BUSINESS AND INDUSTRIAL ECONOMICS [A-L]

A.Y. 2018/2019
Final exam – February 7th, 2020
NAME _____________________________________ SURNAME ____________________________________
STUDENT ID (Matricola)____________________________________________________________________

MULTIPLE-CHOICE QUESTIONS [15 points]

Please, indicate your answers in the following table. We will consider and evaluate only answers reported
in this table. You do not need to provide explanations for your answers. However, if you want to add a note
to an answer (e.g., an assumption, a clarification, an explanation), please write “YES” in the last column.
Question A B C D Notes
1 =1-1/n=1-1/4=0.75
2 See below
3 Q=45 P=35
4 X
5 X
6 X
7 X
8 X
9 X
10 See below
11 X
12 X
13 X
14 X
15 X

FIRM MS 1/P log(1/P) P*log(1/P) E FIRM MS 1/P ln(1/P) P*ln(1/P) E

1 0,3 3,333 0,523 0,157 0,752 1 0,3 3,333 1,204 0,361 1,733
2 0,3 3,333 0,523 0,157 2 0,3 3,333 1,204 0,361
3 0,08 12,50 1,097 0,088 3 0,08 12,500 2,526 0,202
4 0,08 12,50 1,097 0,088 4 0,08 12,500 2,526 0,202
5 0,08 12,50 1,097 0,088 5 0,08 12,500 2,526 0,202
6 0,08 12,50 1,097 0,088 6 0,08 12,500 2,526 0,202
7 0,08 12,50 1,097 0,088 7 0,08 12,500 2,526 0,202

After the merger Before the merger

FIRM MS 1/P log(1/P) P*log(1/P) E FIRM MS 1/P ln(1/P) P*ln(1/P) E
1 0,3 3,333 0,523 0,157 0,668 1 0,3 3,333 1,204 0,361 1,537
2 0,38 2,632 0,420 0,160 2 0,38 2,632 0,968 0,368

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 3 0,08 12,500 1,097 0,088 3 0,08 12,500 2,526 0,202
4 0,08 12,500 1,097 0,088 4 0,08 12,500 2,526 0,202
5 0,08 12,500 1,097 0,088 5 0,08 12,500 2,526 0,202
6 0,08 12,500 1,097 0,088 6 0,08 12,500 2,526 0,202

Q2
QL (a-c)/2 30
QF (a-c)/4 15
Q QL+Q 45
F
P 80-Q 35

Q10
Fir Xij Xij2 H C4
ms
D 0,4 0,16 0,285 0,95
A 0,3 0,09
B 0,15 0,0225
E 0,1 0,01
C 0,05 0,0025

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1. In a market, there are four large firms, which play the trigger strategy. The critical discount factor for
collusion to be sustainable is __________________________________________________________

2. Consider an industry with seven firms, two having a market share of 30% and five having a market share
of 8%. A firm with a market share of 30% wants to merge with a firm with a market share of 8%.
Compute the Entropy Index before and after the merger
______________________________________________________________________________

3. Consider an industry in which the inverse demand function is: P = 80 – Q, where Q is the total output.
Two firms compete in the industry by choosing sequentially the quantity to produce. The two firms
produce with identical total costs: TC(q)=20qi (i=1,2). The equilibrium price and quantities for the
industry are_________________________________________________________________________

4. Which of the following statements is NOT TRUE? In a platform industry

a. The value of a platform increases with numbers of the users on the same-side
b. Switching costs are usually high
c. A “winner takes it all dynamics” often emerges
d. Users’ expectations shape the results of the competition

5. Which of the following statements is NOT TRUE? Entrepreneurial ventures have difficulties in financing
their innovations because oftentimes they
a. Have an under-developed organizational structure
b. Lack collaterals
c. Lack patents and other intellectual property rights
d. Cannot prove a real commitment to develop the entrepreneurial idea

6. Which of the following statements about Cantwell’s contribution to the OLI (Ownership, Location, and
Internalization) paradigm is TRUE? Multinational Corporations
a. Generate positive spillovers in the areas where they are located
b. Are part of an external network that connects them with their suppliers, distributors, and customers
c. Contribute to increase their own localization advantages
d. All the above answers are correct

