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Answers To Question Bank Problems
Answers To Question Bank Problems
Chapter 2: Exercises
1. (a) Price = 90; Quantity = 220.
(b) Price = 110; Quantity = 280.
2. (a) Price elasticity of demand = -0.40 when price = 80. Price elasticity of demand =
-0.56 when price = 100.
(b) Price elasticity of supply = 0.50 when price = 80. Price elasticity of demand =
0.56 when price = 100.
(c) Equilibrium price = Rs 100 and quantity demanded = 18 million.
(d) A shortage of 4 thousand.
3.
Consumer Choice
Chapter 3: Exercises
3. False.
5. (c) Same.
6. The indifference curves for Indu will therefore be steeper than the indifference curves
for Shashi.
7. a. 20D + 10C = 100.
b. Discreet combinations
8. Budget line changes slope after cut-off points.
10. (a) Budget line is slightly flatter.
(b) Same or better off.
11.
Consumers in Chandigarh is higher.
13. (a)The slope of her budget line is therefore 1/2
(b)
You can also compute the marginal utility per dollar for styling and gas
mileage and note that the MU/P for styling is always greater, hence all styling.
(c) G = 2 and S = 4.
(d) G = 7.5 and and S = 1.25.
14.
(a) P + 2M = 40
(b) Any combination of meat and potatoes along this line
(d) All meat no potato
15.
(c) Yes; No.
(d) F = 10; D = 50.
16.
(a) MRS will equal 0.2
(b) MRS is less
Chapter 4: Exercises
3. Engel curve lies on the vertical (income) axis
4. a. Hint: If the price of orange juice is less than the price of apple juice, the consumer
will purchase only orange juice and the price-consumption curve will lie along the
orange juice axis of the graph.
b. rays through the corner points
Perfect Competition
Chapter 7: Exercises
3
1.
At a price of $60, the firm should produce ten units of output to maximize
profit, which
is $190 when q = 10. This is also the point closest to where price equals marginal
cost without having marginal cost exceed price. At a price of $50, the firm should
produce nine units to maximize profit, which will be $95. Thus, when price falls
from $60 to $50, the firms output drops from 10 to 9 units and profit falls from $190
to $95.
2. Fixed costs do not influence the optimal quantity,
3. (a) The firm will produce 8 or more units depending on the market price and
will not produce in the 0 7 units of output range because in this range MC
is less than AVC.
(b) 100 times case (a)
4. (a) q = 25.
(b) 1150
(c) MC is greater than AVC for any quantity greater than 0. This means that
the firm produces in the short run as long as price is positive.
5. (a) q = 3
(b) 9
(c) Profit equals producer surplus minus fixed cost. Since we found that
producer surplus was 9 in part (b), profit equals 9 3 or 6.
6. q = 4 in the short run; in the long run, shut it down.
7. (a) VC = 4q and FC =16
(c) q = 2
(d) marginal cost is above average variable cost at all output levels, so the
firm will supply positive output at any positive price.
(e) if price is below 16.
(f) When price is above 16.
Monopoly
Chapter 9: Exercises
3.
4.
5.
(a) The intercept of the inverse demand curve on the price axis is 18. The slope of the
inverse demand is , and the demand curve ,
The marginal revenue curve, MR = 18 Q.
(b) . Profit-maximizing quantity, Q = 8.
The profit-maximizing price, substitute this quantity into the demand
equation:
P=18-(0.5)(8) = 14
Total revenue TR = (14)(8) = 112
Total cost is 10Q or 80, and Profit is 112 80 = 32
(c) Q = 16 and P = 10
(d) The social gain if the monopolist were forced to produce and price at the
competitive level is `16.
6.
(a) If there is only one firm in the industry, then the firm will act like a monopolist
Q = 11.25.
For a quantity of 11.25, the firm will charge a price P = 90 2(11.25) =
67.50.
Profit, = PQ C = 406.25.
(b) Q = 15. At a quantity of 15, price is equal to P = `60. The industrys
profit is = `350.
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(a) If the elasticity of demand for the product is 2, and price is Rs 40, then MC =
Rs 20.
(b) The firms percentage markup of price over marginal cost is 50 percent of the
price.
