Download Review Questions 2 – 23.11.2016 Question 1 Suppose a perfectly

Review Questions 2 – 23.11.2016
Question 1
Suppose a perfectly competitive firm manufactures gizmos, with the following cost structure
(incl. all opportunity costs):
Quantity of gizmos
0
1
2
3
4
Total cost ($)
75
150
250
425
675
a. Calculate the MC schedule for this firm in a table. And then graph the MC curve.
b. If the price of gizmos on the market is $175 each, how many gizmos should the firm
produce to maximize profits? What is the level of the firm’s revenues at its chosen output
level? How much does it make in profit?
c. Suppose more firms start producing gizmos, and the market price drops to $125. How
many gizmos should this firm now produce to maximize profits? (In the case of lumpy
quantities such as these, interpret the P=MC rule as “produce as long as price is at least
as great as MC”.) What is this firm’s new revenue level? How much does it make in
profits?
d. When the price is $125, will more firms want to enter the market? Will existing firms
want to exit?
Question 2
Consider the market for wheat. Suppose that the demand for wheat decreases because of dietary
concerns.
a. How does the decrease in the demand for wheat affect total surplus in the wheat market?
Use a graph to answer this question. Indicate the area that represents the change in total
surplus.
b. Can we clearly say what happens to producer surplus as a result of the decrease in
demand? Use a graph.
Question 3
Suppose that your town decides to impose a unit tax on 2-liter bottles of cola to encourage
healthier dietary habits. Before the tax, the supply and demand schedules for bottles of cola are
given in the table below:
Price per bottle
($)
1.00
1.10
1.20
1.30
1.40
1.50
Quantity supplied per month (thousand)
16
17
18
19
20
21
Quantity demanded per month (thousand)
20
19
18
17
16
15
a. Draw a supply-and-demand graph illustrating the market before the tax. What is the
equilibrium price and quantity for bottles of cola?
b. The town then imposes a unit tax of $0.20 per bottle. Illustrate this in your graph. What is
the new equilibrium price and quantity of bottles of cola?
c. How much in taxes will the local government collect?
Question 4
The following table shows the demand curve facing a monopolist who produces at a constant
marginal cost of 1 TL.
Quantity
Price (TL)
1
13
2
10
3
7
4
4
5
1
a. What price would the monopolist charge and what output would it produce?
b. If the monopolist has fixed costs of 6 TL, how much profit will it make?
c. What happens to the monopolist’s price, output and profit if its fixed costs increase to
8 TL?
d. How many additional units of output would be sold if this market was perfectly
competitive?
e. How much profit would the monopolist make if it was able to perfectly price
discriminate?
Question 5
a. When does a natural monopoly occur?
b. Provide some examples of industries that are natural monopolies.
c. Explain why it is difficult to achieve the perfectly competitive outcome in such
markets.
d. Outline the alternative ways of regulating a natural monopolist.
Question 6
Develop the equilibrium adjustment to the profit maximising output under the following
scenarios (in perfect competition):
a) An increase in marginal costs at all levels of output.
b) An increase in marginal revenue at all levels of output.
c) A reduction in telecommunication costs.
d) An increase in tastes and preferences for the good or service being made.
e) An increase in transport costs following an increase in oil prices.
f) The impact of a recession on the consumption of normal goods.
Question 7
What shape are indifference curves for:
a. Perfect substitutes
b. Perfect complements
Question 8
Consider two individuals: Fred and Ernie. Both can produce two different goods, bread and
cheese. Fred is very good at cheese production and he can make 8kg in 1 hour. Alternatively, he
can bake 4 loaves of bread in 1 hour. On the other hand, Ernie can produce 2kg of cheese in 1 hour
or alternatively can bake 4 loaves of bread. Suppose that both cannot work more than 12 hours a
day.
a)
Who has an absolute advantage in producing cheese?
b)
Who has an absolute advantage in producing bread?
c)
What does Fred have a comparative advantage in producing?
d)
What does Ernie have a comparative advantage in producing?
e)
Calculate total production if they each split their time equally between producing
bread and cheese.
f)
Now assume that they specialize entirely in the producing the product for which
they have a comparative advantage. Calculate total production of each product
and show that there are gains from trade.