200899131428125

INSTRUCTOR’S MANUAL to accompany

Thomas and Maurice

MANAGERIAL ECONOMICS NINTH EDITION

Prepared By

Christopher R. Thomas University of South Florida

CONTENTS PART I Answers: Applied Problems, Mathematical Exercises, and Student

Workbook Homework Exercises Part I: Some Preliminaries Chapter 1 Managers, Profits, and Markets................................................................1 Chapter 2 Demand, Supply, and Market Equilibrium.................................................5 Chapter 3 Marginal Analysis for Optimal Decision Making ......................................11 Chapter 4 Basic Estimation Techniques .................................................................19 Part II: Demand Analysis Chapter 5 Theory of Consumer Behavior................................................................23 Chapter 6 Elasticity and Demand............................................................................25 Chapter 7 Demand Estimation and Forecasting......................................................29 Part III: Production and Cost Analysis Chapter 8 Production and Cost in the Short Run ....................................................33 Chapter 9 Production and Cost in the Long Run.....................................................37 Chapter 10 Production and Cost Estimation ............................................................41 Part IV: Profit-Maximization in Various Market Structures Chapter 11 Managerial Decisions in Competitive Markets .......................................45 Chapter 12 Managerial Decisions for Firms with Market Power ...............................49 Chapter 13 Strategic Decision Making in Oligopoly Markets ....................................55 Part V: Advanced Managerial Decision Making Chapter 14 Advanced Pricing Techniques ..............................................................63 Chapter 15 Decisions Under Risk and Uncertainty ..................................................69 Chapter 16 Government Regulation of Business .....................................................73

PART II Additional Teaching and Learning Resources: Student’s Resource CD, Instructor’s Resource CD and McGraw-Hill Web Site Student’s Resource CD (Packaged with each textbook)

Student Workbook .............................................................................................79 Review of Fundamental Mathematics ................................................................79 Brief Review of Derivatives and Optimization.....................................................79 Statistix 8 Tutorial ..............................................................................................79 Data Files for Empirical Chapters.......................................................................79 PowerPoint Slides of Tables and Figures in Managerial Economics ..................80 Chapter Summaries and Key Terms ..................................................................80

Instructor’s Resource CD (Provided by McGraw-Hill to adopters).........................80 Instructor’s Manual ............................................................................................80 Illustrations from Previous Editions ....................................................................80

Animated PowerPoint Slideshows .....................................................................80 Answers to Consulting Projects .........................................................................80 PowerPoint Slides of Tables and Figures in Managerial Economics ..................80

McGraw-Hill Web Site for Managerial Economics, 9e ............................................80 Instructor Resource Section of Web Site: Test Bank .................................................................................................81 Online Topics ...........................................................................................81 Answers to Consulting Projects.................................................................81 Online Topics ............................................................................................81 Statistix Case Studies ...............................................................................81 Answers to Statistix Case Studies .............................................................81 Student Resource Section of Web Site: Self-Quizzes..............................................................................................81 Career Center ...........................................................................................81 Economics on the Web .............................................................................81

PART I: ANSWERS

Applied Problems

Mathematical Exercises

Student Workbook Homework Exercises

Chapter 1: Managers, Profits, and Markets 1

Chapter 1: MANAGERS, PROFITS, AND MARKETS

Answers to Applied Problems

1. a. Total explicit cost = $793,000 (= 555,000 + 45,000 + 28,000 + 165,000) Total implicit cost = $190,000 (= 175,000 + 0.15 × 100,000) Total economic cost = $983,000 (= 793,000 + 190,000)

b. Accounting profit = $177,000 (= 970,000 – 793,000) c. Economic profit = –$13,000 (= 970,000 – 983,000) d. The owner’s accounting profit is $13,000 less than what he could have earned in salary

and return on investment of his $100,000, i.e., his economic profit is –$13,000. Thus, he would have made $13,000 more if he had kept his job and invested his $100,000 in stocks of other businesses.

2. The $8,000 of lost income, even though not tax-deductible, is indeed part of the economic cost the doctor incurs by going to Mexico to treat patients, and the doctor should consider this $8,000 cost in making her decision to travel to Mexico.

3. a. Burton's explicit cost's are $18,000 per month. His implicit costs are $20,000 per month ($15,000 + $5,000).

b. Opportunity cost = explicit + implicit costs = $18,000 + 20,000 = $38,000 per month c. Burton Cummings’ costs of production (= $38,000/month) exceed his revenues by

$13,000 (= 38,000 – 25,000). Rather than lose $13,000 per month, Burton could rent his rig (and receive $15,000 per month) and drive trucks for another firm (and earn $5,000 per month). With this use of his resources he would earn $20,000 per month. Or, Burton could try his luck as a singer in a rock band.

4. One cost of opening a tennis shop would be the forgone salary of the previous job. Given that Andre’s or Venus’ foregone income would be much larger than that of a university coach, their opportunity cost would be higher.

5. Linking the board of directors' compensation to return on equity creates an incentive for management to pursue profit-maximization as a goal, thereby reducing the agency problem between managers and shareholders. Directors have better, easier, and cheaper access to information about the firm's revenues and costs. Shareholders are numerous and each one has only a relatively small stake in the profitability of the firm. It is generally easier for a shareholder simply to sell its shares and reinvest in another company.

6. a. Some Marriott franchises are shirking their responsibility to maintain high quality hotels, and this shirking damages the reputation of all Marriott franchises.

b. Poorly run franchises damage the Marriott reputation and reduce the profitability of hotels owned by Marriott.

c. Where there is little repeat business, there is less incentive for a hotel to provide quality service. Where there is a lot of repeat business, franchises will have an incentive to maintain quality to attract repeat business.

7. Even though the financial arrangement with Delta and United limited the growth in SkyWest’s economic profits in future years, the agreement decreased the risk associated with SkyWest’s profits. In the Fortune article, one financial analyst states, “They (SkyWest) shield themselves from the factors that lead to volatility in earnings—fuel prices, ticket prices, and load factors—and bring investors the certainty they are looking for.” The lower level of risk reduces the risk-adjusted discount rate, and, for a given stream of profits, the value of the SkyWest rises.


8. A good answer can be found in Glenn R. Simpon’s article “Multinational Firms Take Steps to Avert Boycotts over War,” in the Wall Street Journal, April 4, 2003. According to South Carolina Commerce Secretary Bob Faith, “The global economy is so interconnected today, you’d be shooting yourself in the foot.” As it turns out, the French firm Group Michelin SA has a number of tire factories across South Carolina. The new realities of globalization have “reshaped the politics of consumer boycotts.”

Answers to Mathematical Exercises 1. a. PV = NCF/(1 + r)t = $1,000/(1.065) = $938.97

b. PV = $1,000/(1.065)2 = $881.66 c. PV = $1,000/(1.065)3 = $827.85

2. The present value is calculated as follows:

PV =NCF

t

(1+ r)t

t=0

5

! =$10,000

(1.12)1+

$20,000

(1.12)2+

$50,000

(1.12)3+

$75,000

(1.12)4+

$50,000

(1.12)5

= $8,929 + 15,944 + 35,589 + 47,664 + 28,371

= $136,497

3. Option A: Burt pays Loni $1,000,000 each year for 10 years (Burt wishes to make each payment at year-end.)

Option B: Burt pays Loni $5,000,000 in cash now. If the appropriate interest rate is 8 percent:

PVOption A = $1,000,000/(1.08)1 + ⋅ ⋅ ⋅ + $1,000,000/(1.08)10 = $6,710,081 PVOption B = $5,000,000

Clearly, Loni should take option A and Burt should want to pay her $5,000,000 now.

If the appropriate interest rate is 20 percent: PVOption A = $1,000,000/(1.20)1 + ⋅ ⋅ ⋅ + $1,000,000/(1.20)10 = $4,192,472 PVOption B = $5,000,000

In this case, Loni should demand $5,000,000 cash now, and Burt should try to talk her into taking $10,000,000 spread over ten years.

Answers to Homework Exercises in Student Workbook

1. a. $47,177,000

b. $5,880,000 c. $53,057,000 d. $6,573,000 e. $693,000 f. –907,000

2. a. $12,635,513 b. $11,336,861

3. a. monopolistic competition b. oligopoly c. perfect competition d. monopoly


4. SunKist is just one of many citrus producers. Consumers are generally not brand conscious with respect to fresh fruits and vegetables.

5. Lexus has market power because product differentiation, even within the market for luxury cars, gives Lexus some ability to raise price without losing all sales. In addition, a dealership in one city seldom loses sales to Lexus dealers in other towns or cities, unless they are only a short distance away.


Chapter 2: Demand, Supply, and Market Equilibrium 5

Chapter 2: DEMAND, SUPPLY, AND MARKET EQUILIBRIUM

Answers to Applied Problems

1. a. Demand will decrease, so price will decrease. b. Supply will increase, so price will decrease. c. Demand will increase, so price will increase. d. Demand will decrease, so price will decrease. e. Supply will decrease, so price will increase. f. Supply will increase, so price will decrease. g. Supply will increase (when the price of a complement in production increases), so price

will decrease. h. Demand will decrease, so price will decrease.

2. a. Supply will decrease, so price will increase and output will decrease. b. Supply will increase, so price will decrease and output will increase. c. Demand will increase, so price will increase and output will increase. d. This one is challenging. An increase in the price of grapefruit could be interpreted as

either a demand shifter (change in the price of a substitute in consumption) or a supply shifter (change in the price of a substitute in production) or BOTH simultaneously. If only demand decreases (supply constant), then price will decrease and output will decrease. If only supply increases (demand constant), then price will decrease and output will increase. If both happen simultaneously, then price will decrease but the change in output will be indeterminate.

3. a. An increase in demand for home heating oil causes demand for heating oil to shift rightward. In the absence of price controls, no shortage occurs because market price is bid up to PB. An increase in demand causes equilibrium price and quantity to rise.

b. A decrease in supply of RAM chips does not cause a shortage in the absence of a price ceiling. A supply decrease shifts supply leftward, causing the equilibrium price of RAM chips to rise and equilibrium quantity to fall.

4. An increase in food prices should result in a fall in the number of meals demanded and hence a corresponding fall in the number of patrons. Those who are willing and able to pay the higher price will have a shorter wait because there will be fewer customers.

Price o

f heating o

il

Quantity of heating oil

P

D

D'

A

B

Q

PA

QA QB

S

PB

Price o

f R

AM

chip

s

Quantity of RAM chips

P

D

A

B

Q

PA

QAQB

S'

S

PB


5. a. No effect on demand (no shift)—just a movement up the demand. b. Decrease demand for hotels. c. Demand for rental cars decreases. d. Supply of overnight mail decreases.

6. Construct a demand and supply diagram like Panel A of Figure 2.11.

a. Imposing rent controls creates a shortage of low-income housing, which decreases the quantity supplied at the lower rent imposed by the controls compared to the amount of housing supplied at the market-clearing (higher) rent level.

b. No, the shortage created by rent controls means that more low-income families are willing and able to pay for rent-controlled housing than the amount of rent controlled housing that is available. Compare this to the situation before rent-controls in which markets clear at higher rent levels.

c. In the short run, families who are able to get housing at the lower rent levels may be better off. In many cases, however, families must pay large bribes “under the table” to get into the rent-controlled homes. And, as time passes, landlords have little or no incentive to make repairs to the rent-controlled units. Politicians may also gain from rent controls because it appears to be a compassionate policy to help the poor. The losers are the families who cannot get the rent-controlled housing even though they are willing and able to pay the higher market-clearing rent.

d. History has shown that rent-controlled districts over time fall into a state of decay and ruin. Rent-controlled properties undermine the incentive for landlords to maintain the housing. With a shortage of low-income housing, low rent housing will be fully rented no matter what condition the roof or plumbing might be in. Furthermore, if landlords let the property decay sufficiently, renters will leave, and the property can be converted to some other use (commercial or industrial use) not subject to rent controls.

e. Taxpayers, genuinely compassionate about providing more housing for low-income families, could offer builders subsidies to build low-income housing. In the absence of rent controls, this would shift supply rightward and equilibrium rents would fall. Also, there would be no shortage of low income housing. Owners would have incentives to properly maintain roofs and plumbing. Of course building subsidies would cost real money; but everyone knows that there’s no such thing as a free lunch (well, maybe not everyone knows this).

7. In the graph, let D0 be the initial demand for tickets to Disneyland and S0 be the supply of tickets to Disneyland. Slowing tourism causes demand to decrease, as represented by the demand curve D1. The new rides at Six Flags further reduce demand to D2. These events all result in lower ticket prices at Disneyland as well as reduced attendance. This is not a violation of the law of demand since price is falling due to a decrease (shift) in demand, not a movement along a given demand curve.

P ric

e of a tic

ket (d

olla

rs)

Number of tickets

$

D0D1D2

S

P2

P0

Q2 Q0


8. To the extent that consumers really do care about whether or not a firm behaves in a "socially responsible" manner, disseminating information about "progressive business practices" causes demand to increase for products produced by the socially responsible firms. An increase in demand, ceteris paribus, results in a higher price for products of socially responsible firms.

9. In the graph, S0 and D0 are the

supply and demand curves for auto insurance before Proposition 103 is passed. PE is the price of auto insurance. After Proposition 103 passes, Pprop103 is the ceiling price established by passage of Proposition 103. The result is a shortage of auto insurance in California. This shortage gets worse over time as the costs of providing insurance rise because supply shifts leftward (S1) in-creasing the gap between Qd and Qs (at P = Pprop 103). If Proposition 103 is defeated, no price ceiling will be forthcoming and no shortage will occur. The increasing costs of providing insurance will cause insurance rates to rise (from A to B).

10. Over the next year, maybe two years, the excess supply of lawyers will cause wages for lawyers

to fall until equilibrium is reached. When wages fall to the point that quantity demanded equals quantity supplied, a new, lower equilibrium wage will be reached. Over the longer time period, the falling wages will alter expectations about future wages. This will reduce the future supply of lawyers as the number of students entering law school declines. This reduction in supply of lawyers, other things constant, will tend to push wages upward five or six years into the future.

11. a. Increase in the price of a complement goods causes demand to shift leftward. Movie ticket prices fall and ticket sales fall.

b. Decrease in the price of a substitute good causes demand to shift leftward. Movie ticket prices fall and ticket sales fall.

c. Presumably, pay-per-view movies on cable are more convenient to some consumers than going to the movie theater, thereby changing some consumers= tastes away from theater movies toward pay-per-view movies. Demand shifts leftward due to the change in tastes, and movie theater ticket prices fall and ticket sales fall.

d. The end of the strike increases the number of movie scripts available, lowering the price producers must pay to get a movie script. The decrease in price of an input (movie scripts) increases the supply of movies out of Hollywood. Supply shifts rightward. Movie ticket prices fall and ticket sale rise.

e. As in part d, a decrease in the price of an input causes supply to shift rightward. Movie ticket prices fall and ticket sales rise.

12. a. The new process causes an increase in supply, shown as a rightward shift in the supply of crude oil curve. The rightward shift in supply of crude oil does NOT cause a surplus because the equilibrium price of crude oil falls until quantity demanded equals quantity supplied. The market clears at the now lower price of crude oil. No surplus arises because the lower crude price results in an increase in quantity demanded of crude oil

P ri c

e of auto

ins

uranc

e (d

olla

rs)

Quantity of auto insurance (# of cars insured)

$

D0

A

B

Q

Pprop 103

QdQs

S1

S0

PE


which works to eliminate any surplus. The end result of the new process is to decrease the equilibrium price of crude oil and increase the quantity of crude oil consumed and produced in equilibrium.

b. Even in the unlikely event that no new oil deposits are ever discovered, growing world-wide demand for crude oil would still be met. Rightward shifts in demand, supply constant, would simply drive up the equilibrium price of crude oil. No shortage would occur unless governments impose price ceilings on crude oil preventing its price from rising to market clearing levels.

13. When a fixed fee (tax) is charged to pick up all the garbage a household puts out at the curb, the price to the household of putting out additional bags of garbage is zero. By charging a fee for each bag put out at the curb, the household now must pay a price for each extra bag of garbage. By changing from a fixed fee to a fee-per-bag, the price of a bag of garage has increased from $0 to some positive price (equal to the fee set by the city). When price rises, quantity demanded decreases. This is a movement upward along a given demand curve. The demand for garbage has NOT shifted in this case.

14. In the figure, the environmental curbs on burning wood causes supply to shift leftward from S0 to S1. The substitution from burning wood to gas hearths is represented by the leftward shift in demand from D0 to D1. Comparing initial equilibrium point A to B, the price of firewood has remained unchanged while the quantity of firewood burned decreases.