(c) Total revenue Rs 32,000. Total cost is = Rs 12,000. Profit is therefore
= Rs 32,000 Rs 12,000 = Rs 20,000.
17.
18.
6.
By employing this strategy, the firm allows consumers to sort themselves into two
groups, or markets: high-volume consumers who rent many movies per year and
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low-volume consumers who rent only a few movies per year. If only a two-part
tariff is offered, the firm has the problem of determining the profit-maximizing
entry and rental fees with many different consumers. A high entry fee with a low
rental fee discourages low-volume consumers from subscribing. A low entry fee
with a high rental fee encourages low-volume consumer membership, but
discourages high-volume customers from renting. Instead of forcing customers to
pay both an entry and rental fee, the firm effectively charges two different prices to
two types of customers.
8.
CSD = Rs1345.67.
(a) In order to limit membership to serious players, the club owner should charge
an entry
fee, T, equal to the total consumer surplus of serious players and a
usage fee P equal to marginal cost of zero. An entry fee of Rs 2600 maximizes
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Firm 1 does not have a reaction function because it makes its output
decision before Firm 2, so there is nothing to react to.
(b) Q1 = 24, and Q2 = 12, Price P = Rs 17.
6.
8.
13
Q1 = 30 0.5Q2. Q2 = 30 0.5Q1.
Q1 = 20. By symmetry, Q2 = 20. Industry output, QT = 20 + 20 = 40.
P = Rs 60. 1 = 2 = 60(20) 202 (20)(20) = Rs 400.
(b) Q1 = 30 and Q2 = 15. QT = 30 + 15 = 45.
Compared to part (a), the equilibrium quantity has risen slightly.
( c) JA would be willing to invest up to Rs 400 to reduce its marginal cost to
25 if IA also has marginal costs of 25.
10.
(a) q1 = q2 = 22.5, Q = q1 + q2 = 45
P = 300 3(45) = $165.
Profit for both firms will be equal and given by: = Rs2278.13.
(b) Joint profits will be maximized at Q = 36. The optimal output for each
firm is q1 = q2 = 36/2 = 18, and the optimal price for the firms to charge is
P =Rs 192.
Profit for each firm will be = Rs 2430.
(c )
Profit Payoff
Matrix
Firm B
(WW profit,
Produce
Produce
BBBS profit)
Cournot q
Cartel q
Produce
2278, 2278
Cournot q
Firm A
Produce
Cartel q
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2187, 2582
( d) Firm A will use the Stackelberg strategy. Firm A knows that Firm B
will choose a quantity q2 which will be its best response to q1 or:
,
.
Firm As profits will be:
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3. (a) If Firm A can commit first, it will choose High, because it knows that Firm B will
rationally choose Low, since Low gives a higher payoff to B (45 vs. 40). This gives Firm A
a payoff of 60. If Firm A instead committed to Low, B would choose High (55 vs. 20),
giving A 55 instead of 60. If Firm B can commit first, it will choose High, because it
knows that Firm A will rationally choose Low, since Low gives a higher payoff to A (55 vs.
50). This gives Firm B a payoff of 55, which is the best it can do.
(b) In this game, there is an advantage to being the first mover. If A moves first, its
profit is 60. If it moves second, its profit is 55, a difference of 5. Thus, it would be
willing to spend up to 5 for the option of announcing first. On the other hand, if B
moves first, its profit is 55. If it moves second, its profit is 45, a difference of 10,
and thus it would be willing to spend up to 10 for the option of announcing first.
If Firm A knows that Firm B is spending to speed up its planning, A should not
spend anything to speed up its own planning. If Firm A also sped up its planning
and both firms chose to produce the high-quality system, both would earn lower
payoffs. Therefore, Firm A should not spend any money to speed up the
introduction of its product. It should let B go first and earn 55 instead of 60.
4. (a) If Firm 2 chooses Low and Firm 1 chooses High, neither will have an incentive to
change (100 > 20 for Firm 1 and 800 > 50 for Firm 2). Also, if Firm 2 chooses High
and Firm 1 chooses Low, neither will have an incentive to change (900 > 50 for Firm 1
and 600 > 30 for Firm 2). Both outcomes are Nash equilibria.
