Problem Set #4
Ectenia has 200 workers who supply their labor inelastically. The equilibrium wage is $_______________per worker per day. Each orchard hires __________ workers and makes a profit of $ _______________ per day. (Note: Assume that wages are the firm's only costs.)
$160; 10; $200 Wage: 200=1000-5W -5W=200-1000 W=-800/-5 W=$160 200 workers divided by 20 orchards is 10 workers per orchard. Profit = TR - TC =(P*Q)-(L*W) =2(100L-L^2)-(L*160) =2((100*10)-10^2)-(10*160) =1800-1600 =$200
The equilibrium wage is $ _______________ per worker per day. Each orchard hires ___________ workers and makes a profit of $ ____________ per day. (Note: Assume that wages are the firm's only costs.)
$320; 10; $400 L supplied = 200 = 1000-5W/2 -> W=$320 (wages double) Profit for each orchard = 4(100L - L^2) - L320 = 4(100*10-100) - 10*320 = $400 (profit doubles)
Little Kona is a small coffee company that is considering entering a market dominated by Big Brew. Each company's profit depends on whether Little Kona enters and whether Big Brew sets a high price or a low price: High Price vs. Low Price ENTER - $2 mil, $-1 mil (Kona) - $3 mil, $1 mil (BB) DON'T - $0, $0 (Kona) - $7 mil, $2 mil (BB) 1. Does Little Kona have a dominant strategy in this game? A. No B. Yes, it has a dominant strategy of entering. C. Yes, it has a dominant strategy of not entering. 2. Does Big Brew have a dominant strategy in this game? A. No B. Yes, it has a dominant strategy of maintaining a high price. C. Yes, it has a dominant strategy of maintaining a low price.
1) A. No 2) B. Yes, it has a dominant strategy of maintaining a high price. A strategy is called a dominant strategy if it is the best strategy for a player to follow regardless of the strategies pursued by other players. If Little Kona enters, Big Brew would want to maintain a high price. If Little Kona does not enter, Big Brew would want to maintain a high price. Thus, Big Brew has a dominant strategy of maintaining a high price. If Big Brew maintains a high price, Little Kona would enter. If Big Brew maintains a low price, Little Kona would not enter. Little Kona does not have a dominant strategy in this case.
A bakery operating in competitive markets sells its output for $20 per cake and hires labor at $10 per hour. To maximize profits, it should hire labor until the marginal product of labor is A. 1/2 cake per hour. B. 2 cakes per hour. C. 10 cakes per hour. D. 15 cakes per hour.
A. 1/2 cake per hour. A competitive, profit-maximizing firm hires workers up to the point at which the value of the marginal product of labor equals the wage. The value of the marginal product of any input is the marginal product of that input multiplied by the market price of the output; in order for this to equal the wage ($10 per hour), the value of the marginal product must be 1/2 cake per hour: 12×$20=$10 . See Section: The Value of the Marginal Product and the Demand for Labor.
Moldavia is a small country that initially does not trade with the rest of the world. Nut N' Honey Farms has a monopoly on the production of peanut brittle in Moldavia. The following information describes Nut N' Honey's monopoly status in the peanut brittle market in Moldavia: Demand: P = 12 - QD Marginal Revenue: MR = 12 - 2*Q Total Cost: TC = 12 + (1/2)*Q^2 Average Total Cost: ATC = 12 / Q + (1/2)*Q Marginal Cost: MC = Q Acting as a monopolist in the absence of international trade, Nut N' Honey's maximizes profit by producing _______ of peanut brittle and selling each for __________. A. 4 lbs. ; $8 / lb. B. 4 lbs. ; $6 / lb. C. 4 lbs. ; $4 / lb D. 6 lbs. ; $6 / lb.
A. 4 lbs. ; $8 / lb. Nuts N' Honey will maximize profits at that quantity where MR = MC (the profit-maximizing condition for any firm producing a non-zero amount of output, as we know): MR = 12-2*Q = MC = Q 12=3Q Q=4 Where Q4 hits the market demand curve: $8/lb.
