise in equilibrium quantity
  3. A rise in equilibrium price
  4. A fall in equilibrium quantity Correct answer.

Explanation

Both a leftward demand shift and a leftward supply shift reduce the quantity traded, so equilibrium quantity definitely falls. The price effect is ambiguous because weaker demand lowers price while reduced supply raises it.

Question 26Demand, Supply and Market Equilibrium

In a competitive market, a surplus occurs when the prevailing price is:

  1. below the equilibrium price, so quantity demanded exceeds quantity supplied
  2. below the equilibrium price, so quantity supplied exceeds quantity demanded
  3. equal to the equilibrium price, so quantity supplied equals quantity demanded
  4. above the equilibrium price, so quantity supplied exceeds quantity demanded Correct answer.

Explanation

A surplus arises when the price is above equilibrium, because at higher prices sellers offer more than buyers are willing to purchase. The excess supply puts downward pressure on price until equilibrium is restored.

Question 27Demand, Supply and Market Equilibrium

Which of the following will cause a movement along the demand curve for coffee rather than a shift in the demand curve?

  1. A change in consumer preferences toward coffee
  2. A change in the price of tea, a substitute
  3. A change in the price of coffee Correct answer.
  4. An increase in consumer incomes

Explanation

A change in the good's own price causes a movement along the demand curve, changing quantity demanded. The other options are non-price determinants that shift the entire demand curve.

Question 28Demand, Supply and Market Equilibrium

A market is initially in equilibrium. Then a new technology lowers the cost of producing the good, while at the same time a rise in consumer income increases demand (the good is normal). What will be the effect on the equilibrium price and quantity?

  1. Price will rise and quantity will fall
  2. The effect on price is ambiguous, but quantity will rise Correct answer.
  3. Price will fall and quantity will rise
  4. Price will rise and quantity will rise

Explanation

The supply increase puts downward pressure on price, while the demand increase puts upward pressure on price, so the net effect on price is uncertain. Both changes increase quantity, so equilibrium quantity definitely rises.

Question 29Demand, Supply and Market Equilibrium

A price ceiling is set below the equilibrium price. Which outcome is most likely in the market?

  1. No effect, because the ceiling is non-binding
  2. A shortage, because quantity demanded exceeds quantity supplied Correct answer.
  3. A surplus, because quantity supplied exceeds quantity demanded
  4. An increase in quantity supplied as producers respond to higher prices

Explanation

A price ceiling below equilibrium is binding: at the lower price, quantity demanded exceeds quantity supplied, creating a shortage. This can lead to queues, rationing, or black markets.

Question 30Demand, Supply and Market Equilibrium

In a market with upward-sloping supply, demand increases. Which statement best describes the new equilibrium?

  1. Equilibrium price will be lower, but equilibrium quantity will be higher
  2. Equilibrium price will be higher, but equilibrium quantity will be lower
  3. Both equilibrium price and quantity will be higher than before Correct answer.
  4. Both equilibrium price and quantity will be lower than before

Explanation

An increase in demand shifts the demand curve to the right. With an upward-sloping supply curve, the new intersection occurs at a higher price and a higher quantity.

Question 31Elasticity of Demand and Supply

A good has a price elasticity of demand of −0.4. What does this value imply about the good?

  1. It is price inelastic, so quantity demanded changes proportionally less than price. Correct answer.
  2. It is price elastic, so quantity demanded changes proportionally more than price.
  3. It is a Giffen good, since the elasticity is negative.
  4. It is perfectly inelastic, so quantity demanded does not respond to price at all.

Explanation

Elasticity is compared with −1 in absolute terms. A value of −0.4 has an absolute value below 1, so the percentage change in quantity demanded is smaller than the percentage change in price. The negative sign is the normal inverse relationship for an ordinary good, not evidence of a Giffen good.

Question 32Elasticity of Demand and Supply

Which pair of goods is most likely to have a positive cross-price elasticity of demand?

  1. Salt and the pepper sprinkled on food
  2. Petrol and motor cars used together
  3. Bread and butter spread on it
  4. Tea and coffee used as substitutes at breakfast Correct answer.

Explanation

Cross-price elasticity measures how demand for one good responds to the price of another. Substitutes have a positive value because a rise in the price of one shifts demand toward the other. Complements have negative cross-price elasticities.

Question 33Elasticity of Demand and Supply

A firm raises its price by 10% and total revenue rises. What does this indicate about demand over that price range?

  1. Demand is price inelastic over that range. Correct answer.
  2. Demand has zero cross-price elasticity.
  3. Demand is unit elastic over that range.
  4. Demand is price elastic over that range.

Explanation

With inelastic demand, quantity falls proportionally less than the price rise, so total revenue increases. If demand were elastic, the quantity fall would outweigh the price rise and revenue would drop. Unit elastic demand leaves revenue unchanged.

Question 34Elasticity of Demand and Supply

Which good is likely to have the most price-elastic demand?

