Regulation and Antitrust Policy (Econ 180) Drake University, Spring 2011 William M. Boal Course page: www.drake.edu/cbpa/econ/boal/180 Blackboard: bb.drake.edu Email: william.boal@drake.edu

Introduction to Regulation

### Version A

I. Multiple choice [2 pts each: 20 pts total]

(1)a. (2)d. (3)c. (4)c. (5)a. (6)d. (7)c. (8)b. (9)c. (10)a.

II. Problems

(1) [Theories of regulation: 6 pts]

1. Stigler-Peltzman theory.
2. capture theory.
3. Becker theory.

(2) [Pricing with economies of scale: 30 pts]

1. \$3.
2. loss (because price is less than average cost).
3. \$30 million.
4. \$0 million (there is never deadweight loss if P=MC for all customers).
5. \$9.
6. neither.
7. \$0 million.
8. \$3 million (computed as the area of the triangle bounded by the demand curve, the MC curve, and a vertical line at 5 million).
9. \$3.
10. \$15 (computed by subtracting total cost from revenue received from the per-unit price, and then dividing by the number of customers).

(3) [Multipart tariffs: 39 pts]
(i)Two-part tariff (ii) Declining-block tariff a. How much would a typical big customer buy? b. How much would a typical small customer buy? c. Compute the firm's total revenue. d. Compute the firm's total cost (including the "fixed" cost). e. Does the firm make a profit, a loss, or just break even? f. Compute the deadweight loss from this pricing policy. g. Which of these tariffs do you favor? Why? Favor tariff (ii) "Declining-block." Both tariffs ensure that the regulated firm breaks even, but the declining-block tariff causes less deadweight loss.

III. Challenge question

"Ramsey pricing" implies that price-cost margins (or "markups") are inversely proportional to price elasticities of demand. Let Mi denote the price-cost margin for product i, which by definition equals (Pi-MCi)/Pi. Let εi denote the price elasticity of demand for product i. Then Ramsey pricing implies that Mi/Mj = εji.

From the data given in the problem,
MA/MB = 3 = εBA,
MB/MC = 5/6 ≠ εCB = 2/3,
MC/MA = 2/5 ≠ εAC = 1/2.
Therefore products A and B, considered alone, have "Ramsey prices." However, when product C is included, one cannot claim that all three products have "Ramsey prices."

### Version B

I. Multiple choice [2 pts each: 20 pts total]

(1)c. (2)a. (3)b. (4)b. (5)b. (6)c. (7)b. (8)d. (9)d. (10)a.

II. Problems

(1) [Theories of regulation: 6 pts]

1. Becker theory.
2. Stigler-Peltzman theory.
3. Normative analysis as positive theory.

(2) [Pricing with economies of scale: 30 pts]

1. \$2.
2. loss (because price is less than average cost).
3. \$60 million.
4. \$0 million (there is never deadweight loss if P=MC for all customers).
5. \$8.
6. neither.
7. \$0 million.
8. \$6 million (computed as the area of the triangle bounded by the demand curve, the MC curve, and a vertical line at 10 million).
9. \$2.
10. \$30 (computed by subtracting total cost from revenue received from the per-unit price, and then dividing by the number of customers).

(3) [Multipart tariffs: 39 pts]

(i)Two-part tariff (ii) Declining-block tariff a. How much would a typical big customer buy? b. How much would a typical small customer buy? c. Compute the firm's total revenue. d. Compute the firm's total cost (including the "fixed" cost). e. Does the firm make a profit, a loss, or just break even? f. Compute the deadweight loss from this pricing policy. g. Which of these tariffs do you favor? Why? Favor tariff (ii) "Declining-block." Both tariffs ensure that the regulated firm at least breaks even, but the declining-block tariff causes less deadweight loss.

III. Challenge question

Same as Version A.