ECONOMICS 211
SECOND MIDTERM EXAMINATION, Fall 2007
(2 hours, 100 points)
Circle the name of your instructor:
Blazek
Ergen
İnal
Muthitacharoen
Soligo
You
NAME:__________________________________________________________________________
PLEDGE:_______________________________________________________________________________________
_________________________________________________________________________________________________
_________________________________________________________________________________________________
PART 1: MULTIPLE CHOICE: Circle the correct answer (2 points each;14 points in total)
1. Which of the following events is not a sunk cost for a firm?
(a) A firm spends $100,000 marketing a new product
(b) A football team gives a signing bonus of $1,000,000 to a new player
(c) A trucking firm consumes $20,000 worth of diesel fuel
(d) A farmer buys a piece of farmland worth $500,000
2. Which of the following is true in a long-run equilibrium of perfectly competitive markets?
(a) Each firm earns positive economic profits
(b) Each firm produces where its marginal cost is equal to the minimum of the average variable cost
(c) No additional firms wish to enter the market
(d) There is no consumer surplus
3. Vladimir manufactures nuclear warheads using two inputs: scientists and uranium. The last scientist Vladimir hired
built 4 warheads. The last pound of uranium contributed 10 warheads. Unfortunately, given recent UN sanctions,
Vladimir’s quantity of uranium is fixed in the short run. A scientist costs $10,000 and a pound of uranium costs
$30,000. Vladimir wishes to minimize his costs while maintaining his current level of warhead production. Vladimir
should:
(a) Employ the same number of scientists in the short-run.
(b) Buy more uranium in the long run.
(c) Employ fewer scientists in the short run.
(d) Employ the same number of scientists in the long-run.
4. For firms in a perfectly competitive industry, economic profit in the long run is
(a) always equal to zero.
(b) always positive.
(c) equal to the long-run producer surplus.
(d) greater than short-run profit.
5. A monopolist’s supply curve is
(a) its marginal cost curve
(b) its marginal cost curve above the minimum point of average variable cost curve
(c) the market supply curve, since the monopolist is the only supplier of the good.
(d) none of the above; a monopolist does not have a supply curve.
6. Economies of scale is more likely to act as a structural barrier to entry when
(a) the minimum efficient scale is a smaller percentage of the firm’s demand.
(b) the minimum efficient scale is a larger percentage of the firm’s demand.
(c) the minimum efficient scale is a smaller percentage of total market demand.
(d) the minimum efficient scale is a larger percentage of total market demand
7. Which of the following statements applies to a multiplant monopoly?
(a) The monopolist will close down the plant with the lower marginal revenue.
(b) The monopolist will close down the plant with the higher marginal cost.
(c) The average cost of production must be equal in both plants.
(d) The marginal cost of production must be equal in both plants.
PART II: TRUE OR FALSE (4 points each, 16 points in total)
(Please explain your reasoning; only “true” or “false” will not receive any credits.)
8. The firms that are making a loss will always cease all production in the short run.
False. If the current market price is above the shut-down price for the firm, then the firm should produce the
output to minimize its losses. Only if the market price is below the shut-down price for the firm will production
cease.
9. A firm uses capital and labor to produce output. Both capital and labor experience diminishing marginal product for
this firm. This firm must exhibit decreasing returns to scale.
False. The assumption of diminishing marginal product holds the opposite input constant (e.g. diminishing
marginal product of labor holds the capital stock as constant). Returns to scale changes both the capital and
labor levels. It is possible to have increasing returns to scale even though the marginal product of labor and
capital is decreasing.
10. Since it is the only firm in the market, a monopolist will always earn positive economic profits.
False. Marginal revenue and marginal cost may intersect at such a quantity that the corresponding p value for
the AC curve is above the corresponding p value for the demand.
11. If a firm cannot achieve productive efficiency, it will exit the market in the long run.
False. Monopolists may operate inefficiently but may still make positive economic profits. This is called Xefficiency in your book. Note, however, that this claim is true for a perfectly competitive firm.
PART III: SHORT ANSWER (7 points in total)
12. (2 pts.) Why is the firm’s marginal revenue constant in markets with perfect competition?
The firm is small relative to the market. As such, they are a price-taker and the productive choices they make
has no impact on the market price. Therefore, they receive the same amount of revenue off of each unit they
produce.
