AP Microeconomics Supply and Demand — Worked Answer Explanations

Unit 2 · 12 questions explained

Below is a complete answer key for our AP Microeconomics Supply and Demand practice questions. For each question you'll find the correct choice, a full written explanation of how to get there, and — for every wrong answer — a short note on exactly why it's tempting and where it goes wrong. Reading these straight through is one of the fastest ways to find the gaps in a unit before exam day.

Prefer to test yourself first? Take the timed Supply and Demand practice test and come back here to review, or head back to the Supply and Demand unit overview.

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Question 1 · Easy
Consumer surplus in a competitive market is best defined as:
- A
  The total amount consumers spend on a good.
  Why not A: Total consumer spending equals $P \times Q$ , which is consumer expenditure, not surplus. Surplus is the difference between willingness to pay and actual payment.
- B
  The difference between the maximum price consumers are willing to pay and the price they actually pay.Correct
- C
  The profit earned by consumers from reselling goods at higher prices.
  Why not C: Consumer surplus is a welfare concept about the gain from purchasing at a price below one's willingness to pay — not resale profit.
- D
  The revenue a seller receives above the minimum acceptable price.
  Why not D: This describes producer surplus, not consumer surplus.
Explanation
Consumer surplus is the area below the demand curve and above the market price, up to the equilibrium quantity. It measures the total net benefit consumers receive — the sum of each unit's willingness to pay minus the price paid. Graphically, it is a triangle with base equal to the equilibrium quantity and height equal to (demand intercept − equilibrium price). A lower market price increases consumer surplus.

Key takeaway
Consumer surplus = willingness to pay − price paid; graphically the triangle above the price and below the demand curve.
Question 2 · Easy
Producer surplus can be defined as:
- A
  Total revenue minus total explicit costs of production.
  Why not A: That definition describes accounting profit. Producer surplus is the area above the supply curve and below price, measuring the gain above marginal cost.
- B
  The amount producers receive above the minimum they would accept for each unit sold.Correct
- C
  The quantity supplied minus the quantity demanded at the market price.
  Why not C: That expression describes a surplus (excess supply) as a market imbalance — not producer surplus, which is a welfare measure.
- D
  The difference between the maximum price consumers pay and the equilibrium price.
  Why not D: This describes consumer surplus, not producer surplus.
Explanation
Producer surplus is the area above the supply curve and below the market price, up to the equilibrium quantity. The supply curve reflects sellers' minimum acceptable prices (their marginal costs). When sellers receive the market price, those who would have accepted less earn producer surplus equal to the difference. Graphically, it is a triangle with base equal to the equilibrium quantity and height equal to (equilibrium price − supply intercept).

Key takeaway
Producer surplus = price received − minimum acceptable price; the triangle above the supply curve and below the price.
Question 3 · Easy
In a competitive market for gasoline, which of the following would cause the equilibrium price to rise and equilibrium quantity to fall?
- A
  An increase in consumer incomes, assuming gasoline is a normal good.
  Why not A: Higher incomes shift demand right, raising both price and quantity — not raising price while lowering quantity.
- B
  A decrease in the price of crude oil, a key input.
  Why not B: Cheaper crude oil lowers production costs, shifting supply right, which lowers price and raises quantity.
- C
  A new environmental regulation that raises refining costs.Correct
- D
  An increase in the number of sellers in the gasoline market.
  Why not D: More sellers shift supply right, lowering price and raising quantity — the opposite of the stated outcome.
Explanation
A regulation that raises refining costs increases the cost of production, shifting the supply curve to the left. With a leftward supply shift and demand unchanged, equilibrium price rises and equilibrium quantity falls. The other choices either shift demand or supply in the wrong direction to produce the described outcome.

