ECON 002 - Principles of Microeconomics Drake University, Spring 2013 William M. Boal Course page: www.cbpa.drake.edu/econ/boal/002 Blackboard: bb.drake.edu william.boal@drake.edu

### Version A

I. Multiple choice

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

II. Problems

(1) [Economic efficiency: 12 pts]

1. \$5 (= marginal cost).
2. \$11 (= marginal cost.
3. Firm A.
4. 10 million, so that marginal costs are equal.
5. 6 million, so that marginal costs are equal.
6. \$7, because each firm will then maximize its own profit by choosing its output level so that its marginal cost equals this price.

(2) [Economy-wide efficiency: 20 pts]

1. 1/4 units of clothing.
2. 4 units of food.
3. \$12, because in competitive equilibrium, price equals marginal cost.
4. \$3, because in competitive equilibrium, prices reflect the slope of the production possibility curve for the economy as a whole: if the opportunity cost of a unit of clothing is 4 units of food, then a unit of clothing must be 4 times as expensive as a unit of food.
5. \$3, because in competitive equilibrium, price equals marginal cost.
6. Brian's budget line should have intercept at 20 on food axis, and intercept at 5 on clothing axis.
7. -4.
8. 4 units of food.
9. 1/4 units of clothing.
10. 4, because Brian's preferred bundle is at a tangency between his budget line and the highest indifference curve he can reach, and at a tangency the slope of the indifference curve must equal the slope of the budget line.

(3) [Monopoly, perfect price discrimination: 20 pts]

1. MR curve should have intercept at \$14 on price axis, and slope = -1/1 million.
2. 10 million, where MR=MC.
3. \$9, on demand curve.
4. \$50 million.
5. \$25 million.
6. \$14.
7. \$4.
8. 20 million, because anyone willing to pay at least the marginal cost will be served.
9. \$100 million, because revenue = area under demand curve down to the axis, and cost = average cost × quantity.
10. \$0 million, because with perfect price discrimination, everyone willing to pay the marginal cost is served.

(4) [Competition versus collusion: 16 pts]

1. 10 thousand.
2. \$6.
3. \$6, because height of supply curve = marginal cost.
4. MR curve should have intercept at \$16 on price axis, and slope = -2/1 thousand.
5. 6 thousand, where MR=MC.
6. \$4, from joint marginal cost curve.
7. \$10, on demand curve.
8. \$12 thousand.

(5) [Monopoly price discrimination: 8 pts]

1. 33 percent.
2. 9 percent.
3. \$22.
4. \$30.

(6) [Monopolistic competition: 14 pts]

1. A person will be indifferent between buying an ice-cream cone at Yum-Yum and buying at Tasty Treat if
PY + 0.01 D = PT + 0.01 (1000-D),
where PY is the money price at Yum-Yum, D is the person's position along the beach, and PT is the money price at Tasty Treat. So just substitute the given values of PY and PT to find D. People to the right of D choose Tasty Treat and people to the left of D choose Yum-Yum. Now people are scattered evenly along the beach, one person per yard, so D is also the number of people that choose Yum-Yum. Finally, Yum-Yum's total revenue equals D × PY.
Yum-Yum's price Number of people that choose Yum-Yum Yum-Yum's total revenue
\$2700\$1400
\$4600\$2400
\$6500\$3000
\$8400\$3200
\$10300\$3000

2. \$8.
3. \$5.99, just slightly lower than Tasty Treat's price.

### Version B

I. Multiple choice

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

II. Problems

(1) [Economic efficiency: 12 pts]

1. \$24 (= marginal cost).
2. \$6 (= marginal cost.
3. Firm B.
4. 6 million, so that marginal costs are equal.
5. 10 million, so that marginal costs are equal.
6. \$9, because each firm will then maximize its own profit by choosing its output level so that its marginal cost equals this price.

(2) [Economy-wide efficiency: 20 pts]

1. 1/3 units of clothing.
2. 3 units of food.
3. \$12, because in competitive equilibrium, price equals marginal cost.
4. \$4, because in competitive equilibrium, prices reflect the slope of the production possibility curve for the economy as a whole: if the opportunity cost of a unit of clothing is 3 units of food, then a unit of clothing must be 3 times as expensive as a unit of food.
5. \$4, because in competitive equilibrium, price equals marginal cost.
6. Brian's budget line should have intercept at 15 on food axis, and intercept at 5 on clothing axis.
7. -3.
8. 3 units of food.
9. 1/3 units of clothing.
10. 3, because Brian's preferred bundle is at a tangency between his budget line and the highest indifference curve he can reach, and at a tangency the slope of the indifference curve must equal the slope of the budget line.

