# CHAPTER 5 THE ANALYSIS OF COSTS

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1 1. CHAPTER 5 THE ANALYSIS OF COSTS Long-run average cost equals long-run marginal cost whenever a) the production function exhibits constant returns to scale. b) fixed costs are zero. c) no factor always has increasing marginal returns. d) the cost of capital is near zero. e) long-run marginal cost is at its minimum. 2. When average total cost is at its minimum, a) average variable cost is declining with increases in output. average variable cost plus average fixed cost is declining with b) increases in output. c) average total cost is equal to average variable cost. d) marginal cost is equal to average variable cost. e) marginal cost is equal to average total cost. 3. Where long-run average cost equals short-run average cost, a) short-run average cost is minimized. long-run average variable cost equals short-run average variable b) cost. c) long-run average cost equals long-run marginal cost. d) long-run average cost is minimized. e) long-run marginal cost equals short-run marginal cost. 4. Leisure Enterprise s total cost of producing speedboats is given by TC = 10Q3 4Q Q On the basis of this information, the marginal cost of producing the twenty-fifth speedboat is a) \$1,700.

2 b) \$6,050. c) \$18,575. d) \$18,775. e) \$19, Tasty Tortes s weekly total cost of baking pies is given by TC = 0.01Q1.5. Tasty s marginal cost of producing 10,000 pies a week is a) \$1.00. b) \$1.50. c) \$2.00. d) \$2.50. e) \$ Economies of scope exist when it is cheaper to produce a) with a large fixed plant and equipment. b) at increasing rates of output. c) given quantities of two different products together than to produce the same quantities separately. given quantities of two different products separately than to produce d) the same quantities together. e) using more than one technique. 7. The Wilson Corporation produces output according to Q = 4(KL)1/2, where K is the amount of capital used and L is the amount of labor employed. If capital costs \$2 per unit and labor costs \$8 per unit, Wilson s minimized longrun average total cost is a) \$2. b) \$2Q. c) \$10.

3 d) \$10Q. e) \$ Bill s Mechanical Devices Inc. produces robots for the automotive industry. If its average variable costs are given by AVC = 25, its fixed costs are \$2,500, and it charges \$75 a robot, what is Bill s break-even level of output? a) 25 robots b) 33.3 robots c) 50 robots d) 75 robots e) 100 robots 9. Trudeau s Body Shop incurs total costs given by TC = 2, Q. If the price it charges for a paint job is \$120, what is its break-even level of output? a) 20 paint jobs b) 40 paint jobs c) 60 paint jobs d) 90 paint jobs e) 120 paint jobs 10. If total cost is given by TC = a + bq cq2 + dq 3, then marginal cost is minimized at units of output. a) Q* = a / 2d b) Q* = b / 2d c) Q* = c / 2d d) Q* = b / 3d e) Q* = c / 3d

4 1. CHAPTER 6 PERFECT COMPETITION In the model of perfect competition, firms maximize profits by producing where the difference between marginal revenue and marginal cost is a) maximized. b) marginal revenue equals price. c) the difference between price and marginal cost is maximized. d) price equals marginal cost. e) the difference between price and marginal revenue is maximized. 2. If the perfectly competitive market demand for gym shoes is given by Q D = 100 P and the market supply is given by Q S = P, then the equilibrium price and quantity will be a) P = 50 and Q = 50. b) P = 40 and Q = 90. c) P = 40 and Q = 60. d) P = 30 and Q = 70. e) P = 25 and Q = If a representative firm with total cost given by TC = q + 5q2 operates in a competitive industry where the short-run market demand and supply curves are given by Q D = 1,400 40P and Q S = P, its shortrun profit maximizing level of output is a) 0 units. b) 1 unit. c) 2 units. d) 4 units. e) 6 units.

5 4. If a representative firm with long-run total cost given by TC = 2, q + 5q 2 operates in a competitive industry where the market demand is given by Q D = 10,000 40P, in the long-run equilibrium there will be a) 60 firms. b) 98 firms. c) 106 firms. d) 110 firms. e) 120 firms. 5. A representative firm with long-run total cost given by TC = 2, q + 5q 2 operates in a competitive industry where the market demand is given by Q D = 10,000 40P. The long-run equilibrium output of the industry will be a) 1,200 units. b) 1,800 units. c) 2,200 units. d) 2,600 units. e) 3,200 units. 6. If a representative firm with long-run total cost given by TC = 2, q + 5q 2 operates in a competitive industry where the market demand is given by Q D = 10,000 40P, the long-run equilibrium output of the individual firm s will be a) 10 units. b) 20 units. c) 30 units. d) 35 units. e) 40 units.