15. Demand and supply both increase simultaneously. An increase in customers (N) causes demand to shift rightward. An increase in the number of businesses in a market (F) causes supply to shift rightward. Equilibrium output definitely increases, but the effect of the Internet on equilibrium price is indeterminate.

Pric

e of fir

ewood (dolla

rs)

Quantity of firewood

$

D0

D1

S0

PE

AB

S1

Q


Answers to Homework Exercises in Student Workbook

1. Normal. The coefficient on M is positive. Thus !Qd!M is positive and housing is a normal

good.

2. Substitutes. The coefficient on R is positive. Thus !Qd!R is positive, and three-bedroom

apartments are substitutes for new housing.

3. Qd = 160 – 2P

4. See the figure below:

Quantity of new housing (thousands of square feet/month)

70

60

50

40

30

20

10

10 20 30 40 50 60 70

80

80 90 100 110 120 130 140 150 160

P

Q

Pric

e of new

housing (dolla

rs p

er s

quare

foot )

S1

S0

D1

D0

5. Yes, because an increase in a factor price should cause Qs to get smaller (i.e., !Qs!P

Fis

negative).

6. Qs = – 40 + 2P

7. See the figure above.

8. PE = $50 and QE = 60

9. Yes; yes.

10. CS = .5 × 60 × ($80 – $50) = $900; PS = .5 × 60 × ($50 – $20) = $900; SS = $1,800

10. Qd = 140 – 2P

11. Qs = – 20 + 2P

12. PE = $40 and QE = 60


Chapter 3: Marginal Analysis for Optimal Decisions 11

Chapter 3: MARGINAL ANALYSIS FOR OPTIMAL DECISIONS

Answers to Applied Problems 1. a. One way of reducing traffic deaths is to reduce speed. While it may be possible to

eliminate all traffic deaths by allowing motorists to drive no faster than 15 MPH in cars equipped with driver and passenger air bags, most American drivers would not view a 15 MPH speed limit as optimal. Most drivers seem willing to accept some additional probability of death in return for faster speeds. The 70 MPH speed limit would be optimal if the marginal benefit of reducing speed limits equals the marginal cost of reducing speed limits. Just because reducing speed limits to 65 MPH would save even more lives does not, by itself, mean that further reduction in speed limits should be undertaken. The marginal benefit of speed reduction must be compared to the marginal cost.

b. If it costs nothing to eliminate pollution (i.e. MC = 0), then the optimal level of pollution

would indeed be zero. When the marginal cost of pollution abatement is greater than zero, as it is for virtually every type of pollution, the optimal level of pollution occurs at that level of pollution for which the marginal benefit to society of eliminating more pollution just equals the marginal cost of eliminating more pollution. In fact, it is possible to have too little pollution if pollution abatement activities have been undertaken such that the marginal cost of abatement exceeds the marginal benefit.

c. To maximize net benefit, troops should be left in Iraq if the marginal benefit exceeds the

marginal cost. Since marginal benefit and marginal cost are measures of additional (or extra) benefits and costs, benefits and costs already incurred do not matter (i.e. do not affect MB and MC). Sunk costs or benefits do not enter the decision making process, only incremental benefits and costs matter.

d. See answer to part c. e. Insurance premiums are fixed costs. The optimal level has nothing to do with how high

or how low fixed costs go. 2. Appalachian Coal Mining should minimize net cost by choosing that level of pollution (P) where

the marginal benefit of pollution reduction equals the marginal cost of pollution reduction: 1,000 – 10P = 40P

P* = 20 units of pollution. 3. The second partner is basing his objection to the move on costs that are sunk. The money spent

on office stationary, business cards, and a sign that cannot be moved to the new office are not marginal costs in the decision to move and should thus be ignored. In other words, the cost of the old cards, old stationary, and old sign are sunk costs to be ignored in making the decision to move the office, while any costs of purchasing new business cards, new stationary, or a new sign are part of the marginal cost of making the move. If, as the first partner seems to believe, MB exceeds MC for making the move, then net benefit rises even though new cards, stationary, and a sign must be purchased.


4. a. 2 b. $500 (= $25 × 20 radios not stolen due to hiring 1 guard) c. 4

5. a. The following graph illustrates such a situation. Clean-up activity is plotted along the horizontal axis and marginal benefits and costs along the vertical. For any amount of clean up greater than A*, MC exceed MB, and that amount of clean-up activity is “too much.”

b. The following graph illustrates such a situation. Notice that the shape of MB reflects

Breyer’s assertion that most of the benefit of clean-up comes at relatively low levels of clean up activity. The shape of MC puts most of the clean-up cost at relatively high levels of clean-up.


6. “Never give up”: You should give up an activity when MC > MB for extra units of the activity. “Anything worth doing is worth doing well”: How “well” you choose to do something should be determined by weighing costs and benefits at the margin. “Waste not, want not”: If saving a unit of a resource costs more than the value of the resource (usually measured by the price of a unit of the resource), it is NOT optimal to “save” the resource. For example, if a manufacturer must spend $100 to prevent $15 worth of a raw material from being wasted, then it is optimal to “waste” the raw material.

7. a. With a payroll of $160,000, the manager should hire five people with high school

diplomas and two people with bachelor's degrees. This choice maximizes the number of customers served because the last dollar spent on each type of employee yields the same addition to the number of customers served; MBHS / PHS (60 / $20,000) = MBB / PB (90 / $30,000) = 0.003.

b. No, she is not making the correct decision. If the manager hires three employees of each

type, the marginal contributions of the last person hired are the same for both types of employees (80), but the marginal contribution per dollar is higher for a high school diploma (80/$20,000) than for a bachelor's degree (80/$30,000). By hiring more employees with a high school diploma and fewer with a bachelor's degree, the manager can spend the same amount on payroll and increase the number of customers served.

c. With a budget of $240,000, she should hire six people with high school diplomas and

four people with bachelor's degrees. 8. a. Q* = 6,000 wine decanters

MR6,000 = $70

b. TR6,000 = 70 × 6,000 = $420,000 TC6,000 = 10,000 + 40(6,000) + 0.0025(6,000)2 = $340,000 Profit = $420,000 – $340,000 = $80,000

c. The 6,001st decanter adds $70 to total revenue and slightly more than $70 to total cost.

Therefore the 6,001st unit would (slightly) reduce profit. 9. a. 5

b. 4 c. 3

Answers to Mathematical Exercises 1. a. MB = 170 – 2x; MC = – 10 + 4x

b. NB = 170x – x2 – 100 + 10x – 2x2

dNB

dx= 170 – 2x + 10 – 4x = 180 – 6x = 0;


x* =

180

6 = 30

c. NB = 170(30) – (30)2 – 100 +10(30) – 2(30)2 = 2,600

2. a. MB = 100 – 4x; MC = x2 – 12x + 52

b. NB = 100x – 2x2 – (1/3)x3 + 6x2 – 52x – 80

dNB

dx= 100 – 4x – x2 + 12x – 52 = 48 + 8x – x2 = 0

This factors to (x + 4)( – x + 12) = 0 x = – 4, x = 12 x* = 12 maximizes NB c. NB = 100(12) – 2(12)2 – (1/3)(12)3 + 6(12)2 – 52(12) – 80 = 496

3. Z = 3x + xy + y + λ(70 – 4x – 2y)

!Z

!x= 3 + y – λ4 = 0

!Z

!y= x + 1 – λ2 = 0

!Z

!"= 70 – 4x – 2y = 0

Dividing the first equation by the second,

3+ y

x +1=

4

2; 3 + y = 2x + 2; y = 2x – 1

Substituting this solution into the third equation: 70 – 4x – 2(2x – 1) = 0 and solving for x = 9; y = 2(9) – 1 = 17 Bmax = 3(9) + 9(17) + 17 = 197


4. Z = 6x + 3y + λ(288 – xy)

!Z

!x= 6 – λy = 0

!Z

!y= 3 – λx = 0

!Z

!"= 288 – xy = 0

y

2= 2 ; y = 2x; substituting into the third equation, 2x(x) = 2x2 = 288; x = 144 = 12; y = 2(12) =

24. Min c = 6(12) + 3(24) = $144

5. a. Marginal benefit is the derivative of TB with respect to A:

MB =dTB

dA= 8 ! 0.008A . At

point C, MB = 8 – 0.008(200) = $6.40. The rest of the points can be similarly verified.

b. Marginal cost is the derivative of TC with respect to A:

MC =dTC

dA= 1+ 0.012A . At point

C, MC = 1+ 0.012(200) = $3.40. The rest of the points can be similarly verified. c. NB = TB – TC = 8A – A – 0.004A2 – 0.006A2 = 7A – 0.010A2. The derivative of NB equals

MB – MC. d. Yes. Answers to Homework Exercises in Student Workbook 1. a. a. 2.50 b. 7.00 c. 150 d. 7.50 e. 5 f. 4.50 b. 50; NB; $225 c. 0; 0; 0; negative d. TB; TC; NB e. TC; TB; NB


2. Your table should look like:

Level of Activity A

Total Benefit

Total Cost

Marginal Benefit

Marginal Cost

Net Benefit

0 0 0 -- -- 0

1 $ 31.75 $ 2.50 $ 31.75 $ 2.50 $ 29.25

2 60.75 6.25 29.00 3.75 54.50

3 87.25 11.25 26.50 5.00 76.00

4 111.40 18.00 24.15 6.75 93.40

5 133.60 26.30 22.20 8.30 107.30

6 154.60 35.40 21.00 9.10 119.20

7 174.10 49.20 19.50 13.80 124.90

8 192.10 66.95 18.00 17.75 125.15

9 209.20 88.95 17.10 22.00 120.25

10 223.45 114.95 14.25 26.00 108.50

11 235.90 145.45 12.45 30.50 90.45

12 247.10 180.05 11.20 34.60 67.05

a. A* = 8 b. Undertaking the 5th unit of activity causes total benefit to increase by $22.20, but total

cost increases by only $8.30. Since more is added to total benefit than is added to total cost, net benefit rises when the 5th unit of activity is undertaken. Thus 4 units cannot be optimal since net benefit can be further increased by increasing the activity level by one unit.

c. By reducing output to 11 units, total benefit decreases by $11.20 and total cost decreases by $34.60. Since total cost falls by more than total benefit falls, net benefit rises by reducing output to eleven units. Therefore, twelve units could not be optimal since net benefit can be increased.

d. A* = 8. Yes it is the same as in part a. 3. a. X* = 3; Y* = 2; TB* = $185,000 (= 75,000 + 110,000)

b. X* = 5: Y* = 6; TB* = $306,000 (= 100,000 + 206,000) 4. a. increasing; total; increases; total; increasing; increase; equal

b. decreasing; total; decreases; total; decreasing; decrease; equal 5. The money spent getting the Brazilian plant operating is now a sunk cost for the purposes of

deciding whether to continue operating the plant. Sunk costs should be ignored in this decision. The plant should continue operating if the marginal benefit from operation exceeds the marginal cost from operation.

6. A graph should be drawn showing a downward sloping MB curve for saving additional owls and

an upward sloping MC curve for saving additional owls. Saving owls past the point of intersection of MB and MC means that more than the optimal number of owls are being saved.


7. a. The publisher should ignore the costs of setting the type since these costs are sunk costs

that cannot be recovered. b. The publisher should ignore the $1 million advertising cost since it is a fixed amount that

does not vary with the number of copies printed. 8. a. 1 round of golf and 5 tennis matches.

b. 0 rounds of golf and 4 tennis matches.


Chapter 4: Basic Estimation Techniques 19

Chapter 4: BASIC ESTIMATION TECHNIQUES

Answers to Applied Problems 1. a. The intercept a is expected to be positive because even if no advertising is undertaken,

some sales are expected to occur. b is expected to have a positive sign since Vanguard's sales are positively related to its level of advertising expenditures. Vanguard's sales should be inversely related to its rivals' expenditures on advertising, so c is expected to be negative.

b. a is the sales of Bright Side detergent when neither Vanguard nor its rivals advertise. b is

ΔS/ΔA, the increase in Bright Side sales attributable to a $1,000 per week increase in advertising expenditures by Vanguard. c is ΔS/ΔR, the decrease in Bright Side sales attributable to a $1,000 per week increase in advertising expenditures by Vanguard's rivals.

c. The exact level of significance of b is 0.0128. There is only a 1.28% chance that b = 0,

which is better than the 10 percent level required by the marketing director.

d. The exact level of significance of c is 0.0927. There is a 9.27% chance that rivals’ spending on advertising does not affect Vanguard’s sales (i.e., b = 0), which is just barely better than the 10 percent level required by the marketing director.

e. About 78 percent of the variation in sales remains unexplained. Find additional

explanatory variables that have a significant affect on S. The manager might try adding the price of its detergent and the prices of its rivals’ detergents.

f. S = 175,086 + 0.855 × 40,000 – 0.284 × 100,000 = $180,886 of sales each week.

2. a. At the 95% level of confidence, the critical F-value is Fk – 1,n – k = F1,15 = 4.54. Since the

computed F-ratio 42.674 is greater than 4.54, the regression equation provides evidence of a statistically significant relation. Note also that 74% of the variation in V is explained by the equation.

b. The critical t-value for n – k = 15 degrees of freedom and a 95% level of confidence is

2.131. For a: t = 25.418 > 2.131; statistically significant. If Proposition 103 has no impact on auto insurance premiums in any given county, P = 0, and the expected percentage of voters favoring Proposition 103 in that particular county is given by:

V = 53.682 – 0.528(0) = 53.682, or 53.7% are expected to favor Proposition 103.

c. For b : t = | – 6.519| > 2.131; statistically significant

Remember that both V and P are measured as percentages. Thus, a 1% increase in P is estimated to result in a 0.53% decrease in V. A 10% increase in P is expected to result in a 5.3% (= 0.53 × 10) decrease in V. Note: All of the p-values are so small that you could quickly determine that all tests would find significance at extremely high levels of confidence.


3. a. The F-statistic provides evidence that the regression equation as a whole is statistically significant. The p-value for the F-statistic is significant at less than 0.01%. The R2 indicates the regression equation explains 83% of the variation in E. The p-values for the individual coefficients are: For a : the p-value = 0.2369, or there is a 23.69% chance that a = 0. For b the p-value = 0.0023, or there is only a 0.23% chance that b = 0.

b. Since ΔE/ΔN is estimated to be 32.31, each extra ticket sold in December is expected to

increase annual earnings by $32.31.

c. E = 25,042,000 + 32.31 × 950,000 = $55,736,500 for the year. 4. a. Estimate the model

Q' = a' + bH ' + cS ' , where Q' = ln Q, a' = ln a, H ' = ln H, and S ' = ln S.

b. b = %ΔQ/%ΔH

c = %ΔQ/%ΔS A 20% increase in S will increase Q by 5.1% (= 0.2550 x 20).

c. Perform an F-test. The 5 percent F-value is Fk – 1,n – k = F2,50 = 3.18. Since 29.97 > 3.18,

the overall equation is statistically significant. The p-value for the F indicates significance below the 0.01% level.

d. 54.52% of the variation in Q is explained by this model. The R2 could be increased by

adding some additional explanatory variables such as the sales experience of the salespersons employed. Whether the sales day is a weekday or a Saturday/Sunday, and the level of advertising in newspapers the previous week.

e. The critical t-ratio is tn – k = t50 ≈ 2.

For ˆ 'a : t = 3.80 > 2; statistically significant. The p-value indicates exact significance at the 0.04% level. Since ˆ 'a = ln a , a = ea', and a = 2.5. Since Q = 2.5 H 0 .3517S 0 .2550,

Q = 2.5(0)0.3517 (0)0.2550 = 0. Sales are expected to be zero because in the nonlinear form Q is zero when either H or S is zero.

f. For b : t = 3.44 > 2; statistically significant. The p-value indicates exact significance at

the 0.12% level. Since b = %ΔQ / %ΔH, b is the estimated percentage increase in sales attributable to increase the hours of operation by 1%, all else constant. Since b = 0.3517, a 10 percent decrease in H will decrease sales by 3.52 percent (= 0.3517 ! 10).


Answers to Homework Exercises in Student Workbook 1. a. ˆ 93.54 3.25Y X= !

b. 28; 2.763 c. is not; is d. 2.467; is not; is e. 0.09%; committing a Type I error f. 7.64; is g. – 1,531.46 (= 93.54 – 3.25 × 500) h. 67% i. The estimated value of b is a random variable because the value of b varies from sample

to sample. For any single sample, we wish to determine if the estimated value of b is far enough away from zero that we can be relatively sure (say 95% sure) that the true value of b cannot be zero. The larger is b , all else constant, the more certain we can be that b is not equal to zero, and X does indeed influence Y. If b is small (relatively close to zero), then the true value of b may indeed be zero, which indicates X is not influencing Y.

