The following figure shows the demand curve ES, the average cost curve
AC, the marginal cost curve MC, and the marginal revenue curve MR for a
firm.
Figure 8-1
Refer to Figure 8-1. If the firm operates as a monopoly in an unregulated
market, its profit-maximizing price and output would be _____,
respectively.
a) C and Q
b) A and Q
c) B and R
d) D and P
e) A and T
(a) How will an increase in overhead costs affect the demand and supply curves for a
firm? Will an increase in the price of a raw material used in production have the same
effect?
(b) Given that the output in the market is supplied by both domestic and foreign firms,
how would a depreciation of the domestic currency in terms of the foreign currency
affect the domestic firm?
The government is deciding whether it should build a veteran’s hospital in an urban
area. It will choose to build the hospital only if:
a) the hospital generates positive revenues.
b) the cost of building the hospital is low.
c) the profits from the hospital are positive.
d) the opportunity cost of building the hospital is zero.
e) the total benefits from the hospital exceed total costs.
Which of the following is an example of self selection?
a) A buyer who makes a large raise in bid at an auction to discourage other bidders.
b) A doctor who performs a large number of in-office tests and is paid per test.
c) An elderly couple who elect a generous medical insurance policy.
d) A CEO who takes certain self-interested actions that diminish overall shareholder
value.
e) A pitcher (about to sign with a new team) who is aware of a nagging elbow pain.
The profit margins for fast food firms like Wendy’s have fallen because of an increase in
competition from similar fast food chains and microwaveable food available in
supermarkets. Based on this information, which of the following is true?
a) The elasticity of demand for Wendy’s fast food is relatively inelastic.
b) Wendy’s operates as a monopoly firm in the fast food market.
c) The fast food market is monopolistically competitive.
d) Wendy’s fast food is an inferior good for most consumers.
e) There are strategic entry barriers in the fast-food market.
A market is considered a pure monopoly when:
a) all firms in the market sell homogeneous goods.
b) there is a single buyer for the goods produced in the market.
c) the firm produces a good that has imperfect substitutes.
d) a single firm produces a good that has no close substitutes.
e) there are low entry barriers in the market.
An event’s revised probability depends on:
a) purely subjective assessments.
b) prior probabilities and the accuracy of new information.
c) the sum of the prior probability and the conditional probability.
d) the expected value of information.
e) a consensus among experts’ opinions.
Firm X sells output at a price of $8 per unit and pays labor a wage of $20 per hour. The
marginal product of labor is given by: MPL= 12 ‘“ .1L. To maximize profit, the firm
should utilize _____ hours of labor.
a) 75
b) 80
c) 85
d) 90
e) 95
Among competing firms, a firm’s actions are considered strategic substitutes when:
a) an increase in one firm’s action causes the other firm’s optimal reaction to decrease.
b) competing goods are very close substitutes for one another.
c) firms compete on multiple dimensions like price, quantity, and product attributes.
d) one firm’s actions do not trigger a reaction from the other firms.
e) firms compete on the basis of price.
Which of the following correctly states the Coase theorem?
a) The outcome of a negotiation to resolve an externality will depend on the initial
assignment of property rights.
b) Parties that are affected by an externality will bargain to reach an efficient outcome,
even in the presence of positive transaction costs.
c) When two parties are affected by an externality, the party that caused the externality
will pay the affected party the entire cost of the externality.
d) In the absence of property rights assigned to the affected parties, the efficient
outcome will need to be negotiated by the government.
e) Bargaining between the affected parties will result in an efficient outcome, regardless
of the property-rights assignment.
Night Timers is a small company manufacturing glow-in-the-dark products. One of the
hottest items the engineering department has developed is adhesive tape that can be
applied to walls and floors. Night Timers’ chief engineer anticipates that the product
will be sold in ten-foot rolls. At present, the company’s maximum production capacity is
140,000 rolls per year. The engineer believes the cost function to be described by C =
$50,000 + 0.25Q, where C is total cost and Q is number of rolls (The high fixed costs
represent development cost and tooling to prepare coating equipment). Night Timers’
president seeks to establish a price that maximizes profit (since she is the chief
stockholder). She thinks that the firm should be able to sell at least 125,000 rolls of tape
per year.
(a) If Night Timers plans to sell 125,000 rolls per year, what is the necessary price if the
firm is to break even? What if it can only sell 100,000?
(b) The marketing manager forecasts demand for the tape to be: Q = 350,000 –
200,000P.
Find the firm’s profit-maximizing output and price.
(c) If the estimated demand as given by Q = 350,000 – 200,000P is realized in the first
year of production, should the company consider expanding capacity? Explain.
Brown City Pet Food Co. produces a complete line of dry pet foods. During the past
year they have been test marketing a meat-based dog food. The firm’s plant is located in
an industrial park adjacent to the Brown River. The city’s water system as well as much
of its tourism industry is tied to the river. Recent tests show that a higher-than-normal
bacteria count in the river stems from the effluent dumped into the river by the
company. Experts are certain that the bacteria are generated from production of the new
meat-based dog food. The firm’s long-run cost of production is: LAC = LMC = $10 per
case, where LAC is long-run average cost and LMC is long-run marginal cost.
(a) The company faces a number of competitors but still has some degree of market
power. In particular, the firm’s long-run price elasticity is EP = ‘“3. Determine its
optimal price and resulting profit margin.
(b) The current high bacteria count makes the river unsuitable and unsafe for swimming
and other recreation ‘“ a result that has enormous cost to the town. A possible remedy is
for the town to treat and clean the river water at a feasible cost of about $2 per thousand
grams of effluent. The town has also petitioned Brown to remedy the discharge by
installing expensive pollution equipment. However, under current town ordinances, the
company is under no obligation to install the equipment and management has indicated
that the plant would probably be forced to shut down if they were required to do so.
