1) Based on your knowledge of the definition of the various measures of short-run cost,

complete this table.

Q TC TFC TVC AC AFC AVC MC
0 120 [A] [B] - - - -
1 [C] [D] [E] 265 [F] [G] [H]

Answer

Q TC TFC TVC AC AFC AVC MC

0 120 A=120 B=0 - - - -
1 C=265 D=120 E=145 265 F=120 G=145 H=145

2) Consider the following cost equation: Total Cost (TC) = 160Q -10Q2 + 1.2Q3. What
is Total Cost when the Quantity is 20?

Answer
TC = 160Q -10Q2 + 1.2Q3
TC = (160X20) – (10X202) + (1.2X203)
TC = 3,200 – 4,000 + 9,600
TC = 8,800
3) Which of the following represents the equation for the Average Cost (AC)?
AC = 160 – 10Q + 1.2Q2
AC = 160Q – 10Q + 1.2Q
AC = 80Q – 5Q2 + 0.6Q3
AC = 53.3Q – 3.3Q2 + 0.4Q3

Answer

AC = 160Q – 10Q + 1.2Q

4) What is the Marginal Cost of producing the 21st unit? (Hint: Begin by calculating
TC at 20 and at 21.) Round your answer to the nearest whole number.

Answer
TC at 20 = 8,800
TC at 21 = (160X21) – (10X212) + (1.2X213) = 10,063.2
= 10,063 (nearest whole number)
MC = 10,063 – 8,800
MC= 1,263
5) Questions 5 through 7 refer to the following graphical representation of a short-run
situation faced by a perfectly competitive firm.

Is this a good market for this firm to be in?

Yes the firm should be here in the short run but in the long run it should leave.
Yes the firm should be here in the short run and it should also stay in the long run.
No; the firm should exit immediately.

Answer
Yes the firm should be here in the short run but in the long run it should leave.

6) Refer to question 5. Which of the following describes the firm’s situation in the
short run?
The firm is breaking even
There is a short run loss
There is a short run profit
The short run profit/loss situation cannot be determined from this graph

Answer
There is a short run Loss.

7) Refer to question 5. What do you expect to happen in the long run?

New firms will enter; short-run profits will disappear
New firms will enter; short-run losses will disappear
Some existing firms will leave; short-run profits will disappear
Some existing firms will leave; short-run losses will disappear

Answer

Some existing firms will leave; short-run losses will disappear

8) Questions 8 through 12 refer to the following scenario: The Automotive Supply
Company has a small plant that produces speedometers exclusively. Its annual fixed
costs are $30,000, and its variable costs are $10/unit. It can sell a speedometer for
$25. How many speedometers must the company sell to break even?

Answer
Fixed cost = $30000
Average variable cost = $10
Price = $25
Let ‘Q’ be the number of speedometers that this auto company needs to sell to break even
Total revenue = 25Q
Total cost = 30000+10Q
At break even, total cost = total revenue
25Q = 30000+10Q, implies break even quantity Q = 30000/15 = 2000
Hence the company must sell 2000 speedometers to break even.

9) Refer to Question 8. What is the break-even revenue?

Answer
Total revenue at break-even = price X break even quantity = 2000 X 25
= $50000

10) Refer to Question 8. The company sold 3,000 units last year. What was its profit?

Answer

Profit = TR-TC = 25 X 3000 - 30000-10 X 3000

= $15000

11) Refer to Question 8. Next year’s fixed costs are expected to rise to $37,500. What
will be the break-even quantity?

Answer
With fixed cost of $37500, total cost becomes TC = 37500+10Q
At break even, TR=TC

25Q = 37500+10Q, implies Q = 2500

12) If the company will sell the number of units obtained in the previous question
(number 11) and wants to maintain the same profit as last year, what will its new
price need to be? Round your answer to the nearest whole number.

Answer
[Assuming the fixed cost is $30000]
Profit required = $15000
Quantity of speedometers= 2500
We want profit = 15000 i.e. TR – TC = 15000 [when quantity is 2500] i.e.
P X 2500 - 30000 – 10 X 2500 = 15000,
This implies new price P = $28

13) Questions 1 through 5 refer to the following scenario. Suppose three firms face
the same total market demand for their product. This demand is:
Price (P) Quantity (Q)
$80 20,000
70 25,000
60 30,000
50 35,000
Suppose further that all three firms are selling their product for $60 and each has
about one-third of the total market.
What is the amount of total revenue each firm receives, in dollars?

Total revenue = P*Q = 60*(1/3)*30000 = 60*10000 = $600,000

14) Now assume that one of the firms, in an attempt to gain market share at the
expense of the others, drops its price to $50. The other two quickly follow suit.
What is the amount of total revenue each firm now receives, in dollars, rounded
to the nearest dollar?

Now, TR = P*Q = 50*(1/3)*35000 = 1750000/3 = 583333.33,

i.e. TR = $583,333.