2. a. ln Y = ln a + b ln R + c ln S

b. 23; 2.807 c. is; is not; is not d. 20 (= e2.9957) e. 1.34; committing a Type I error f. 5.66; is not g. 648 (= 20 × 122.34 × 30 – 0.687 ) h. 63.53% i. 32.76% j. decreases; 10%

3. COMPUTER EXERCISE

a. The regression output for the log-linear regression:

b. ln ln ln lnP a b N c C= + + c. 0.8366 0.5334ˆ 0.1611P N C= Note that 1.82542

0.1611e!

= d. 17 (= n k! = 20 – 3); 2.567 e. is not; is; is

f. 4.99. % %ˆ 0.8316 % 4.99%% 6%

P Pb P

N

! != " = " ! =

!

g. increases; 18.75%. % 10%ˆ 0.5334 % 18.75%% %

Pc C

C C

!= " = " ! =

! !

h. The F-ratio and R2 are both larger for the linear model.

DEPENDENT VARIABLE: LNP R-SQUARE F-RATIO P-VALUE ON F

OBSERVATIONS: 20 0.8625 53.33 0.00001

VARIABLE

PARAMETER ESTIMATE

STANDARD ERROR

T-RATIO

P-VALUE

INTERCEPT –1.82542 1.90669 –0.96 0.3518

LNN 0.83655 0.08694 9.62 0.0001

LNC 0.53334 0.21197 2.52 0.0222


Chapter 5: Theory of Consumer Behavior 23

Chapter 5: THEORY OF CONSUMER BEHAVIOR

Answers to Applied Problems 1. a. No, Bridget is not making the utility-maximizing choice. Currently, MUW /PW = 50/10

= 5 < MUC / PC = 40/4 = 10; the last dollar spent on cheese yielded more satisfaction than the last dollar spent on wine, and she can increase utility by changing her consumption choice.

b. Bridget should buy more cheese and less wine. By spending one more dollar on cheese

and one less dollar on wine, total expenditures will be unchanged and utility will increase by 5 units. She can increase utility by continuing to purchase more cheese and less wine until the marginal utility per dollar is equal for cheese and wine.

2. a. 3, 7, and 5 cups per day of Rice Krispies, cottage cheese, and popcorn, respectively.

b. 2, 6, 4 3. Any benefit package might be preferred by employees over higher wages due to the increased

income tax liability that arises from increased money income. A flexible package gives the employees a larger choice set from which they can substitute and maximize utility. Thus, the recent trend towards flexible benefit packages will probably incite more employee interest in benefits relative to higher wages.

4. No. Consumer theory can account for the presence of uncertainty in the choices consumers

make. By maximizing utility over many possible states, individuals adhere to the theory of consumer behavior and can make mistakes and have bad luck also.

5. Let π be profits, which depend on the level of output (Q), and K be the level of charitable

contributions. The utility function can be written as U = U[π(Q),K]. The firm's total cost is the cost of producing output, C(Q), plus the level of charitable contributions, K. The firm's objective would be to choose the levels of Q and K that will minimize C(Q) + K subject to U[π(Q),K] = U*, where U* is a specified level of utility. As in the typical constrained optimization problem, the marginal utility of output per dollar of marginal cost must equal the marginal utility per dollar of charitable contributions. The equilibrium condition would the same if the firm's objective were to maximize utility subject to a given level of total cost.

6. a. Substitution and Income effects of a price increase in gasoline resulted in lower

consumption. b. Income effect of a gasoline price increase. c. Substitution effect of a gasoline price increase. d. Substitution effect of a gasoline price increase. e. Income effect of a gasoline price increase. f. Income effect of a gasoline price increase.

7. a. MUNike / PNike > MUReebok / PReebok

b. MUBoxster / PBoxster < MUMiata / PMiata c. For Don, even though his income is greater than the price of a trip to Mexico,

(MU/P)Trip to Mexico is less than MU/P for all other goods and services he wishes to consume.

d. Jack is indifferent between chocolate chip or coffee ice cream.

Chapter 5: Theory of Consumer Behavior 24

8. a. No

b. No, he meant the ratio of marginal benefit (quality of the plane) to price of the plane was higher for the Lockheed plane. Per dollar spent, the Lockheed provided more of what the Defense Department wanted (in terms of attributes) than the Northrop or McDonnell Douglas planes. Since this is a ratio, we cannot deduce that Lockheed's price was lower or quality higher than for the rival planes. It could be either or both.

Answers to Homework Exercises in Student Workbook 1. a. $32 b. $1 (This follows from the fact that bundle A costs $32.) c. 2 d. Y = 32 – 2X e. $1 f. 22 g. 1 h. $32. The consumer's budget remains constant when deriving a demand schedule. 2. a. MUy for the fifth unit = 24 b. MUx for the sixth unit = 10 c. MUx /Px for the fourth unit = 0.35

d. MUy /Py for the third unit = 0.5 e. 3X and 5Y when income is $420 f. 1X and 3Y when income is $220

Chapter 6: Elasticity and Demand 25

Chapter 6: ELASTICITY AND DEMAND

Answers to Applied Problems 1. The analyst believes demand is inelastic because he believes an increase in price will increase

total revenue. The publisher believes demand is elastic because he believes an increase in price will decrease total revenue.

2. a. True; price and quantity are inversely related. b. False; |%ΔQ| is less than |%ΔP|. c. False; demand is inelastic, not perfectly inelastic. d. False; quantity demanded is relatively unresponsive to changes in price. e. True; increases in quantity (decreases in price) lead to decreased total expenditure when

demand is inelastic. f. True; marginal revenue is negative when demand is inelastic.

3. a. more elastic

b. more elastic c. No direct effect on price elasticity of demand. However, if the higher costs result in

higher prices for corporate jets, then price elasticity will increase because of the movement up the demand curve for corporate jets.

d. Businesses may now view commercial airlines as a less desirable substitute for corporate jets. Demand for corporate jets would then be less elastic.

4. E = – 1 at Aztec because changes in the price of advertising have no effect on total advertising ex-

penditures. Quantity of ads demanded = $2,000,000/Pad or Q = 2,000,000P – 1. 5. The WSJ reported that cigarette companies hiked cigarette prices by 76 cents per pack to an

average retail price of $2.71 in 2000—a 37% increase. The price increase was “successful” because demand for cigarettes at the current prices was inelastic, and thus total revenue increased with the price hike. Had demand for cigarettes been elastic, a price increase could not have increased revenues, and bankruptcy might have resulted.

6. Sales of whisky will fall; %ΔQ/20% = – 0.2, so %ΔQ = – 4%, and sales fall by 4%. 7. a. and b. P = $25 per month and Q = 50 lockers per month

c. Since costs are irrelevant in this problem, the manager sets a price that maximizes TR. TR is maximized at the unit elastic point on demand which occurs at P = 25, Q = 50.

8. a. No. At P = $9, E = 9/(9 – 15) = – 1.5. Since |E| > 1, an increase in price will decrease TR.

b. Yes. At P = $9, E = 9/(9 – 22) = – 0.69. Since |E| < 1, an increase in price will increase TR.

9. E = – 8%/5% = – 1.6, demand is elastic. During 1991, average household income fell due to a

recession. The falling income may also account for some of the decline in movie attendance.

10. a.

!1.432 =115,040 ! 12,790

66 ! 233"

149.50

63,915


b.

!1.464 =68,100 ! 35,690

107 ! 165"

136

51,895

c.

!1.410 =94,116 ! 11,960

57 ! 196"

126.50

53,038

The price elasticities are remarkably similar in value. In each case, the price elasticities suggest that travelers are rather responsive to price reductions. In all cases, demand is elastic, and a 1% price reduction results in about a 1.4% increase in travel.

Answers to Mathematical Exercises 1. a. P = P(Q) = 40 – 2Q

b. TR = R(Q) = (40 – 2Q)Q = 40Q – 2Q2 c. The first-order condition for a maximum is dR/dQ = 0. dR/dQ = 40 – 4Q. Set dR/dQ = 0

and solve to find Qrmax = 10. Prmax = P(Qrmax) = 40 – 2(10)2 = $200. d. MR = R’(Q) = 40 – 4Q. Total revenue reaches its maximum at the output level for with

MR = 0. Set MR = 0, and solve for Qrmax = 10. e. E = 20/(20 – 40) = – 1. As expected, demand is unitary elastic because total revenue

reaches its maximum value.

2. a. E = b(P/Q) = b[1/b(Q – a)]/Q. Thus, E = (Q – a)/Q. b. dE/dQ = a/Q2 > 0. As Q gets larger moving down demand, E gets larger algebraically,

and demand becomes more inelastic (i.e., |E| gets smaller).

3. a.

E =dQ

dP

P

Q= !36P

!2

"P

36P!1

= !1

b.

TR = PQ = P36P!1

= 36

MR = 0

Answers to Homework Exercises in Student Workbook 1. a. TR = P × Q = $800 at every point on demand. stays the same; stays the same; stays the same. b. Yes, since TR is constant along this demand, it appears to have a constant elasticity equal

to –1. c. (Since P × Q = 800, it follows that)

Q = 800P!1 ; equal to; unitary elastic

d. Perfectly constructed tangent lines would look like the following tangent lines:


0 200 300 40050

2

4

6

8

10

14

B

C

D

Demand

P

Q

16

12

A

100

Using the tangent lines shown in the figure above, the point elasticities at points B, C, and D can be calculated as follows:

E

B= 8 / (8 ! 16) = (200 / 16)(8 / 100) = !1

E

C= 4 / (4 ! 8) = (400 / 8)(4 / 200) = !1

E

D= 2 / (2 ! 4) = !1

e. Either answer is acceptable since the tangent lines are constructed by hand: i. Yes, the computed price elasticities using the tangent lines are all equal to –1.

ii. No, one (or more) of the computed price elasticities did not equal –1, probably because the constructed tangent line was not perfectly tangent.

2. a. 2,368,750 b. 0.451; normal; fall; 1.28 percent c. –1.283; elastic; 6.42 percent d. 0.861; 0.528; positive; substitutes e. The BMW has the larger cross-price elasticity, which indicates demand for Chrysler

Crossfires is more sensitive to changes in the price of BMW’s 330i than to changes in the price of Porsche’s Boxster S. The Boxster is much more expensive than the Chrysler (and BMW), consequently a small percentage price reduction on the Boxster is not likely to cause many BMW buyers to switch to the Boxster. Neither will a small price increase in the price of a Boxster cause many Boxster buyers to switch to the less expensive Chrsyler Crossfire or BMW 330i.


3. a. and b.

0 20 30 40 50 60 70 80 9010

80

120

Tota

l rev

enue

(dolla

rs)

Quantity

: Total RevenuePanel B

Q

200

160

$

0 20 30 40 50 60 70 80 9010

2

4

6Pr

ice

(dolla

rs)

Quantity

: Demand and Marginal RevenuePanel A

Q

10

8

$

MR = 10 - 0.25Q

P = 10 - 0.125Q

40

Total revenue

c. 0; 40; 40; 80; 40 d. see Panel B in the figure above

4. In the past, cigarette prices have been low enough that demand remained inelastic, so price increases could be used to increase revenues. As prices continued to rise along cigarette demand, however, price elasticity eventually became elastic and further price increases caused revenues to fall. The graph should show past prices in the inelastic region of demand and current prices in the elastic region of demand.

5. The excise tax would increase price by 34.6% [= (0.45/1.30) × 100]. Since the short-run price elasticity is –0.43 for gasoline (from Illustration 6.2), the percentage decrease in gasoline sales is 14.88% (solve –0.43 = %ΔQ/34.6). Since demand is inelastic, the increase in price will cause total consumer expenditure on gasoline to rise in the short-run.

6. When copayments rise from 20 percent to 25 percent, health care consumers see the prices they pay rise by 25%. Thus, quantity demanded of doctor visits can be expected to fall by 6.25% (%ΔQ = –0.25 × 25).

Chapter 7: Demand Estimation and Forecasting 29

Chapter 7: DEMAND ESTIMATION AND FORECASTING

Answers to Applied Problems 1. a. All parameters are significantly different from zero at the 7.16 percent level of

significance or better. The signs of the parameter estimates are consistent with consumer theory: b is negative as the law of demand predicts, c is positive indicating tennis balls are a normal good, and d is negative as it should be for complements (tennis balls and tennis rackets).

b. 240,134 cans per quarter = 425,120 + ( – 37260.6 × 1.65) + (1.49 × 24,600) + ( – 1456

× 110)

c. E = – 37260.6(1.65/240,134) = – 0.256

E

M= 1.49(24,600/240,134) = 0.153

E

XR= – 1456(110/240,134) = – 0.667

d. % change in Q / – 15% = – 0.256 ! Sales rise by 3.84 percent. e. % change in Q / 20% = 0.153 ! Sales rise by 2.98 percent f. % change in Q / 25% = – 0.667 ! Sales fall by 16.67 percent

2. a. If Cypress River's sales vary cyclically, sales forecasts will be biased unless the cyclical

variation is taken into account. In the figure below, a, b, and c were estimated using a dummy variable to account for seasonal variation. The parameters a’ and b’ were estimated without treating seasonal observations differently. In the situation depicted, the time trend parameter estimate b’ is biased upward; i.e., the trend line is too steep.

Time

Sale

s

Qt

t

Q = a + btt

Q = a + c + btt

Q = a’ + b’tt


b. If a regression includes a dummy variable when there is no cyclical variation, the

estimates will be less precise and the degrees of freedom will be reduced. 3. a. Consider the statistical significance of b . The critical value of t for 28 – 5 = 23 degrees

of freedom and a 95% confidence level is 2.069, and the t-ratio for b is much greater. The p-value for b indicates strong statistical significance. Thus, the regression analysis provides very strong statistical evidence of an upward trend in shoe sales.

b. Looking at either t-tests (at 5% significance level) or p-value on the seasonal dummies:

For c1

: t = 2.17 > 2.069; statistically significant or exact significance = 4.04%.

For c2

: t = 2.82 > 2.069; statistically significant or exact significance = 0.98%.

For c3: t = 4.44 > 2.069; statistically significant or exact significance = 0.02%.

Since all seasonal dummies are significantly different from zero, the data suggest that athletic shoe sales tend to exhibit a seasonal pattern. Ceteris paribus, sales are expected to be 3,280 units higher in the winter than in the fall, 6,250 units higher in the spring than in the fall, and 7,010 units higher in the summer than in the fall.

c. For 2008III and 2009II, t = 31 and 34, respectively.

Q2008III = 184500 + 2100(31) + 3280(0) + 6250(0) + 7010(1) = 256,610 units Q2009II = 184500 + 2100(34) + 3280(0) + 6250(1) + 7010(0) = 262,150 units

d. You might be able to improve this forecast equation by adding some additional

explanatory variables that affect both demand and supply of athletic shoes. This would require using a simultaneous equations model.

Answers to Homework Exercises in Student Workbook 1. a.

t

b= 0.03/0.01 = 3.0 > 2.021 ! b is statistically significant. Thus there is a statistically

significant upward trend in delinquencies. b. 181.93 > F1,46 = 4.05 ! the model is statistically significant. c. DRJan 2008 = 2.6 + 0.03(49) = 4.07%

DRMar 2008 = 2.6 + 0.03(51) = 4.13% d. Yes

t

b= 0.018/0.004 = 4.5 > 2.021 ! b is statistically significant.

e. t

c

= 0.81/0.21 = 3.86 > 2.021 ! c is statistically significant. Therefore, December and January are significantly worse months for mortgage payments.

f. DRJan 2008 = 2.2 + 0.018(49) + 0.81(1) = 3.89% DRMar 2008 = 2.2 + 0.018(51) + 0.81(0) = 3.12%

g. The initial forecasts fail to consider the cyclical variation in the months of December and January. The t-test on c and the higher value of F indicate that the cyclical variation was significant. By including the dummy we get a more precise estimate of the upward trend in DR. The management consultant appears to have been correct.


COMPUTER HOMEWORK EXERCISES

2. a. When N is included in the model, its p-value is 0.4061, which is not small enough to be statistically significant at the 2 percent level. So N is dropped from the model and the equation is estimated again without N:

Q = 5357.08 ! 1906.86P + 0.08033M + 1615.65P

R

b. 85.85%

c.

E = !1906.863.5

7144.87= !0.934 ; inelastic; –10.71%

d.

EM= 0.08033

45000

7144.87= 0.506 ; normal; 3.036%

e.