Suggest a means by which the town might regulate the pollution problem.
(c) Is a complete solution to the problems of market failure possible? Explain briefly
Mary runs her own small business, and has a utility function for assets of:
U(A) = 22A – .07A2‘š for all 0≤ A ≤ 100, where A denotes total assets in
thousands of dollars.
(a) Describe Mary’s attitude toward risk.
(b) Assume that Mary’s current asset holding are $20,000. Should she accept a business
opportunity that has a probability of 0.55 leading to a net profit of $15,000 and a
probability of 0.45 leading to a net loss of $15,000?
(c) Assume that Mary’s assets are $85,000 instead. Should she now accept the same
offer?
(d) Comment on the results of the previous two questions.
A manager who sets U($20,0000) = 20, U($40,000) = 40, U($60,000) = 70 has a utility
function that:
a) exhibits increasing marginal utility.
b) is decreasing.
c) is linear.
d) exhibits decreasing marginal utility.
e) is concave.
Most of the large-scale linear programming problems are solved using:
a) the graphical approach.
b) spreadsheet-based linear programming computer programs packages.
c) standard differential calculus techniques.
d) a combination of algebraic and geometric techniques.
e) matrix algebra.
Assume that Turbo is a firm that produces two kinds of flash-memory drives. Its deluxe
model has the inverse demand equation: PD= 70 ‘“ .05QD, where QDis the number of
units sold per week. For its economy model, the price equation is: PE= 30 ‘“ .05QE.
Turbo’s marginal cost is $10 per unit for either drive, and it produces both on a single
assembly line that has a maximum capacity of 875 drives per week.
(a) Determine the profit-maximizing outputs and prices of the drives.
(b) Suppose demand for the economy drive increases to: PE= 50 ‘“ .04QE. What are the
profit-maximizing outputs and prices of the drives?
Which of the following is a criticism of average-cost pricing as a regulatory response to
a natural monopoly?
a) With average-cost pricing, output produced is smaller than the efficient level of
output.
b) Firms that practice average-cost pricing suffer persistent losses.
c) Imperfect information about the firm’s costs reduces the effectiveness of average-cost
pricing.
d) Under average-cost pricing, the market price is lower than the efficient price.
e) Answers with average-cost pricing, output produced is smaller than the efficient level
of output and imperfect information about the firm’s costs reduces the effectiveness of
average-cost pricing are both correct.
Suppose that a firm operates in a competitive market where the commodity price is $15
per unit. The firm’s cost equation is C = 25 + .25Q2, where C = total cost and Q =
quantity.
(a) Find the profit-maximizing level of output for the firm. Determine its level of profit.
(b) Suppose that fixed costs increase to $75. Verify that this change in fixed costs does
not affect the firm’s optimal output.
The following table lists the payoffs of two firms adopting three possible advertising
strategies:
Table 10-5
Refer to Table 10-5. The (Nash) equilibrium pair of strategies for Firms 1 and 2 is:
a) Low advertising versus high advertising.
b) High advertising for both firms.
c) Medium advertising versus low advertising.
d) High advertising versus low advertising.
e) Medium advertising for both firms.
Assume that there are 9 bidders with reservation prices independently and uniformly
distributed between $100,000 and $180,000. What is the expected value of the highest
reservation price of the nine potential buyers?
a) $140,000
b) $160,000
c) $164,000
d) $172,000
e) $175,000
A firm is thinking about introducing a new product. Marketing experts have determined
that the product has a 10% chance of high success, a 60% chance of moderate success,
and a 30% chance of failure. The gross profit from high success is $2.2 million and
from moderate success $1.2 million. The estimated gross loss from failure is $500,000.
Finally, the cost of introducing the product is $700,000. Should the firm introduce the
product?
Describe factors that might cause bargainers to fail to reach efficient agreements.
Fred Smith of the Dodge City Bank has received several loan applications from local
small businesses. The applications are supported by various documentations, including
the business plans of the firms. Each applicant has submitted forecasts of sales and
profits for his or her business. Smith must decide which (if any) loans to approve.
Because the ability of the firms to pay off the loans depends on the accuracy of the
forecasts, he is especially concerned. He has called on you, his newly hired assistant, to
help determine the reliability of the forecasts. What do you tell him about these
forecasts and their accuracy to help him make his decision?
A city is deliberating whether to undertake a major infrastructure investment to provide
free, high-speed WIFI internet access within its city limits. Alternatively, the city could
rely on the private sector to provide access. The city estimates internet demand to be P
= 20 ‘“ 5Q, where Q denotes number of users (in millions) and P is price per month in
dollars. The emerging private market for internet access is considered to be highly
competitive, and the typical provider exhibits LAC = LMC = $5 per subscriber per
month, where LAC is long-run average cost and LMC is long-run marginal cost.
According to the city’s estimates, the initial cost for constructing the high-speed
network is $600 million and network maintenance costs are $80 million per year.
Prepare a benefit-cost analysis to guide the city’s decision. Assume that the public and
private alternatives will last indefinitely, and that each will be held to a 5% discount
rate.
The Federal Reserve System has suggested that some very large banks in the US are
‘too big to fail.’ If the Fed adopts such a policy stance, what problem will it probably
face as it seeks to cope with troubled banks?
The kinked demand curve in an oligopolistic market is defined by the equations: P =
140 ‘“ 0.5Q and P = 200 ‘“ 2Q. Derive equations for the marginal revenue curves and
determine the price and quantity at the “kink” of the demand curve.