Microeconomics Exam 2 Study Guide
At 600 units of output, total fixed cost is equal to $1,000 and total variable cost is equal to $12,000. Total cost is equal to _____
$13,000 Explanation: $1,000 + $12,000 = $13,000
At 1,000 units of output, the fixed cost of production is $12,500 per week. Total cost of producing 1,000 units per week is $28,500 per week. The variable cost of producing 1,000 units of output per week is equal to _____.
$16000 Explanation: $28,500 - $12,500 = $16,000
Santa Claus's only variable input is labor. The wage he must pay is 200 candy canes per week. What is Santa's total weekly variable cost if he hires 200 elves?
40,000 candy canes Explanation: 200 candy canes * 200 elves = 40,000 candy canes
The production of 75 sofas per week requires 15 workers. The average product of each worker is ______________ sofas per week.
5 Explanation: 75/15 = 5
Alicia is currently spending $6,000 per week on total variable costs to produce 500 hats. To produce 505 hats per week she would have to spend $6,100 per week. The marginal cost per hat is ______.
$20 Explanation: ($6,100 - $6,000)/(505-500) = $100/5 = $20
Peter can produce 50 lunches per hour for $1,250. If he hires one more cook for $15 an hour, he can produce 55 lunches per hour. The marginal cost of expanding hourly lunch production from 50 to 55 is _____.
$3 Explanation: $15/(55-50) = $15/5 = $3
If accounting profits equal $10 million for a firm and the owners could likely earn $7 million in a similar business, the firm's economic profit is ________.
$3 million dollars Explanation: Economic profit equals accounting profit minus opportunity costs.
At 2,000 units of output, the variable cost of production is $12,500 per week. Total cost of producing 2,000 units per week is $45,500. The fixed cost of producing 2,000 units of output per week is equal to ______.
$33,000 Explanation: $45,500 - $12,500 = $33,000
Who is most likely to be involved in writing regulations for a particular industry and why?
Firms participating in the industry since the effect of the regulation is concentrated on a few who have a powerful incentive to shape it.
Using the information from the table above, if the monthly wage of an office chair factory worker is $2,160, what is the marginal cost of increasing output from 190 office chairs per month to 235 office chairs per month?
$48 Explanation: Change in total cost is the cost of 1 more worker ($2,160). Change in output is 45 office chairs. $2,160/45 = $48.00.
Will a change in fixed costs change marginal cost?
No Explanation: A change in fixed costs will only change total costs and average costs. Marginal cost is affected only by changes in variable costs.
Will a change in fixed costs change total variable cost?
No Explanation: Changes in fixed costs do not change total variable costs. A change in the cost of variable inputs will change total variable costs.
Why do barriers to entry allow a monopolist to make positive economic profits?
Otherwise, firms would enter the market, resulting in a decrease in price and profits. Explanation: Barriers prevent other firms from entering like they do in a perfectly competitive market.
At 1,000 units of output the fixed cost of production is $12,500 per week. Total cost of producing 1,000 units per week is $28,500 per week. If labor is the only variable input and the weekly wage is $1,600, how much labor is being used produce 1,000 units of output?
10.0 Explanation: $28,500 - $12,500 = $16,000; $16,000/$1,600 = 10
The production of 12,000 candy bars per day requires 60 workers. The average product of each worker is ______________ candy bars per day.
200 explanation: 12,000/60 = 200
Marcus has four employees. The four employees produce 55 floral arrangements in a day. Marcus hires a fifth employee. The five employees produce 60 floral arrangements in a day. The fifth employee's marginal product is __________.
5 floral arrangements in a day explanation: the fifth employee added 5 more floral arrangements to the total number of floral arrangements (60-55 = 5).
If the average product of labor is 12 units of output per worker per day when eight workers are hired, eight workers will be able to produce ______________ units per day.
96 Explanation: X/8 = 12, therefore 8*12 = X = 96
Assume that instead of the cost of the three computer work stations and space being $5,000 per month, it is $10,000 per month. Match the number of workers to the correct marginal cost.
