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Arcadia University BA 620 Managerial Economics
Class code: SN5
Leo TAN Jian Liang, P000096369
Dr TAN Boon Seng
Problem Set #1
Question 1:
Control Variable
(Q)
Total Benefit
B(Q)Total
Cost C(Q)
Net Benefit
N(Q)
Marginal Benefit MB(Q)
Marginal Cost
MC(Q)
Marginal Net Benefit
MNB(Q)100 1200 1000 200 210 90 120101 1400 1100 300 200 100 100102 1590 1210 380 190 110 80103 1770 1330 440 180 120 60104 1940 1460 480 170 130 40105 2100 1600 500 160 140 20106 2250 1750 500 150 150 0107 2390 1910 480 140 160 -20108 2520 2080 440 130 170 -40109 2640 2260 380 120 180 -60110 2750 2450 300 110 190 -80
a. At level 106 where the Net Benefit is 500
b. The relation between Marginal Benefit and Marginal Cost at this level are
the same.
Question 2:
a. To obtain the level of Q that maximize the total benefit, MB should be
equals to 0, it would yield Q=25
b. The level if Q that minimizes the total costs would be Q=0
c. To obtain the level of Q that maximizes the net benefit, equate MB = MC, it
would yield Q=24.5
d. The optimal level of recycling would Q=24.5 which the net benefit and
maximized
Question 3:
2
The NPV of the investment is
NPV= $15,000
(1+0.20 )1−$10,000=$ 2,500
The investment should be undertaken, firstly the investment has a positive
NPV, secondly the since the NPV is positive, in one year’s time, the $15,000
generated from the investment will be able to pay off the loan plus interest
and the firm will gain $2,500 from this investment.
Question 4:
a. Option A had the highest first year profits comparing to the other two
options, however it has the lowest second and third year. Option B has the
moderate profit for first year, and subsequent years. Option C has the lowest
first year profit but the highest profit for second and third year. A possible real
world option is investing in advertising, the investment for the first year, will
erode the profit, but bring about greater profit in the subsequent years.
Question 5:
Question 6:
3
a. The inverse demand curve would be
Q=100-20P
Q-100=-20P
P=5-(Q/20)
b. The consumer surplus will be $9,000
c. The consumer surplus will be $16,000
d. Generally the consumer surplus will increase when the price falls
Question 7:
The proposed bill is a price ceiling of $.50. This would create a shortage of
ATMs. The amount of the shortage will equal the difference between the
quantity demanded and the quantity supplied at the price ceiling, Longer lines
are likely to develop at ATM machines. Including the value of lost time; the full
economic price paid for ATM usage will exceed the current price of $1.35 per
transaction. Note that the actual magnitude of the shortage and full economic
price will depend on the relative slopes of the demand and supply curves.
Since ATMs are durable equipment, the short-run quantity supply response
may be small.
4
Question 8:
Pre-advertising Post-advertisingIncremental
Revenue and CostsTotal Revenue 22,540,100 32,347,800 9,807,700
Variable CostTV airtime 6,100,000 9,045,700 2,945,700Ad development labor 2,357,100 3,536,200 1,179,100Total variable costs 8,457,100 12,581,900 4,124,800
Direct Fixed CostDepreciation-computer equipment 1,500,000 1,500,000Total direct fixed cost 1,500,000 1,500,000 0
Indirect Fixed CostManagerial salaries 8,458,100 8,458,100Office supplies 2,003,500 2,003,500Total indirect fixed cost 10,461,600 10,461,600 0
Profit 2,121,400 7,804,300 5,682,900
Conclusion: We should launch the campaign because the incremental
revenue of $9,807,700 exceeds the incremental costs of $4,124,800. Doing
so will add $5,682,900 to the bottom-line.
5
Problem Set #2
Question 1:
a. At the given prices, quantity demanded is 1500 units: Substituting the
relevant information into the elasticity formula:EQ ,P=−5PXQX
gives -0.40. Since
this is less than one in absolute value, demand is inelastic at this price. If the
firm charged a lower price, total revenue would decrease.
b. At the given prices, quantity demanded is 850 units: Substituting the
relevant information into the elasticity formula:EQ ,P=−5PXQX
gives -1.56. Since
this is more than one in absolute value, demand is elastic at this price. If the
firm charged a higher price, total revenue would decrease.
