Shanghai Institute of Foreign Trade
Jonathan Haughton, May 2014
Intermediate Microeconomics
CLASS EXERCISES
1.
A competitive market has a downward-sloping demand curve and an upward sloping supply curve.
a. Show the effect of a subsidy on the quantity produced, and the demand and supply prices. [Hint:
Think of a subsidy as a negative tax.]
b. Show the deadweight loss in this case.
2.
In August 1990, East German taxicab drivers went on strike demanding lower fares. [The fares were set
by a central commission.] What must the drivers have believed about the price elasticity of demand for
taxicab rides?
3.
Senegal, a small country, buys propane (for cooking) on the world market, partly because there is no
domestic production of propane. To encourage households to cook with propane instead of wood (which
is scarce and polluting), the country is considering subsidizing imports of propane. Use a demand and
supply analysis to show the effect of such a subsidy on the price paid by consumers, and the quantity
demanded and supplied.
4.
The Big Pane Company is a monopolist that sells 1,000 panes of glass a year. The company is considering
buying a machine that would reduce its marginal cost by $10 at each level of output. Should the firm be
willing to pay more, or less, than $10,000 per year to rent this machine?
5.
In comparison with a simple (one-price non-discriminating) monopolist:
a. Does a perfectly discriminating monopolist (first-degree price discrimination) possibly, or
necessarily, produce more output?
b. Does a multipart pricing monopolist (second-degree price discrimination)?
c. Does a market segmentation monopolist (third-degree price discrimination)?
6.
A natural monopoly is regulated, and forced to set its price equal to the average cost of production. Use a
graph to show the deadweight loss that occurs in this case.
7.
Suppose that the supply curve is vertical – as it would be for land, for instance. What is the deadweight
loss of a tax in this market?
8.
Market segmentation (third-degree price discrimination) is more common in the sale of services (e.g. by
income for medical services, by age for movie tickets or transportation) than for sale of manufactured
goods. Why?
9.
In pre-Revolutionary France, the government auctioned off the right to monopolize salt; this was the
gabelle. Show in a diagram the maximum amount the government could expect to acquire by auctioning
off a monopoly. Is this likely to generate more or less income for the government than the most lucrative
excise (specific) tax the government might impose?
10. If, at a certain equilibrium price, every firm in the industry earns zero economic profit, doesn’t that imply
that a fall in market price would cause all firms to fail? Explain.
11. You are told that a firm in a constant cost industry has an upward sloping marginal cost curve, and is
producing at its minimum efficient scale. Are these assertions mutually consistent? Explain.