EXR

= 1615.653

7144.87= 0.678 ; Yes, because the two goods are substitutes;

5.424% f. When the log of N is included in the model, its p-value is 0.5737, which is not

small enough to be statistically significant at the 2 percent level. So lnN is dropped from the model and the equation is estimated again without lnN:

Q = 62.934P

!0.97627

M0.48352

PR

0.70197

where e4.14209

= 62.934 g. No h. E = !0.97627

E

M= 0.48352

E

XR= 0.70199

The elasticity estimates are identical in algebraic sign and similar in magnitude.

3. a. Your computer printout will look like:

DEPENDENT VARIABLE: QT R-SQUARE F-RATIO P-VALUE ON F

OBSERVATIONS: 36 0.0722 2.62 0.1130

VARIABLE

PARAMETER ESTIMATE

STANDARD ERROR

T-RATIO

P-VALUE

INTERCEPT 8011.26 202.890 39.49 0.0000

T 15.5568 9.56258 1.63 0.1130

Looking at b , the data suggest an upward trend of 15.5568 units per month. The statistical significance of the trend is not very convincing, as the p-value indicates the probability of finding significance when none exists (i.e., the probability of a Type I error) is 11.3 percent. Furthermore, the model explains only 7.22 percent of the variation in sales.


b. Your computer printout will look like:

DEPENDENT VARIABLE: QT R-SQUARE F-RATIO P-VALUE ON F

OBSERVATIONS: 36 0.7591 24.42 0.0000

VARIABLE

PARAMETER ESTIMATE

STANDARD ERROR

T-RATIO

P-VALUE

INTERCEPT 7892.04 163.155 48.37 0.0000

T 11.9888 5.39177 2.22 0.0336

D1 –501.212 157.596 –3.18 0.0033

D2 859.488 153.389 5.60 0.0000

D3 382.633 150.809 2.54 0.0164

Looking at b , the data suggest a statistically significant (at the 3.36% level) upward trend of 11.9888 units per month. The estimates of

c

1,

c

2, and

c

3 are

individually highly significant, suggesting a seasonal pattern to sales of Titan II golf clubs. For winter months (Jan., Feb., and Mar.), sales are expected to be 501 units lower than during the fall months (Oct., Nov., and Dec.). For spring months (Apr., May, and June), sales are expected to be 859 units higher than during the fall months (Oct., Nov., and Dec.). For summer months (July, Aug., and Sept.), sales are expected to be 383 units higher than during the fall months (Oct., Nov., and Dec.).

c. Since the seasonal dummies are statistically significant, you would expect to get a biased estimate of the trend if you estimate the linear trend model in part a.

d. Forecasts are shown in the table below:

T D1 D2 D3 Forecasted Q

January 2007 37 1 0 0 7,834

July 2007 43 0 0 1 8,790

January 2008 49 1 0 0 7,978

July 2008 55 0 0 1 8,934

Chapter 8: Production and Cost in the Short Run 33

Chapter 8: PRODUCTION AND COST IN THE SHORT RUN

Answers to Applied Problems 1. Diminishing returns begin when a new worker adds less to total product than the previous worker.

When diminishing returns set in, marginal product begins to decrease; total product is still increasing, but at a decreasing rate. The managers may be confusing diminishing returns and negative marginal product; a company should not hire a worker if the new person has negative marginal product– i.e., causes total output to decrease.

2. a. Energy efficiency in the context of this problem simply means producing a mile of

transportation with the least amount of a particular input, namely gasoline. Economic efficiency means producing the mile of transportation at the lowest possible total cost. These are generally different objectives.

b. If gasoline is extremely expensive relative to the other inputs needed to produce transportation miles (such as aluminum, rubber, glass, plastic, and highly trained design engineers), then is may be economically efficient to use more of these other scarce resources to reduce the amount of gasoline needed to drive a mile.

c. Economic efficiency looks at the total cost of all scarce resources. After all, the various resources used to reduce the amount of gasoline burned cannot be used to produce other socially desirable goods such as food, clothing, and shelter.

3. a. All the sheet metal workers at CF&D could be working as “hard” as they can, and the

firm could still experience diminishing productivity as suggested by the law of diminishing marginal productivity. If the production increases at CF&D were achieved without adding new machinery (keeping capital constant), then beyond some level of employment, marginal productivity of sheet metal workers will fall. The decline in productivity embodied in the law of diminishing productivity is not the result of worker laziness. Remember, the production function assumes technical efficiency, so the downward sloping portion of the MP curve cannot be caused by lazy workers or poor management of workers. If the plant is technically efficient, no amount of “cracking down” on labor can increase productivity.

b. Adding new sheet metal working machines will cause the MP and AP curves to shift

upward. Workers will have more (and perhaps better) with which to work, thereby increasing their productivity levels (measured as either MP or AP).

4. Improvements in productivity, as measured by increases in MP and AP, directly result in

reductions in SMC and AVC, respectively. Lower costs make it possible to maintain, and possibly even increase, profits in the face of falling prices.

5. The move was economically efficient if the same amount of furniture was produced at a lower total cost after the change. Throwing away wood scrap costs the factory money, but so does reducing the amount of wood scrap. The decision was economically efficient only if the cost of reducing the wood scrap was less than $93,000 (the cost savings from the change).


Answers to Mathematical Exercises 1. a. f(L,16) = g(L) = 20 × 4 × L2 = 80L2.

b. AP = Q/L = 80L – 2 c. MP = dg(L)/dL = 40L – 2 d. dMP/dL = g”(L) = – 20L – 1.5 , which is negative for all L.

2. a. From equation (9) in the Math Appendix, the slope of ATC = 1/Q(SMC– ATC). Similarly, it can be shown that the slope of AVC, dAVC/dQ, is equal to 1/Q(SMC – AVC). Clearly, the slopes of ATC and AVC are not equal for any given Q.

b. Let D = slope AVC – slope ATC. It is easy to show that D is positive for all output levels:

D = slope AVC – slope ATC = 1/Q(SMC – AVC) – 1/Q(SMC – ATC) = 1/Q (AFC) > 0 for all Q.

When both AVC and ATC are falling , both slopes are negative. The algebraic difference between the two slopes, D, cannot be positive unless |slope ATC| > |slope AVC|; that is, ATC falls faster than AVC falls. In contrast, when both are rising, AVC rises faster than ATC [D is positive].

3. a. AVC = AVC(Q) = TVC/Q = 20L/Q. Solving for L in the production function, L = L(Q) =

Q2/6400. Substituting into AVC, AVC = [20(Q2/6400)]/Q = Q/320.

b. L = (160)2/6400 = 4 units of labor; AP = 160/4 = 40; AVC = (20 × 40)/160 = $0.50 c. SMC = SMC(Q) = dTVC(Q)/dQ = d[20L(Q)]/dQ = d[Q2/320]/dQ = Q/160. d. When Q = 160, L = 40 (from 3b). So MP = 40(4) – 2 = 20; SMC = 20/20 = $1 ; or SMC

= 1/160 (160) = $1 [Verified at marks.] Answers to Homework Exercises in Student Workbook 1. a. 1,500

b. $4; $4 c. $8 d. 1,728 e. $4.167; $8.33

NOTE: Marginal cost is calculated at a point, L = 36. So, SMC = $200/24 = $8.333. Some students may compute it over the interval of output from 1,500 to 1,728 by finding the ratio of the change in total variable costs to the change in output:

/ 1,200 / 228 $5.26TVC Q! ! = = .


f. increasing; increasing

2. Your table should look like:

Output TC TFC TVC AFC AVC ATC SMC

0 60 60 0 xx xx xx xx

10 140 60 80 6.00 8.00 14.00 8.00

20 150 60 90 3.00 4.50 7.50 1.00

30 215 60 155 2.00 5.17 7.17 6.50

40 287 60 227 1.50 5.68 7.18 7.20

50 367 60 307 1.20 6.14 7.34 8.00

60 452 60 392 1.00 6.53 7.53 8.50

70 542 60 482 0.86 6.89 7.74 9.00

80 642 60 582 0.75 7.28 8.03 10.00 3. a. $15

b. $10

c. $25

d. $1,500

e. $1,000

f. $2,500

g. approximately $4

h. $5

i. $10

j. $15

k. $1,500 = 300 × $5

l. $3,000

m. $4,500

n. $25


Chapter 9: Production and Cost in the Long Run 37

Chapter 9: PRODUCTION AND COST IN THE LONG RUN

Answers to Applied Problems 1. a. Over this period the price of computers decreased relative to the price of other inputs.

Optimizing firms thus would choose to use more of the now relatively less expensive input (computers) to produce a given level of output.

b. If the price of an input (personal computers) falls relative to the price of other inputs, we

would expect firms to substitute toward the input that becomes relatively less expensive and away from inputs that become relatively more expensive. Thus we would expect firms to use more personal computers and fewer inputs that are substitutes for personal computers (e.g., clerical workers).

2. The publishing house is not making the optimal choice because the last dollar spent on printers

added one book to total output (20/$20=1), while the last dollar spent on printing presses added only one-half book to total output (50/$100=1/2). The publisher can produce more books at the same total cost (or produce the same number of books at a lower total cost) by using more printers and fewer printing presses.

3. Managers of government bureaus can apply the principles of efficient production by employing

inputs so at to maximize the output of their bureaus, given the budgets they must work within. Similarly, the manager of a nonprofit club will want to maximize the provision of club services to club members, given the club cannot spend more than the dues collected from members.

4. a. By purchasing one textile machine, 9 laborers must be fired to keep the level of output

exactly equal to 5,400 units per day. This reduces the labor bill by 9 × $50 = $450 and increases the capital bill by $600. Clearly, substituting the machine for an equally productive amount of labor increases the total cost of producing 5,400 units.

b. At w = $100, the reduction in wage expense associated with laying off 9 workers is 9

× $100 = $900 which is greater than the $600 the machine costs. Thus, the higher wages make buying a machine efficient.

5. Efficiency requires that inputs be employed so that marginal products per dollar spent are equal.

Since MPL/w (= 10/20 = 0.5) ≠ MPK/r (= 15/15 = 1), the Beta Corporation is not operating efficiently. The new manager of Beta Corporation can improve efficiency by increasing the amount of capital used and decreasing the amount of labor used.

6. a. Spreading the overhead refers to spreading total fixed cost over the number of units of output

produced; average fixed cost declines as output increases.

b. A break-even level of production is the level of output at which total revenue equals total cost (profit equals zero).

c. The efficiency of mass production refers to savings in unit cost at larger levels of output, i.e.,

economies of scale.


7. a. Since the slope of the isocost curves (w/r) are equal to 5 (= 90/18 = 60/12 = 40/8), then $200/r = 5, and r = $20.

b. 30K and 6L will minimize total cost of producing 180 units.

c. TC120 = $800 = $100(4) + $20(20)

TC180 = $1200 = $100(6) + $20(30) TC240 = $1800 = $100(8) + $20(50)

d. L = 14 and K = 30

e. SRTC240 = $100(14) + $20(30) = $2,000

ATC240 = $2,000/240 = $8.33 AVC240 = $1400/240 = $5.83 AFC240 = $600/240 = $2.50

8. Managers of bakeries in one geographic market could specialize in the production of one product,

say bread, in order to take advantage of the scale economies in baking bread. They would then trade (or sell) some of their excess bread production to bakeries in other geographic markets that specialize in other baked goods, such as rolls or cakes. In this way, bakeries in different markets (i.e., noncompeting bakeries) could offer complete lines of baked goods and take advantage of the economies of scope in marketing while, at the same time, benefiting from the lower per unit costs associated with specialization.

9. While doctors have a higher marginal product than R.N.=s, the price of R.N.=s may be so much lower than the price of M.D.=s that the marginal product per dollar spent on R.N.=s may be greater than the marginal product per dollar spent on M.D.=s. In such a case, costs can be decreased by using more R.N.=s and fewer M.D.=s.

10. In some cases, foreign workers may be less productive than U.S. workers. Thus, the marginal

product per dollar spent on U.S. workers may be greater than the marginal product per dollar spent on foreign workers, even with lower wages in foreign countries. Consequently, keeping production at home is probably not motivated primarily by patriotism but rather by efficiency concerns.

Answers to Mathematical Exercises

1. a. MPL = aALa-1Kb b. MPK = bALaKb-1 c. MRTS = aK/bL d. If the isoquant is convex, increasing L will cause MRTS to get smaller since

MRTS is defined to be a positive number. Thus ΜMRTS / ΜL is negative for convex isoquants. For this production function, ΜMRTS / ΜL = –(aK)/(bL2) < 0.

e. *

* *

*

w aK w b wMRTS K L

r bL r a r= ! = =!


2. a.

1

*

0

bb

a b a ba a w Q bw

Q AL L Lb r A ar

!

+ +

! = " =# $# $ # $

% & % &% &' ( ' (' (

b.

1 1

*

b

a b a b

a

a bQ aK

A b

w

r

!

+ + +

=" #" # " #

$ % $ % $ %& ' & ' & '

c.

1 1

* *( ; , )

b ba b

a b a b a ba b a b

Q a aLTC LTC Q w r wL rK w r

A b b

! !

+ + +

+ += = + = +

" #$ % $ % $ %& '( ) ( ) ( )& '* + * + * +, -

1 1

1/

b ba b

a b a b a ba b a b

a aLAC LTC Q LMC w r

A b b

! !

+ + +

+ += = = +

" #$ % $ % $ %& '( ) ( ) ( )& '* + * + * +, -

d. For all values of Q, the following derivatives are all positive: 1 1

11

b b

a b

a b a b a b

a b a ba a

w r

A b b

LAC LMC a

w w a b

! !

+ + +

+ +

!

+" "

= =

" " +

# $% & % & % &' () * ) * ) *+ , + , + ,' (- .

1 1

11

b b

a b

a b a b a b

a b a ba a

w r

A b b

LAC LMC b

r r a b

! !

+ + +

+ +

!+

" "= =

" " +

# $% & % & % &' () * ) * ) *+ , + , + ,' (- .

3. a. Q = 24L0.5(121)0.5 = 264L0.5 = g(L)

b. MPL = dg(L)/dL = 132L–0.5; dMPL/dL = –66L–1.5 < 0 for all L. c. K = 121 for all L d. TVC = TVC(Q) = wL = 10Q2/69696 = 0.00143Q2; TFC = rK = 2420;

TC = TC(Q; w, r) = 0.000143Q2 + 2420 e. AVC = SMC = 0.000143Q; AFC = 2420/Q; ATC = 0.000143Q + 2420Q–1

4. a. K* = (w/r)L*

b. L* = (w/r)–1/2Q/24 and K* = (w/r)1/2Q/24 c. LTC = LTC(Q; w, r) = (Q/12)w1/2r1/2; LAC = LTC/Q = (1/12)w1/2r1/2 = LMC d. dLAC/dQ = 0 for all Q.


Answers to Homework Exercises in Student Workbook 1.

Uni t s

of ca

pita

l

K

6

Units of labor

10

Expansion path

Short-runexpansion path (K = 2)

L

2,000 units

1,000 units

9

2

0

R

S

V

6020 30 40 50 70 80 90 100

1

3

4

5

7

8

10

a. $40

b. 40 c. 0.10 d. 50 e. K = 6 – 0.10L f. 3 g. R is technically efficient because decreasing either L or K results in a decrease in output

(i.e., a movement to a lower isoquant would occur). h. R is economically efficient because it is the least-cost input combination for producing

1,000 units of output. i. Economies of scale because LAC falls. LAC1,000 = $0.24 (= $240/1,000) and LAC2,000 =

$0.18 (= $360/2,000). j. See the figure above. The short-run expansion path is the horizontal line at K = 2. k. 80; $400; reduce; $40. See point V in the figure above.

2. a. MRTS; the input price ratio (w/r); MPL / w; MPK /r; labor; capital

b. the input price ratio (w/r); MRTS; MPK / r; MPL /w; capital; labor c. ¾

Chapter 10: Production and Cost Estimation 41

Chapter 10: PRODUCTION AND COST ESTIMATION

Answers to Applied Problems 1. a. The scatter diagram for these data (shown below) strongly suggest a TP curve with an S-

shape. This scatter resembles the one shown in Figure 10.2 of the text. Thus, a cubic specification seems most appropriate for these data.