A = $30.00, B = $27.27, C = $23.08 Explanation: ΔTotal Cost/ΔOutput = 3000/100 = 30, B -- ΔTotal Cost/ΔOutput = 3,000/120 = 27.27, C -- ΔTotal Cost/ΔOutput = 3,000/130 = 23.08
OPEC is an example of ___.
A cartel
Which of the following most likely represents a short-run business decision?
Aaron hires two additional workers to help cover the holiday rush at his shop. Explanation: Short run decisions typically can be carried out quickly while other factors will take more time to change.
Economic profits are ______________ than accounting profits.
Always less Explanation: Because we subtract what businesses could earn in an alternative activity (the normal profit) from accounting profit, economic profit is always less than accounting profit.
In the short run, how will a decrease in variable costs affect the output of a typical firm in a competitive market?
An increase in input Explanation: A decrease in variable costs will cause marginal costs to decrease. Assuming that the firm was maximizing profits before the change, marginal cost must now be less than marginal revenue. Thus, the firm will increase its output until marginal cost and marginal revenue are once again equal.
In the short run, how will an increase in demand affect the output of a typical firm in a competitive market?
An increase in output Explanation: An increase in demand will cause the market price to increase. Thus, the firm's marginal revenue increases. Assuming that the firm was maximizing profits before the change in demand, the price (marginal revenue) must now be greater than the marginal cost. Thus, the firm will increase its output until marginal cost and marginal revenue are once again equal.
A merger that increases the four firm HHI index should be ______________.
Analyzed further to see if it will reduce competition in such a way that hurts consumers. Explanation: An increase in the four firm HHI index may not necessarily hurt consumers if the four firm HHI index is already low and doesn't
What does diminishing marginal productivity mean?
As you increase the amount of a variable input, its marginal product eventually gets smaller. explanation: While a and d might eventually happen if the marginal product diminishes, b represents the definition of diminishing marginal productivity. C is not possible because the fixed input cannot change in the short run (and diminishing marginal productivity is a short-run concept).
Regulators of a natural monopoly concerned most with the monopoly's profits will set prices equal to ________.
Average cost Explanation: A natural monopoly will produce where marginal cost equals marginal revenue. That will likely be where price is greater than average cost and economic profits will be earned. By setting price equal to average cost, the monopoly will earn normal profits.
In the long-run, marginal cost will be average cost if the firm is experiencing economies of scale.
Below
A firm engaged in predatory pricing will set its price in which of the following ways?
Below the average cost to drive out competition and then increase price Explanation: Firms would not charge a price below variable average cost if they are profit-maximizing in the short run, since that would mean negative economic profit for the firm. However, if the firm saw that it could discourage competitors and then raise its price and lower output to maximize profits and earn economic profits after competing firms were forced out of the market, it might do so.
In the case of an increase in fixed costs, what will happen to the economic profits of the typical competitive firm? Economic profits will ________.
Decrease Explanation: With higher fixed (and therefore total) costs, the profits of the firm will decrease at any output level.
The slope of a firm's production function will ______ as the amount of a variable input used increases if the input experiences diminishing marginal productivity.
Decrease Explanation: Diminishing Marginal Product implies that the changes in output (rise) will get smaller while the changes in labor use (run) remain the same. So, slope will decrease.
A long-run average cost curve that rises through all levels of possible outputs represents which effect?
Diseconomies of scale Explanation: Diseconomies of scale means that if all inputs are doubled, output will be less than doubled. Thus, the cost will increase as the scale of the firm increases.
Tony's Gas Station and Robert's Gas Station are the only two gas stations in a small town of Westville. If Tony and Robert collude to earn more profits, which of the following would be true?
Each limit the amount of gasoline available and raise prices
Which of the following is a characteristic of perfect competition?
Easy entry for firms Explanation: Remember that easy entry doesn't mean costless entry. It just means that anyone can start a firm here if they want to. This results in industry growth if there are profits to be made.
A natural monopolist will face which of the following?
Economies of scale Explanation: A natural monopolist will be able to produce more than competitive firms and force those firms out of business. The competitive firms will not be able to compete with the single large firm. It is "natural" because the situation will naturally (based on cost functions) result in a single firm operating in the market.
