Government Interventions
What kind of government price control is the minimum wage?
Price Floor
Name 5 types of costs that firms must consider when making production decisions.
2. Fixed costs
3. Variable costs
4. Average costs
5. Total costs
What can firms do in a long run market but NOT in a short run market?
- leave the market
- avoid sunk costs
Which of the following popular companies are monopolies:
A. Rogers
B. the TTC
C. Netflix
D. Apple
E. Tim Horton's
B.
Define Nash Equilibrium and Prisoner's Dilemma.
Nash Equilibrium - the mutual best responses of two players. At the nash, no one has incentive to make another choice as choosing another option does not increase payoffs.
Prisoner's Dilemma - an instance where the nash equilibrium is inefficient, and both players have a strictly dominant strategy.
The market for mangoes is perfectly competitive with downward-sloping Market Demand and upward-sloping Market Supply. The government imposes a $2 tax per mango sold. Because of this tax, market price of mangoes ____ and market quantity of mangoes ____.
A remains unchanged; increases.
B remains unchanged; decreases.
C decreases; decreases
D increases; decreases
E could increase or decrease; decreases
E
Market price depends on statutory incidence. Because we are not told who pays the tax we don’t know if PS or PD is market price so it could increase or decrease. With a tax however, market quantity will decrease.
Consider a perfectly competitive chicken market with identical firms. Market demand is downward-sloping. Firms have the usual shaped cost curves. The firm’s fixed cost is the rental price of land. The market is currently in long-run and short-run equilibrium with market price = $13. The rental price of land decreases. Consider the quantity each firm produces in the short-run. At this quantity, in the short run, each firm’s Marginal Cost (MC) is ____ and Average Total Cost (ATC) is ____.
A lower than $13; equal to $13.
B $13; higher than $13
C $13; lower than $13
C.
The decrease in rental prices will decrease the fixed cost only. This decreases the ATC at every quantity. Short-run supply comes from the firm’s MC curve which is unchanged. As market demand and market supply remain unchanged, market price remains unchanged. Firm supply (MC) and market price stay the same so each firm produces the same quantity making MC = $13 and AT C < $13.
Consider a perfectly competitive market for wheat currently in long-run equilibrium. Demand for wheat is the usual downward sloping demand curve. The price of rice, a substitute for wheat, falls. What happens to the wheat market?
A In the short-run firms exit the market.
B In the long-run firms exit the market.
C In the short-run firms enter the market.
D In the long-run firms enter the market.
B. A fall in the price of wheat will reduce demand for wheat which will reduce market price and cause firms to make negative profits in the short-run. In response to this firms will exit in the long-run.
Amy is a single-price monopolist in the cake-pop market. Her Marginal Cost is $5. She is considering a price of $8. When p = $8,the (absolute) elasticity of Demand is 0.4. Based on this information if Amy wants to increase her profits, she should ___ price because at a price of $8 ____.
A keep the $8; MR = MC.
B decrease; MR < MC.
C increase; MR < MC.
D decrease; MR > MC.
C.
When (absolute) elasticity of Demand is inelastic, MR < 0. Since MC = 5 it means MR < MC and the monopolist should decrease her quantity by increasing her price.
What are the 3 types of price discrimination? Define them.
1. First-degree / perfect price discrimination - firm charges every consumer their exact MWTP for each unit of good.
2. Group pricing - separates customers into different groups by clearly identifiable characteristics and charges different groups of people different prices. All members within a group get the same price.
3. Second-degree - a low price is paired with an obstacle that higher valuation consumers find costly. e.g. you can get a t-shirt for cheaper during Boxing Day but that means you have to wait for that sale and not buy immediately
Consider a perfectly competitive market, with no externalities. A binding price ceiling is imposed. The decrease in market quantity relative to the perfect competition outcome is bigger when:
A Supply is elastic
B Supply is inelastic
C Demand is elastic
D Demand is inelastic
A. With a binding price ceiling we have excess demand and market quantity is determined by supply. When supply is more elastic, the decrease in quantity for a given decrease in price is bigger.