The efficient quantity in the Moldavian peanut brittle market is __________, implying that the monopoly outcome results in a DWL of ____________. A. 6 lbs ; $4 B. 6 lbs ; 0 C. 4 lbs ; 0 D. 4 lbs ; $4
A. 6 lbs ; $4 Because the monopolist does NOT produce lbs of peanut brittle for which social benefit (here measured by the D curve) exceeds social cost (measuredby the MC curve) this equilibrium will cause DWL. That DWL is the area bounded by MSB (D curve) and MSC (here the monopolist's MC curve) between the monopoly output (Q=4 lbs) and the efficient output level. To find efficient level of output, we want to find where the D curve, reflecting MSB, hits the MC curve, reflecting MSC, of the monopolist. p=12-Q=MC=Q 2Q=12 Qefficient = 6 lbs of peanut brittle (DWL where it usually is)
If the two firms could collude and agree on how to split the total profits, what outcome would they pick? A. Big Brew maintains a high price and Little Kona does not enter. B. Big Brew maintains a low price and Little Kona enters. C. Big Brew maintains a low price and Little Kona does not enter. D. Big Brew maintains a high price and Little Kona enters.
A. Big Brew maintains a high price and Little Kona does not enter. If the two firms could successfully collude, they would agree that Big Brew would maintain a high price and Little Kona would remain out of the market. They could then split a profit of $7 million.
The prime minister of Moldavia approves her country's membership in the World Trade Organization, thus opening the domestic peanut brittle market to free trade. The world price of peanut brittle is $6 / lb. If Moldavia enters the world market where the world price is $6 /lb., Nut N' Honey __________ charge more than $6 / lb. for peanut brittle at home, because ___________. A. Cannot ; consumers would import peanut brittle instead B. Can ; revenues would rise. C. Cannot ; consumers would stop buying peanut brittle altogether D. Can ; it has monopoly power on the world market
A. Cannot ; consumers would import peanut brittle instead Entering the world market for peanut brittle strips Nut N' Honey of their pricing power. For while they are STILL the only producer of it in Moldavia, they are now not at all the only world producer or the good. Thus, N&H is now a global price taker and faces a MR schedule that is horizontal at the world price of $6/ lb.
Part II: C-11.7 Which of the following holds for BOTH perfect competition and perfect price discrimination in the SR? I. P = MR II. P = MC III. MR = MC IV. ATC = MC A. I, II, and III only B. I, III, and IV only C. I and II only D. I and III only
A. I, II, and III only
The proposed agreement in (a) ____________ a Nash equilibrium, because it ________ represent each player's best response to the strategies chosen by the other players. A. Is not ; does not B. Is ; does C. Is ; does not D. Is not ; does
A. Is not ; does not Because John's response to Jack and Jill both sticking to the agreement is to cheat on them by increasing his output, the original agreement cannot be a Nash equilibrium.
Nut N' Honey __________ producing at minimum efficient scale, because marginal cost is ____________ average total cost at their profit-maximizing output level, implying that average total cost is __________ . A. Is not ; less than ; falling B. Is not ; greater than ; rising C. Is ; equal to ; minimized D. Is ; less than ; falling
A. Is not ; less than ; falling To check if they are producing at minimum efficient scale, we need to find the ATC at the monopoly output: ATC = 12/Q + (1/2)*Q = 12/4 + (1/2)*4 = $5 / lb. Because we know that MC = Q here we know that the MC level at their profit maximizing output level is $4 / lb. Thus, because MC < ATC when they're producing 4 lbs of peanut brittle, ATC is STILL FALLING. Therefore, they are NOT producing at minimum efficient scale, defined as that level of output that minimizes ATC.