Outp

ut

Labor

10

10 15 20 25 30

TP

TP

L

35 5

15

20

25

5

30

b. The estimated short-run cubic production function is

Q = !0.0007451L3

+ 0.04873L2

The parameter estimates have the appropriate signs: the estimated coefficient for L3 is negative and the estimated coefficient for L2 is positive. Both parameter estimates

A and B are significant at better than the 5 percent level: their p-values are 0.0044 and 0.0001, respectively.

c. Beyond about 21.8 (= – 0.04873/(3 × –0.0007451) units of labor, diminishing returns set in and marginal product is falling.

d. At 23 units of labor:

Q = 16.71 = !0.0007451(23)3+ 0.04873(23)

2

AP!

= 0.7266 = !0.0007451(23)2+ 0.04873(23)

MP!

= 1.0592 = !0.002235(23)2+ 0.09746(23)

e. SMC is rising because MP is falling beyond 21.8 units of labor. 2. a. TP = –0.015625 (8)3 L3 + 10 (8)2 L2

= –8L3 + 640L2 AP = –8L2 + 640L MP = –24L2 + 1280L

b. Lm = –B/3A = –640/3(–8) = 26.67 Marginal product will begin to decline beyond about 27 man-hours per day.


c. At L = 50, TP = –8(50)3 + 640(50)2 = –1,000,000 + 1,600,000 = 600,000 units of output AP = –8(50)2 + 640(50) = 12,000 or TP/L = 600,000/50 = 12,000 MP = –24(50)2 + 1280(50) = –60,000 + 64,000 = 4,000

3. a. Only a and b are significant at the 2 percent level. c is significant at the 2.62 percent

level. b. AVC is U-shaped because a > 0 , b < 0 , and c > 0 . c. AVC8,000 = $101.53; MC8,000 = $164.73; TVC8,000 = $812,240; TC8,000 = $992,240 d. AVC10,000 = $126.93; MC10,000 = $301.93; TVC10,000 = $1,269,300; TC10,000 = $1,449,300 e. Qmin = 6,354; AVCmin = $95.03

Answers to Mathematical Exercises 1. In order to have MP rise then fall, the slope of MP (MPLL) must first be positive at low levels of

labor usage and then negative at higher levels of labor usage. Since MPLL = 6AL + 2B, letting A > 0 and B < 0 means that MPLL is first positive at low L only if 6AL > ∗2B∗. But this causes a problem. As L increases, 6AL can only get larger, and MPLL can never become negative, and MP can never diminish, as it must.

2. L

m(K ) = !

bK2

aK3= !

b

aK

!1 . Taking the derivative of Lm with respect to K , we see that this

derivative is positive definite:

dLm

dK=

b

aK

!2

> 0 .

3. a. MPL = 1.0 Q/L and MPK = 0.5 Q/K b. MRTS = 2 K/L; EL = 1.0; EK = 0.5 c. 1.5; increasing

4. a. Yes, because the exponents on w and r sum to one. Thus, LTC (Q; 2w, 2r) = 1/12 Q (2w)0.5(2r)0.5 = 2LTC(Q; w, r).

b. Elasticity of total cost = 1. c. LAC = LMC = $1.67. Flat LMC and LAC curves are consistent with constant returns to

scale.


d. Yes, constant returns to scale implies neither economies nor diseconomies of scale. Answers to Homework Exercises in Student Workbook

1. a. TP = !0.0016L3+ 0.40L

2; AP = !0.0016L

2+ 0.40L ; MP = !0.0048L

2+ 0.80L

b. 0.32%; 0.02% c.

83

1

3

d. 125 e. $12.00; $12.00 f. 2,400; $12.50; $9.38

2. a. All coefficients have the appropriate signs (a > 0, b < 0, and c > 0).

t

a

= 175/25 = 7 > 2.021 ! a is statistically significant

t

b= !3.2 0.80 = !4 = 4 > 2.021 ! b is statistically significant

t

c= 0.08 0.01= 8 > 2.021 ! c is statistically significant

b.

SMC = 175 ! 6.4Q + 0.24Q2

c.

Q

min= !b 2c = 3.2 0.16 = 20

AVCmin = 175 – 3.2(20) + 0.08(20)2 = 143 d.

AVC

Q=8= 175 ! 3.2(8) + 0.08(8)

2= $154.52

SMC

Q=8= 175 ! 6.4(8) + 0.24(8)

2= $139.16


3. COMPUTER EXERCISE

a. Your regression output should like:

DEPENDENT VARIABLE:

AVC R-SQUARE F-RATIO P-VALUE ON F

OBSERVATIONS: 12 0.7317 12.27 0.0027

VARIABLE

PARAMETER ESTIMATE

STANDARD ERROR

T-RATIO

P-VALUE

INTERCEPT 296.749 33.5380 8.85 0.0000

Q –4.28252 1.56081 –2.74 0.0227

Q2 0.03484 0.01684 2.07 0.0685

b. All parameter estimates have the correct algebraic signs and are significant at better than

the 10 percent level. c.

AVC = 296.749 ! 4.28252Q + 0.03484Q

2

TVC = 296.749Q ! 4.28252Q

2+ 0.03484Q

3

SMC = 296.749 ! 8.5650Q + 0.10452Q

2 d. Qmin = –b/2c = 61.46; AVCmin = $165.15 e. AVCQ=20 =$225

SMCQ=20 = $167.26 Since SMC is less than AVC, AVC must be falling at 20 units of output.

f. 61.46; SMC = AVC at AVC’s minimum point.

Chapter 11: Managerial Decisions in Competitive Markets 45

Chapter 11: MANAGERIAL DECISIONS IN COMPETITIVE MARKETS

Answers to Applied Problems 1. The fact that the club closed implies that it incurred economic losses, i.e., implicit costs must

have exceeded $100,000. Assuming that the opportunity cost of capital is the only omitted implicit cost, the owner must have alternative investment opportunities with an expected rate of return greater than 10%.

2. It is hard to say. Clearly fixed costs should not affect production decisions. What it probably

means is that fixed costs make up a very high proportion of total costs, so variable costs are relatively low. Therefore, if revenues cover variable costs firms keep producing at lower prices.

3. a.

Number of Real Estate Agents

Marginal Revenue

Product

1

$40,000

2

34,000

3

30,000

4

24,000

5

16,000

6

8,000

b. Two agents should be hired. The third agent adds only $30,000 to total revenue but adds $32,000 to total cost.

c. Four agents. d. 1, $60,000; 2, $51,000; 3, $45,000; 4, $36,000; 5, $24,000; 6, $12,000. e. Four agents.

4. A support price above the price that would prevail in the absence of controls will induce new

farmers to enter the market. These new (marginal) firms will have higher costs than the farmers already producing because their land (and perhaps other inputs) will be less productive. Even higher support prices would only attract even more marginal farmers.

5. In the short run, increased insurance rates could raise the income of insurance agents. If the

demand for insurance is inelastic, an increase in insurance rates will increase agents' income. In the long run, the increase in income will attract new agents into the market (provided that entry is unrestricted). The new agents will take some of the established customers and potential new customers from the incumbent agents, reducing the number of policies written per agent. Agents' income will continue to decrease until entry ceases, i.e., until income again reaches a "normal" level.


6. Firms engage in research and development (R&D) in order to earn profits from introducing new products or from discovering more efficient methods of production. Firms in a competitive industry have little incentive to invest in R&D because any profit would be quickly competed away. Anything that lengthens the period before innovations are imitated will encourage R&D. Note, however, that if firms do develop new products, one of the assumptions of a competitive market (a homogeneous product) will be violated.

7. a. The plant in Miami should continue to be operated because the firm loses only $60,000

per month if the plant is operated; but would lose $68,000 if the plant is shut down. We can deduce that total revenue exceeds variable costs by $8,000. This $8,000 can be applied toward fixed costs so the firm loses only TFC – $8,000, which in this case is 68,000 – 8,000 = $60,000. Thus, the President is correct in recommending that the firm continue to operate the Miami plant in the short run.

b. While it is true that the level of fixed costs do not, in any way, influence the shut down (or output) decision, TFC does represent the loss to the firm of shutting down operations. If the manager makes the correct shutdown decision by comparing P to AVC, the loss from producing will be less than TFC. The president's statement implies that P > AVC. Even if TFC were higher than $68,000, the firm still loses $8,000 less when it produces where MR = MC than when it shuts down.

8. a. Production costs will rise because the entry of new firms encouraged by economic profits will bid up input prices for all the firms in the remodeling industry. Input prices would not be bid up if the industry is a constant cost industry.

b. Price will fall because profit will encourage entry, supply will shift rightward, and equilibrium price will fall.

c. Economic profits will fall to zero as entry occurs in the long run.

9. The pushcart owner must at least be covering his opportunity costs at this fee. The city of New

York is earning the rent in this case because it controls the location, which is the reason for the high returns. The pushcart owner is probably not making much, if any, economic profit with the new license fee.

10. a. There are two ways grocery and gasoline markets may fail to be competitive markets.

(1) Even though a large city has many grocery stores and gasoline stations within the metropolitan area, consumers of groceries and gasoline typically shop close to home. So a large city comprises many smaller geographic markets for groceries and gasoline. Within these smaller local markets, there may be only a few grocery stores and gasoline retailers, a situation which provides some ability for individual firms to influence price.

(2) Another possible divergence from competition results if the firms sell differentiated products. The characteristics of grocery stores and gasoline stations may not be as standardized as they seem. Grocery stores and gasoline stations can vary in terms of the quality of customer service, the various brand names offered, and particularly location.

b. For either of the two reasons in part a, grocery and gasoline firms may possess some degree of market power, and so face demand curves that are not perfectly elastic (i.e. horizontal).


c. Because entry and exit in grocery and gasoline markets is typically unrestricted, we would expect firms in these markets to earn zero economic profit in the long run. As you will see in the next chapter, this outcome is predicted for monopolistically competitive markets in long-run equilibrium.

11. The statement is correct in the sense that the Brazilian division should be shut down if losses

exceed TFC. If management mistakenly continues to operate the Brazilian division if and when price falls below AVC, then more than TFC could be lost.

12. a. AVC = 125 – 0.21Q + 0.0007Q2

b. Qm = –b/2c = –(–0.21)/(2)(0.0007) = 150.00 AVCmin = 125 – 0.21(150) + 0.0007(150)2 = $109.25

c. Since P = $115 > $109.25 = AVCmin, the firm should produce. d. Setting P = MC, 115 = 125 – 0.42Q + 0.0021Q2 ! 0.0021Q2 – 0.42Q + 10 = 0

Q1, Q2 = (0.42 ± 0.09240 )/(2 × 0.0021)

Q1 = 0.116/0.0042 = 27.62 ≈ 28 Q2 = 0.724/0.0042 = 172.38 ≈ 172 AVC172 = 125 – 0.21(172) + .0007(172)2 = $109.59; P > AVC so produce AVC28 = 125 – 0.21(28) + 0.0007(28)2 = $119.67; P < AVC so would not produce Q = 28.

e. TR = PQ = (115)(172) = $19,780

TVC = 172 ⋅ AVC172 = 172 ⋅ 109.59 = $18,849.48 TC = TVC + TFC = $18,849 + 3,500 = $22,349 π = TR – TC = –$2,569

f. No, fixed costs do not matter. Note that when fixed costs are $4,000, the firm loses

$3,069 ($500 more than when TFC = $3,500). Since neither P nor AVC changed, P is still greater than AVC and the firm should produce 172 units where P still equals MC.

Answers to Homework Exercises in Student Workbook 1. a. 35

b. $10; $350 c. $70 d. 25 e. $200; $200; $0 f. 20 g. ATC = $9; TC = $180; TR = $120; ! = –60 h. TVC = $4 × 20 = $80; $40 left over to apply toward fixed costs. i. $2. When P < $2, TR does not cover variable costs and the firm will lose less by shutting

down.


2. See the table below. a. 2; 6 b. increases; $6

decreases; $200 c. 6; $2,746 (= $2 × 1,373) d. 5; 1,370; $548; greater e. falls; rises f. 5; P; SMC; MRP; w g. $1,700 h. 5; 1,370. Fixed costs do not matter in the output decision. No matter how high Ajax's

fixed costs, it will still be optimal to hire 5 units of labor and produce 1,370 units of output.

(1) (2) (3) (4) (5) (6) (7) (8) (9)

Units of Labor

Output

Marginal Product

Marginal Revenue Product

Average product

Average revenue product

Marginal Cost

Profit when TFC = $1,000

Profit when TFC = $5,000

0 0 xx xx xx xx xx –1,000 –5,000

1 400 400 800 400 800 0.02 –208 –4,208

2 950 550 1,100 475 950 0.01 884 –3,116

3 1,250 300 600 416.67 833.33 0.03 1,476 –2,524

4 1,350 100 200 337.50 675 0.08 1,668 –2,332

5 1,370 20 40 274 548 0.40 1,700 –2,300

6 1,373 3 6 228.83 457.67 2.67 1,698 –2,302

7 1,369 –4 –8 195.57 391.14 xx 1,682 –2,318

8 1,364 –5 –10 170.50 341.00 xx 1,664 –2,336

3. a. 400

b. 12 c. 2

20 0.08 0.00015SMC Q Q= ! + d. 575 e. 4,789 f. 0; –1,200

4. a. $20 (the long-run supply price at Q = 20,000) b. $20, $0 c. 40,000;$30 d. $30; $30

e. True. Firms employing superior resources must pay these resources economic rent, which is a cost to the firm and which reduces “after-rent” economic profit to zero.

f. $400,000 (area of triangle under price above supply up to 40,000 units) g. The owners of the superior resources will receive the rents created by using these

superior resources in this industry.

Chapter 12: Managerial Decisions for Firms with Market Power 49

Chapter 12: MANAGERIAL DECISIONS FOR FIRMS WITH MARKET POWER

Answers to Applied Problems 1. a. A monopolist, although the only supplier in the market, still faces the constraint of

market demand. Suppose that a monopolist is suffering losses even though it is charging the price associated with the level of output at which MR = SMC. If the firm raises price, even larger losses will be incurred. A monopoly market structure is no guarantee that a firm can earn economic profits.

b. Market power could be measured by estimating the elasticity of demand. The less elastic

is demand, the greater the market power. It would also be useful to estimate the cross-price elasticity of demand of QuadPlex Cinema with the Cedar Bluff Twin. The larger the (positive) cross price elasticity, the more substitutable the two theaters and the smaller the degree of market power.

c. If there are economies of scale, QuadPlex could increase its scale of operation.

QuadPlex might lobby the local government for ordinances which prevent any new theaters from opening. QuadPlex should also try advertising as a means of creating brand loyalty. If all fails it might go out of business in the long run.

2.

Q

MR

SMC

0

xx

xx

1,000

1.50

0.10

2,000

1.00

0.10

3,000

0.50

0.16

4,000

0.25

0.16

∗

5,000

0.20

0.18

6,000

0.175

0.19

7,000

0.10

0.20

8,000

–0.10

0.22

9,000

–0.15

0.24

a. 5,000 newspapers per day

b. π = TR – TC = $3,450 – $2,700 = $750 per day

c. see figure below


d. TFC = $2,000. When TFC = 5,000, Q* = 5,000 in the short run because changes in TFC do not affect Q*. In the long run, the owners should see if any other plant size exists for which P > ATC. If not, they should exit the industry.

0 Quantity

1.50

2,000

MR

Marg

inal R

even

ue a

nd M

arg

inal C

ost (dolla

rs)

MC

1.40

1.30

1.20

1.00

.90

.80

.70

.60

.50

.40

.30

.20

.10

-.10

-.20

4,000 6,000 8,000

3. Tots-R-US should begin advertising immediately in order to enhance brand loyalty which will

decrease elasticity of demand. Also the less elastic is demand, the greater the fall in price that results when new firms enter. To the extent that potential entrants consider post-entry price, they will be less likely to enter the more inelastic is demand.

4. One piece of evidence to support your firm's contention that the merger did not increase market

power would be showing that your firm's elasticity of demand either was unchanged by the merger, or even got larger. By measuring own-price elasticity (E) before and after the merger, you may be able to convince the FTC that consumers still have ample substitutes for your product post merger. You may also wish to show that (post merger) there are "enough" other products that are close substitutes to ensure a competitive market. This would involve presenting the FTC with evidence of large, positive cross-price elasticities.


5. Significant economies of scale could force your bank out of business if your bank is a small-

scale bank and a large-scale bank, facing lower long-run average costs, lowers price (i.e., lowers interest rates changed on loans and/or increases interest rates paid on deposits) below your bank’s average cost (but greater than or equal to the large bank's LAC). If the demand for banking services in your geographic market is not sufficient to allow your bank to expand its scale of operation in order to take advantage of the economies of scale, then your bank would exit in the long run.

6. Possibly as a barrier to the entry of other firms into Harley-Davidson=s segment of the

motorcycle market. Also the name and the engine roar increase the brand loyalty of the firm=s customers.