7. The Baumol’s core intuition - i.e., managers prefer to maximize sales rather than profits – echoes agency
theory in that it points to the fact that
a. Managers are better informed than owners
b. Owners cannot fully monitor the managers
c. The managers’ and owners’ objectives are not aligned
d. Managers and owners are risk neutral

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8. Which of the following statements is NOT TRUE?
a. Mergers are a remedy to negative productive externalities
b. Incentives to make relational-specific investments depend on the allocation of property rights
c. Designing incentive contracts for employees is a way to cope with agency problems
d. An observable signal is always effective in reducing information asymmetries

9. Which of the following statements on vertical integration is NOT TRUE?

a. Technical efficiency of market specialists is high if they benefit from economies of scale
b. Because of transaction costs, agency efficiency of market transactions is always lower than the
agency efficiency of internal transactions
c. In case of a monopoly upstream and a monopoly downstream, vertical integration is preferable to
market transactions
d. Vertical integration upstream usually has anti-competitive effects on the downstream market

10. Five diverse firms operate in industry i. The following table reports their market shares (xij, with j = 1,…,
5). Compute the following concentration indexes
Firms Xij
A 0.30
B 0.15
C 0.05
D 0.40
E 0.10
a. H=_______________
b. C4=______________

11. Large firms in a concentrated market have incentives to innovate for

a. Raising the entry costs
b. Lowering the entry barriers
c. Reducing concentration
d. None of the answers above is correct

12. Which of the following statements is NOT TRUE? According to industrial economists
a. Externalities exist because some goods have a value, but not a price
b. Information asymmetries between entrepreneurs and (potential) external investors do not depend
on the industry of operations
c. Firms’ innovation rates depend, among the other things, on firms’ size
d. Firms’ innovation rates depend, among the other things, on industry concentration

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 13. Which of the following pricing methods fails to give incentives for a natural monopoly firm to improve
on operating efficiency?
a. Marginal cost pricing
b. Rate of return
c. Earnings sharings
d. Price caps

14. The hold-up problem manifests because of

a. Perfect rationality of economic agents
b. Contract incompleteness
c. Contract incompleteness and economic agents’ tendency to behave opportunistically
d. Bounded rationality

15. Transaction costs are particularly high in cross-country transactions because of

a. Differences in languages across countries
b. The presence of cross-country differences in formal and informal institutions
c. The structure of the distribution channels
d. All the above answers are correct

STRUCTURED QUESTION
Exercise [8 points]
a) Market demand for a homogeneous good is Y(p) = 200 - 4p. Assume that two firms (firm 1 and firm 2) are
serving the market. They employ the same technology, that is they have the same cost function (specifically, C1(y1)
= 5y1 and C2(y2) = 5y2). Assume that the two firms compete à la Cournot. Find the equilibrium and the firms’
profits. [3 points]
In a Cournot model, competition is based on quantities.

 Inverse demand function: p = 50 - 1/4(y1 + y2)

 Each firm maximizes its own profit, which is function of the quantity produced by both of them:
o π1(y1,y2) = R1 - C1 = p*y1 - MC*y1 = (50 - 1/4y1 - 1/4y2)*y1 - 5y1 = 45y1 - 1/4y12 - 1/4y1y2
o π2(y1,y2) = R2 - C2 = p*y2 - MC*y2 = (50 - 1/4y1 - 1/4y2)*y2 - 5y2 = 45y2 - 1/4y1y2 - 1/4y22

 Applying the first order condition:

o Δπ1/δy1 = 45 - 2/4y1 - 1/4y2 = 0  1/2y1 = 45- 1/4y2  y1 = 90 - 1/2y2
o Δπ2/δy2 = 47 - 1/4y1 - 2/4y2 = 0  1/2y2 = 45 - 1/4y1  y2 = 90 - 1/2y1

