Download Lecture 1 Practice Question Answers

Lecture 6 Practice Question Answers
From Browning and Zupan:
9.6. “If Conagra is a competitive firm, it will never operate at an output where its
average total cost curve is downward sloping.” This statement is false. The firm
chooses its quantity by setting MC equal to MR, which for a competitive firm is the
price. This quantity can certainly occur where ATC is downward-sloping, as shown
in the graph below. (Notice that the firm is making losses. This is because a
perfectly competitive firm produces where P* = MC, and MC < ATC when ATC is
downward-sloping.)
MC
ATC
ATC*
P*
MR
q*
9.22. Under perfect competition, MR = P*, and we know P* = 100 in this case, so MR =
100. Now set MR = MC: 100 = 10q, so q* = 10. To find the firm’s profit, first
calculate TR and TC. TR = P*q* = 100(10) = 1000. TC = 5000 + 5q2 = 5000 +
5(10)2 = 5500. Therefore, profit  = TR - TC = 1000 - 5100 = -4100; that is, the
firm is making losses. But in that case, why doesn’t the firm shut down? Look at
the TC function. One part of it, 5000, doesn’t depend on the quantity, so that is the
fixed cost. The other part, 5q2, is the variable cost. Therefore, TVC = 5q2 = 500.
Since TR > TVC, the firm should stay open in the short run.
Additional questions:
1. In a perfectly competitive industry, MR equals price, so MR = 90. Set MC = MR:
q2 - 80q + 790 = 90
q2 - 80q + 700 = 0
(q - 10)(q - 70) = 0
q = 10 or q = 70
The profit-maximizing quantity is the larger one: q* = 70. The smaller quantity
minimizes profits. (Using the quadratic formula should give you the same answer.)
2. For an imperfectly competitive firm facing a linear demand curve, find MR by
doubling the slope of the demand curve: MR = 60 - 2q. Set MC = MR:
q2 - 24q + 100 = 60 - 2q
q2 - 22q + 40 = 0
(q - 2)(q - 20) = 0
q = 2 or q = 20
The profit-maximizing quantity, again, is the larger one: q* = 20. (Again, using the
quadratic formula should give you the same answer.) Find the price by plugging q*
into the demand curve: P* = 60 - 20 = 40.
3. The left graph shows a perfectly competitive firm in short-run equilibrium making
profits. (The shaded area is profit.) The right graph shows a perfectly competitive
firm in short-run equilibrium making losses and staying open. (The shaded area is
losses.)
4. See graph below. Darker lines the indicate firm's supply curve, which has two parts
(a vertical section for prices below the lowest AVC, and a section identical to MC for
prices above the lowest AVC).
MC
S
AVC
MR
MR’
MR’’
q’’ q’q
5. In the diagram below, dark lines indicate the starting position. The lighter lines (with
prime symbols next to them) indicate the final position. Notice that in the final
position, the price line goes through the very lowest point on the ATC curve, which
means the firm is making zero profits.
S’
MC
S
ATC
P’
MR’
P*
MR
D
Q’ Q*
q* q’
6. A short-run supply curve shows the willingness of existing firms to supply a product
at different prices, whereas a long-run supply curve shows the willingness of both
existing and potential firms to supply the product at different prices. The long-run
supply curve will be more elastic (flatter) than the short-run supply curve. The reason
is that the long-run supply curve represents the behavior of more firms, which means
that any given change in price will have a larger effect on the quantity supplied.