7. A monopolistically competitive firm will maximize profit by producing the level of output at

which MR = MC, and by charging the price associated with that level of output. At the profit-maximizing level of advertising, the MR from advertising equals the MC of advertising. In order to implement these optimizing rules, the firm needs estimates of cost and demand. Estimating cost is fairly straightforward—information on average cost can be used to estimate marginal cost. The primary problem lies in estimating MR. Because each firm produces a product that is a close substitute for the products of rival firms, each firm's demand depends not only on its price and advertising decisions, but also on the price and advertising choices of rival firms. And there are many rival firms. MR is thus difficult to estimate because any one firm's MR depends on the actions of a large number of other firms.

8. In the absence of entry barriers, collusion among monopolistically competitive firms will not

prevent new firms from entering causing demand to decrease and become more elastic. The price will be the same or higher with collusion but in the long run P = LAC.

9. a. Q = 112,000 – 500P + 5M = 112,000 – 500P + 5(20,000) = 212,000 – 500P; P = 424 –

0.002Q; MR = 424 – 0.004Q ; SMC = 200 – 0.024Q + 0.000006Q2;

Set SMC = MR: 200 – 0.024Q + 0.000006Q2 = 424 – 0.004Q;

Solve: 0.000006Q2 – 0.02Q – 224 = 0, for Q* to find that

* 0.02 0.0057768,000

0.000012Q

+= =

b. P* = 424 – 0.002(8,000) = $408

c. TR = $408(8,000) = $3,264,000:

AVC = 200 –0.012(8,000) + 0.000002(8,000)2 = $232;

TVC = $232(8,000) = $1,856,000; π = TR – TVC – TFC = $3,264,000 – $1,856,000 – $100,000 = $1,308,000

d. Q = 112,000 – 500P + 5(30,000) = 262,000 – 500P;

P = 524 – 0.002Q; MR = 524 – 0.004Q; MC = MR:

200 – 0.024Q + 0.000006Q2 = 524 – 0.004Q and solve 0.000006Q2 – 0.02Q – 324 = 0 for

* 0.02 0.0081769, 202

0.000012Q

+= = P* = 524 – 0.002(9,202) = $506.


AVC = 200 – 0.012(9,202) + 0.000002(9,202)2 = $258.93.

TR = $506(9,202) = $4,656,212; TVC = $258.93(9,202) = $2,382,675; π = TR –TVC – TFC = $4,656,212 – $2,382,674 – $100,000 = $2,173,538.

10. a. P = 2,400 – 5Q

b. MR = 2,400 – 10Q

c. Must set MR = SMC. SMC = 6Q2 – 30Q + 400

2,400 – 10Q = 6Q2 – 30Q + 400 → 6Q2 – 20Q – 2,000 = 0

Q* = 20

d. P* = 2,400 – 5(20) = $2,300

e. π = TR – TVC – TFC

= (2,300)(20) – (900)(20) – 8,000

= 46,000 – 18,000 – 8,000

= $20,000

11. a. The firm is not maximizing profit. At the current allocation between the two factories, the last unit produced in Michigan added more to total cost ($5) than the last unit produced in Texas ($3). By switching one unit of output from the Michigan factory to Texas, total revenue will be unchanged, total cost will decrease $2, and thus profit will increase $2. The firm should continue to switch output from Michigan to Texas until the factories' marginal costs are equal.

b. By switching one unit of output from the Texas factory to Michigan, total revenue will be

unchanged, total cost will increase $2, and thus profit will decrease $2. Answers to Homework Exercises in Student Workbook 1. a. 700 units

b. P = $11 c. ! = ($11 – 7)700 = $2,800 d. 600 units; P = $12; ! = ($12 – 4)600 = $4,800


2. a. Your table should look like this:

(1)

Labor

(2)

Quantity

(3)

Price

Marginal Product

Marginal Revenue

Marginal Revenue Product

4 200 $50 -- -- --

5 280 48 80 $43 $3,440

6 340 46 60 36.67 2,200

7 390 44 50 30.40 1,520

8 430 42 40 22.50 900

9 450 40 20 –3 –60

10 460 38 10 –52 –520

b. Cascade should shut down when w = $3,000 per month. You should have compared ARP

to MRP at L = 5. ARP = P × AP = 48 × 56 = $2,688, which is less than $3,440 (= MRP at L = 5). You could also see to shut down by computing profit. Since Cascade would lose more by producing 280 units than it would lose if it shut down, the manager should shut down.

c. i. L* = 7

ii. Q* = 390

iii. P* = 44

iv. ! = $17,160 – ($1,400 × 7) – $2,000 = $5,360

3. a. Q = 26,000 – 0.2P

b. P = 130,000 – 5Q

c. MR = 130,000 – 10Q

d. SMC = 40,000 – 400Q + 3Q2

e. Q* = 250

f. P* = 130,000 – 5(250) = $128,750

g. π = TR – TVC – TFC = ($128,750 × 250) – ($52,500 × 250) – 15,000,000 = $4,062,500

4. a. See the figure below

b. 700; $50; $50 c. 200; 500 d. $80


$

Q

60

80

40

0

Pric

e, m

arg

inal r

e ven

ue, and

cos t (dol la

rs)

Quantity

1,2001,000800600400200

20

MR

D

MCB

MCA

MCT

50

700500

Chapter 13: Strategic Decision Making in Oligopoly Markets 55

Chapter 13: STRATEGIC DECISION MAKING IN OLIGOPOLY MARKETS

Answers to Applied Problems 1. McDonald’s major rivals responded with price cuts of their own. The WSJ reported that Burger

King responded by selling its “flagship” Whopper, with no strings attached, for 99 cents, $1 off regular price. Wendy’s responded with their own promotion. Each of the firms was caught in a pricing version of the prisoners’ dilemma.

2. Politicians who are seeking office appear to be caught in a prisoner’s dilemma. Even a politician

who wants to campaign positively would strongly reduce the probability of election by not campaigning negatively while his or her opponent did. An election is not quite a repeated game, so even if they were able to reach an agreement, there is a great incentive for the candidate running behind late in the campaign to cheat on the agreement.

3. While all of these firms compete in the same market, personal-computers, Dell’s profits are more

interdependent with profits of HP and Gateway than with the profit of Apple because consumers can more easily switch from a Dell computer to another computer using Intel chips and the Windows operating system. Since PC buyers are much less likely to view Apple computers as substitutes for Dell computers, the cross-price elasticity will be smaller between Dell and Apple than between either Dell and HP or Dell and Gateway. The smaller the (positive) cross-price elasticity between Dell and its rival Apple, the less interdependent their profits will be and the less strategically important Apple will be for making all types of decisions at Dell.

4. The retailers were in a prisoner’s dilemma. They all wanted to close on Sunday to save money

with little loss of sales. But if one or a few closed, they would lose a great deal of sales to the firms that were open. The government would enforce cooperation with Sunday closing laws.

5. By binding oneself to take an action that would otherwise not be in your best interest, you can

alter your rivals’ beliefs about your response to their actions. By irreversibly committing yourself to an action, you may be able to manipulate your rivals in a way that provides you with a better outcome.

6. Although the evidence is not conclusive as to which type of market is most conducive to

innovation, more research and development (R&D) may occur in oligopoly markets due to mutual interdependence. Each oligopolist knows that an innovation by a rival is likely to decrease the firm's market share. Hence, oligopolists may engage in "defensive" innovation. Moreover, oligopolists are more likely to be large enough to support the extensive facilities often necessary for successful R&D.

7. If Gore can make a better decision for himself by knowing who Bush will choose to be his running mate, then Gore experiences a second-mover advantage.

8. Crandall’s brass-knuckle style could be of strategic value if it gives Crandall a reputation for being a “tough guy” who will seldom, if ever, back down on his threats or promises. Crandall’s tough-guy image probably made it easier for him to make credible strategic moves, which would be advantageous to American Airlines in its pricing decisions, wage negotiations, and entry deterrence efforts.


9. Apparently Mr. Rodriquez believes OPEC members are more willing to lower prices together than to raise prices together. The theory of cartels suggests he may be right. Suppose the price of crude oil is higher than the level that maximizes profit. Mr. Rodriquez knows that if members resist an explicit policy of lowering crude oil prices, he can probably count on members to cheat by increasing their production levels above their quotas. This will cause price to come down. If instead, prices are too low, members will not cheat by reducing their production levels. Higher prices can be achieved only through cooperation, while lower prices can be reached through cheating.

10. If you believe there is no tomorrow, you may feel that there can be no future penalty for actions you take today. Whether this is true or not may be a moral issue, but it nonetheless may explain why “bad” behavior seems rational for those who truly believe there will be no consequences in the future for actions taken today. Perhaps it is best to view life as a repeated game, one lasting forever.

11. Mercedes USA, by asking all of its dealers to charge the same prices, appears to be dangerously close to engaging in illegal price fixing. Perhaps the New Jersey dealer refused to follow the no-haggling pricing policy because he thought it would reduce his profits to charge the same price as his rivals. He might have believed he could best compete in price (low prices) rather than in other nonprice dimensions (customer service, dealer financing, etc.). Maybe he wanted to be able to secretly price low while his rivals priced high. Of course, such cheating makes all dealers worse off than if they cooperated. Maybe he was not strategically astute. In the New York Times article, he was quoted as saying, “I was told that if customers shop the dealers and find that prices are the same, they’ll just buy the car at the higher price and every one will make more money.” It’s hard to know for sure why he didn’t want to cooperate. Maybe he was honestly concerned about illegal price fixing!

12. Price matching makes cooperation to set high prices easier to achieve, which is bad news for consumers.

13. a. Initially, when the program goes into effect, some buyers who were postponing a planned purchase will buy in the current period, seeming to increase demand. After these buyers have made their purchases, demand should return to approximately the same level as before the plan started, as long as no other demand-side factors have changed.

b. This program is a sale-price guarantee, and, as such, could be a tactic for facilitating cooperative pricing in the oligopolistic retail electronics market. By increasing the cost of price-cutting, this firm has an incentive to keep prices constant. Unless the other electronics market rivals implement similar policies, this firm will be at a disadvantage when it comes to lowering price to attract customers. If the primary reason for the sale-price guarantee is to discourage price-cutting behavior, then this company will see little reason for such a program (at least after the demand increase dissipates in 30 days) and will likely drop its program.

14. a. By delaying the implementation, Advanta may be trying to protect itself should its rival credit-card companies choose not to follow its initiative to raise fees. Furthermore, by just announcing its “intentions” (i.e., signaling its desire to raise fees), Advanta does not actually raise its fees on any customers, thereby avoiding a potentially unilateral price hike that could cost it substantial market share as customers switch to rival cards with lower fees. Apparently, Advanta believes any loss of profit by waiting to implement higher fees is justified by potentially higher losses from being the first, and only, firm to raise fees.


b. No, there is no second-mover advantage here because this is not a one-time decision. If Advanta, or any of the oligopoly credit-card companies, raises its fees first, the decision to raise fees can be reversed – perhaps at a cost of lost goodwill or market share—if other firms do not follow the fee increase. Thus there can be no second-mover advantage in this repeated decision situation. The oligopoly rivals are probably waiting to raise fees because customers most likely will react negatively to higher fees and punish any one firm that raises fees by switching to rival credit cards. If they all raise fees, customers have little or no incentive to switch card companies.

c. Yes, Advanta might wish to show other credit card companies that it is a bold firm capable of quickly and accurately detecting pricing moves that can increase everyone’s profits. If successful, Advanta may be able to lead prices up or down in a cooperative fashion, and all credit card companies could earn higher profits.

15. a. For cell B (C), any pair of values with America’s payoff less (greater) than 1,000 and Britain’s payoff greater (less) than 1,000 will work. For example: in cell B, $600, $1500 and in cell C, $1500, $600 will create a prisoners’ dilemma.

b. Since the decision on antiterrorism spending will be a repeated decision, nations may end up in a kind of “antiterrorism arms race.” Each nation has an incentive to behave noncooperatively by increasing its spending above that of its “allies,” as in cells B or C. Allies then respond by matching any other nation’s increases because no nation wants to be perceived by terrorists as the “easier” target for terrorism. So, nations end up in something like a price war. And, as the table shows, $100 per capita is optimal, so that the equiproportionate ramping up of antiterrorism spending across nations causes net benefits to fall.

16. a. If PV = $200, then Golden Inn faces the following demand-related functions:

Demand: 5,000 25 10(200) 7,000 25G G GQ P P= ! + = ! Inverse Demand: 1( ) 7,000 25 ( ) 280 0.04G G G G G GQ f P P P f Q Q!

= = ! " = = ! Marginal Revenue: 280 0.08G GMR Q= ! The profit-maximizing price for Golden Inn is found by setting MR = LMC to get *

GQ : *

*

280 0.08 50 2,875, and so

$165 280 0.04(2,875)

G G

G

Q Q

P

! = " =

= = !

To verify that $165 can be obtained from one of the best-response curves provided in the question, you use the best-response curve for Golden Inn:

(200) 125 0.2(200) $165G GP BR= = + =

b. To find Nash equilibrium, you must find the intersection of the two best-response curves:

125 0.2[125 0.3125 ]

125 25 0.0625

(1 0.0625) 150

$160

Then, (160) 125 0.3125(160)

$175

N N

G G

N

G

N

G

N

G

N

V V

P P

P

P

P

P BR

= + +

= + +

! =

=

= = +

=


To get the Nash quantities, and N N

G VQ Q : 5,000 25(160) 10(175) 2,750

4,200 24(175) 15(160) 2,400

N

G

N

V

Q

Q

= ! + =

= ! + =

To find the profits: ( ) (160 50)2,750 $302,500

( ) (175 75)2,400 $240,000

N N N

G G G G

N N N

V V V V

P LAC Q

P LAC Q

!

!

= " = " =

= " = " =

c. For prices PG = $165 and PV = $180, profits are:

!G

o= (165" 50)[5,000 " 25(165)+10(180)]

= $307,625

!V

o= (180 " 75)[4,200 " 24(180)+15(165)]

= $247,275

Comparing these profits to profits in Nash equilibrium: $302,500 $307,625

$240,000 $247,275

N o

G G

N o

V V

! !

! !

= < =

= < =

Even though the pair of prices PG = $165 and PV = $180 creates higher profit for both firms, noncooperative oligopolists do not expect the other to set price at these levels because each one can unilaterally choose a different price and do better. For example, suppose Golden Inn believes Village Diner will set its price at $180. Golden can set its price at $161 [= 125 + 0.2(180)] and earn more profit than $307,625:

!

G

oo= $308,025 = (161" 50)[5,000 " 25(161)+10(180)] > !

G

o Similarly, if Village Diner believes Golden Inn will price at $165, Village Diner can unilaterally price below $180 and increase its profit. Both know the other firm can unilaterally decrease price to increase profit, so neither would believe the other would set price to support the pair of prices PG = $165 and PV = $180.

17. a. If Whirlpool enters the market, Maytag’s best-response is to price at $1,000. Maytag’s

threat is not credible, so Whirlpool ignores it and enters the market. At a price of $1,000, Whirlpool would make $17 million by entering the market. (Note: If Maytag could find a way to make an irreversible decision to price low at $500, which would be a strategic commitment to price low, then entry would indeed be blocked.)

b. If Maytag invests in extra production capacity, its best-response to entry by Whirlpool is

to price at $500, which discourages Whirlpool from entering since Whirlpool would lose $6 million by entering when price is $500. In order for the threat to be credible, investment in capacity must be sunk so that Maytag cannot reverse the decision. If the capacity expansion could be reversed, then Maytag could sell the extra capacity if Maytag did enter, and then its best-response would be to price at $1,000 and earn $17 million. Once again, constraining oneself to do something that would not otherwise be a best-response is the key to making a successful strategic move.


c. The diagram below shows the Nash equilibrium path that leads to Maytag earning $24 million and Whirlpool earning $0 because it does not enter the market.

Answers to Mathematical Exercises 1. Set P = c and solve for Qc to get Qc = (c – a)/b. Set MR = c to get Qm

2

2m

c aMR a bQ c Q

b

!= + = " =

Since c < a:

c Duopoly mQ Q Q> >

And, substituting Qc, Qm, and QDuopoly into the inverse demand function provides the following results:

2

2 3c m Duopoly

a c a cP c P P

+ += = =

Using the restriction c < a, it is straightforward to show that

c Duopoly mP P P< <


2. a. 1

( ) 15002

J J S Sq BR q q= = !

1

( ) 15002

S J Jsq BR q q= !=

Note: For graphing purposes, the inverse best-response function is employed for Jones:

1( ) 3000 2

J Js Jq BR q q!