(c) The cooperative outcome would maximize joint payoffs.
5. (a) By inspecting each of the four combinations, we find that (First, First) is the only Nash
equilibrium, yielding payoffs of (20, 30
(c) Network 2 will play First regardless of what Network 1 chooses and regardless of
who goes first, because First is a dominant strategy for Network 2. Knowing this,
Network 1 would play First if it could make its selection first, because 20 is greater than
15. If Network 2 goes first, it will play First, its dominant strategy. So the outcome of
the game is the same regardless of who goes first. The equilibrium is (First, First), which
is the same as the Nash equilibrium, so there is no first-mover advantage in this game.
(d) A move is credible if, once declared, there is no incentive to change. If
Network 1 chooses First, then Network 2 will also choose First. This is the Nash
equilibrium, so neither network would want to change its decision. Therefore,
Network 1s promise is credible.
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(a) Open is a dominant strategy for both countries. If Japan chooses Open, the U.S.
does best by choosing Open. If Japan chooses Close, the U.S. does best by
choosing Open. Therefore, the U.S. should choose Open, no matter what Japan
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does. If the U.S. chooses Open, Japan does best by choosing Open. If the U.S.
chooses Close, Japan does best by choosing Open. Therefore, both countries will
choose to have Open policies in equilibrium.
(b) The irrationality of U.S. politicians could change the equilibrium to (Close, Open). If
the U.S. wants to penalize Japan they will choose Close, but Japans strategy will not be
affected since choosing Open is still Japans dominant strategy.
8. (a) If both firms must announce output at the same time, both firms believe that the other
firm is behaving rationally, and each firm treats the output of the other firm as a fixed
number, a Cournot equilibrium will result.
For Firm 1, total revenue will be
TR1 = (30 (Q1 + Q2))Q1, or ..
Marginal revenue for Firm 1 is the derivative of total revenue with respect to Q1,
Because the firms are identical, marginal revenue for Firm 2 will be symmetric to
that of Firm 1:
The profit-maximizing level of output for both firms, and
.
Q1 = 10, and by symmetry, Q2 = 10.
P = Rs 10.
Since no costs are given, profits for each firm will be equal to total revenue:
1 = TR1 = Rs 100 and
2 = TR2 = Rs 100.
Thus, the equilibrium occurs when both firms produce 10 units of output and both
firms earn $100. The outcome (100, 100) is indeed a Nash equilibrium: neither firm
will have an incentive to deviate, given the other firms choice.
(b) If you must announce first, you would announce an output of 15, knowing that
your competitor would announce an output of 7.5. (Note: This is the Stackelberg
equilibrium.)
.
Q2 = 7.5.
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If you announce a quantity of 15, the best Firm 2 can do is to produce 7.5 units. At
that output, your competitor is maximizing profits, given that you are producing 15.
At these outputs, price = Rs7.50.
Your profit would be Rs 112.50.
Your competitors profit would be Rs 56.25.
Announcing first is an advantage in this game. The difference in profits between
announcing first and announcing second is $56.25. You would be willing to pay up
to this difference for the option of announcing first.
(c ) Given that your competitor has also read this book, you can assume that he or
she will be acting rationally. You should begin with the Cournot output (10 units)
and continue with the Cournot output in each round, including the ninth and tenth
rounds. Any deviation from this output will reduce the sum of your profits over the
ten rounds.
is equal to total cost would mean that net benefits equal zero, and would result in
too much abatement. This would be analogous to choosing to produce where total
revenue was equal to total cost. If total revenue was always equal to total cost by
choice, then there would never be any profit. In the case of abatement, the more we
abate, the costlier it is. Given that funds will tend to be scarce, money should be
allocated to abatement only so long as the benefit of the last unit of abatement is
greater than or equal to the cost of the last unit of abatement.
6. (a) P = Rs 30 per 100-pound lot, and Q = 100,000 lots.
(b) To find the socially efficient solution, we need to consider the external costs, as
given by , as well as the private costs, as given by Rewriting the supply curve, the
private costs are P = 0.0005QS 20 = MC. Therefore,
MSC = MC + MEC = 0.0005QS 20 + 0.0006QS
MSC = 0.0011QS 20.