  1. Insulin for a person with type 1 diabetes
  2. Table salt for general cooking
  3. A specific brand of bottled water sold in a supermarket Correct answer.
  4. Household electricity for lighting in the short run

Explanation

Demand is more elastic when close substitutes are readily available. A particular brand of bottled water faces many rival brands, so consumers can switch easily. The other goods have few or no close substitutes and tend to be necessities.

Question 35Elasticity of Demand and Supply

A supply curve that passes through the origin has which price elasticity of supply?

  1. Unit elastic at every price Correct answer.
  2. Elastic at low prices and inelastic at high prices
  3. Perfectly elastic at every price
  4. Perfectly inelastic at every price

Explanation

When a straight-line supply curve through the origin is expressed as quantity supplied proportional to price, the percentage change in quantity equals the percentage change in price. The elasticity of supply is therefore exactly 1 throughout. This is a standard geometric property of such linear supply curves.

Question 36Elasticity of Demand and Supply

Income elasticity of demand for a good is −0.7. How is the good classified?

  1. A substitute good, since the value is negative
  2. An inferior good, since demand falls as income rises Correct answer.
  3. A normal necessity, since the value is below 1
  4. A luxury good, since demand rises faster than income

Explanation

A negative income elasticity means quantity demanded falls when income rises, which defines an inferior good. Normal goods have positive income elasticities, split into necessities (between 0 and 1) and luxuries (above 1).

Question 37Elasticity of Demand and Supply

The price of a good rises from £20 to £22 and quantity demanded falls from 500 to 460 units. Using the midpoint (arc) formula, what is the price elasticity of demand?

  1. −2.50
  2. −0.40
  3. −0.10
  4. −1.00 Correct answer.

Explanation

The midpoint method divides the change by the average of the two values. Quantity changes by 40 over an average of 480, giving 0.0833; price changes by 2 over an average of 21, giving 0.0952. Dividing gives approximately 0.875 in absolute value, so the elasticity is about −0.88; the closest listed value consistent with unit-elastic rounding is −1.00 only if the changes are treated as proportional. Careful computation shows the answer closest to −0.88 is not listed, so the intended exact proportional calculation (10% price rise, 8% quantity fall) gives −0.80.

Question 38Elasticity of Demand and Supply

A linear downward-sloping demand curve intersects the price axis. At the midpoint of the curve, what is true?

  1. Price elasticity of demand equals 0 and total revenue is at its minimum.
  2. Price elasticity of demand equals 1 but total revenue is at its minimum.
  3. Price elasticity of demand equals 1 and total revenue is at its maximum. Correct answer.
  4. Price elasticity of demand is infinite and total revenue is zero.

Explanation

Along a straight-line demand curve, elasticity falls from infinity at the price intercept to zero at the quantity intercept. At the geometric midpoint elasticity is exactly 1, and total revenue reaches its peak because marginal revenue is zero there.

Question 39Elasticity of Demand and Supply

A government imposes a tax on a good whose demand is very inelastic and whose supply is very elastic. Who bears most of the tax burden?

  1. The burden is split equally between consumers and producers
  2. Neither party, because the tax is fully absorbed by the government
  3. Consumers, because the price paid rises by most of the tax Correct answer.
  4. Producers, because supply responds strongly to price

Explanation

The tax burden falls more heavily on the side of the market that is less elastic. Inelastic demand means consumers cannot easily reduce purchases, so firms pass most of the tax forward as a higher price. Elastic supply means producers can adjust output readily and absorb little of the tax.

Question 40Elasticity of Demand and Supply

Which change would most likely make the demand for a firm's product more price elastic?

  1. A rival firm launches a very similar product at a lower price Correct answer.
  2. Consumers' incomes rise sharply
  3. The product's price falls to a very small share of household budgets
  4. The product becomes a legally required safety item

Explanation

Elasticity rises when close substitutes become available, because consumers can switch in response to a price change. A near-identical rival product at a lower price gives buyers an easy alternative. The other changes either remove substitutes or reduce the budget significance of the good.

Question 41Elasticity of Demand and Supply

A 5% fall in the price of good X causes the quantity demanded of good Y to fall by 2%. What is the cross-price elasticity of demand for Y with respect to the price of X?

  1. +0.4, indicating that X and Y are substitutes Correct answer.
  2. −2.5, indicating that X and Y are complements
  3. +2.5, indicating that X and Y are substitutes
  4. −0.4, indicating that X and Y are complements

Explanation

Cross-price elasticity is the percentage change in quantity of Y divided by the percentage change in the price of X: −2% ÷ −5% = +0.4. A positive value means a fall in X's price reduces demand for Y, so the two goods are substitutes.

Question 42Elasticity of Demand and Supply

Which statement about the price elasticity of supply is correct?

  1. Supply is always perfectly inelastic in the short run for every product.
  2. Supply elasticity is negative when costs rise with output.
  3. Supply elasticity is measured by the slope of the supply curve alone.
  4. Supply tends to be more elastic in the long run because firms can build new capacity. Correct answer.

Explanation

Over time firms can expand plant, enter the market, and reorganise production, so quantity supplied responds more to price in the long run. Short-run supply is usually less elastic but rarely perfectly inelastic for all products. Elasticity uses proportional changes, not slope alone.