15) What impact has the price drop had on the revenue of each firm?
Each firm has less revenue.
Each firm has more revenue.
 The price-dropper has more revenue and the others have less.
The price-dropper has less revenue and the others have more.

16) If the firms had all raised their prices to $70 instead of lowering price, what would
be the amount of total revenue each firm would have received, in dollars,
rounded to the nearest dollar?
TR = P*Q = 70*(1/3)*25000 = 1750000/3 = 583333.33,
i.e. TR = $583,333.

17) Would the firms have been better off raising the price to $70, lowering to $50, or
making no change?
Raising to $70
Lowering to $50
Making no change (keeping price at $60) since TR decreases in either case.

18)
Questions 6 through 10 refer to the scenario that follows. A monopolistically
competitive firm has the following short-run inverse demand, marginal revenue,
and cost schedules for a particular product:
P = $45 – $0.2Q
MR = $45 – $0.4Q
TC = $500 + $5Q
MC = $5

What quantity would maximize profits for this firm? (Hint: Recall that profit
maximizing is where MR = MC)
The profit maximizing quantity is given by MR=MC,
i.e. 45-0.4Q = 5,
i.e. 0.4Q = 40,
i.e. Q = 400/4 = 100.

19) At what price should this firm sell its product?

Given the demand curve we have, P = 45 – 0.2Q = 45 – 20 = $25.
20) What would be the amount of the firm’s total revenue at the quantity and price
identified in the prior two questions?
TR = P*Q = 25*100 = $2500/

21) What would be the amount of the firm’s profit (positive number) or loss (negative
number) at the quantity and price identified in questions 6 and 7?
 Profit = TR- TC = 2500 -500 – (5*100) = $1500.
22) What do you think would happen in this market in the long run?
New firms would enter. Since the existing firms are earning positive profits, new
firms will enter the market in the long run with free entry and exit, each new firm
selling a closely differentiated product. This would reduce the demand curve
faced by each of the existing firms. New firms enter till demand for each firm is
such that the demand curve is tangential to its average cost curve at the profit
maximizing price of each firm, i.e. in the long run each firm earns zero profits.

Some existing firms would leave.

Some existing firms would stay but no new firms would enter.
There is not enough information to make this determination.

23) Questions 11 through 13 refer to the scenario that follows. An amusement park,
whose customer set is made up of two markets, adult and children, has
developed demand schedules as follows:
Price Quantity, Quantity,
($) Adults Children
5 15 20
6 14 18
7 13 16
8 12 14
9 11 12
10 10 10
11 9 8
12 8 6
13 7 4
14 6 2

The marginal operating cost of each unit of quantity is $5. (Hint: Because
marginal cost is a constant, so is average variable cost. Ignore fixed cost.) The
owners of the amusement park want to maximize profits. Calculate the price,
quantity, and profit for each segment if the amusement park charges a different
price in each market. (Hint: calculate profit at each price in the adult market, then
in the child market, and choose profit maximizing in each. Using a spreadsheet
would make this task manageable.)
Adult market price (in dollars): [a] 12, 13
 Adult market quantity: [b]8, 7
Adult market profit (in dollars): [c] 56
Child market price (in dollars): [d] 10
Child market quantity: [e] 10
Child market profit (in dollars): [f] 50
Total profit (adult + child, in dollars): [g] 106

24) Calculate the price, quantity, and profit if the amusement park charges the same
price in the two markets combined. (Hint: Add adult and child quantities together,
and treat this total and the entire market quantity at each price.)

Market price (in dollars): [a] 11

Quantity (child + adult at this price): [b] 17
Profit: [c] 102

25) Is profit higher, lower, or the same when the market is split with different prices
for adults and for children?
Higher profit with split pricing
Lower profit with split pricing
Same profit with split pricing
Cannot determine with the information available

26) Questions 14 through 18 refer to the information that follows. Consider a small
town that is served by two grocery stores, White and Gray. Each store must
decide whether it will remain open on Sunday or whether it will close on that day.
Monthly payoffs for each strategy pair are as shown in the table below.

Which firm is the most profitable in this market?

Gray (Profit is highest in every situation.)
White
Neither – they are equally profitable
Neither – there is no profit made by either firm

27) What is White’s dominant strategy?

Open Sundays
Closed Sundays
There is no dominant strategy
28) What is Gray’s dominant strategy?
Open Sundays
Closed Sundays
There is no dominant strategy

29) What will be the likely equilibrium outcome, assuming no additional information is
available to either firm?
Both open Sundays
Both closed Sundays
**White open Sundays, Gray closed Sundays
White closed Sundays, Gray closed Sundays

30) Is the position identified in question 17 the best possible outcome for both firms?

Yes, the position identified in the previous question is the best outcome for both.
No, it would be mutually advantageous to cooperate and choose a different
outcome.
Gray could do better, but White is already in the best position and would
therefore need an incentive to cooperate.
White could do better, but Gray is already in the best position and would
therefore need an incentive to cooperate.