1 AGEC 105 Homework 7 1. Consider a monopolist that faces the demand curve given in the following table. a. Fill in the table by calculating total revenue and marginal revenue at each price. Price Quantity Demanded Total Revenue Marginal Revenue b. In economic terms (hint - consider the demand curve), why does total revenue initially increase and then decrease? c. What distinguishes a monopoly from perfect competition? d. What is necessary for a monopoly to exist in the long run?
2 e. On the following graph, graph the demand curve the monopoly faces along with the marginal revenue curve the monopolist faces. Label. f. The firm s marginal cost curve is given by the following equation MC = Q where Q is quantity and MC is marginal cost in dollars. Graph this curve. Hint if you are not sure how to graph, calculate MC when Q = zero and Q = 100. It is a linear line so graph these points and draw a line. Label. g. On your graph, clearly indicate graphically the market quantity and price for the monopolist. h. Indicate consumer and producer surplus and the deadweight loss associated with this monopolist.
3 2. Fill in the following table, in general and not specific numbers see notes. Price Quantity Deadweight Loss Product Perfect Competition Monopolistic Competition Monopoly 3. Pepsi and Coca-Cola dominate the U.S. soft drink market and are sometimes used as an example of a duopoly. The following table gives the payoffs for the two companies if they decide to advertise or not advertise in millions of dollars. By law the two companies cannot collude on advertising strategies. Pepsi Coca-Cola Advertise Do not Advertise Advertise Pepsi = $70 Pepsi = $40 Coca Cola = $80 Do not Advertise Pepsi = $100 Coca Cola = $50 Coca Cola = $100 Pepsi = $80 Coca Cola = $90 a. Given Pepsi decides to advertise (hint, column under Pepsi and advertise), what is Coca- Cola s best strategy (which strategy makes them the largest profits)? b. Given Pepsi decides to not advertise, what is Coca-Cola s best strategy? c. Given Coca-Cola decides to advertise (first row of profits), what is Pepsi s best strategy? d. Given Coca-Cola decides to not advertise, what is Pepsi s best strategy? e. Assuming no collusion and given the answers to a - d, what is the dominant strategies for Coca Cola and Pepsi?
4 f. Assuming the two firms could collude, what would their best strategies concerning advertising (hint which box gives the highest combined profits)? 4. On the following graphs (BE NEAT and CLEAR): a. Indicate PS, CS, and deadweight loss if the market is at its competitive equilibrium on graph a. b. Assume the government places a price ceiling of $4 / unit on the good. Would this cause a surplus or shortage? Indicate on graph b, the amount of the shortage or surplus. c. On the graph b indicate CS, PS, and deadweight loss associated with the price ceiling. d. If the price ceiling was raised to $7 / unit, what would happen to the deadweight loss from question 4c. Graph a Graph b
5 Thought questions to study for the test. Circle the correct answer(s). Maybe more than one answer. 5. The key feature(s) of an oligopoly is that a. There are no barriers to entry. b. Firms sell a differentiated product. c. There are many firms in the market. d. Firms act strategically. 6. The key feature(s) of monopolistic competition is a. There are barriers to entry. b. Firms sell a differentiated product. c. There are many sellers in the market. d. Firms act strategically. 7. A duopolists (oligopoly with only two firms) dilemma is a. although both firms would be better off if they price at a high price, each firm chooses to maximize market share b. although both firms would be better off if they price at a low price, each firm picks the high price. c. although both firms would be better off if they price at a high price, each firm chooses the low price. d. although both firms would be better off if they maximize profit, each firm chooses to minimize market share. 8. Which of the following are likely outcomes of advertising? a. Advertising promotes competition. b. Advertising leads to lower prices. c. Advertising can lead to differentiated products in the consumers minds. d. All of the above. 9. Which of the following is (are) the reason(s) oligopolies exist? a. Government barriers to entry. b. Advertising campaigns. c. Economies of scale in production. d. Efficiency concerns with monopolistic competition.
6 10. Which of the following are common barriers to entry? a. Preferential government policies b. Absolute unit-cost advantages c. Capital access and costs d. All of the above 11. The first piece of legislation prohibiting restrictive business practices was the a. Clayton Act of 1914 b. Packers and Stockyards Act of 1921 c. Capper-Volstead Act of 1922 d. Sherman Act of If the government were to impose a lump-sum tax on a monopolist, what is likely to happen to the quantity produced of a commodity and the price charged relative to the situation where no lump-sum tax is imposed? a. The price would fall, but the quantity produced would rise. b. The price would fall and the quantity produced would fall. c. The price would remain the same and the quantity produced would fall. d. No change in the price or quantity produced would occur, only a reduction in profits. Bonus: what is a common negative externality associated with agriculture? One word answer!