Key takeaway
A supply decrease (leftward shift) raises equilibrium price and lowers equilibrium quantity.
Question 4 · Easy
When the price of coffee rises by 10% and the quantity of tea demanded increases by 15%, the cross-price elasticity of demand for tea with respect to coffee is approximately:
- A
  $- 1.5$ , indicating that coffee and tea are complements.
  Why not A: A negative cross-price elasticity indicates complements. Coffee and tea are substitutes, so the elasticity should be positive.
- B
  $+ 1.5$ , indicating that coffee and tea are substitutes.Correct
- C
  $+ 0.67$ , indicating that coffee and tea are substitutes.
  Why not C: This inverts the formula: $E_{x y} = \frac{%Δ Q _{y}}{%Δ P _{x}} = \frac{10}{15}$ , not $\frac{15}{10}$ .
- D
  $0$ , indicating that coffee and tea are unrelated goods.
  Why not D: Zero cross-price elasticity means no relationship between goods. A clear positive response in tea demand when coffee price rises shows they are substitutes.
Explanation
Cross-price elasticity of demand is $E_{x y} = \frac{%Δ Q _{y}}{%Δ P _{x}} = \frac{+ 15%}{+ 10%} = + 1.5$ . A positive cross-price elasticity indicates the goods are substitutes: when coffee becomes more expensive, consumers switch to tea. A negative cross-price elasticity would indicate complements (e.g., coffee and cream).

Key takeaway
$E_{cross} > 0$ → substitutes; $E_{cross} < 0$ → complements; calculated as $\frac{\% \Delta Q_y}{\% \Delta P_x}$.
Question 5 · Easy
A price ceiling set below the equilibrium price will most likely result in:
- A
  A surplus because the controlled price is below equilibrium.
  Why not A: A price below equilibrium raises quantity demanded and reduces quantity supplied — this creates a shortage, not a surplus.
- B
  A shortage because quantity demanded exceeds quantity supplied at the ceiling price.Correct
- C
  No change in quantity traded because sellers can negotiate around the ceiling.
  Why not C: A binding price ceiling legally prevents prices from rising to equilibrium, so the controlled price does affect market outcomes.
- D
  A surplus because suppliers produce extra output to compensate for the lower price.
  Why not D: Lower prices reduce producer incentives to supply, not increase them. Production falls, not rises.
Explanation
A binding price ceiling is set below the free-market equilibrium price. At this lower price, the quantity demanded rises above equilibrium (consumers want more) while the quantity supplied falls below equilibrium (producers supply less). The result is a shortage: $Q_{d} > Q_{s}$ . Non-price rationing mechanisms (waiting lines, rationing cards) emerge to allocate the limited supply.

Key takeaway
A binding price ceiling (set below equilibrium) creates a shortage: $Q_d > Q_s$.
Question 6 · Easy
If the price elasticity of demand for insulin is $∣ E_{d} ∣ = 0.2$ , which of the following best describes this demand?
- A
  Elastic, because consumers are very responsive to price changes.
  Why not A: Elastic demand has $∣ E_{d} ∣ > 1$ . An elasticity of 0.2 means consumers are relatively unresponsive — demand is inelastic.
- B
  Inelastic, because consumers are relatively unresponsive to price changes.Correct
- C
  Unit elastic, because the percentage change in price equals the percentage change in quantity.
  Why not C: Unit elasticity occurs at $∣ E_{d} ∣ = 1$ , not 0.2.
- D
  Perfectly elastic, because insulin is a life-saving drug.
  Why not D: Perfectly elastic demand ( $∣ E_{d} ∣ = \infty$ ) means any price increase causes quantity demanded to fall to zero — the opposite of the near-necessity scenario described.
Explanation
Price elasticity of demand $∣ E_{d} ∣ = 0.2 < 1$ indicates inelastic demand. Insulin is a medical necessity with no close substitutes for diabetics, so a large percentage price increase causes only a small percentage decrease in quantity demanded. Factors that make demand inelastic include: being a necessity, having few substitutes, being a small share of income, and short time horizons.