6 7. Producer surplus is defined as the difference between the price the consumer actually pays for a a) product and the consumer s reservation price. b) the profit that the firm earns on each unit of a product sold. c) the profit that the firm earns after taxes. the difference between the price received by the producer and the d) producer s reservation price. the difference between the price paid by the consumer and the price e) received by the consumer. 8. Total surplus in a market is a measure of a) social welfare created by the market. b) profits that accrue to the owners of firms in a particular market. c) the rebates that consumers receive when they purchase certain goods or services. d) excess inventory that remains at the end of a season. e) planned inventory that a firm carries from one year to the next. 9. If the demand increases for the product of a constant-cost industry, a) long-run output goes up but long-run price may go up or down. b) short-run output goes up but long-run output may go up or down. c) short-run price goes up but long-run price remains constant. d) long-run output goes up but short-run price remains constant. e) long-run price goes up but short-run price may go up or down.

7 CHAPTER 7 MONOPOLY & MONOPOLISTIC COMPETITION 1. If Harry Doubleday s price elasticity of demand is 2 and its profit maximizing price is \$6, then a) average cost is \$3.00. b) average cost is \$.33. c) marginal cost is \$3.00. d) marginal cost is \$.33. e) average cost is \$ My Big Banana (MBB) has a monopoly in Middletown, United States, on large banana splits. The demand for this delicacy is given by Q = 80 P. MBB s costs are given by TC = Q + 2Q 2. Its maximum monopoly profits are a) \$267. b) \$467. c) \$627. d) \$672. e) \$ Harriet Quarterly wants a 25 percent return on the \$100 of assets she has in her company. Her average variable costs are \$50 per unit, and she has no fixed costs. If she sells 10 units, what price should she charge? a) \$52.50 b) \$62.50 c) \$75.00 d) \$87.50 e) \$125.00

8 4. To maximize profit, the firm must a) mark up average variable costs. b) mark up marginal costs. c) mark up average fixed costs. d) set the markup equal to 1/(h + 1). e) b and d. 5. If price P, unit costs C, and quantity Q, are known, the markup of markupcost pricing is a) (PQ CQ)/Q. b) P C/Q. c) (P C)/Q. d) (P C)/C. e) 1 (P C)/Q. 6. Jack O. Trades produces joint products A and B with linear demands D A > D B. Jack s total marginal revenue curve changes slope at the quantity where (MR B is marginal revenue for B and MC B is marginal cost of B) a) MR B = MC B. b) D B = MC B. c) MR B = D B. d) MR B = 0. e) D B = If revenues from selling quantities x and y of jointly produced goods X and Y are TR X = 100 xy + 2x and TR Y = 500 xy + 3y, then marginal revenue with respect to X would be a) 2 y.

9 b) y. c) x(2y + 5). d) (2y + 5). e) 2(1 y). 8. For a producer of joint products X and Y with total revenue R X and R Y, an isorevenue curve a) isolates R X and R Y separately. b) shows points where R X = R Y. c) shows points where revenue curves are tangent. d) shows points where R X /R Y is constant. e) shows points where R X + R Y is constant. 9. So long as price exceeds average variable cost, in the model of monopolistic competition, a firm maximizes profits by producing where the difference between marginal revenue and marginal cost is a) maximized. b) marginal cost equals marginal revenue. c) marginal revenue equals price. d) the difference between price and marginal cost is maximized. e) price equals marginal cost. 10. Consider Fred, who is employed by a national tire store and who earns a commission selling tires. He earns 25 percent of his gross sales revenue as a bonus. Fred s objective is to maximize a) total profits for the store. b) total revenues for the store. c) marginal revenue from sales. d) the difference between marginal revenues and marginal cost for the store. e) the number of customers he waits on per day.