Question 2:
a. Q = (0.1)(500) = 5. Demand for hotel will increase by 5 units.
b. Q= (0.8)(-10) = -8. Demand for hotel will decrease by 8 units.
c. Q= (-2.25)(7) = - 15.75. Demand for hotel will decrease by 16 units
d. Q= -1.5(5) + 0.1(8) = -7.42. Demand for hotel will decrease by 7 units
Question 3:
Using the formula for income elasticity, the demand for lawn furniture will drop
by 4.25 percent for this year. The approach would be to order 4.25 percent
less PVC pipe.
6
Question 5:
a. Sue’s preference is not consistent with the assumption of consumer
behavior. The rule of transitivity is not fulfilled. Given that she prefers Mr. Lee
to Ms. Doe, Ms. Doe to Mr. James, then she must prefer Mr. Lee to Mr.
James but no the reverse.
b. If they were voted on in pairs, it would depend on which pair was voted on
first. For example, if Lee and Doe were paired first, Lee would win the first
vote, and James the second.
Question 6:
The statement is false. The frequent flyer programs are, in effect, a "buy 5
tickets, get one free" deal. The price of the first 5 tickets remains unchanged
under the deal (5 tickets cost $300 each, or $1500), while the price of the 6th
ticket is zero. That can result in higher quantity demand for tickets than if the
price were lowered to $250 (6 tickets cost $1500). It is like “buy 1 pizza, get 1
free” resulting in higher quantity demand than if, instead, price was lowered
50%.
Question 7A:
a. The price of X is and Y is $50 and $100 respectively
b. 0 units of product X could be purchased at point A
c. 6 units of product X could be purchased at point E
d. 1 units of product X could be purchased at point B
e. 7 units of product X could be purchased at point F
f The most preferred would in the order of D, B, C, A
7
Question 8:
Psat = 60
Qsat = 168 – 0.9 (60) + 1.05 (25) + 1.10 (30) = 173.25 (in thousands)
R = 173.25 * 60 = 10395 (in thousands) = 10.395 million
(this is not enough to cover the monthly cost)
Qsat = 227.25 – 0.9Psat
R = 227.25 – 0,9P2
MR = 227.25 – 1.8P = 0
P = $126.25
Q = 227.25 – 0.9 (126.25) = 113.625
The monthly subscription of $60 is not enough to cover the cost. It is possible
for News Corp to cover its cost if it charges $126.25.
8
Problem Set #3
Question 1:
L K Q MP(L) AP(L) AP(K) VMP(L)0 5 0 - - - -1 5 10 10 10 2 502 5 30 20 15 6 1003 5 60 30 20 12 1504 5 80 20 20 16 1005 5 90 10 18 18 506 5 95 5 16 19 257 5 95 0 14 19 08 5 90 -5 11 18 -259 5 80 -10 9 16 -50
10 5 60 -20 6 12 -10011 5 30 -30 3 6 -150
a. Capital is the fixed input and Labor is the variable input
b. Fixed costs: (5)($20) = $100.
c. Assume that labor is indivisible, (must be rented in an integer number of
units). Then the required variable cost is (2)($5), which equals $10.
d. Using the VMPK = r, 6 units of capital should be used to maximize profits.
e. The maximum profits are ($5)(95) - ($5)(6) - ($20)(5) = $345.
f. There are increasing marginal returns when K is less than or equal to 3.
g. There are decreasing marginal returns when K is greater than 3.
h. There are negative marginal returns when K is greater than 7.
9
Question 2:
a. 2,000 ($40) = $80,000
b. It is dependent on how much the competitors are offering at the moment.
Question 3:
Question 4:
With a flat long-run average cost curve, there are neither economies nor
diseconomies of scale in banking services. Consolidation would mean that
2,500 banks would each have to double their output in order to service the
consumers initially served by 5,000 banks. But the corresponding average
cost per firm, as well as total costs for the industry, would be unchanged.
Question 5:
a. Spot Exchange
b. Vertical Integration
c. Contract
d. Spot Exchange
e. The contract should be reduced or changed to a spot exchange.
Question 6:
The principal agent problem is found in most employer/employee
relationships. In this case, since the police officers are not carrying out their
supposed duties. The mayor is facing the hold up problem, as the police
officers is trying to take advantage of the city’s investment in the RNC.