In a model with only labor and capital as inputs, in the short run the amount of ______________ is fixed, while in the long run the amount of ______________ is variable
Either labor or capital, both labor and capital Explanation: The short run is defined by there being at least one input that cannot be altered. It does not matter which one is fixed. In the long run, all inputs can be changed.
Marginal revenue is only positive when demand is _______.
Elastic Explanation: This concept takes a little bit more thought. We have established that marginal revenue is positive at the profit-maximizing quantity. That means that if the price was lowered, the increase in quantity would more than offset that decrease in price and there would be an increase in revenue. We established in previous chapters that when consumers are on the elastic portion of their demand curve, if the price is lowered, revenue would increase. So, if the firm is producing where marginal revenue is positive, it must be producing on the elastic portion of the demand curve.
In the above situation, is business demand is elastic or inelastic?
Elastic Explanation: The percentage change in quantity from an increase in $1 is (100/1,000) x 100 = 10%. The percentage change in price is less than that: ($1/$15) x 100 = 6.7%. Elasticity (percentage change in quantity over percentage change in price) is, therefore, greater than 1.
Mergers can sometimes be socially beneficial if they do which of the following?
Enhance the quality of the products Explanation: Potential benefits of a merger are that they can lower the costs of production and improve the quality of the products. Potential costs of the mergers are reducing competition and increasing pricing power.
In the long run, a monopolistically competitive firm will produce where price ___________.
Equals average cost and is greater than the marginal cost
T/F: The monopoly and perfectly competitive firm are allocatively efficient.
False Explanation: Society can be better off by producing more of the monopoly's good and less of the perfectly competitive good because MU/MC for the monopoly is greater than MU/MC for the perfectly competitive firm. However, nothing about the markets will result in that outcome.
What are two of the reasons that average cost tends to have a "bowl" shape?
Fixed costs tend to dominate low levels of output and variable costs tend to dominate high levels of output Explanation: Because fixed costs do not change, average fixed costs will get smaller as output grows. This gives us the downward part of the "bowl." As output grows variable costs tend to increase (and if marginal costs are increasing, variable costs will grow faster than output) giving us the upward part of the "bowl."
Predatory pricing is:
Hard to distinguish from an industry in which firms are competing intensely and are discovering ways to lower average total cost. Explanation: Predatory pricing is hard to detect from an antitrust enforcement point of view because it looks almost the same as a situation in which innovation leading to lower costs allows some firms to lower price and drive inefficient firms out of business.
The marginal product of an automobile assembly line worker is currently one automobile per month. The wage and benefits of that typical worker is currently $4,000 per month. A new robot will cost $20,000 per month and its marginal product is four automobiles per month. If the automobile company wants to continue producing its current level of output, which of the following should it do?
Hire more labor and buy fewer robots Explanation: When the firm is getting more output per additional dollar with labor, they should use more labor and less capital to produce that level of output.
Which of the following is a cause of diminishing marginal productivity?
In the short run, labor runs out of available capital as more labor gets added to the production process. Explanation: As more of the variable input (labor in this case) is added to the fixed amount of the fixed input (capital in this case), the fixed input becomes scarce (or crowded), which makes the variable input less productive at the margin.
In the case of an increase in demand, what will happen to the economic profits of the typical competitive firm? Economic profits will ________.
Increase Explanation: An increase in demand will cause the market price to increase. Thus, the firm's marginal revenue increases. Assuming that the firm was maximizing profits before the change in demand, the price (marginal revenue) must now be greater than the marginal cost. Thus, the firm will increase its output until marginal cost and marginal revenue are once again equal. The firm will still be earning the profits it was before the change in price and it earns additional profits from the increased price and the increased output. Economics profits must rise.
An increase in the prices of an input will cause long-run average costs to ____.
Increase Explanation: Firms were presumably producing in the most efficient way possible given the initial price of inputs. An increase in the price of one of those inputs means that the average cost of any production process is now higher than it was before. Thus, an increase in the price of any input will result in higher average costs. They may use less of that input and more of another, but costs will rise.