10 1. CHAPTER 8 MANAGERIAL USE OF PRICE DISCRIMINATION When the NCAA basketball tournament will only sell tickets to all three games held at a given site as a package, it is practicing a) first-degree price discrimination. b) second-degree price discrimination. c) third-degree price discrimination. d) markup pricing. e) tying. 2. Price discrimination is defined as a) selling a product at the same price to each and every consumer. b) selling a product at more than one price. c) selling a product at its marginal cost plus a markup. d) selling more than one version of a product. e) producing goods and services for sale within the firm. 3. A firm with production located in a poor Georgia town sells toys locally for \$10 each and ships the same toys to sell in a wealthy North Carolina town for \$15 each. They are not price discriminating if a) laws in Georgia allow it. b) laws in North Carolina allow it. c) total advertising costs are \$5 per unit. d) total transportation costs are \$5 per unit. e) consumers in North Carolina would pay more than \$15 for the toys. 4. Cereal manufacturers use of coupons can be partially explained by a) first-degree price discrimination.

11 b) second-degree price discrimination. c) third-degree price discrimination. d) markup pricing. e) tying. 5. Gliberace s Fashion Accessories of Las Vegas produces gem-stone encrusted formal wear for sale in Los Angeles and San Francisco subject to total cost TC = (Q LA + Q SF ). Demand for Gliberace s stones in the two cities is given by Q LA = 70 2P LA and Q SF = 55 P SF. If Gliberace price discriminates between the two cities, how many stones will it sell in Los Angeles? a) 30 b) 36 c) 38 d) 43 e) Xenophobic Car Palace (XCP) purchases late-model domestic automobiles at wholesale auctions and sells them in Charleston and Savannah. XCP s total cost is given by TC = 100(Q C + Q S ) + (Q C + Q S ) 2. The demand in each city for such gems is given by Q C = 1,000 2PC and Q S = 500 P S. If XCP price discriminates between the two cities, how many cars will it sell in Charleston and Savannah? a) Q C = 100, Q S = 50. b) Q C = 50, Q S = 100. c) Q C = 75, Q S = 75. d) Q C = 100, Q S = 100. e) Q C = 50, Q S = A firm has a division that produces X, whose total costs are TC = 10 + Q2 (where Q is the quantity of X). The marketing division adds its own total

12 costs of 5 + 3Q. In the competitive external market for X the wholesale price is \$10. The transfer price of X should be a) \$2. b) \$5. c) \$10. d) \$12. e) \$ If Chip and Cathy have different valuations on dancing and dinner as in the table below, what is the maximum profit Sammy can extract from Chip and Cathy for an evening s entertainment at Sammy s dinner theater if Sammy s marginal cost is \$25 for dinner and \$5 for dancing per person? Chip Cathy Dinner \$40 \$30 Dancing a) \$60 b) \$70 c) \$80 d) \$90 e) \$ The Two Stage Photo Company has a division for each stage of photoprocessing. There is no external market for stage 1 s output. For a fixed quantity of photoprocessing, the transfer price should depend on a) whatever management wants. b) marginal costs at stage 1 only. c) marginal costs at each stage. d) average costs at stage 1 only. e) average costs at each stage.

13 10. A firm with \$100 of assets and a 10 percent target return produces 50 units on sale for \$1 each. The firm s total cost is a) \$.90. b) \$ c) \$ d) \$ e) \$49.90.

14 1. CHAPTER 10 OLIGOPOLY An industry is likely to maximize sales during which stage of industry development? a) Introduction b) Growth c) Maturity d) Decline e) Termination 2. In the model of oligopoly, there a) are many firms producing differentiated products. b) is one firm producing undifferentiated products. c) are a few firms producing differentiated or undifferentiated products. d) are many firms producing undifferentiated products. e) is one firm producing a highly differentiated product. 3. Two firms (A and B) have marginal costs MC A and MC B, marginal revenues MR A and MR B, and market marginal revenue MR. If both firms produce as a cartel, they should produce so that a) MC A = MC B = MR. b) MC A = MR A and MC B = MC B. c) MC A + MC B = MR. d) MC A + MC B = MR A + MR B, not necessarily MC A = MR A. e) MC A = MC B = MR A + MR B. 4. The OPEC oil cartel lost its market power and world oil prices fell in the 1980s because