= !=

b.

1 1: ( ) 3000 2J S J J JBR q BR q q! != = !

N

Jq

Sq

3000

3000

1000

1000

1500

1500

1( ) 1500

2S J Jsq BR q q= !=

c. BRS(500) = 1,250 BRS(750) = 1,125

d. 1000N N

S Jq q= = Each firm earns $2,000,000 per year.

e. Each earn $2,250,000 per year. This is not strategically stable. f. Qm = 1,500; Pm = $4,000. The monopolist earns $4,500,000 [= (4,000 – 1,000)1,500]

annually. g. If the market is perfectly competitive, P = LMC = c and 3,000 patients are treated

annually. Economic profit is zero since P = LAC. 3. a. ( ) 13.5 0.188

A A B BP BR P P= = +

( ) 31.5 0.125B B A AP BR P P= = +


b. See figure below. Note that the inverse of ( )B A

BR P , 1( ) 252 8

B B BBR P P

!

= ! + , is shown in the figure below:

N

BP

AP

( ) 13.5 0.188A A B BP BR P P= = +

1( ) 252 8

B B BBR P P

!

= ! +

19.87

31.5 33.98

13.5

c. (20) $17.25

ABR =

(36) $36B

BR = d. $19.87

N

AP =

$33.98N

BP =

e. (19.87 2)71.48 $1, 277A

! = " = (33.98 3)61.97 $1,920

B! = " =

f. (22 2)64.5 $1, 290A

! = " = (35 3)61 $1,952

B! = " =

Answers to Homework Exercises in Student Workbook 1. a. low price

b. it has no dominant strategy c. high price d. it has no dominated strategy e. A f. is not g. is not; If St. Pete Times believes Tampa Tribune is going to price high, St. Pete Times

could unilaterally lower price to $0.50 and increase its payoff form $40,000 to $45,000.

2. a. first-mover advantage; Since St. Pete Times has a higher payoff when it goes first ($40,000 > $30,000), it does better going first.

b. second-mover advantage; Tampa Tribune does better going second. c. In this situation, there would likely be tacit cooperation to let St. Pete Times go first and

then Tampa Tribune second since that sequence is best for both newspapers. 3. a. cooperate; $1.474 million; $3.831 million

b. cooperate; $0.9828 million; $5.7456 million


Chapter 14: Advanced Pricing Techniques 63

Chapter 14: ADVANCED PRICING TECHNIQUES

Answers to Applied Problems 1. STIHL may be practicing second-degree price discrimination by offering different qualities at

different prices, where the price-to-marginal cost ratios differ across quality lines. STIHL knows that most buyers are only going to buy one chain saw, so quantity discounts are not useful. By letting consumers choose the level of quality they prefer, STIHL can sort buyers accorging to their valuations or willingness to pay, so this may be a second-degree form of price discrimination that uses multiple quality categories to achieve self-selection. “Occasional use” saws are priced lower than “mid-range,” and “mid-range” lower than “professional,” which are probably slightly lower in price than the top of the line “arborist” quality line. STIHL cannot identify the type of buyer by looking at them. But, unless we know that the price/marginal cost ratio differs across quality lines, we cannot conclude that price differences are second-degree price discrimination; the higher quality lines are presumably more costly to manufacture.

2. Low income people may benefit from price discrimination, because they are likely to be more

price sensitive buyers and thus be on the receiving end of lower prices. Price discrimination may make it profitable to serve “poorer” market segments that would go unserved or underserved if the firm had to rely only on uniform pricing. One might interpret price discrimination as taking consumer surplus from “rich” buyers, who are not very price sensitive, and giving consumer surplus to “poor” buyers, who are quite price sensitive.

3. Before airlines began requiring photo IDs, there was an active market in newspapers for cheap

airline tickets. If you wanted to fly to New York unexpectedly, you would not likely qualify for supersaver airfares. However, you might find a ticket in the newspaper being resold for a price much lower than the airline’s price, because airfares tend to rise sharply at the departure date and time draws nearer. Airlines could kill this market for “cheap” tickets by requiring that the name on the ticket match the name on the photo ID.

4. Firms must have market power to practice any one of the forms of price discrimination. Since

global competition reduces market power, firms facing global competition will find it more difficult to raise prices much above marginal cost. This reduces the benefit of undertaking price discrimination methods, making uniform pricing attractive.

5. If the number of blocks equals the number of units where P = MC, then all consumer surplus is

extracted and declining block pricing results in the same profit as first-degree (or perfect) price discrimination. When multiple units are sold for the same price within pricing blocks, uniform pricing is essentially being practiced in each declining block. Thus, declining block pricing is a “crude” form of perfect price discrimination because the firm extracts some, but not all, of the buyers’ consumer surplus. An important difference between perfect price discrimination and declining block pricing is that the former requires the firm to haggle over price for every unit sold, while the latter completely avoids all haggling by offering the same price schedule to every buyer. The firm requires much less information about consumer demand in order to implement declining block pricing compared with perfect or precise demand information needed to practice first-degree price discrimination.

6. a. MR

T= MC !Q

T

*

= 40

b. QT= 40! MR

T= MC = $0.60


MR

S= $0.60!Q

S= 10

MRB= $0.60!Q

B= 30

c. From their respective demand curves, PS = $0.70 and PB = $0.90.

$

Q

120

0.60

1.20

0.80

0.40

0

Pric

e and c

ost (dolla

r s)

Quantity (thousands of units)

8070 110605040302010

0.20

MC

MRT

1.00

10090

0.70

0.90

DB

DSMRB

MRS

7. a.

P

C= $60 = (1+ 2) ! 20 and

P

S= $90 = (1+ 2) ! 30

b. ! = $260,000 = $60(3,750) + $90(2,000) " $20(3,750) " $30(2,000) " $10,000

c. Using the procedure set forth in footnote 9 in the textbook:

MRC= 136 ! 0.032Q

C! 0.016Q

S

MRS= 168 ! 0.016Q

C! 0.048Q

S

d. MR

C= 136 ! 0.032Q

C! 0.016Q

S= 20

MR

S= 168 ! 0.016Q

C! 0.048Q

S= $30

Solve the two equations simultaneously to get Q

C

*= 2,625 and

Q

S

*= 2,000

e. Substituting the above quantities into the inverse demand functions provides the profit-

maximizing prices:

P

C

*= $78 = 136 ! 0.016(2,625) ! 0.008(2,000)

P

S

*= $99 = 168 ! 0.008(2,625) ! 0.024(2,000)


f. Using Andrews Consulting firm’s profit-maximizing prices, EZ Sharp can earn monthly profit of $280,250, which is better than $260,000 with cost-plus pricing. The extra $246,000 of annual profit is likely to increase the present value of the firm by at least several million dollars. The owner/manager might want to think about how much profit he sacrificed over the years using the cost-plus pricing technique.

8. Price discrimination could explain price differentials not based on cost differences. Hardcover

books sell for more than paperbacks, implying that the purchasers of hardcover books are relatively less responsive to price changes (have a less elastic demand) than the purchasers of paperbacks.

9. The fee differences could indicate price discrimination by the dating service. If men tend to have

a less elastic demand for dating services than women, the firm can increase total revenue (and profit) by charging men a higher price than women.

10. a. First find the marginal revenues:

MRG = 15.625 − 0.0078125QG MRB = 150 − 0.5QB Then express marginal revenues as functions of the number of hours of the production facility devoted to the two goods: MRG = 15.625 − 0.0078125(4HG)

= 15.625 − 0.031250HG MRB = 150 − 0.5(4HB)

= 15 − 2HB Then compute marginal revenue products: MRPG = MRG × MPG = MRG × 4

= 62.5 − 0.125HG MRPB = MRB × MPB = MRB × 4

= 600 − 8HG Next, horizontally sum MRPG and MRPB to get MRPT MRPT = 70.76923 − 0.12307692HT Set MRPT = MC and solve for the optimal level of HT: 70.76923 − 0.12307692HT = 5 − 0.05HT H*T = 380

b. Allocate so that MRPC = MRPB = MRPT.

MRPT at HT = 380 is 70.76923 − 0.12307692(380) = 24

Setting MRPG = 24 and MRPB = 24: 24 = 62.5 − 0.125HG H*G = 308 24 = 600 − 8HB H*B = 72


c. Q*G = 4H*G = 1,232 Q*B = 4H*B = 288

d. P*G = 15.625 − 0.00390625(1.232) = $10.81

P*B = 150 − 0.25(288) = $78 11. a. Business travelers tend to pay the higher price because they qualify for discounts less

frequently than do leisure travelers.

b. Business travelers have fewer substitutes for air travel than do leisure travelers. Business travelers must reach destinations in a timely fashion. Driving or taking the bus is not a good substitute for flying in many cases. Leisure travelers, on the other hand, do find driving and taking the bus to be substitutes for air travel in many cases. Business travelers are also less sensitive to price because the company is paying for the ticket. For leisure travelers the price of air fare is a significant fraction of their budgets. Thus the more elastic market (Leisure travelers) is paying the lower price. This is consistent with profit-maximizing which requires charging the higher price to the less elastic market.

c. (1) Business people must often travel on short notice, leisure travelers usually can

plan 14 days in advance. (2) Business travelers often wish to return to families for the weekend. Leisure

travelers usually wish to stay over weekends. (3) Business travelers often must travel at peak times during the day. Leisure travel

allows for more flexibility in departure times. d. In each of the above cases the leisure traveler qualifies more often for discounts and thus

pays lower price. Since lower P is charged in the more elastic market, this pricing scheme is consistent with π-max.

12. a. If the shirts are truly the same (only the size differs), then costs are the same and the laundry is practicing price discrimination.

b. A price-discriminating firm maximizes profits by charging the lower price to the more

elastic group of buyers and the higher price to the less elastic group. Women would seem to have the more elastic demand, for at least a couple reasons: (1) Compared to men, women can more easily substitute home laundering and

ironing for professional laundry service. Thus women have a readily available (and close) substitute for professional laundering.

(2) Compared to the average man, women have lower incomes on average, so the fraction of women's income spent on laundering clothes is higher than for men. This too would suggest |Ewomen| > |Emen|.

After discussing this issue with our wives, we cannot find any reasons why men would have a more elastic demand for professional laundering than men. Consequently, as economists, we conclude that the price difference must be due to cost differences, since profit-maximization requires men (with less elastic demand) to pay the higher price and women (with the more elastic demand).

c. Abby's advice to bundle all shirts together is a clever way to make it difficult (and costly)

for a laundry to separate markets. While women's blouses often have some differences (buttons are on the opposite side of a blouse), it will be costly, perhaps too costly, for


laundries to profitably separate markets for the purpose of price discrimination. Some women are now buying small sized men's shirts for themselves to avoid price discrimination.

13. a. The bar is not maximizing profit. At the current prices, the last male customer added

more to total revenue ($1.50) than the last female customer ($.50). By selling more drinks to male customers and fewer drinks to female customers, the bar can increase total revenue and profit. The bar thus should lower price (to sell more drinks) to male customers, and raise price (to sell fewer drinks) to female customers. Only when marginal revenue is equal for both male and female patrons will profit be maximized.

b. By selling one more drink to make customers and one less drink to female customers,

total cost will be unchanged, total revenue will increase $1, and thus profit will increase $1.

Answers to Homework Exercises in Student Workbook 1. To answer this question, the marginal revenue curve for uniform pricing must be constructed

(MR) and the three block pricing schedule is also useful to construct. See the figure below:

a. $55; 100 cleanings per year; π = $62,500 [= (($55 – $30) × 100) × 25]; $1,250 (= .5 × 100 × $25) consumer surplus for each business

b. $11,000 (= 200 × ($80 + $30

2)); 200 cleanings per year; $125,000 (= $5,000 × 25); $0


c. Total expenditure: TE(q) = $0 + $60q for q ! 80 (Block 1)

= $4,800 + $40(q " 80) for q ! 160 (Block 2)

= $8,000 + $20(q " 160) for q ! 240 (Block 3)

160 cleanings per year; TE(160) = $8,000; $80,000 = [(8,000 – (160 × $30)) × 25]; $1,600 (= .5 × 80 × $20 + .5 × 80 × $20)

2. a. P = 1200 ! 2Q

b. MR = 1200 ! 4Q

c. At the price of $350, quantity demanded is 425 (= 600 – 0.5P).

d. AVC = $240; AFC = $90 (= $36,000/400); ATC = $330 (= AVC + AFC); profit = $8,000 = (350 – 330)400

e. m = 0.75; P = (1 + .75)330 = $577.50

f. If she could really service 400 patients at $577.50, then her profit would turn out to be $99,000 per month [= (577.50 – 240)400 – 36,000]. However, only about 311 (= 600 – 0.5 × 577.50) patients will demand her services at the price of $577.50. So, her actual profit is about $68,962.50 [= (577.50 – 240)311 – 36,000], which is less than the amount she expected to make if she could have sold her service to 400 patients at a price of $577.50.

g. MR = SMC ⇒ 1200 – 4Q = 240 ⇒ Q* = 240 patients per month ⇒ P* = $720 (= 1200 – 2 × 240); maximum profit = $79,200 = (720 – 240)240 – 36,000.

h. Since cost-plus pricing does not use any demand information, there was no reason for Dr. Rogers to believe 400 patients would demand her services at the cost-plus price of $577.50.

3. a. PUS = 80 − 0.001QUS PE = 60 −0.0015QE

MRUS = 80 − 0.002QUS MRE = 60 −0.003QE b. MRT = 72 − 0.0012QT c. 35,000 d. 25,000; 10,000 e. $55; $45 f. lower; EUS = −2.20; EE = −3.00

Chapter 15: Decisions Under Risk and Uncertainty 69

Chapter 15: DECISIONS UNDER RISK AND UNCERTAINTY

Answers to Applied Problems 1. a. Maximax rule: operate plants in US, Mexico, Canada

b. Maximin rule: operate plants in US only

c. The potential regret matrix is

OINC Passes

OINC Fails

OINC Stalls US only

10 million

0

2 million

US and Mexico

5 million

3 million

2.5 million

US, Mexico, Canada

0

5 million

0

Maximum potential regrets are:

US only

10 million

US and Mexico

5 million

US, Mexico, Canada

5 million

Minimax regret rule: either operate in US and Mexico or operate in US, Mexico, and Canada.

d. Average payoffs are:

US only

11/3 = 3.7 million

US and Mexico

12.5/3 = 4.2 million

US, Mexico, Canada

18/3 = 6.0 million

Equal probability rule: operate in US, Mexico, and Canada.

2. Maximin rule 3. A portfolio manager needs to pick "winning portfolios" rather than individual stocks that are

"winners". The performance of a portfolio reflects interactions among stocks as well as the performance of individual stocks. For instance, the volatility of a portfolio is lower than the average of the volatilities of the individual stocks. A successful portfolio manager will choose a portfolio that either provides the highest possible return for an investor's desired level of risk or provides the lowest possible risk for an investor's desired level of return.


4. a. E(profit of option A) = 0.3(800,000) + 0.7(1,200,000) = 240,000 + 840,000 = 1,080,000 E(profit of option B) = 0.3(1,000,000) + 0.7(875,000) = 300,000 + 612,500 = 912,500

b. Option A

c. In order to be indifferent, the expect profits must be the same. Thus,

Pf (1,200,000) + (1 – Pf)(800,000) = Pf (875,000) + (1 – Pf)(1,000,000) where Pf = probability that the tariff fails, and 1 – Pf = probability that the tariff passes. Solving for Pf, we have: 400,000Pf + 800,000 = −125,000Pf + 1,000,000 525,000Pf = 200,000 Pf = 0.38 1 − Pf = 0.62

d. VarA = 0.7(1,200,000 − 1,080,000)2 + 0.3(800,000 − 1,080,000)2 = 33,600,000,000

σA = 183,303 VarB = .7(875,000 − 912,500)2 + .3(1,000,000 − 912,500)2 = 3,281,250,000 σB = 57,282

e. Cannot decide using mean-variance rule since option A has both higher expected profit

and higher risk than option B.

f. υA = 183,303/1,080,000 = 0.17 υB = 57,282/912,500 = 0.06 Based on the coefficient of variation rule, option B would be chosen.

5. a. Maximax rule ⇒ Option A

b. Maximin rule ⇒ Option B c. Minimax regret ⇒ Option A d. Equal probability criterion ⇒ Option A

6. a. E(Profit)US = $4.9 million

E(Profit)US,Mexico = $6.35 million E(Profit)US,Mexico,Canada = $9.4 million

b. Using the expected value rule, the firm should operate plants in the US, Mexico, and

Canada.


c. The standard deviations are, respectively, 4.25, 7.24, and 9.12. None of the three options dominates by mean-variance rules.

d. υUS = 0.87

υUS,M = 1.14 υUS,M,C = 0.97 Under the coefficient of variation rule, the firm should operate only in the US.