If the quantity of an input is variable in the short run, its total cost will ______________ as output increases.
Increase Explanation: The use of a variable input increases as output increases. Therefore, its total cost increases as output increases (you have to buy more).
In the above situation, is individual demand is elastic or inelastic?
Inelastic Explanation: The percentage change in quantity from the increase in $5 is (1,000/100,000) = 1%. The percentage change in price is greater than that: ($5/$15) x 100 = 33%. Elasticity (percentage change in quantity over percentage change in price) is, therefore, less than one.
Why can't a single firm in a perfectly competitive industry influence the market price?
Its production level is too small to affect the market Explanation: In perfect competition, we assume that each firm is a small "drop in the bucket." Each is too small to influence the price by themselves. If there are over 10,000 firms, a single firm will not have any influence on the market conditions.
What is the main source of diseconomies of scale?
Limited ability to manage and coordinate larger amounts of inputs Explanation: Since management has limited effectiveness, more management may be needed to oversee larger operations. . This management certainly has costs, but it might not necessarily increase output by very much! This can increase average costs.
Economies of scale happen when increases in output result in ________
Lower average costs Explanation: This is on the left side of the long-run average cost function (lower levels of output). Economies of scale means average costs fall when output (and firm size) increases.
Use the information from the table. If the weekly wage is $200, the marginal cost of increasing weekly production from 10 to 22 scarves per week is ______________ than the marginal cost of increasing weekly production from 40 to 46 scarves per week because the marginal product of the second worker is ______________ than the fifth worker.
Lower;higher Explantation: The marginal product if the second worker is 12 while the marginal product of the fifth worker is 6. Therefore, the cost of each additional unit the fifth worker produces is twice as much as each unit the second worker produces.
A profit-maximizing monopolist produces where marginal cost is equal to ________.
Marginal Revenue Explanation: If revenue is increasing by more than costs are increasing (marginal revenue > marginal cost), then profits are increasing. If the opposite is true, then profits are decreasing. Therefore, firms will want to produce where marginal revenue and marginal cost are equal.
Regulators of a natural monopoly concerned most with economic efficiency will set prices equal to ________.
Marginal cost Explanation: A natural monopoly will produce where marginal cost equals marginal revenue. That will be where price is greater than marginal revenue and thus price is greater than marginal cost. The monopolist should produce more for an economically efficient outcome. Setting price equal to marginal cost will result in economically efficient level of output.
A large number of firms in Biergarten sell flavored beer. However, each firm faces a downward-sloping demand curve. The market for flavored beer is _____.
Monopolistically competitive
In which of the following markets do sellers have the highest profit level?
Monopoly
Assume that competitive firms and a competitive market are in long-run equilibrium. In the short run, what will be the effects of an increase in fixed costs on the output of a typical firm in a competitive market?
No change in input Explanation: A competitive firm will produce where marginal cost and marginal revenue (the market price) are equal. If fixed costs increase, neither marginal revenue nor marginal cost is affected.
The Coca-Cola Company is the only producer of Coca-Cola. Is it considered a monopoly?
No, because Coca-Cola has many close substitutes. Explanation: Coca-Cola is not considered a monopoly because there are many substitutes to producing Coke. For example, Pepsi and Dr. Pepper are close substitutes within the soft drink market. On top of that, there are many other beverages that are substitutes to soft drinks. So, while Coca-Cola is the only firm that can produce real Coke, it is not considered a pure monopoly. Coca-Cola is often considered to compete in monopolistic competition, which will be discussed in the next chapter [See chapter on Between Competition and Monopoly].
Assume the following data. The marginal product of labor is 150 washed cars per day. The daily wage is $60. If the marginal product of machines that would wash cars is 200 per day and the rent for the machines is $80, what will the firm do?
Not change the number of machines or workers Explanation: The additional output per dollar spent on both resources is the same. Thus, the firm cannot reduce its costs or expand its output by switching from one resource to another.
In which of the following markets do sellers act as price takers?
Perfect competition
In perfect competition, the demand curve for an individual's firm product is _________.