Now, suppose the price of apples is back at $2 per apple, but a hurricane destroys half the orchards so only 10 orchards remain. Recall that each orchard's labor demand as a function of the daily wage is L=50−0.25W . What is the market's labor demand? A. L=500−2.5W B. L=100−5W C. L=50−0.25W D. L=500−5W
A. L=500−2.5W L=50-.25W*10 (only 10 orchards remain) or original market labor demand gets cut in half: L=(1000-5W)/2 =500-2.5W
Suppose the world price of apples doubles to $4 per apple. What is each orchard's labor demand as a function of the daily wage W ? A. L=50−0.125W B. L=1,000−2.5W C. L=50−0.25W D. L=100−2W
A. L=50−0.125W Original VMPL of 200-4L is doubled since world price doubles, becoming 400-8L. Set 400-8L equal to W and solve for L, finding labor demanded for each orchard: L = (400-W)/8 L=50−0.125W
The nation of Ectenia has 20 competitive apple orchards, which sell apples at the world price of $2 per apple. The following equations describe the production function and the marginal product of labor in each orchard: Q = 100L−L^2 MPL = 100−2L What is each orchard's labor demand as a function of the daily wage W ? A. L=50−0.25W B. L=1,000−5W C. L=50−0.5W D. L=100−2W
A. L=50−0.25W
If Moldavia enters the world market where the world price is $6 /lb., Nut N' Honey's MR schedule would be which of the following? A. MR = 6 B. MR = 0 C. MR = 8 D. MR = 12 - 2*Q
A. MR = 6 For while they are STILL the only producer of it in Moldavia, they are now not at all the only world producer or the good. Thus, N&H is now a global price taker and faces a MR schedule that is horizontal at the world price of $6/ lb.
The P = ATC condition can be called the ___________ condition. A. Zero economic profit B. Price taker C. Efficiency D. Minimum efficient scale
A. Zero economic profit
Nut N' Honey therefore realizes economic profit of ____________. A. $32 B. $12 C. $6 D. $0
B. $12 To find profits, we need to compute and compare TR to TC: Profit = TR - TC = PQ - (12+(1/2)*Q^2)= 8*4-12-(1/2)*16= $12
Part II: A-9.13 The finance minister argues that banning trade IS efficient. Explain why she is right. [Hint: Both areas "A" and "C" should figure prominently in your explanation here.] Banning trade is efficient here, because although the sum of consumer and producer surplus ______________ when Nut N' Honey's monopoly status is restored, Moldavia ____________ in externality costs as a result. A. Falls by C ; Saves A + C B. Falls by A ; Saves A + C C. Falls by C ; Saves C D. Falls by A ; Saves A
B. Falls by A ; Saves A + C N&H would return to maximizing profit by producing 4 lbs of peanut brittle, which NOW is the efficient quantity given the negative externality in consumption. Total social surplus RISES by banning trade because by returning to autarky, CS and PS TOGETHER fall by area "A". However, externality costs FALL by the SUM of A + C, because society saves the externality costs on those units between 6 lbs and 4 lbs, of brittle. Therefore, if CS + PS falls by A and externality costs fall by A+C (more than A), total social surplus RISES by area C --which was the DWL from earlier.
Under which of the following industry structures is P = ATC a characteristic of LR equilibrium? I. Perfect Competition II. Monopolistic Competition III. Single-Price Monopoly IV. Perfect Price Discrimination A. I, III, and IV only B. I and II only C. I, II, III, and IV D. I only
B. I and II only
What is the market's labor demand? A. L=50−0.125W B. L=1,000−2.5W C. L=100−5W D. L=1,000−5W
B. L=1,000−2.5W Multiply L=50−0.125W by 20 orchards to get market labor demand: L = 1000 - 5W/2 or -2.5W
What is the market's labor demand? A. L=50−0.25W B. L=1,000−5W C. L=100−5W D. L=1,000−0.25W
B. L=1,000−5W L= (50-0.25W)*20 =1000-5W
Part II: C-11.9 Which condition holds for each of the industry structures in both the SR and the LR, assuming they're producing a non-zero level of output? A. ATC = MC B. MR = MC C. P = MC D. P = MR
B. MR = MC
The ATC = MC condition can be called the ___________ condition. A. Price taker B. Minimum efficient scale C. Efficiency D. Zero economic profit
B. Minimum efficient scale
(b.) Now, consider the following industry structures: i. Perfect Competition ii. Monopolistic Competition iii. Single-Price Monopoly iv. Perfect Price Discrimination Identify which of the conditions (1) - (5) from (a) are characteristics of any or all of the industry structures given here above. Which of the conditions necessarily holds only in the LR for perfect competition? A. P = MC B. P = ATC C. MR = MC D. P = MR
B. P = ATC
The condition that ATC = MC necessarily holds for _____________ only in the _________. A. Perfect competition ; short run B. Perfect competition ; long run C. Single-price monopolist ; short run D. Single-price monopolist ; long run
B. Perfect competition ; long run
The free trade equilibrium price and quantity in the Moldavian peanut brittle market is: A. $ 8 / lb. ; 4 lbs. B. $ 8 / lb. ; 8 lbs. C. $ 6 / lb. ; 6 lbs. D. $ 6 / lb. ; 4 lbs.
