1) Using the concepts of marginal social benefit and marginal social cost, explain how the optimal combination of goods can be determined in an economy that produces only two goods

1. Marginal social benefit is an upward sloping curve which shows the benefit derived to the society by producing or consuming one more unit of product and marginal social cost is a negative sloping curve which shows that the cost that the society will incur from the consumption or production of one more unit of the goods. The optimal quantity of goods is determined by the point where the marginal social benefit curve cuts the marginal social cost curve.

2. _a_ is correct.

It is because under monopoly there is a single seller of the product and therefore, close substitute is also not available.

Explanation of incorrect options:

_b_ is incorrect.

It is because a pure command economy defines the socialist economy.

_c_ is incorrect.

It is because, in a purely competitive market, a large number of seller and buyers interacts.

_d_ is incorrect.

It is because, in imperfectly competitive market, more than one seller is present.

_e_ is incorrect.

It is because, under oligopoly, there are few large firms.

3. Other things being equal, a demand curve is a negative sloping curve which represents the indirect relationship between the price and quantity demanded. Following factors are held constant while drawing demand curve:

• Price of related goods: Price of substitute goods and complementary goods are held constant because any change in the prices of related goods will cause a change in demand for the good.
• Income of the consumer: A change in income of the consumer will change the purchasing power and therefore will affect the demand for the goods. So, the income of the consumer is held constant while evaluating the relationship between quantity demanded and price.
• Taste and preferences: A favorable and unfavorable taste and preference can affect the demand of the good and therefore held constant will drawing demand curve.
• Expectation: Consumers? expectation towards the future will influence the current demand of the good and are held constant while drawing demand curve.