Download Unit 3B RP

Unit 3B Review Problems
1. A patent gives investors the exclusive right to produce and market a product for a period of time. GCR Company
is a profit-maximizing firm. It has a patent for a unique antispyware computer program called DPRK.
a. Assume that GCR is making economic profit. draw a correctly labeled graph showing the following:
i. Price
ii. Quantity of Output
iii. Area of Economic Profits
iv. Consumer Surplus
v. Deadweight Loss
b. What is the relationship between price and marginal revenue for GCR Company?
c. Assume that the government imposes a lump sum tax on GCR.
i. What will happen to output and market price? Explain.
ii. What will happen to GCR’s profits?
d. Assume instead that the government grants a per-unit subsidy to GCR for DPRK.
i. What will happen to output and market price? Explain.
ii. What will happen to GCR’s profits?
e. Now assume that GCR’s patent on DPRK expires. What will happen to GCR’s economic profits in the
long run? Explain.
f. Suppose that upstart African and Asian producers enter the market and the market becomes perfectly
competitive. Where would the firms in this market be on the model you drew in 1(a)? How does this price
and quantity combination compare to the profit maximizing monopoly?
2. Larry, Curly, and Moe run the only saloon in town. Larry wants to sell as many drinks as possible without losing
money. Curly wants the saloon to bring in as much revenue as possible. Moe wants to make the largest possible
profits. Using a single diagram of the saloon’s demand curve and its cost curves, show the price and quantity
combinations favored by each of the three partners. Explain.
3. The market structure of the local gas station industry is monopolistic competition. Suppose that currently each gas
station incurs a loss. Draw a diagram for a typical gas station to show this short run situation. Then, in a separate
diagram, show what will happen to the typical gas station in the long run. Explain your reasoning.
4. For each of the following characteristics, say whether it describes a perfectly competitive firm, a monopolistically
competitive firm, both, or neither. Explain.
a. Sells a differentiated product from its competitors.
b. Has MR less than price.
c. Earns economic profit in the long run.
d. Produces at minimum of ATC in the long run.
e. Equates MR and MC.
f. Charges a price above marginal cost.
5. For each of the following characteristics, say whether it describes a monopoly firm, a monopolistically
competitive firm, both, or neither. Explain.
a. Face a downward-sloping demand curve
b. Has MR less than price.
c. Faces the entry of new firms selling similar products.
d. Earns economic profit in the long run.
e. Equates MR and MC
f. Produces the socially efficient quantity of output.
6. Among monopoly, oligopoly, monopolistically competition, and perfect competition, how would you classify the
markets for each of the following drinks? Explain.
a. A farmer who produces soybeans
b. Tap water
c. Minute Maid, a producer of individual serving juice boxes
d. Coffee shop
7. The movie theater in Collegetown serves two kinds of customers: students and professors. There are 900 students
and 100 professors in Collegetown. Each student’s willingness to pay for a movie ticket is $5. Each professor’s
willingness to pay for a movie ticket is $10. Each will buy at most one ticket. The movie theater’s marginal cost
per ticket is constant at $3, and there is no fixed cost.
a. Suppose the movie theater cannot price-discriminate and needs to charge both students and professors the
same price per ticket. If the movie theater charges $5, who will buy tickets and what will the movie
theater’s profit be? How large is consumer surplus?
b. If the movie theater charges $10, who will buy movie tickets and what will the movie theater’s profit be?
How large is consumer surplus?
c. Now suppose that, if it chooses to, the movie theater can price-discriminate between students and
professors by requiring students to show their student ID. If the movie theater charges students $5 and
professors $10, how much profit will the movie theater make? How large is consumer surplus?
8. Bonus: Philip Morris and R.J. Reynolds spend huge sums of money each year to advertise their tobacco products
in an attempt to steal customers from each other. Suppose each year Philip Morris and R.J. Reynolds have to
decide whether or not they want to spend money on advertising. If neither from advertises, each will earn a profit
of $2 million. If they both advertise, each will earn a profit of $1.5 million. If one firm advertises and the other
does not, the firm that advertises will earn a profit of $2.8 million and the other firm will earn $1 million.
a. Use a payoff matrix to depict this problem.
b. Suppose Philip Morris and R.J Reynolds can write an enforceable contract about what they will do. What
is the cooperative solution to this game?
c. What is the Nash equilibrium without an enforceable contract? Explain why this is the likely outcome.