Setting marginal social cost equal to the demand curve, which is the marginal
benefit curve,
0.0011Q 20 = 80 0.0005Q
Q = 62,500 lots, and
P = Rs 48.75 per lot.
(c ) The equilibrium quantity declined and the equilibrium price rose in part (b)
because the external costs were considered. Ignoring the external costs of paper
production will result in too much paper being produced and sold at too low a
price.
7.
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(f)In this case it is actually the monopolist that yields the higher level of social
welfare compared to the competitive market, because the monopolists profit
maximizing price and quantity are the same as the socially efficient solution.
Since a monopolist tends to produce less output than the competitive equilibrium,
it may end up producing closer to the social equilibrium when a negative
externality is present.
8. (a) Q = 60.
(b) The beekeepers private choice of Q = 60 is not the socially efficient number of
hives.
(c ) The most radical change that would lead to more efficient operations would
be the merger of the farmers business with the beekeepers business. This
merger would internalize the positive externality of bee pollination. Short of a
merger, the farmer and beekeeper should enter into a contract for pollination
services, with the farmer paying Rs 100 per hive to the beekeeper.
9 (a) The efficient number of hours is the amount such that the sum of the marginal
benefits is equal to marginal cost. MSB = MC = 200 at T = 112 hours of
programming.
(b) A competitive Private market would provide 80 hours of programming.
11
The total catch is F1 + F2 = 6666. At the price of $100 per ton, the value of the
catch is $666,600. The average catch for each of the 100 boats in the fishing fleet is
66.66 tons.
To determine the profit per boat, subtract total cost from total revenue:
= (100)(66.66) 1000, or = Rs5666.
Total profit for the fleet is Rs 566,600.
(b) F1 = (200)(50) (2)(502) = 10,000 5000 = 5000 and
F2 = (100)(50) 502 = 5000 2500 = 2500.
The total catch is equal to F1 + F2 = 7500. At the market price of Rs 100 per ton,
the value of the catch is Rs 750,000. Total profit is Rs 650,000. Notice that the
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profits are not evenly divided between boats in the two zones. The average catch in
Zone 1 is 100 tons per boat, while the average catch in Zone 2 is 50 tons per boat.
Therefore, fishing in Zone 1 yields a higher profit for the owner of the boat.
(c ) Each additional boat above 92.5 decreases total profit, the government should
not grant any more licenses.
3.
State 1:
State 2:
State 3:
State 4:
(b) The utility of her current salary is = 20. The expected utility of the new jobs
salary is
EU = (0.6) + (0.4) = 19.85,
which is less than 20. Therefore, she should not take the job.
(c )This question assumes that Natasha takes the new job (for some unexplained
reason). Her expected salary is 0.6(44,000) + 0.4(33,000) = Rs 39,600. Natasha
would be willing to pay $198 to guarantee her income would be $39,600 for certain
and eliminate the risk associated with her new job.
7. (a) The expected value of the return on investment A is EV = Rs 250.
The variance on investment A is 2 = Rs 500,
The standard deviation on investment A is = = Rs22.36.
The expected value of the return on investment B is EV = Rs 250.
The variance on investment B is 2 = Rs1500,
Standard deviation on investment B is = = Rs 38.73.
(b) Jills expected utility from investment A is EU= 1250.
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two meter monitors, the probability of detection is 0.5 and the fine is $20. So, the expected
fine = Rs10. To maintain this expected fine, the city can hire one meter monitor and increase
the fine to Rs 40, or hire three meter monitors and decrease the fine to Rs 13.33, or hire four
meter monitors and decrease the fine to Rs 10.
If the only cost to be minimized is the cost of hiring meter monitors at Rs 10,000
per year you, as the city manager, should minimize the number of meter monitors.
Hire only one monitor and increase the fine to Rs 40 to maintain the current level of
deterrence.
(b) If drivers are risk averse, they would want to avoid the possibility of paying
parking fines even more than would risk neutral drivers. Therefore, a fine of less
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than Rs 40 with one meter monitor should maintain the current level of
deterrence.
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