Perfectly elastic Explanation: The demand is horizontal (perfectly elastic) since the firm has no control over the price. They must charge the market price for their good, meaning the firm has zero power to raise their price. If they attempt to raise the price, consumers will all move on to another identical good at a lower price, and that firm will sell nothing. Firms will also not want to lower the price of their good since they can sell as much as they want at the going market price.
Accounting profits at a firm's economic profit break-even point are ________.
Positive Explanation: Remember that in economics, we consider profit to be generally defined at economic profit. Thus, at breaking even, economic profit is equal to zero. This means that accounting profit (which doesn't include implicit costs) must be positive.
A monopolistic competitive firm will incur loss if which of the following is true?
Price is lower than average total cost
A single firm in a perfectly competitive market is a _________.
Price-taker Explanation: A price-taker means that the single firm must just take the price as given. They might like it or dislike it, but they cannot alter the price.
In the long-run, what will diminishing marginal returns be?
Relevant if one input is changed while the other input is held constant or reduced Explanation: Even in the long-run, diminishing returns will eventually be experienced if one input is changed and the other inputs are held constant. If all inputs are changed, diminishing returns will not apply.
Currently, the marginal product of labor is 45 units per week. The average product of labor at the current level of output is 32 units per week. If the employer hires one more worker, the marginal product of labor will be 47 units per week. The average product of labor will ______________.
Rise Explanation: MP>AP, therefore AP is rising.
Variable cost ______________ while fixed cost ______________ as output ______________ in the short run.
Rises, stays the same, increases Explanation: The use of a variable input increases as output increases. Therefore, its total cost increases as output increases (you have to buy more). Fixed cost stays the same no matter what the level of output in the short run.
Which of the following are good examples of natural monopolies?
Sewer treatment plant Residential data connection (coaxial cable or fiber optic) Electricity delivery
An industry trade group who's purpose is to increase the profitability of industry members ____________.
Should probably be investigated by the FTC to makes sure members aren't colluding to fix prices Explanation: While trade groups need not be bad for consumers, the FTC and other groups interested in promoting anti-trust policy should be wary when competitors get together to discuss business. One obvious topic of discussion is how to become more profitable by raising prices.
The addition of a single firm in a competitive market will cause the market ______________ to ______________.
Supply;increase Explanation: The quantity supplied in the market at each price is the sum of what each firm will produce at that price. The same is true at every price level. Thus, the market supply curve is the horizontal summation of all of the firm's supply curves. One more firm will add a small amount to the market quantities supplied at each price level. The market supply will increase as a result.
1) Suppose you work for the FTC and have been asked to assess whether the FTC should build a case to block a proposed merger. Which of the following would be evidence in favor of blocking the merger?
The HHI index will increase a great deal The combined company plans to shut down about half of its locations many of which are currently profitable. There are high barriers to entry in the industry Both companies have very high accounting profit compared to revenue Explanation: Mergers are likely to reduce total surplus if they substantially reduce competition and increase a company's ability to raise price without improving the product they sell. This would tend to be the case when the merger severely increases industry concentration, results in a contraction of its operations (reducing quantity to raise price), occurs in an industry with high barriers to entry, occurs between companies that are already able to charge a price that is well above average total cost.
Suppose an additional worker can handle an additional 10 orders per hour. That will cost $15 per hour. An additional telephone answering machine will handle an additional 20 calls per hour at a cost of $10 per hour. Which of the following is correct?
The firm should increase capital and decrease labor, because labor produces less per dollar spent. Explanation: When the firm is getting more output per additional dollar with capital, they should use more capital and less labor to produce that level of output.
A production function can best be described as which of the following?
The relationship between the quantity of inputs and quantity of outputs produced in a given amount of time explanation: The production function represents a relationship, not one particular combination of inputs and outputs ("a" represents a production possibilities frontier).
Suppose a firm doubles its inputs in the long-run, and as a result, output doubles. Which of the following is true?
This firm is experiencing constant returns to scale. Explanation: If inputs and outputs both double, then average costs don't change. This is constant returns to scale. Note that if inputs double, our total costs double. Thus, you could view this as total costs and output both doubling, so average costs remain the same.
