Assignment_4_Micro_UMASS_Fall2023

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Principles of Microeconomics UMASS – LOWELL Department of Economics Assignment 4 (Wednesday, December 13) 1. Sid is the CEO of a local power plant operating in monopoly market structure. a. Explain why the demand curve (P) here is larger than the MR, and why Sid won’t produce on the inelastic portion of demand curve. b. Draw a graph comparing Sid’s market structure with a market in perfect competition (on the same graph). Be sure to label the components of deadweight loss. c. On a separate graph, show the case where the monopoly is making a positive profit and label the profit area. 2. Many schemes for price discrimination involve some cost. For example, discount coupons take up the time and resources of both the buyer and the seller. This question considers the implications of costly price discrimination. To keep things simple, let’s as sume that our monopolist’s production costs are simply proportional to output so that average total cost and marginal cost are constant and equal to each other. a. Draw the cost, demand, and marginal-revenue curves for the monopolist. Show the price the monopolist would charge without price discrimination. b. In your diagram, mark the area equal to the mo nopolist’s profit and call it X. Mark the area equal to consumer surplus and call it Y. Mark the area equal to the deadweight loss and call it Z. c. Now suppose that the monopolist can perfectly price discriminate. What is the monopolist’s profit? (Give your answer in terms of X, Y, and Z.) d. What is the change in the monopolist’s profit from price discrimination? What is the change in total surplus from price discrimination? Which change is larger? Explain. (Give your answer in terms of X, Y, and Z.) e. Now suppose that there is some cost associated with price discrimination. To model this cost, let’s assume that the monopolist has to pay a fixed cost C to price discriminate. How would a monopolist make the decision whether to pay this fixed cost? f. How would a benevolent social planner, who cares about total surplus, decide whether the monopolist should price discriminate? (Give your answer in terms of X, Y, Z, and C.) g. Compare your answers to parts (e) and (f). How does the monopolist’s incentive to price discriminate differ from the social planner’s? Is it possible that the monopolist will price discriminate even though doing so is not socially desirable?

3. You are hired as a consultant to a monopolistically competitive firm. The firm reports the following information about its price, marginal cost, and average total cost. Can the firm possibly be maximizing profit? If not, what should it do to increase profit? If the firm is maximizing profit, is the market in a long-run equilibrium? If not, what will happen to restore long-run equilibrium? a. P < MC, P > ATC b. P > MC, P < ATC c. P = MC, P > ATC d. P > MC, P = ATC 4. Maria manages a bakery that specializes in ciabatta bread (monopolistically competitive firm) , and she has the following information on the bakery’s demand and costs: Ciabatta Bread Sold per Hour (Q) Price (P) Total Cost (TC) 0 $6.00 $3.00 1 5.50 7.00 2 5.00 10.00 3 4.50 12.50 4 4.00 14.50 5 3.50 16.00 6 3.00 17.00 7 2.50 18.50 8 2.00 21.00 a. To maximize profit, how many loaves of ciabatta bread should Maria sell per hour, what price should she charge, and how much profit will she make? b. What is the marginal revenue Maria receives from selling the profit-maximizing quantity of ciabatta bread? What is the marginal cost of producing the profit- maximizing quantity of ciabatta bread? 5. You and a classmate are assigned a project on which you will receive one combined grade. You each want to receive a good grade, but you also want to avoid hard work. In particular, here is the situation: If both of you work hard, you both get an A, which gives each of you 40 units of happiness. If only one of you works hard, you both get a B, which gives each of you 30 units of happiness. If neither of you works hard, you both get a D, which gives each of you 10 units of happiness. Working hard costs 25 units of happiness

a) Write out the payoff matrix (Hint: Players : You and Classmate; Strategy : Work or Shirk; Payoffs : Units of Happiness). b) What is the likely outcome? Explain your answer. Nash Equilibrium? c) If you get this classmate as your partner on a series of projects throughout the year rather than only once, how might that change the outcome you predicted in part (b)? d) Another classmate cares more about good grades: She gets 50 units of happiness for a B and 80 units of happiness for an A. If this classmate were your partner (but your preferences remained the same), how would your answers to parts (a) and (b) change? Which of the two classmates would you prefer as a partner? Would she also want you as a partner?

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