C. $ 6 / lb. ; 6 lbs. Both Moldavian consumption and production of peanut brittle is equal to 6 lbs. The monoplist's MC curve becomes its supply curve in the global market, and at a world price of $6 / lb they would supply 6 lbs of peanut brittle. But at the world price, from the Moldavian demand curve, consumption is 6 lbs as well.
In light of this new report, the efficient quantity of peanut brittle in Moldavia is now: A. 12 lbs. B. 8 lbs. C. 4 lbs. D. 6 lbs.
C. 4 lbs. We see, however, that the MSB schedule given is the SAME as the monopolist's MR schedule from A. Thus, MSB will intersect MSC (still the MC curve of the monopolist) at Q = 4 lbs of peanut brittle. The monopoly output from a becomes the efficient quantity in light of the negative externality here.
Which of the following outcomes represent a Nash equilibrium in this case? Which of the following outcomes represent a Nash equilibrium in this case? Check all that apply. A. Big Brew maintains a low price and Little Kona enters. B. Big Brew maintains a high price and Little Kona does not enter. C. Big Brew maintains a high price and Little Kona enters. D. Big Brew maintains a low price and Little Kona does not enter.
C. Big Brew maintains a high price and Little Kona enters. A Nash equilibrium is a situation in which economic actors interacting with one another all choose their best strategy given the strategies the others have chosen. Because Big Brew has a dominant strategy of maintaining a high price, Little Kona knows that Big Brew will choose a high price regardless of whether it enters. Therefore, Little Kona will choose to enter because a profit of $2 million is better than $0. See Section: The Equilibrium for an Oligopoly.
The P = MC condition can be called the ___________ condition A. Zero economic profit B. Price taker C. Efficiency D. Minimum efficient scale
C. Efficiency
Explain why the free trade equilibrium here is now NOT efficient. Use the letter "C" to label the DWL associated with free trade given the finance minister's findings. Your labeled area "C" of DWL in this case is bounded by the ___________ curves between the quantities of ___________lbs. of peanut brittle. A. MC and MSB ; 4 and 8 B. MC and D ; 4 and 8 C. MC and MSB ; 4 and 6 D. MC and D ; 4 and 6
C. MC and MSB ; 4 and 6 Because Moldavian consumers are consuming lbs of peanut brittle for which the SOCIAL benefit is LESS than the SOCIAL cost. The extent to which social benefits fall short of social costs is the basis of DWL here. Area C in the diagram represents the DWL of the free trade equilibrium.
A new report from the Moldavian finance minister finds that peanut brittle consumption raises dental insurance costs throughout the country; they conclude, therefore, that the marginal social benefit of peanut brittle in Moldavia is actually: MSB = 12 - 2*Q Marginal private benefit of peanut brittle consumption continues to be given by the domestic D curve: MPB = P = 12 - Q This new report has uncovered a _____________ consumption externality because MSB is ______ than MPB. A. Negative ; more B. Positive ; more C. Negative ; less D. Positive ; less
C. Negative ; less We know that the MSB of any given Q is LESS than the MPB, making this a NEGATIVE externality in consumption. Consumption of peanut brittle raises dental insurance costs for everyone, even those who do not eat the stuff. Therefor, the social benefit is eating it is LOWER than the private benefit because of this negative externality.