15 OPEC expanded its membership to include all international producers a) of oil. b) world consumers boycotted OPEC oil. c) a limit pricing strategy was pursued by some members of the cartel. d) members began to cheat on cartel agreements. e) the United States refused to buy oil from OPEC. 5. Cartels can only exist a) in oligopoly markets. b) when products are homogeneous. c) when products are not homogeneous. d) in countries where they are legal. e) when demand curves are perfectly inelastic. 6. What is the advantage to a particular firm of cheating on an otherwise effective cartel? a) The industry can then act like a monopoly. b) It decreases risk. c) It enhances credibility. d) It always pays in the short run and may pay in the long run. e) It always pays in the long run and may pay in the short run. 7. Two ready-to-eat breakfast cereal manufacturers, Lots of Sugar and Buckets of Goo, face combined demand for their products given by Q = 75 P. Their total costs are given by TC Lots of Sugar = 0.1Q 2 Lots of Sugar and TC Buckets of Goo = 5Q Buckets of Goo. If they successfully collude, their total profits will be a) \$1, b) \$1, c) \$

16 d) \$ e) \$ The price leadership model is most appropriate when a market is a) perfectly competitive. b) monopolistic. c) monopolistic competitive. d) oligopolistic. e) any of the above. 9. Glyde Air Fresheners is the dominant firm in the solid room aromatizer industry which has a total market demand given by Q = 80 2P. Glyde has competition from a fringe of four small firms that produce where their individual marginal costs equal the market price. The fringe firms each have total costs given by TC i = 10Q i + 2Q 2 i. If Glyde s total costs are given by TC G = Q G, what price should Glyde establish for air fresheners? a) \$10 b) \$12 c) \$14 d) \$16 e) \$ According to recent research, which strategies seem to pay off most for firms interested in maximizing their profitability? a) High quality and low prices b) High quality and economies of scale in production c) Economies of scale in production and low prices d) Extensive advertising and high quality e) Extensive advertising and high prices

17 1. CHAPTER 11 GAME THEORY A player in a game theoretic setting is a) anyone working for a firm that is operating strategically. b) a decision-making entity at a firm involved in a strategic game. c) a firm that is operating as a perfect competitor. a monopolist who produces a unique product with no close d) substitutes. e) a stockholder at a firm involved in a strategic game. 2. If a firm has a dominant strategy, a) its optimal strategy depends on the play of rivals. b) its optimal strategy is always the same, even if payoffs change. c) it is determined by the behavior of only one key rival. d) it receives the same profits regardless of the strategy of rivals. e) its optimal strategy is independent of the play of rivals. 3. Given the following payoff matrix, who has a dominant strategy? B s strategies A s Strategies Enter Don t Enter Raise price (A gets 5, B gets 50) (A gets 200, B gets 0) Lower price (A gets 20, B gets 50) (A gets 50, B gets 0) a) It depends on what the other player does. b) Both players. c) Neither player. d) A does; B doesn t. e) B does; A doesn t. 4. How many Nash equilibria are there in this payoff matrix? B s Strategies

18 A s Strategies Enter Don t Enter Raise price (A gets 6, B gets 4) (A gets 10, B gets 8) Lower price (A gets 8, B gets 6) (A gets 3, B gets 5) a) 0 b) 1 c) 2 d) 3 e) 4 5. Which pair of strategies would cooperative cartel members A and B choose given this payoff matrix? B s Strategies A s Strategies Y Z W (A gets 2, B gets 2) (A gets 1, B gets 1) X (A gets 0, B gets 0) (A gets 3, B gets 6) a) W, Y b) W, Z c) X, Y d) X, Z e) Either X, Y or W, Z 6. Strategic foresight is the ability to make decisions today that are rational based on a) complete uncertainty about the future. b) our best information about what will happen in the future. c) what we know only about behavior in the past. d) information that we have only about our own behavior in the past. e) incorrect information about the past.

19 7. Radio City promises if you can find a lower advertised price for anything you bought at Radio City, anywhere in town within 30 days, it will return the difference plus 20 percent. A sophisticated game theoretic analysis suggests Radio City may be a) losing money in the long run. b) colluding with other stores. c) using a commitment to threaten competitors. d) preempting competitors. e) using price leadership. 8. A most-favored-customer clause a) is a commitment but not a threat. b) is a threat but not a commitment. c) is both a threat and a commitment. d) is neither a threat nor a commitment. e) could be either a threat or a commitment depending on the terms. 9. Useful strategies to deter entry include a) increasing advertising. b) increasing prices. c) decreasing capacity. d) increasing capacity. e) a and d.

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