The market for sneakers is perfectly competitive with identical firms. Market demand is downward-sloping. Firms have the usual shaped cost curves. The market is currently in long-run and short-run equilibrium with market price of $20. Suppose Market Demand for sneakers increases. Consider the quantity each firm produces in the short-run when demand increases. At this quantity, in the short-run...
A the new market price (p) equals minimum firm Average Variable Cost.
B Marginal Cost > $20 and firm Average Total Cost > $20
C p = minimum firm Average Total Cost
D p < firm Average Total Cost
B.
With the increase in demand, market price increases. Each firm moves along their ATC so a higher MC. As $20 is at min ATC=MC a higher price is when both MC and ATC are increasing.
All firms in a perfectly competitive market have access to the same technology and input prices. A new technology is adopted by all firms. The technology changes marginal costs and fixed costs in such a way that the long-run min ATC does not change.
A. The number of firms in the long-run stays the same.
B. The quantity each firm produces at the new efficient scale is the same as before.
C. The long-run number of firms increases.
D. The market quantity in the long-run increases.
E. None of the options above.
E. We don’t know how the quantity at the min ATC changes. That means we don’t know how the number of firms changes. The short-run firm supply curve is the MC cost curves which could change with the technology which we don’t know without further information.
A single price monopolist has a Marginal Cost= $Q and a recurring Fixed Cost of $1000. Market Demand Q = 50 − P 2 . What is Market Price in the long run?
100
Quantity choice is when MR = 100 − 4Q = Q = MC ⇒ Q = 20, P = 60. At this point profits = (60 − 20) ∗ 20 − 1000 < 0 so the monopolist chooses to exit in the long-run which is equivalent to choosing a price high enough so that demand =0, i.e. P=100.
See Game Theory Question in slideshow.
E. There are no mutual best responses.
Suppose the market for coffee is perfectly competitive with downward-sloping Market Demand and upward-sloping Market Supply. At the equilibrium price, Market Demand is inelastic and Market Supply is inelastic. The government needs to raise money and so it imposes a per-unit coffee tax of $1.
If the government wants to minimize the impact of this tax on consumers, whom should the government collect this tax from–consumers or producers? Explain your reasoning.
It doesn’t matter! Whom the government collects the tax from is statutory incidence. The only thing it affects is which price PD or PS is the market price. With the $1 tax, the relative elasticities of demand and supply determine who bears the burden of the tax. If demand is relatively more inelastic than supply, consumers will bear the larger burden of the tax regardless of statutory incidence.
Consider a perfectly competitive mitten market with identical firms. Market demand is downward-sloping. Firms have the usual shaped cost curves. The market is currently in long-run and short-run equilibrium. The price of wool used to produce mittens increases, and the fixed cost of each firm decreases. Because of these changes, the short-run price of mittens ____ and the long-run price of mitten ____.
A remains unchanged; decreases.
B increases; decreases.
C increases; could increase, decrease or stay the same.
D decreases; could increase, decrease or stay the same.
E increases; remains unchanged
C.
The wool price increase, moves the MC curve inwards. An increase in the marginal cost reduces SR supply which increases SR prices. Long-run prices are determined by min ATC. When MC increases ATC increases. However a decrease in the fixed cost decreases ATC so we don’t know the net effect on min ATC without more information.
Corn is a perfectly competitive market. All firms are identical and it is a constant cost industry. Corn is produced using land (a fixed input) and labor (a variable input). You notice that in the long-run the price of corn has fallen. Which of the following explains this?
A The wage rate of farm workers has risen.
B The price of land has increased.
C Demand for corn has decreased.
D Workers are less productive.
E None of the options above.
E. We need MC to decrease and/or fixed costs to decrease. None of the options give us that combination.
Warmersy is a single-price monopolist in the market for mittens in Canada. It has an upward sloping Marginal Cost curve. Market demand is downward-sloping. The company is currently charging the profit-maximizing price of $35 per pair of mittens. Warmersy’s production costs increase, but it chooses not to raise the price of mittens.