Key takeaway
$|E_d| < 1$ = inelastic (quantity unresponsive); $|E_d| > 1$ = elastic (quantity responsive); $|E_d| = 1$ = unit elastic.
Question 7 · Easy
Which of the following markets would most likely have the most price-elastic demand?
- A
  Prescription heart medication with no generic alternative.
  Why not A: No close substitutes and life-necessity status make demand highly inelastic.
- B
  Gasoline for commuters with no public transit option.
  Why not B: Gasoline for necessary commuting with limited alternatives tends to be inelastic in the short run.
- C
  A specific brand of luxury wristwatch.Correct
- D
  Table salt purchased for cooking.
  Why not D: Salt is a small-budget necessity with few substitutes — typically very inelastic demand.
Explanation
Demand is more elastic when goods have many close substitutes, represent a large share of income, are luxuries rather than necessities, and when consumers have more time to adjust. A specific brand of luxury wristwatch meets multiple criteria: it is a luxury, has many close substitutes (other brands, other luxury goods), and represents a significant purchase. A higher price would drive many consumers to comparable alternatives, making the demand highly responsive to price changes.

Key takeaway
Elasticity increases with more substitutes, luxury status, larger budget share, and longer adjustment time.
Question 8 · Medium
A 10% increase in the price of a good leads to a 10% decrease in quantity demanded. What is the price elasticity of demand, and what happens to total revenue?
- A
  $∣ E_{d} ∣ = 1$ ; total revenue remains unchanged.Correct
- B
  $∣ E_{d} ∣ = 1$ ; total revenue increases because price rose.
  Why not B: At unit elasticity, the percentage rise in price exactly offsets the percentage fall in quantity — $T R = P \times Q$ stays constant.
- C
  $∣ E_{d} ∣ = 2$ ; total revenue decreases because demand is elastic.
  Why not C: The elasticity here is $\frac{10%}{10%} = 1$ , not 2. With unit elasticity, TR is unchanged.
- D
  $∣ E_{d} ∣ = 0.5$ ; total revenue increases because demand is inelastic.
  Why not D: An elasticity of 0.5 would require the quantity to fall by only 5% for a 10% price increase. Here both changes are 10%, giving $∣ E_{d} ∣ = 1$ .
Explanation
$∣ E_{d} ∣ = \frac{%Δ Q _{d}}{%Δ P} = \frac{10%}{10%} = 1$ (unit elastic). The total revenue test: when $∣ E_{d} ∣ = 1$ , a price increase raises P but reduces Q proportionally, leaving $T R = P \times Q$ unchanged. When $∣ E_{d} ∣ > 1$ (elastic), a price increase reduces TR. When $∣ E_{d} ∣ < 1$ (inelastic), a price increase raises TR.

Key takeaway
Unit elastic demand ($|E_d| = 1$) means total revenue is unchanged when price changes.
Question 9 · Medium
When incomes in a city rise and the price of apartments increases but the quantity rented stays the same, what most likely occurred?
- A
  Both supply and demand shifted left by equal amounts.
  Why not A: Rising incomes shift demand right; supply would need to shift left for price to rise. But equal leftward supply and rightward demand shifts would raise price with constant quantity only if perfectly offsetting — possible but not the most natural explanation.
- B
  Demand increased (shifted right) while supply also increased (shifted right) by the same amount.
  Why not B: If both supply and demand shift right equally, quantity increases but price stays the same — the opposite of what is observed.
- C
  Demand increased (shifted right) while supply decreased (shifted left) by an equal amount.Correct
- D
  Only supply decreased, causing price to rise and quantity to fall.
  Why not D: A supply decrease alone would raise price but also reduce quantity — not keep it constant.
Explanation
Rising incomes shift apartment demand right (apartments are a normal good), which by itself would raise both price and quantity. For quantity to remain constant, supply must simultaneously decrease (shift left) by an equal amount. The rightward demand shift and leftward supply shift together raise the equilibrium price while keeping equilibrium quantity unchanged. This simultaneous-shift analysis is a common AP exam graph question.