At the free trade equilibrium you've identified above, Moldavia will _________. A. Import 8 lbs. of peanut brittle B. Export 2 lbs. of peanut brittle C. Neither import nor export peanut brittle D. Export 4 lbs. of peanut brittle
C. Neither import nor export peanut brittle At the free trade equilibrium, Moldavia neither imports nor exports peanut brittle, but the entry into the global market has not been for naught. It has eliminated the monopoly power of Nut N' honey and allowed total social surplus to rise (by A).
If Moldavia enters the world market where the world price is $6 /lb., Nut N' Honey __________ charge less than $6 / lb. for peanut brittle at home, because ___________. A. Should ; revenues would rise B. Should ; profits would rise C. Should not ; it can sell all it wants on the world market at $6 / lb. D. Should not ; the world price of peanut brittle would fall as well
C. Should not ; it can sell all it wants on the world market at $6 / lb.
The Prisoners' Dilemma is a two-person game illustrating that A. the cooperative outcome could be worse for both people than the Nash equilibrium. B. even if the cooperative outcome is better than the Nash equilibrium for one person, it might be worse for the other. C. even if cooperation is better than the Nash equilibrium, each person might have an incentive not to cooperate. D. rational, self-interested individuals will naturally avoid the Nash equilibrium, because it is worse for both of them.
C. even if cooperation is better than the Nash equilibrium, each person might have an incentive not to cooperate. The Prisoners' Dilemma game provides insight into why cooperation is difficult. Many times in life, people fail to cooperate with one another even when cooperation would make them all better off. The story of the prisoners' dilemma contains a general lesson that applies to any group trying to maintain cooperation among its members.
If the benefits from an antipoverty program are phased out as an individual's income increases, then the program will A. encourage greater work effort from the poor. B. lead to an excess supply of labor among unskilled workers. C. increase the effective marginal tax rate that the poor face. D. cost the government more than a program that benefits everyone.
C. increase the effective marginal tax rate that the poor face. Because financial assistance declines as income rises, the poor often face very high effective marginal tax rates, which discourage poor families from escaping poverty on their own. The more quickly the benefits are phased out, the higher is the effective marginal tax rate. See Section: Antipoverty Programs and Work Incentives.
Jack and Jill propose that the three of them continue to produce a total of 80 gallons, splitting the market three ways. If John agrees to this, how much profit will he make? Question: Under this proposed agreement, John produces _________ gallons of water, sells each gallon for ________ and earns _________ in profit. A. 30 ; $30 / gallon ; $900 B. 26.67 ; $30 / gallon ; $800 C. 30 ; $40 / gallon ; $1200 D. 26.67 ; $40 / gallon ; $1066.67
D. 26.67 ; $40 / gallon ; $1066.67 Polyopoly = perfect competition. If 80 gallons are produced, we know that the market price will be $40 pergallon. If the three of them split those 80 gallons evenly, each will produce 26.67 gallons and earn a profit of 25.57*40= $1066.67
The Nash equilibrium with three producers in this market would be a market quantity of ___________ gallons, with each player earning a profit of __________. A. 80 ; $1066.67 B. 110 ; $366.67 C. 60 ; $1200 D. 90 ; $900
D. 90 ; $900
After agreeing to the proposed deal, John is considering increasing his production by 10 gallons. If he does, and Jack and Jill stick to the agreement, how much profit will John make? What does this tell you about the proposed agreement? If John increases his production by 10 gallons and Jack & Jill both stick to the agreement in (a), John's profit will _____________ to ___________. [Hint: John's decision here will affect the market price of water!!] A. Decrease ; $800 B. Decrease ; $900 C. Increase ; $1000 D. Increase ; $1100
D. Increase ; $1100 This increase would bring total quantity of water supplied to 90 gallons and thus drop the market price to $30/ gallon. REmember, market demand for water is Qd = 120 - P. John's profits would increase to (30*36.67) = $1100, while Jack's and Jill's would fall to (30*26.67)= $800.