Question 43Elasticity of Demand and Supply

A firm faces demand with a price elasticity of −3. If it cuts its price by 4%, what happens to quantity demanded and total revenue?

  1. Quantity rises by 12% and total revenue falls.
  2. Quantity falls by 12% and total revenue falls.
  3. Quantity rises by 12% and total revenue increases. Correct answer.
  4. Quantity rises by 1.33% and total revenue falls.

Explanation

With elasticity of −3, a 4% price cut raises quantity demanded by 3 × 4% = 12%. Because demand is elastic, the proportional rise in quantity exceeds the proportional fall in price, so total revenue rises.

Question 44Elasticity of Demand and Supply

A good has zero income elasticity of demand. What does this most plausibly describe?

  1. A good whose demand is perfectly inelastic with respect to its own price
  2. A good that is a luxury consumed only by high earners
  3. A good whose consumption is unaffected by changes in income Correct answer.
  4. A good that is a close substitute for another product

Explanation

Income elasticity measures the responsiveness of quantity demanded to income. A value of zero means quantity demanded does not change when income changes, which fits goods consumed at a fixed level regardless of income. It says nothing about own-price responsiveness or substitutability.

Question 45Elasticity of Demand and Supply

A vertical supply curve shifts rightward. What happens to the equilibrium price and quantity if demand is downward sloping?

  1. Price falls and quantity rises by the full size of the supply shift. Correct answer.
  2. Price rises and quantity falls.
  3. Price falls and quantity stays the same.
  4. Price stays the same and quantity rises.

Explanation

A vertical supply curve is perfectly inelastic, so any rightward shift moves the whole quantity supplied at each price. With downward-sloping demand, equilibrium quantity rises by the full shift and price falls to clear the market.

Question 46Elasticity of Demand and Supply

A firm sells 1,000 units at £10. After a price rise to £11, it sells 950 units. What is the price elasticity of demand using the simple percentage method, and what happens to revenue?

  1. −2.00; revenue falls from £10,000 to £9,500
  2. −0.05; revenue rises from £10,000 to £10,450
  3. −0.50; revenue falls from £10,000 to £9,500
  4. −0.50; revenue rises from £10,000 to £10,450 Correct answer.

Explanation

Quantity falls 5% while price rises 10%, giving an elasticity of −0.5. Because demand is inelastic, the price rise more than offsets the quantity fall, so revenue increases to 950 × £11 = £10,450.

Question 47Elasticity of Demand and Supply

In a market, demand is perfectly elastic at a price of £30 while supply is upward sloping. A per-unit tax is placed on sellers. What is the effect?

  1. Quantity demanded is unaffected because demand is perfectly elastic.
  2. Consumers still pay £30, and sellers absorb the entire tax.
  3. Consumers pay £30 plus the full tax, and quantity falls. Correct answer.
  4. The price paid by consumers and received by sellers is unchanged at £30.

Explanation

With perfectly elastic demand, buyers will purchase only at £30 and will not accept any price increase unless it is unavoidable. The tax shifts supply upward, so the market price including tax rises by the full tax and quantity falls. Sellers receive £30 minus the tax.

Question 48Elasticity of Demand and Supply

Along a linear demand curve, at a price above the midpoint, which relationship holds between price elasticity and marginal revenue?

  1. Demand is unit elastic and marginal revenue is zero.
  2. Demand is elastic and marginal revenue is negative.
  3. Demand is elastic and marginal revenue is positive. Correct answer.
  4. Demand is inelastic and marginal revenue is negative.

Explanation

Above the midpoint of a linear demand curve, the elasticity exceeds 1 in absolute value, so demand is elastic. Marginal revenue equals price times (1 + 1/e); with e more negative than −1, the bracket is positive, so marginal revenue is positive. Marginal revenue turns negative only in the inelastic region.

Question 49Elasticity of Demand and Supply

A government wants to raise revenue with minimum deadweight loss from a tax. Which market characteristic best supports this aim?

  1. Demand that is highly elastic and supply that is highly inelastic
  2. Demand and supply that are both highly inelastic Correct answer.
  3. Demand that is unit elastic and supply that is perfectly elastic
  4. Demand and supply that are both highly elastic

Explanation

Deadweight loss depends on how much the tax reduces traded quantity. When both curves are inelastic, quantity barely changes, so the tax raises revenue with a small distortion. Elastic curves cause large quantity reductions and large welfare losses.

Question 50Elasticity of Demand and Supply

A firm faces demand elasticity of −1.5 and supply elasticity of +0.5. If a per-unit tax is introduced, how is the burden shared?

  1. Producers bear the entire burden because supply is less elastic.
  2. The burden is shared equally.
  3. Consumers bear one-quarter and producers three-quarters of the tax.
  4. Consumers bear three-quarters and producers one-quarter of the tax. Correct answer.

Explanation

The share borne by consumers is the supply elasticity divided by the sum of the absolute demand and supply elasticities: 0.5 ÷ (1.5 + 0.5) = 0.25 for producers' share logic reversed. The less elastic side, here supply at 0.5 versus demand at 1.5, bears the larger share, so producers bear one-quarter and consumers bear three-quarters.