 Solving the system:

o y1 = 90 - 1/2*(90 - 1/2y1) = 90 – 45 + 1/4y1
o 3/4y1 = 45
o y1 = 60, y2 = 60
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  Given these quantities and plugging them in the inverse demand function, the price is p = 20

b) Assume a homogeneous goods market for microwave ovens. Two firms, 1 and 2, have a combined demand of
Q=80-0.8P. All microwave oven producers have constant marginal and average costs of $50. Initially the price is
$50. Firm 1 and 2 have decided to merge. They can lower their costs of production from $50 to $48 because of
economies of scale of combined operations. They expect that, as the market leader, they can lead the industry to a
price of $60. Use the above demand curve and compute social costs and benefits of the merger. On this basis,
should the merger be approved? [2.5 points]
1: social surplus pre-merger:

P=50, Q=80-0,8*50 = 40

Maximum price paid is when 0=80 – 0,8P, Max P= 100

CS0 = 1/2 (100 – 50)(40-0) = 1000

PS0 = 0

TS0=1000

1: social surplus post-merger:

P=60, MC=AC=48 Q=80-0,8*60 = 32

CS1 = 1/2 (100 – 60)(32-0) = 640

PS1 = (60-48)*32=384

TS1=640+384=1024

TS1>TS0 Merger approved

c) Paul owns a factory and hired Andrew as a worker. The factory’s output depends on Andrew’s effort and is Q
= 60E – E2 . Assume the price is equal to unity (P=1).
Paul, who is the principal, maximizes his profits πP = Q*P – wE (he will only pay Andrew the minimum possible),
where w is the wage he will pay to Andrew to exert effort E.
Andrew (agent) has payoff πA = 𝑤E –E2 (notice that this is his utility of wealth net of the cost of exerting the
effort). Instead of working in the factory Andrew could work as a gardener and have a πA0 of 90.
Suppose that the effort is observable. Find the profit-maximizing effort E, wage w and Paul’s profit. [2.5 points]

P maximizes his profit πP = Output*P-Costs =20E-E2 – wE, where wE – E2 = πA0= 40 (Paul tries to pay as low w
as possible to A, and therefore will set πA0 at only 50)
πP = 60E-E2 – E2 – 90
ΔπP/δE = 60 – 4E = 0  E* = 15
wE=E2 +80 15w =225+90 w=21
πP = 60E-E2 – E2 – 90  πP = 60*15-225-225-90 =360

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Mini-case [7 points]
Read the following mini-case and answer the following questions basing on the concepts and models that
we have studied in class.
In March 2018, international shipping giant Maersk is getting ready to debut a trade digitization platform. Maersk
hopes the platform will help streamline global trade since shipping goods internationally is an extraordinarily
complicated and inefficient process. Maersk intends for stakeholders throughout the supply chain to utilize the
platform, including its competitors. Blockchain, made famous through cryptocurrency, will power part of the
project. Executives at Maersk believe that Blockchain technology can provide much needed transparency to the
global supply chain. Maersk plans to launch the blockchain trade platform as an independent joint venture with
IBM.
[…]
Rajiv Lal and Scott Johnson, Harvard Business Publishing
1. Why for Maersk shipping goods internationally is an inefficient process? Answer the question by referring
to notions and concepts from the OLI paradigm [3 points]
 The OLI paradigm points to ownership, localization, and internalization advantages.
 Ownership advantages: are usually limited in international shipping processes as firms do not
possess/control distribution channels
 Localization advantages: the efficiency of international shipping depends on where firms are
located.
 Internalization advantages: in general, internalizing distribution channels located abroad is a
solution to high transaction costs. However, internalization is complicated by geographical and
cultural distance which increase, for instance, the costs of finding the right distributors

2. Why does Maersk plan to launch its blockchain trade platform as an independent joint venture? [2 points]
 With respect to acquisitions (internalization) and pure market transaction, join ventures represent
an intermediate form (it is a form of alliance), which encompasses the benefits of both the
organizational forms. Indeed, on one side joint ventures favour control, due to join property, on
the other side, they assure flexibility as a new firm is created just to develop the new project

3. Provide one practical example for the following statement “Blockchain holds the potential of reducing
information asymmetries” [2 points]
 For instance, shipping contracts are usually very complex and it is very difficult to draft a
complete shipping contract, which provides for all the unexpected, future circumstances. This
causes information asymmetries among the parties. By increasing contract incompleteness,
blockchain reduces information asymmetries.