Answers to Homework Exercises in Student Workbook 1. maximax ⇒ 2.0 million units of output maximin ⇒ 1 million units of output minimax regret ⇒ 2.0 million units of output equal probability ⇒ 2.0 million units of output 2.

Output E(Β) !2 ! !

1 million units 146 2,480 50 0.34

1.5 million units 163 4,219 65 0.40

2.0 million units 288 37,969 195 0.68 3. 2.0 million units 4. Cannot apply mean variance analysis to this problem 5. 1 million units 6. 14,626; 16,250; 28,750 (in the three blanks); 2.0 million units; The utility function for profit is

linear, so the manager is risk neutral. In this case, the decision is the same whether the manager is maximizing E(Β) or E[U(Β)].


Chapter 16: Government Regulation of Business 73

Chapter 16: GOVERNMENT REGULATION OF BUSINESS

Answers to Applied Problems 1. While it is true that a different allocation of resources that makes everyone better off (i.e., a “win-

win” situation) clearly increases social welfare, “win-win” is a more restrictive condition for identifying welfare improving allocations of resources. All that is required to insure a welfare improvement is for no one to be made worse off (i.e., “no lose”) and at least one person is made better off. In other words, “no lose-win” is a less restrictive condition than “win-win” for identifying social welfare improving changes in resource allocation. This increases the size of the set of all possible welfare-improving changes.

2. A shortage definitely results in an underallocation of resources to an industry. However,

underallocation can happen without any shortage. For example, in a monopoly market there is no shortage –buyers can buy all they want at the price set by the monopolist – yet P > MC at the profit-maximizing output level. Many situations of market failure due to underallocation of resources do not cause shortages. Thus, a shortage is not a necessary condition for underallocation of resources.

3. Price ceilings set below the market-clearing price encourage buyers with low values – i.e.,

consumers who value units of the good at less than the market-clearing price– to enter the market and compete or the good with high-valued buyers. When a good is in short supply, it is usually rationed by waiting lines on a first-come, first-served basis. This queuing process in no way guarantees that the good will end up in the hands of the highest-valued users. Indeed, buyers with relatively low time values, will tend to be the ones willing to wait in lines to get the short-supplied goods. Obviously, such a rationing procedure is not likely to allocate goods systematically to the highest valued users. One way to overcome this allocation problem is to use rationing coupons that can be bought and sold legally. When property rights to coupons exist, a market for the coupons themselves will arise. Competition for coupons, in order to buy the tied-good, will bid up the price of the coupons until both the coupon market and the product market clear, even in the presence of a price ceiling in the product market. Of course, the effective price of the product, which is the ceiling price plus the coupon price, is then equal to the market-clearing price that buyers would have paid had there been no price ceiling in the first place. So why do you suppose anyone would want a price ceiling with ration coupons in the first place?

4. Anti-gouging laws are unlikely to be helpful to society. We provide the following editorial from

the Wall Street Journal (September 7, 2005, p. A 16): In Praise of “gouging”

In Praise of “Gouging” Copyright (c) 2005, Dow Jones & Company Inc. Reproduced with permission of copyright owner. Further reproduction or distribution is prohibited without permission. One test of leadership in a crisis is whether politicians keep cool enough to resist populist furies, especially when it comes to the inevitable economic fallout. Sadly, that's not what we're seeing in the current demagoguery over alleged oil-profiteering.

"Price gouging," says Missouri GOP Governor Matt Blunt, "is unconscionable and illegal . . . and should be rooted out and punished." In Georgia, Republican Governor Sonny Perdue has signed an emergency executive order imposing sanctions on service stations that raise their prices too much. In Illinois, Democratic Governor Rod Blagojevich has pledged to prosecute gas companies that profit from the price spike, as has Ernie Fletcher, his Republican counterpart in Kentucky.


Some 20 states, most of them in the south, already have anti-price- gouging laws on their books -- and many governors have declared emergencies to invoke them. These de facto price controls typically place ceilings of between 10% and 25% on how much companies can raise prices in the wake of a natural disaster. In almost all cases such laws are wrong-headed, because they exacerbate supply problems by short-circuiting the price system that matches supply with demand.

As infuriating as higher gas prices will be over the next weeks and perhaps months, there is one economic certainty here: If governments will not allow the price system to ration the demand for gas, a new "price" system will emerge called gas lines, which have already appeared in many locales.

Let's explain why prices have been rising. Katrina has knocked out about 90% of Gulf crude oil production and about 80% of natural gas output. That translates into about two million barrels a day that are not available to consumers, an 11% decrease in supply. This means that in the near term Americans are going to have to consume two million fewer barrels of gas every day, at least until the refineries are brought back on line and increased output and supplies from other nations arrive. The way the market achieves this reduction in consumption is through a higher price.

The argument is also made that energy companies are reaping windfall profits from the Katrina catastrophe. That is in one sense true -- the oil they've already extracted and refined is more valuable now, and we would be pleased to see some of these extra profits donated to the relief effort. But artificially holding down the price of gas makes a bad situation worse.

This is also why many of the nation's governors are misguided, even if well-intentioned, in their attempts to suspend state gas taxes. Given the high demand for gas and constricted supply, this gas tax cut will have one of two undesirable consequences. If the savings are somehow passed on to consumers at the pump, demand will be elevated, thus heightening the risk of gas lines and/or "sold out" signs at service stations. The alternative is that energy companies will keep the market-clearing pump price the same, and pocket the 10 to 20 cents a gallon reduction in the tax -- which would only increase their windfall. Either way, consumers won't benefit.

So are the gas sellers guilty of "profiteering?" Price gouging laws say companies can't charge significantly more than their "cost." But what matters for wholesalers and gas stations isn't what they paid for the last tanker of fuel but what they expect to pay for the next one. Economists call this the "replacement cost," and any gas station owner would soon be out of business if he charged $2 a gallon for gas that he knew would cost him $2.50 a gallon to replace. As these replacement costs soar, it is entirely appropriate for gas stations to raise prices on a daily, or even hourly, basis.

"If prices do not increase," explained the White House Council of Economic Advisers in a section on "unexpected shortages" its 2004 Report to the President, "consumers do not receive a signal to cut their consumption and suppliers might not have the proper incentives to increase supply adequately."

Anti-gouging laws also punish companies for building excess capacity and reserves in advance of a crisis like the one we're now having. One lesson of Katrina is that we should reward companies for stockpiling oil and gas for the times when it is most urgently needed. Price gouging laws give them no incentive to endure the costs of carrying this excess inventory.

We could fill these pages with all the ways government has undermined U.S. energy security and raised production costs. These include reformulated gas mandates, prohibitions on offshore and Alaska oil drilling, and environmental regulations and price controls that go a long way to explaining why not a single new oil refinery has been built in the U.S. since 1976. Not one -- in 29 years.


These are the longer-term causes of the post-Katrina price increases. And they are energy policy dysfunctions that Congress would do well to fix before the memory of this catastrophe fades. In the meantime we can only hope politicians don't make this crisis worse by engaging in profiteering of their own, at everyone else's expense.

5. The following figure shows the demand, marginal revenue, and constant cost conditions faced by

Mirk Labs for Zatab:

a. Mirk Labs sets the wholesale price at $40 per unit and sells 7 million units annually. It earns annual profit of $245 million [= ($40 –$5) × 7 million units].

b. Once this market becomes perfectly competitive, price will be bid down to LAC, $5. Point C in the figure shows the competitive outcome, 14 million units sold for $5 per unit. The annual consumer surplus at point C is $490 million [= 0.5 × $70 × 14 million]. The annual consumer surplus at point M is $122.5 million [= 0.5 × $35 × 7 million]. Thus the gain in consumer surplus is $367.5 million [= $490 million – 122.5 million].

c. Annual deadweight loss is the area of triangle bCM in the figure: $122.5 million [= 0.5 × $35 × 7 million]. Deadweight loss in this case represents the amount of consumer surplus lost because buyers do not get to consume the 7 million units from point b to C, each of which is more valuable to buyers than the marginal cost of producing the unit of the drug. There is no producer surplus lost on units sold for the constant cost of $5 per unit.


d. Even though the accumulated DWL over the 10-year period after the drug was developed is staggering ($4.9 billion in nominal dollars), these are the rewards to Mirk’s owners for risking $60 million in R&D to develop the drug. Without the prospect of a huge future profit, investors will not undertake expensive and risky R&D to develop new drugs. Note that at point M, consumers still enjoy annual consumer surplus of $122.5 million annually under monopoly.

Answers to Homework Exercises in Student Workbook 1. a. social; consumer; producer; economic; productive; allocative b. productive; total; minimized c. allocative; price 2. Refer to figure below:

a. $1; 10,000 b. $1 (= $2 – $1); $0.50 (= $1 – $0.50)

c. CS = $10,000 (= 0.5 × 10,000 × $2); PS = $5,000 (= 0.5 × 10,000 × $1); SS = $15,000 (= CS + PS = 0.5 × 10,000 × $3)

d. $1.80; 6,000 e. DWL = area MeC = $2,400 (= 0.5 × 4,000 × $1.20)

PART II: ADDITIONAL TEACHING AND LEARNING RESOURCES

Student’s Resource CD

Instructor’s Resource CD

McGraw-Hill Web Site (www.mhhe.com/economics/thomas9)

Additional Teaching and Learning Resources 79

Part II Additional Teaching and Learning Resources

Instructors and students have a number of teaching and learning resources available in several places: (1) a Student’s Resource CD, (2) an Instructor’s Resource CD, and (3) the McGraw-Hill Web site designed specifically for the ninth edition of Thomas and Maurice, Managerial Economics. Part II of this Instructor’s Manual describes these various teaching resources.

Student Resource CD (Packaged with each textbook)

Every new copy of the ninth edition of Managerial Economics comes with a Student Resource CD attached inside the cover of the book itself. This Student Resource CD contains the following items:

Student Workbook

Beginning with the ninth edition of Managerial Economics, the Student Workbook, which in previous editions was sold to students separately, will come packaged at no charge as an Acrobat PDF document on the Student Resource CD. The Student Workbook provides students with chapter reviews and many extra problems with rather detailed answers. Each chapter of the Student Workbook has five sections: Essential Concepts, Study Problems, Matching Definitions, Multiple-Choice/True-False, and Homework Exercises. This is arguably the single most valuable item on the Student Resource CD – and its marginal cost to students is zero!

Review of Fundamental Mathematics This eighteen page tutorial reviews the basic algebra and graphing skills needed to work all the problems in the textbook. This tutorial is found in the Student Workbook (pages 1-18). It contains simple explanations of how to use basic math tools, and it contains numerous mathematical exercises with answers. My students genuinely rave about this math review, frequently using it to refresh themselves for other economics and business courses. Brief Review of Derivatives and Optimization While calculus is not a part of any chapter, some instructors wish to teach a calculus-based course, which they can do by relying on the Mathematical Appendixes in many of the chapters. To facilitate calculus-based teaching, students will find a six-page review on the Student Resource CD that briefly covers the basic calculus skills: taking derivatives and using derivatives to find solutions to unconstrained and constrained optimization problems.

Statistix 8 Tutorial

For instructors who wish to teach the empirical chapters of Managerial Economics (basic regression, demand estimation, forecasting, and empirical production and cost analysis), McGraw-Hill will package for a very small additional fee the Student Edition of Statistix 8. Statistix 8 is quite easy for students to use and it includes its own “Help” menu. Nevertheless, some students benefit from seeing a sample problem from the textbook worked and explained in this brief tutorial found on the Student Resource CD.

Data Files for Empirical Chapters Additionally, for those instructors (and students) who will cover the empirical content in Managerial Economics, the Student Resource CD contains a full set of all data sets used in the empirical chapters. These data sets are provided in both Excel spreadsheet format and in the


proprietary Statistix 8 data set format. This makes it easier for students and instructors to confirm the regression results presented in the textbook: seeing is believing!

PowerPoint Slides of Tables and Figures in Managerial Economics

Students and instructors find it useful to have readily accessible images of the tables and figures from the textbook. These are provided for students and instructors as PowerPoint slides. [Please note that these PowerPoint slides should not be confused with the Animated PowerPoint Slideshows that are provided to instructors on the Instructor’s Resource CD.]

Chapter Summaries and Key Terms

Students will find all of the chapter summaries from the textbook, as well as lists of key terms, collected here for convenient review.

Instructor’s Resource CD (Provided by McGraw-Hill to adopters)

Instructor’s Manual

For convenience, this Instructor’s Manual is both provided to adopters by McGraw-Hill sales representatives and also available on the McGraw-Hill Web site (the password protected part of the Web site).

Illustrations from Past Editions With each new edition of the text, new Illustrations are added to replace some of the older Illustrations. Many of these Illustrations from previous editions, while somewhat dated, remain useful tools for showing students how economics can be applied to business decision-making. We have compiled all of the Illustrations from the fourth through eighth editions that have been replaced or updated. Instructors may wish to use these for class discussion, homework reading, or lecture material. McGraw-Hill grants instructors copyright permission to copy and distribute these Illustrations to students for educational use.

Animated PowerPoint Slideshows

In contrast to the PowerPoint images of tables and figures, the Animated PowerPoint Slideshows provide for every chapter an animated presentation that flows in a step-by-step fashion. Instructors who have only basic PowerPoint skills can easily modify these animated slideshows to more closely match their own presentation style and organizational sequence. These animated slideshows are not provided to students on the Student Resource CD, although instructors may certainly choose to do so.

PowerPoint Slides of Tables and Figures in Managerial Economics

Students and instructors find it useful to have readily accessible images of the tables and figures found in the textbook. These are provided for students and instructors as PowerPoint slides. [Please note that these PowerPoint slides should not be confused with the Animated PowerPoint Slideshows that are provided to instructors on the Instructor’s Resource CD.] These PowerPoint slides are also provided for convenience on the Student Resource CD.

McGraw-Hill Web Site for Managerial Economics, 9e

McGraw-Hill maintains a web site specifically for the ninth edition of Thomas and Maurice, Managerial Economics. This web site can be found at www.mhhe.com/economics/thomas9. The web site has two sections: the Student Resources and the Instructor Resources (password protected). Student Resources contains a variety of learning resources for students that can be


accessed freely (i.e., without a password) by students. These are items that do not come on the Student’s Resource CD. Instructor Resources contains password protected teaching materials for the exclusive use of instructors. In order to access the resources in Instructor Resources, instructors must obtain a password from their McGraw-Hill sales representatives. The following items are available on the Web site:

Test Bank (Instructor Resources Section) The Test Bank offers multiple-choice and fill-in-the-blank style questions that closely match the Technical Problems in each chapter. The Test Bank is available in several formats: soft cover, CD containing Microsoft Word files, and a computerized software version that simplifies test construction.

Online Topics (Instructor Resources Section)

The Web site contains three Online Topics containing material moved from previous editions of the textbook to make room for new topics in the print editions. These are the following:

o Online Topic 1: Estimating and Forecasting Industry Demand for Price-Taking Firms

o Online Topic 2: Linear Programming

o Online Topic 3: The Investment Decision

Statistix Case Studies (Instructor Resources Section)

Four case studies present students with hypothetical business decision situations that require statistical analysis of the data presented in the problem in order to analyze business conditions to make profitable decisions. These case studies may require students to employ tools from more than one chapter of the textbook, thereby providing some practice integrating the decision-making skills of managerial economics. The titles of the four Statistix Case Studies are (1) Estimating Industry Demand for Fresh Market Carrots, (2) Estimation and Analysis of Demand for Fast Food Meals, (3) Production Decisions at Harding Silicon Enterprises, Inc., and (4) Pricing and Production Decisions at PoolVac, Inc.

Answers to Statistix Case Studies (Instructor Resources Section) The Instructor’s Resource CD provides answers to the Statistix Case Studies.

Self-Quizzes (Student Resources Section)

As in the last edition, students will have instant-grading, self-tests for each chapter of the book. Twenty multiple-choice questions are provided for each chapter. These follow the format of the multiple-choice questions in the Test Bank.

Career Center (Student Resources Section)

This link takes students to McGraw-Hill’s Career Center for economics. This site presents students with an overview of career opportunities for economics majors. Salary data are also provided.

Economics on the Web (Student Resources Section) This link takes students to McGraw-Hill’s “Economics on the Web” resource center. This site provides students and instructors with a rich array of Internet resources to enhance the study of economics.


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