13. (2 pts) XYZ Deli is a monopolist at the University of Jacksonville campus. The demand it faces for its sandwiches
is given by P(Q)=10-Q/10 and it operates at two different booths in the campus. The marginal cost at the first booth
for a sandwich is constant and is equal to $2 and at the marginal cost at the other booth is constant and is equal to $3.
Suppose there are no fixed costs. How many sandwiches will XYZ Deli produce on a given day?
We don’t need to take into account the booth with the higher marginal cost.
The marginal revenue is P=10-Q/5. Equating this to the marginal cost of the more efficient booth, we get
10-Q/5=2 which gives Q=40. So, XYZ will produce 40 sandwiches a day.
14. (3 pts.)
(a) (1 pt) This technology represented by the picture above seems to have increasing/constant/decreasing (circle
one) marginal product.
Increasing
(b) (2 pts) Draw the short run total product of labor curve on the graph provided. Label the relevant points.
PART IV: LONG PROBLEMS (63 points in total)
Please make sure you show how you got the answers for the problems in part IV.
15. (12 pts.) A firm produces widgets in a perfectly competitive market, according to the marginal cost and fixed cost
schedule given below. The firm possesses its optimal long-run amount of capital.
a) (4 pts) Compute total variable costs, average variable costs, total costs, and average total costs from the following
table. You may leave any fractional values as improper fractions (e.g. 43/7)
Output
FC
MC
VC
AVC
TC
ATC
0
10
0
0
-
10
-
1
10
15
15
15
25
25
2
10
10
25
12.5
35
17.5
3
10
6
31
10.333
41
13.666
4
10
9
40
10
50
12.5
5
10
10
50
10
60
12
6
10
20
70
11.666
80
13.333315.71
7
10
30
100
14.286
110
15.714
8
10
50
150
18.75
160
20
b) (2 pts) What is the shut-down price for the firm?
10
c) (4 pts.) If the market price is 20, will the producer produce in the short-run? If so, how much? Will they earn
profits? Compute the firm’s profit/loss.
Yes. They will produce 6 units (where MR=MC). They will earn profits. Revenue is 6*20=120. Costs are 80.
Profit is 40.
d) (2 pts.) Assuming the firm must produce a discrete quantity of the good (that is, they must choose an integer value
from the above table) what is the long-run price of the good?
The long-run price of the good is 12.
16. (15 pts) Tokugawa is a shogun (emperor) of feudal Japan. By his decree, no international trade in the market for
wombats is to occur, despite the fact that Japan has a tremendous advantage in the production of wombats.
Accordingly, no wombat producers are allowed to export their product to international markets.
The Japanese demand and supply for wombats are given by QD=1000-10P and QS=100+5P, respectively.
a) (4 pts.) Plot the Japanese supply and demand of wombats on the above graph. Label the equilibrium point as e.
Equilibrium price of wombats is______60_____and quantity demanded/supplied is _________400________.
b) (4 pts.) Consumer surplus is _____8000______ and producer surplus is____15000_________ .
Due to the presence of American warships, Tokugawa is now forced to allow the export of wombats at the prevailing
world price of $80/wombat. Assume that Japan is a price taker in the global wombat industry.
c) (1 pt) Draw the foreign demand curve on your graph from part a. Label this curve clearly. Bold line at $80.
d) (2 pts.) Assuming Japanese consumers get to purchase as much as they would like at the world price before
remaining (if any) wombats are exported, ____200_________ wombats are consumed by Japanese consumers.
____300___________wombats are exported.
e) (4 pts.) Consumer surplus is ____2000________ and producer surplus is ____24000_________.
17. (11 pts.) The market for wheat is perfectly competitive and in a long-run equilibrium with 200 firms at a price of
$2/bushel. Firms have a marginal cost curve given by MC(q)=q. The shut down price for each firm is $1.
a) (3 pts.) How much wheat does each producer supply? What is the total amount of wheat produced?
Q for each producer = 2. Total amount of wheat = (2*200)=400 bushels
b) (4 pts.) Due to a change in consumer tastes, market demand for wheat declines to Q=500-200P. What is the shortrun price?