(3) [Monopoly, perfect price discrimination: 20 pts]

1. MR curve should have intercept at \$14 on price axis, and slope = -1/1 million.
2. 12 million, where MR=MC.
3. \$8, on demand curve.
4. \$72 million.
5. \$36 million.
6. \$14.
7. \$2.
8. 24 million, because anyone willing to pay at least the marginal cost will be served.
9. \$144 million, because revenue = area under demand curve down to the axis, and cost = average cost × quantity.
10. \$0 million, because with perfect price discrimination, everyone willing to pay the marginal cost is served.

(4) [Competition versus collusion: 16 pts]

1. 9 thousand.
2. \$7.
3. \$7, because height of supply curve = marginal cost.
4. MR curve should have intercept at \$16 on price axis, and slope = -2/1 thousand.
5. 5 thousand, where MR=MC.
6. \$6, from joint marginal cost curve.
7. \$11, on demand curve.
8. \$10 thousand.

(5) [Monopoly price discrimination: 8 pts]

1. 28 percent.
2. 6 percent.
3. \$22.50 .
4. \$60.

(6) [Monopolistic competition: 14 pts]

1. A person will be indifferent between buying an ice-cream cone at Yum-Yum and buying at Tasty Treat if
PY + 0.01 D = PT + 0.01 (1000-D),
where PY is the money price at Yum-Yum, D is the person's position along the beach, and PT is the money price at Tasty Treat. So just substitute the given values of PY and PT to find D. People to the right of D choose Tasty Treat and people to the left of D choose Yum-Yum. Now people are scattered evenly along the beach, one person per yard, so D is also the number of people that choose Yum-Yum. Finally, Yum-Yum's total revenue equals D × PY.
Yum-Yum's price Number of people that choose Yum-Yum Yum-Yum's total revenue
\$2500\$1000
\$4400\$1600
\$6300\$1800
\$8200\$1600
\$10100\$1000

2. \$6.
3. \$1.99, just slightly lower than Tasty Treat's price.

### Version C

I. Multiple choice

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

II. Problems

(1) [Economic efficiency: 12 pts]

1. \$3 (= marginal cost).
2. \$12 (= marginal cost.
3. Firm A.
4. 12 million, so that marginal costs are equal.
5. 4 million so that marginal costs are equal.
6. \$5, because each firm will then maximize its own profit by choosing its output level so that its marginal cost equals this price.

(2) [Economy-wide efficiency: 20 pts]

1. 2 units of clothing.
2. 1/2 units of food.
3. \$6, because in competitive equilibrium, price equals marginal cost.
4. \$12, because in competitive equilibrium, prices reflect the slope of the production possibility curve for the economy as a whole: if the opportunity cost of a unit of clothing is 1/2 units of food, then a unit of clothing must be half as expensive as a unit of food.
5. \$12, because in competitive equilibrium, price equals marginal cost.
6. Brian's budget line should have intercept at 10 on food axis, and intercept at 20 on clothing axis.
7. -1/2.
8. 1/2 units of food.
9. 2 units of clothing.
10. 1/2, because Brian's preferred bundle is at a tangency between his budget line and the highest indifference curve he can reach, and at a tangency the slope of the indifference curve must equal the slope of the budget line.

(3) [Monopoly, perfect price discrimination: 20 pts]

1. MR curve should have intercept at \$11 on price axis, and slope = -1/1 million.
2. 8 million, where MR=MC.
3. \$7, on demand curve.
4. \$32 million.
5. \$16 million.
6. \$11.
7. \$3.
8. 16 million, because anyone willing to pay at least the marginal cost will be served.
9. \$64 million, because revenue = area under demand curve down to the axis, and cost = average cost × quantity.
10. \$0 million, because with perfect price discrimination, everyone willing to pay the marginal cost is served.

(4) [Competition versus collusion: 16 pts]

1. 14 thousand.
2. \$6.
3. \$6, because height of supply curve = marginal cost.
4. MR curve should have intercept at \$13 on price axis, and slope = -1/1 thousand.
5. 8 thousand, where MR=MC.
6. \$5, from joint marginal cost curve.
7. \$9, on demand curve.
8. \$12 thousand.

(5) [Monopoly price discrimination: 8 pts]

1. 24 percent.
2. 6 percent.
3. \$30.
4. \$75.

(6) [Monopolistic competition: 14 pts]

1. A person will be indifferent between buying an ice-cream cone at Yum-Yum and buying at Tasty Treat if
PY + 0.01 D = PT + 0.01 (1000-D),
where PY is the money price at Yum-Yum, D is the person's position along the beach, and PT is the money price at Tasty Treat. So just substitute the given values of PY and PT to find D. People to the right of D choose Tasty Treat and people to the left of D choose Yum-Yum. Now people are scattered evenly along the beach, one person per yard, so D is also the number of people that choose Yum-Yum. Finally, Yum-Yum's total revenue equals D × PY.
Yum-Yum's price Number of people that choose Yum-Yum Yum-Yum's total revenue
\$8600\$4800
\$10500\$5000
\$12400\$4800
\$14300\$4200
\$16200\$3200

2. \$10.
3. \$11.99, just slightly lower than Tasty Treat's price.