5) Two used car dealerships compete side by side on a main road. The first, Harry's Cars, always sells high-quality cars that it carefully inspects and, if necessary, services. On average, it costs Harry's $8,000 to buy and service each car that it sells. The second dealership, Lew's Motors, always sells lower-quality cars. On average, it costs Lew's only $5,000 for each car that it sells. If consumers knew the quality of the used cars they were buying, they would pay $10,000 on average for Harry's cars and only $7,000 on average for Lew's cars. Without more information, consumers do not know the quality of each dealership's cars. In this case, they would figure that they have a 50-50 chance of ending up with a high- quality car and are thus willing to pay $8,500 for a car. Harry has an idea: He will offer a bumper-to-bumper warranty for all cars that he sells. He knows that a warranty lasting Y years will cost $500Y on average, and he also knows that if Lew tries to offer the same warranty, it will cost Lew $1,000Y on average. a. Suppose Harry offers a one-year warranty on all of he cars he sells. i. What is Lew's profit if he does not offer a one-year warranty? If he does offer a one-year warranty? ii. What Harry's profit if Lew does not offer a one-year warranty? If he does offer a one-year warranty? iii. Will Lew's match Harry’s one-year warranty? iv. Is it a good idea for Harry to offer a one-year warranty? b. What if Harry offers a two-year warranty? Will this offer generate a credible signal of quality? What about a three-year warranty? c. If you were advising Harry, how long a warranty would you urge him to offer? Explain why.
5) Two used car dealerships compete side by side on a main road. The first, Harry's Cars, always sells high-quality cars that it carefully inspects and, if necessary, services. On average, it costs Harry's $8,000 to buy and service each car that it sells. The second dealership, Lew's Motors, always sells lower-quality cars. On average, it costs Lew's only $5,000 for each car that it sells. If consumers knew the quality of the used cars they were buying, they would pay $10,000 on average for Harry's cars and only $7,000 on average for Lew's cars. Without more information, consumers do not know the quality of each dealership's cars. In this case, they would figure that they have a 50-50 chance of ending up with a high- quality car and are thus willing to pay $8,500 for a car. Harry has an idea: He will offer a bumper-to-bumper warranty for all cars that he sells. He knows that a warranty lasting Y years will cost $500Y on average, and he also knows that if Lew tries to offer the same warranty, it will cost Lew $1,000Y on average. a. Suppose Harry offers a one-year warranty on all of he cars he sells. i. What is Lew's profit if he does not offer a one-year warranty? If he does offer a one-year warranty? ii. What Harry's profit if Lew does not offer a one-year warranty? If he does offer a one-year warranty? iii. Will Lew's match Harry’s one-year warranty? iv. Is it a good idea for Harry to offer a one-year warranty? b. What if Harry offers a two-year warranty? Will this offer generate a credible signal of quality? What about a three-year warranty? c. If you were advising Harry, how long a warranty would you urge him to offer? Explain why.
Chapter1: Making Economics Decisions
Section: Chapter Questions
Problem 1QTC
Related questions
Question
I need help with b and c
![5) Two used car dealerships compete side by side on a main road. The first, Harry's Cars,
always sells high-quality cars that it carefully inspects and, if necessary, services. On
average, it costs Harry’s $8,000 to buy and service each car that it sells. The second
dealership, Lew's Motors, always sells lower-quality cars. On average, it costs Lew's
only $5,000 for each car that it sells. If consumers knew the quality of the used cars they
were buying, they would pay $10,000 on average for Harry's cars and only $7,000 on
average for Lew’s cars.
Without more information, consumers do not know the quality of each dealership's cars.
In this case, they would figure that they have a 50-50 chance of ending up with a high-
quality car and are thus willing to pay $8,500 for a car.
Harry has an idea: He will offer a bumper-to-bumper warranty for all cars that he sells.
He knows that a warranty lasting Y years will cost $500Y on average, and he also knows
that if Lew tries to offer the same warranty, it will cost Lew $1,000Y on average.
a. Suppose Harry offers a one-year warranty on all of he cars he sells.
i. What is Lew's profit if he does not offer a one-year warranty? If he does offer a
one-year warranty?
ii. What Harry's profit if Lew does not offer a one-year warranty? If he does offer
a one-year warranty?
iii. Will Lew's match Harry's one-year warranty?
iv. Is it a good idea for Harry to offer a one-year warranty?
b. What if Harry offers a two-year warranty? Will this offer generate a credible signal of
quality? What about a three-year warranty?
c. If you were advising Harry, how long a warranty would you urge him to offer? Explain
why.](/v2/_next/image?url=https%3A%2F%2Fcontent.bartleby.com%2Fqna-images%2Fquestion%2F004119a2-f384-49b9-b414-445d20414cf2%2F416247e1-6f0e-46b7-b6ff-7a39b7e97a60%2F96wlt5_processed.jpeg&w=3840&q=75)
Transcribed Image Text:5) Two used car dealerships compete side by side on a main road. The first, Harry's Cars,
always sells high-quality cars that it carefully inspects and, if necessary, services. On
average, it costs Harry’s $8,000 to buy and service each car that it sells. The second
dealership, Lew's Motors, always sells lower-quality cars. On average, it costs Lew's
only $5,000 for each car that it sells. If consumers knew the quality of the used cars they
were buying, they would pay $10,000 on average for Harry's cars and only $7,000 on
average for Lew’s cars.