Consider the following conditions: 1. MR = MC 2. P = MR 3. P = ATC 4. ATC = MC 5. P = MC We'll get you started by naming (1) as the "profit maximizing condition" for any firm producing a non-zero level of output. The P = MR condition can be called the ___________ condition. A. Zero economic profit B. Efficiency C. Minimum efficient scale D. Price taker
D. Price taker
Barney runs a small manufacturing company. He pays his employees about twice as much as other firms in the area, even though he could pay less and still recruit all the workers he wants. He believes that higher wages make his workers more loyal and hard-working. This is an example of A. a compensating differential. B. human capital. C. signaling. D. efficiency wages.
D. efficiency wages. The theory of efficiency wages holds that a firm can find it profitable to pay high wages because doing so increases the productivity of its workers. In particular, high wages may reduce worker turnover, increase worker effort, and raise the quality of workers who apply for jobs at the firm. See Section: Above-Equilibrium Wages: Minimum-Wage Laws, Unions, and Efficiency Wages.
Total income in the country (defined as workers' income plus orchards' profit) was equal to $36,000 before the crop destruction. True or False: Total income of Ectenia rose as a result of the crop destruction. True False
False. Total income = total profit + total wages = ($800 in profits * 10 orchards) + ($120 in wages * 200 workers) = $8000 total profit + $24,000 in wages Total income after hurricane =$32,000
The equilibrium wage is now $ ___________ per worker per day. Each orchard hires __________ workers and makes a profit of $_____________ per day. (Note: Assume that wages are the firm's only costs.)
L supplied = 200 = 500-2.5W 2.5W=300 W=$120 *only 10 orchards now, so 20 workers per orchard* Profit= (P*Q) - (L*W) =2(100*20-20^2) - (20*120) =3200-2400 Profit=$800
Imagine that someone offered you a choice: You could spend four years studying at the world's best university, but you would have to keep your attendance there a secret. Or you could be awarded an official degree from the world's best university, but you couldn't actually attend. Indicate which choice would enhance your future earnings more under each of the specified theories.
Under signaling theory, you have the degree and not attend. Under the human-capital theory, you secretly attend. According to signaling theory, when people earn a college degree, they do not become more productive, but they do signal their high ability to prospective employers. Because it is easier for high-ability people to earn a college degree than it is for low-ability people, more high-ability people get college degrees. As a result, firms interpret a college degree as a signal of ability and pay higher wages to those with a degree. Therefore, under the signaling theory, you would rather have the degree and not attend the university. Human capital is the accumulation of investments in people. The most important type of human capital is education. Human-capital theory states that workers with more human capital earn higher wages because they have higher marginal products. Therefore, under the human-capital theory, you would rather attend, even though doing so would be a secret. See Sections: An Alternative View of Education: Signaling; and Human Capital.
Suppose there are two possible income distributions in a society of ten people. In the first distribution, nine people have incomes of $30,000 and one person has an income of $10,000. In the second distribution, all ten people have incomes of $25,000. If the society had the first income distribution, the utilitarian would argue that the marginal utility of income for the person with an income of $10,000 is __________ than the marginal utility of income for someone with an income of $30,000, so income _____________ be redistributed.
higher; should A utilitarian would argue that the marginal utility of income for the person with an income of $10,000 is higher than the marginal utility of income for someone with an income of $30,000, so income should be redistributed. See Section: Utilitarianism.
Big Brew threatens Little Kona by saying, "If you enter, we're going to set a low price, so you had better stay out." Little Kona ________ believe the threat. (should or should not)
should not. Little Kona should not believe this threat from Big Brew because it is not in Big Brew's interest to carry out the threat. If Little Kona enters, Big Brew can set a high price, in which case it makes $3 million, or Big Brew can set a low price, in which case it makes $1 million. Thus the threat is an empty one, which Little Kona should ignore; Little Kona should enter the market.
Rawls considers ___________ distribution to be more equitable, while Nozick considers ___________ distribution to be more equitable.
the second; neither Rawls would prefer the second distribution because the worst-off person is better off than in the first distribution. However, Nozick would not find either more equitable. He would think the most equitable distribution is the one in which people got what they deserved. If the rules of the game are fair, either distribution is quite acceptable. See Sections: Liberalism; and Libertarianism.