Key takeaway
Price rises with constant quantity when demand shifts right and supply shifts left by equal magnitudes.
Question 10 · Medium
A price floor set above the equilibrium wage in the labor market will most likely result in:
- A
  A shortage of workers, as employment exceeds the number of workers willing to work.
  Why not A: A price floor above equilibrium raises the wage, increasing the quantity of labor supplied and reducing the quantity demanded — this creates a surplus of labor (unemployment), not a shortage.
- B
  A surplus of labor (unemployment), as quantity supplied exceeds quantity demanded.Correct
- C
  No impact if firms hire all workers who apply at the higher wage.
  Why not C: Firms maximize profit; at a wage above equilibrium, the quantity of labor demanded falls — they will not hire as many workers as before.
- D
  A decrease in the quantity of labor supplied because workers prefer leisure at higher wages.
  Why not D: Higher wages generally increase quantity of labor supplied (the substitution effect dominates for most workers in standard models), creating an excess supply of labor.
Explanation
A minimum wage (price floor) set above the equilibrium wage is binding. At the higher wage, more workers want to work ( $Q_{s}$ rises) but fewer firms want to hire ( $Q_{d}$ falls). The resulting gap ( $Q_{s} > Q_{d}$ ) represents a surplus of labor — unemployment. This is the standard supply-and-demand analysis of minimum wage effects: binding floors create surpluses; binding ceilings create shortages.

Key takeaway
A binding price floor (above equilibrium) creates a surplus; in labor markets, a binding minimum wage creates unemployment.
Question 11 · Medium
If the income elasticity of demand for a good is $- 0.8$ , the good is classified as:
- A
  A normal good with elastic demand.
  Why not A: A negative income elasticity classifies the good as inferior, not normal. Elastic vs inelastic refers to price elasticity, not income elasticity.
- B
  A luxury good because the elasticity is less than 1 in absolute value.
  Why not B: Luxury goods have income elasticity > 1 (positive). Negative income elasticity identifies inferior goods.
- C
  An inferior good, because demand falls as income rises.Correct
- D
  A necessity, because the elasticity is less than 1.
  Why not D: Necessities have positive income elasticity between 0 and 1. A negative income elasticity means demand moves opposite to income — the hallmark of an inferior good.
Explanation
Income elasticity of demand $= \frac{%Δ Q _{d}}{%Δ I n co m e}$ . A negative income elasticity ( $- 0.8$ ) means that as income rises, demand for the good falls — consumers substitute away toward higher-quality alternatives. This is the definition of an inferior good (e.g., generic store brands, instant noodles). Normal goods have positive income elasticity; luxury goods have income elasticity $> 1$ .

Key takeaway
$E_{income} < 0$ → inferior good; $0 < E_{income} < 1$ → normal necessity; $E_{income} > 1$ → luxury good.
Question 12 · Hard
A deadweight loss (DWL) in a market arises whenever:
- A
  Equilibrium price is higher than the minimum price consumers are willing to pay.
  Why not A: That describes consumer surplus forgone at the margin, not deadweight loss. DWL requires quantity to diverge from the efficient level.
- B
  Quantity traded falls below or rises above the socially optimal (competitive equilibrium) quantity.Correct
- C
  Total consumer surplus exceeds total producer surplus.
  Why not C: The relative sizes of consumer and producer surplus do not create DWL; DWL arises from units of output not produced or consumed that would have created net social gains.
- D
  The government collects tax revenue from market transactions.
  Why not D: Tax revenue itself is not deadweight loss — it is a transfer from consumers and producers to the government. DWL is the surplus that no one receives because transactions don't occur.
Explanation
Deadweight loss is the reduction in total surplus (consumer + producer) that occurs when the quantity traded differs from the competitive equilibrium quantity. At the competitive equilibrium, all mutually beneficial trades occur. When a price control, tax, or market power causes quantity to fall below (or in rare cases rise above) the optimum, some units that would generate positive net surplus are not traded — those foregone gains are the DWL. Graphically, DWL is the welfare triangle lost between the controlled and efficient quantities.

Key takeaway
DWL = foregone total surplus from units not traded at the efficient quantity; arises from price controls, taxes, or market power.