Without more information, consumers do not know the quality of each dealership's cars.
In this case, they would figure that they have a 50-50 chance of ending up with a high-
quality car and are thus willing to pay $8,500 for a car.
Harry has an idea: He will offer a bumper-to-bumper warranty for all cars that he sells.
He knows that a warranty lasting Y years will cost $500Y on average, and he also knows
that if Lew tries to offer the same warranty, it will cost Lew $1,000Y on average.
a. Suppose Harry offers a one-year warranty on all of he cars he sells.
i. What is Lew's profit if he does not offer a one-year warranty? If he does offer a
one-year warranty?
ii. What Harry's profit if Lew does not offer a one-year warranty? If he does offer
a one-year warranty?
iii. Will Lew's match Harry's one-year warranty?
iv. Is it a good idea for Harry to offer a one-year warranty?
b. What if Harry offers a two-year warranty? Will this offer generate a credible signal of
quality? What about a three-year warranty?
c. If you were advising Harry, how long a warranty would you urge him to offer? Explain
why.
Expert Solution
![](/static/compass_v2/shared-icons/check-mark.png)
This question has been solved!
Explore an expertly crafted, step-by-step solution for a thorough understanding of key concepts.
This is a popular solution!
Trending now
This is a popular solution!
Step by step
Solved in 3 steps
![Blurred answer](/static/compass_v2/solution-images/blurred-answer.jpg)
Knowledge Booster
Learn more about
Need a deep-dive on the concept behind this application? Look no further. Learn more about this topic, economics and related others by exploring similar questions and additional content below.Recommended textbooks for you
![ENGR.ECONOMIC ANALYSIS](https://compass-isbn-assets.s3.amazonaws.com/isbn_cover_images/9780190931919/9780190931919_smallCoverImage.gif)
![Principles of Economics (12th Edition)](https://www.bartleby.com/isbn_cover_images/9780134078779/9780134078779_smallCoverImage.gif)
Principles of Economics (12th Edition)
Economics
ISBN:
9780134078779
Author:
Karl E. Case, Ray C. Fair, Sharon E. Oster
Publisher:
PEARSON
![Engineering Economy (17th Edition)](https://www.bartleby.com/isbn_cover_images/9780134870069/9780134870069_smallCoverImage.gif)
Engineering Economy (17th Edition)
Economics
ISBN:
9780134870069
Author:
William G. Sullivan, Elin M. Wicks, C. Patrick Koelling
Publisher:
PEARSON
![ENGR.ECONOMIC ANALYSIS](https://compass-isbn-assets.s3.amazonaws.com/isbn_cover_images/9780190931919/9780190931919_smallCoverImage.gif)
![Principles of Economics (12th Edition)](https://www.bartleby.com/isbn_cover_images/9780134078779/9780134078779_smallCoverImage.gif)
Principles of Economics (12th Edition)
Economics
ISBN:
9780134078779
Author:
Karl E. Case, Ray C. Fair, Sharon E. Oster
Publisher:
PEARSON
![Engineering Economy (17th Edition)](https://www.bartleby.com/isbn_cover_images/9780134870069/9780134870069_smallCoverImage.gif)
Engineering Economy (17th Edition)
Economics
ISBN:
9780134870069
Author:
William G. Sullivan, Elin M. Wicks, C. Patrick Koelling
Publisher:
PEARSON
![Principles of Economics (MindTap Course List)](https://www.bartleby.com/isbn_cover_images/9781305585126/9781305585126_smallCoverImage.gif)
Principles of Economics (MindTap Course List)
Economics
ISBN:
9781305585126
Author:
N. Gregory Mankiw
Publisher:
Cengage Learning
![Managerial Economics: A Problem Solving Approach](https://www.bartleby.com/isbn_cover_images/9781337106665/9781337106665_smallCoverImage.gif)
Managerial Economics: A Problem Solving Approach
Economics
ISBN:
9781337106665
Author:
Luke M. Froeb, Brian T. McCann, Michael R. Ward, Mike Shor
Publisher:
Cengage Learning
![Managerial Economics & Business Strategy (Mcgraw-…](https://www.bartleby.com/isbn_cover_images/9781259290619/9781259290619_smallCoverImage.gif)
Managerial Economics & Business Strategy (Mcgraw-…
Economics
ISBN:
9781259290619
Author:
Michael Baye, Jeff Prince
Publisher:
McGraw-Hill Education