A monopolist will engage in price discrimination, if it can, in order to increase profits by doing which of the following?
While continuing to produce the same amount Explanation: Price discrimination raises revenues when producing the same amount. If revenues increase and costs do not change, economic profits must increase.
n the long run, the monopolist ______________ (will/will not) produce a quantity where average cost is at a minimum, whereas the perfectly competitive firm ______________ (will/will not) produce that quantity.
Will not;will Explanation: In a perfectly competitive market, firms will enter if there are potential profits, which will lower the price. This process will occur until the price equals to the marginal cost which is equal to average cost (at its minimum). At this point there will be no profits. In a monopoly, however, barriers to entry prevent other firms from entering. Nothing is forcing the monopoly to produce where average costs are at a minimum.
Will a change in fixed costs change average cost?
Yes Explanation: A change in fixed costs changes average costs because average cost is total fixed cost plus total variable cost divided by amount of output. Thus, average cost will also change as fixed cost changes
Will a change in fixed costs change total fixed cost?
Yes Explanation: Fixed cost is part of total fixed cost; thus, the latter will change when fixed cost changes.
What are economic profits at a firm's break-even point?
Zero Explanation: Remember that in economics, we consider profit to be generally defined at economic profit. Thus, at break even, economic profit is equal to zero.
Compare the levels of economic profits in a long-run equilibrium for a perfectly competitive firm, a monopoly, a monopolistically competitive firm, and an oligopoly. Economic profits will most likely be:
Zero in perfect competition and monopolistic competition, perhaps positive in a monopoly and perhaps positive in oligopoly
What is a reason that monopolies exist?
a A firm owns a resource that no one else has b A firm is given legal protection that prevents another firm from entering c A firm naturally drives out competitors through lower prices. **d All of the above are reasons** Explanation: A monopoly can exist for a number of reasons, but they all relate to there being some barrier that prevents other firms from entering. Any of the reasons listed are possible.
What do you think would happen in a commercial neighborhood near your home if a restaurant in that neighborhood were making a great deal of profit (select all that apply)?
a In-and-Out burger will open a new franchise. b Domino's Pizza will move to this neighborhood from a rundown area of the town. c Chipotle will open a new store next door. Explanation: All three new restaurants will enter the market if they saw the large profit margin.
Diminishing marginal returns means that marginal product will eventually ______ and marginal cost will eventually ____
decrease;increase Explanation: Diminishing marginal product will imply marginal product of labor will decrease which will force marginal cost to rise.
The law of diminishing marginal returns is the cause of ______________ marginal product and ______________ marginal cost.
decreasing;increasing Explanation: The law of diminishing marginal returns states that if every other input is held constant, increases in the variable input will eventually result in smaller increases in output. Thus, marginal product eventually decreases. A decreasing marginal product means that a given change in input produces smaller additions to output. Thus, the cost of those additional units of output, the marginal cost, must increase.
In the long run, a monopolist facing the same cost curves as a perfectly competitive firm will charge a ______________ price than the competitive market and produce a ______________ output.
higher;lower Explanation: The perfectly competitive firms, in the long run, will produce where marginal cost and average cost are just equal to the market price. The monopolist will find that at that level of production, marginal revenue will be much less than the marginal cost. Thus, the monopolist will raise the price and produce less.
An increase in technology will cause the total product function to ______________ and average costs to ___________
increase;decrease explanation: More output at each level of the variable input will result. Thus, the average product function will shift up. That is, total product will increase. Average costs will fall as more output is produced with the same level of resources at the same prices. Therefore, average cost must fall.
In the short run, an increase in wages (the price of the variable input) will cause average cost to ______________ and marginal cost to ______________.
increase;increase Explanation: Variable costs are part of average costs and marginal costs. Thus, both will increase.
Marginal cost is the slope of ____
the total cost curve Explanation: The slope of the total cost curve is the change in total cost divided by the change in total product and thus is equal to the increase in total cost caused by an increase of one unit of output. That is the definition of marginal cost.