Q=500-200P. Market Supply = (200*P). Equating these two: P=1.25.
c) (2 pts.) Assuming wheat farming is a constant-cost industry, what is the long-run price of wheat?
In the long-run, price returns to $2.
d) (2 pts.) What is the long run number of wheat producers?
In the long run, 500-200(2)=100 units are demanded. Each producer supplies 2 units. So, 50 producers are left.
18. (13 pts.) Suppose that the domestic natural gas supply in the US is given by Q=100P (in billion cubic
meters/year) and the demand is given by Q=1400-100P. The world supply is horizontal at 4 dollars per unit.
a) (2 pts.) On the grid given below, draw clearly label the demand and USA’s total (domestic+foreign) supply curves.
The dotted kinked line is the USA’s total supply of natural gas.
10
5
100
300
500
700
900
1100
1300
1500
b) (1 pt.) What is the amount of natural gas demanded in the US?
Quantity demanded will be determined by the intersection of demand and total supply: 1000 units.
c) (1 pt.) What is the amount of imports?
Out of those 1000 units, 400 will be supplied by domestic producers (intersection of domestic supply and
demand) and the rest, 600 units, will be imported.
d) (2 pts.) Consumer surplus is___________ and producer surplus is_____________. (Provide numerical answers).
Consumer surplus is the area under the demand, above P=4, up to 1000: 1000*(14-4)/2=5000 and the producer
surplus is (4-0)*400/2
e) (2 pts.) Now suppose the US government imposes a specific tariff of $2 per unit on natural gas. Draw the new total
supply curve on the same grid above, and clearly label it. What is the new equilibrium price and the quantity
consumed?
After the tariff, world supply will be horizontal at P=6. The new total supply is shown with red bubbles again:
10
5
100
300
500
700
900
1100
1300
1500
f) (1 pt.) What is the amount of imports?
As a result, price has increased and quantity demanded decreased to 800, 600 of which is supplied by domestic
producers. Hence, 200 units are imported.
g) (1 pts.) The government’s tariff revenue is ___________.
Per each unit imported, the government gets $2, hence the tariff revenue is 2*200=400 units.
h) (3 pt.) Is there any deadweight loss? If yes, how much? Give a numerical answer.
Yes, the sum of the areas of the two red triangles: 2[200*2/2]=400 units.
19. (12 pts.) A monopolist faces the demand P=120-Q/2 and its total cost is given by the function TC(Q)=200+Q2/2.
Hence, the marginal cost is given as MC=Q.
a) (2 pts.) What are the profit maximizing level of quantity and price?
Profit maximizing quantity is independent of the type of the firm; any firm equates marginal revenue to
marginal cost. For this monopolist, MR is twice as steep as Demand, hence, it is given as MR: P=120-Q.
Equating this to MC we get 120-Q=Q=>Q=60. Plugging the optimum quantity into the demand equation, we
find the price: P=120-60/2=90.
b) (2 pts.) What is the profit of the monopolist?
Profit=TR-TC=60*90-TC(60)=5400-(200+1800)=3400
c) (2 pts.) What is the socially efficient level of output?
Socially efficient level of output is the output level at which MC of production is equal to Marginal Social
Benefit, another interpretation of the demand. Hence we find the socially efficient level of output by equating
MC to demand: Q=120-Q/2=>Q=80.
d) (2 pts.) Suppose the government imposes a price ceiling of $80. What is the profit maximizing level of output
under this price control?
Note that, up to Q=80, whatever the monopolist sells, it will get 80; in other words, increase in TR per unit
increase in output, which is the definition of MR, is 80. Hence, MC will be horizontal till Q=80, and then will
follow the original MR curve. Drawing a picture may help in this case. The MR curve is piecewise linear, as
shown by the dots.
80
As is obvious from the picture, the new MR and MC intersect at Q=80.
e) (4 pts.) Now, instead of the price ceiling, the government imposes a lump-sum license fee equal to the profit of the
firm (from part a). What are the profit maximizing price and quantity? What are the new profits?
The trick is to see that this lump-sum license fee will affect the firm’s fixed costs but not marginal costs or
marginal revenue. Hence the profit maximizing quantity and price will be the same as part a. But since the new
total cost function is now TC(Q)=200+3400+ Q2/2, the new profit will be 5400-(200+3400+1800)=0.