Claim: Warmersy can increase profits by increasing the price of mittens. Agree, Disagree or It depends?
It depends. The profit maximizing quantity is chosen based on Marginal Revenue vs. Marginal Cost. We are only told that production costs increase, not MC increases. If it is just a fixed cost increase then the profit maximizing price and quantity stays the same, if they produce. Notice that the fixed cost increase could be so large that the monopolist may choose to exit in the long-run. If MC does increase, then yes, Warmersy can increase its profits by choosing a lower quantity where MR=new MC resulting in a higher price, this would be the new profit maximizing price.
Ace is a monopolist in the bubble-tea market with a Marginal Cost of $1. Market demand is P = 100−0.5 ∗Q. If Ace can do first-degree price discrimination, the Marginal Revenue from the 40th unit is____.
A $ 1
B $ 40
C $ 60
D $ 80
D
For first degree Price Discrimination the MR curve is the demand curve. MR of the 40th unit is MR=100-0.5*40=80
Assume that a land-transfer tax is a fixed amount per house that must be paid to the city of Toronto every time a house in Toronto is bought and sold. It is paid by the buyer. Toronto city council proposes an increase in this tax. Economists predict that this will cause the price of housing to decrease. However, a Realtor claims that the tax is bad for home-buyers as it raises the prices and shuts people out of the market. Do you agree with the Realtor? Explain your reasoning.
The realtor is correct. The tax, like all the per-unit taxes we study, creates two effective prices in the economy- PD and PS. Since buyers pay the tax, the sticker price is PS which is why the economist says that market prices will fall. However, PD increases which means the realtor is right, (effective) prices rise for the buyer shutting more people out of the market.
You run an accounting business which has annual revenues of $300,000. You are an accountant so you have receipts for all expenses. At the end of the year all of these expenses (i.e. out of pocket expenses) total up to $250,000. Your accounting profit is $50,000. Would this also be your economic profit? Why?
It Depends. To get economic profits we need to value all resources at their opportunity cost. For things you rent you pay them the market value which is their opportunity cost. If it wasn’t the factor would not work for you. If there is any resource that you own (e.g. your time) you need to use the opportunity cost to find economic profits. If what you pay for this resource is not the same as the opportunity cost then accounting and economic profits will not be the same.
You run a firm in a perfectly competitive industry. Your long-run marginal costs are MC(q) = 7 + 10q and long-run min ATC=107 which is reached when you produce q = 10.
Assume a perfectly competitive constant cost industry with identical firms. What is market long-run market price?
P = 107 In an identical firm constant cost industry the market long-run supply curve is perfectly elastic at the min ATC which means pmkt = 107. Any price above that would induce entry, driving prices back down to 107 and any price below that would induce exit and drive prices above to 107.
A market used to be perfectly competitive and now it is a monopoly. Prices are higher with the monopoly. A politician makes the following claim: Prices were lower under perfect competition because a perfectly competitive firm chooses to price their products to make zero economic profits (in the long-run). Agree/Disagree or It Depends? Explain.
Disagree. Perfectly competitive firms do not choose their prices, they react to market prices. The reason market prices in the long-run are at min ATC is because entry and exit in response to positive or negative profits will ensure they stay at the point where firms make zero profits.
Every period, you get exactly 200 units to sell to Toronto and Montreal consumers. You currently must charge Toronto and Montreal the same price. You currently charge $100, and exactly 200 units are demanded. Coincidentally, you sell 100 in each city. You estimate that $100, own-price elasticity of demand is 2 in Toronto and 3 in Montreal.
Which city will benefit if you are allowed to charge different prices in each city?
Montreal. The logic of price discrimination is to charge a
high price in markets with relatively inelastic demand and a lower price in markets
with relatively elastic demand. With price discrimination, Montreal would pay less and
Toronto would pay more.