10
Q FC VC TC AFC AVC ATC MC0 $20,000 - $20,000 - - - -
100 $20,000 $580,000 $600,000 $200 $5,800 $6,000 $5,800200 $20,000 $730,000 $750,000 $100 $3,650 $3,750 $1,500300 $20,000 $1,180,000 $1,200,000 $67 $3,933 $4,000 $4,500400 $20,000 $2,180,000 $2,200,000 $50 $5,450 $5,500 $10,000500 $20,000 $2,980,000 $3,000,000 $40 $5,960 $6,000 $8,000600 $20,000 $4,480,000 $4,500,000 $33 $7,467 $7,500 $15,000
Question 7:
a. Insurance agents: Commission based which is correlated to the amount of
insurance contracts sold by that agent. The commission incentivizes the
agents to find new clients and sell insurance contracts, thereby increasing the
firm’s revenue.
b. Football players: Fixed salary. Performance is usually easy to measure for
football players so their fixed salary will be tied to how well they performed.
c. Authors: Measure of performance based on book sales. Authors usually
receive a percentage of the revenues generated by their books. This
incentivizes the authors to write good books.
d. CEOs of major corporations: It is not always easy to measure a CEOs
performance. Usually the variable component is much higher than the fixed
component of CEO’s compensation due to the fact that performance is not
easy to measure and to incentivize the CEO to perform to his/her best ability.
e. Food servers: Normally the compensations are fixed with a variable
component. Depending on the culture of the country the variable may be a lot
higher to the fixed in order to incentivize the servers to perform.
Question 8:
To maximize profits, the firm should continue adding workers so long as the
value marginal product exceeds the wage. The value marginal product is
defined as the marginal product times the price of output. Here, output sells
for $100 per unit, so the value marginal product of the third worker is $100(29)
= $2,900. The table above summarizes the VMPL for each possibility. Since
the wage is $2,800, the profit maximizing number of workers is 3.
11
Problem Set #4
Question 1:
a. HHI = 10,000[(.35)2 + (.25)2 + (.1)2 + (.1)2 + (.1)2 + (.1)2] = 2,250.
b. C = 35 + 25 + 10 + 10 = 80
c. After the merger the HHI increases to 10,000[(.35)2 +(.25)2 +(.10)2 +(.10)2
+(.20)2 ] = 2,450. The merger is likely to be challenged because (a) the
original HHI, 2,250, is greater than that in the Guidelines (1,800) and (b) the
new HHI increases by 200, which is greater than that in the Guidelines (100).
Question 2:
Munopliee Air is monopolizing the route from Erewhon and El Dorado. A
monopolist firm will always maximize their profit by providing less than market
demand and charging a higher price. Therefore, load factor fo85% for
Munopilee Air could be due to the high price they charge that only certain
group of travelers can afford to pay. Upstart Airways will introduce competition
to this monopolistic environment. In the long run, thi s will drive the market
towards a lower cost to consumers travelling from Erewhon and El Dorado.
With a lower price, consumer will be able to afford flying which means the
current load factor of 85% will not be valid as the occupation rate will go
beyond 85%.
Question 3:
Monopolistically competitive. In a monopolistically competitive market, there
are many firms, but each firm produces a differentiated product. Competition
is in the form of free-entry until the profits from each firm's price-cost margins
just covers their fixed costs.
According to the causal view, the structure of differentiated products causes
firms to capitalize on the absence of close substitutes by charging higher
prices.
12
According to the feedback critique, the conduct of firms may determine the
market structure. The products of firms may be differentiated because of the
conduct of firms in the industry. Examples of such conduct include advertising
and other behavioral tactics that feedback into demand, causing consumers to
view products as differentiated. Thus, it is not at all clear that differentiated
products are a structural variable.
Question 4:
Wal-Mart operates in a more competitive environment then Intel in 1994. Intel
was reluctant to take actions because the cost of not taking action was lower
than in the case of Wal-Mart.
Question 5:
a.
b. Genside Bolt should produce 40 units per hour to maximize its profit.
c. Short Run: > $0.5, Long Run: < $8
Question 6:
a. MR = MC,
480 – 16Q = 8Q
Q = 20
P = 480 – 8Q
P =320.
Hence when Q is 20, Price is $320 per unit, profit is maximized.
Hourly Cost Data, Glenside Bolt companyOutput Variable Cost Marginal Cost Average Variable Cost
0 0 NA NA10 5 0.5 0.520 10 0.5 0.530 15 0.5 0.540 20 0.5 0.5
13
b. Revenue = 320 x 20 = $6,400,
Cost = 500 + 4Q2
Cost = 500 + 4(20)2 = $2,100
$6,400 - $2,100 = $4,300
Maximum profit should be $4,300
c. Demand is elastic
d. To maximize revenue, MR = 0
480 – 16Q = 0
Q= 30
P=480 – 8Q
P=480 – 8(30)
P=240
Price is at $240
e. Maximum revenue = 240 x 30 = $7,200
f. Demand is unit elastic when a firm maximized its revenue.
