Download Homework 1

Homework 7
Economics 503
Foundations of Economic Analysis
Assigned: Saturday, October 21st, 2006
Due: Saturday, October 28 th, 2006
1.
You are the brand manager of a new lemon flavored toothpaste. You make
the toothpaste in batches of 1000 boxes. You face the following demand and cost
schedule.
a. Calculate the profit maximizing price and output level. Calculate the
marginal revenue from moving to the next batch size. Calculate the
marginal cost of increasing to the next largest batch size. Calculate the
( P  MCt )
Lerner Markup Index t
for this market using the profit
Pt
maximizing price and this marginal cost. Calculate the elasticity of
demand (using the midpoint method) for this market by calculating the %
effect on raising the price by $2 from the profit maximizing price.
b. Considering that your company is the only one that produces exactly this
flavor of toothpaste but anyone can enter the toothpaste market, how
would you expect to see profits evolve over time? In the long run, will the
Lerner Index be greater than, less than or equal to zero?
Table 1. Quantity, Price and Cost
(measured in thousands of boxes and thousands of dollars).
Quantity
1
2
3
4
5
6
7
8
9
10
2.
Price
58
56
54
52
50
48
46
44
42
40
Total Cost
13
12
17
28
45
68
97
132
173
220
You observe information describing the price elasticity of Coca-Cola and
Starbucks coffee as -2.5 and -1.5. Assuming that the marginal cost of producing
each good is $1 and each is sold in a monopolistically competitive market,
calculate the profit maximizing price using the rule of thumb.
3.
You observe a monopoly electric company operating in a market with price
schedule given by the equation
P  150  2  Q
where P is the price per Megawatt Hour and Q is the quantity of megawatt hours.
You know the electricity company must pay a fixed cost of 1050 to operate plus
50 per unit of output produced. Create a table like the one in Table 1 for quantities
in the range of 10 to 60 inclusive with increments of 5 MWH. Calculate revenue,
profits, and average cost of production at all levels. Calculate the profit
maximizing level of production. Calculate levels of production where profits are
zero (i.e. where average total cost of production is equal to the price level).
Calculate the marginal cost of increasing production by another by MWH at a
zero profit level of production. Would the firm operate if it had to price at
marginal cost?