Question 7:
The only costs relevant for making this decision are your variable costs of
producing 100,000 units. These relevant costs include materials ($250,000)
and labor ($10,000). The depreciation reflects a charge for expenditures
already made, and thus this amount will be lost regardless of your decision.
By signing the contract, your revenues increase by $30,000,000 and your
variable costs increase by only $260,000. You should sign the contract
because doing so adds $29,740,000 to your bottom line that you will not get if
you shut down your operation.
14
Question 8:
In the short run, eliminating the patent might allow other firms to enter and
lower the price to cardiac patients. In the long run, however, it is not at all
clear that cardiac patients would benefit. Absent patent protection, firms like
Genentech would be unwilling to invest the substantial sums in R&D that are
required to develop products like TPA. The monopoly profits earned by
Genentech are its reward for developing the new product, and taking away
that reward would likely harm cardiac patients in the long run.
15
Problem Set #5
Question 1:
a.
Rival
Advertise No Advertise
USAdvertise 5, 5 10,3
No Advertise 1,3 2,4
b. Yes, I will advertise to maximize profit
c. No, my rival does not have the dominant strategy and will follow whatever
strategy we are going with.
d. Both my rival and myself will advertise (5,5)
e. If I were to advertise, my rival will make 5 million or 3 million, depending on
his actions, a difference of 2 million. I am willing to bribe my rival between 2 to
5 million
Question 2:
a. I will charge $250 since I have a much bigger market share, irregardless of
how much Toshiba price its DVD machine.
b. 60% of the market share, Toshiba will price its DVD machines at $250
because it gives them the largest available market share of 40%, instead of
10% when P= $500 and 30% when P=$1,000.
16
Question 3:
a.
c. If Intel does not adopt the new technology at C=12. They would make $5
instead of $3. They should not adopt the technology at C=12 as it is
detrimental on their revenues and beneficial to AMD’s revenue.
b. AMD will adopt the new technology if C < 30 (15 – C/2=0, C=3)
Question 4 :
Suppose the marginal cost to the gold course of each visit is 0. The most a
customer is willing to pay is his/her total valuation of the quantity of goods
consumed. The total valuation is measured by the area under the inverse
demand curve and t he horizontal axis for that range of quantity. Hence, the
most a property owner is willing to pay is .5($100)(200) = $10,000 per month.
The most a tourist is willing to pay is .5($40)(400) = $8,000 per week. Hence,
your optimal pricing policy is: charge property owners a membership fee of
$10,000 per month per person; charge tourists a membership fee of $8,000
per week per person. And then let each golfer play golf for free.
Question 5:
a. MR = MC
Q = 200 – 2P, P = 100 – 0.5Q
MR = 100 – Q
MR=MC
80 = 100 – Q, Q = 20
17
Optimal number of units should be 20.
b. P = 100 – 0.5Q, P = 100 – 10 = 90
The monopoly should charge the package at $90.
Question 6:
MR = MC to maximize profit
16 – 0.012Q = 4
Q = 1,000
P=16 – 0.006Q = 16 – 0.006 (1000) = $10
24-0.012Q = 4
Q = 1,667
P=24 – 0.006Q = 24 – 0.006(1667) = $14
The movie theater should charge $10 for weekday tickets and weekend ticket
at $14 each.
Question 7:
If managers of each division were to maximize each division’s profit
separately, double marginalization will occur and the overall profit for Blue
skies aviation will not be maximized.
Cost of Engines = 4,000Qe2, MCe = 4000(2) Q = 8,000Q
Cost of Airplanes = 10,000Q, MCa = 10,000
Total Revenue = Price x QuantityTR = (610000 – 2000Q) x Q
TR = 610000Q – 2000Q2
MR = 610000 – 2000(2)Q = 610000 – 4000Q
(MR = TMC) = Profit maximization.TMC = MCe + MCa = 8000Q + 10000MR = TMC
18
610000 – 4000Q = 8000Q + 10000Q = 50
MCe = 8000Q, thereforeMCe = 8000(50)MCe = 400000
Engines should be priced at $400,000 to prevent double marginalization and also to maximize Blue Skies Aviation’s overall profit.
Question 8:
a. The manager is considering Predatory Pricing Strategy – Aggressive
pricing (“undercutting”) intended to drive its competitor from the market.
b. Net Present Value
20 million/0.05 = 400 Million
The pricing strategy will be profitable.
19