Managerial Economics Study Set 11

Business

Quiz 11 :

Performance and Strategy in Competitive Markets

Quiz 11 :

Performance and Strategy in Competitive Markets

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Social Welfare Concepts. Indicate whether each of the following statements is true or false, and explain why. A. In competitive market equilibrium, social welfare is measured by the net benefits derived from consumption and production as measured by the difference between consumer surplus and producer surplus. B. The market supply curve indicates the minimum price required by sellers as a group to bring forth production. C. Consumer surplus is the amount that consumers are willing to pay for a given good or service minus the amount that they are required to pay. D. Whereas consumer surplus is closely related to the supply curve for a product, producer surplus is closely related to the demand curve for a product. E. Producer surplus is the net benefit derived by producers from production.
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A) The statement is true. Social welfare is derive from the difference between CS and PS. Consumer surplus is surplus that consumer holds and producer surplus is surplus that producer holds. In competitive market when we find difference between these two, we get net benefits and the benefit that they provide to social welfare.
B) The statement is False. Market supply curve indicates at particular price how much units is supplying in market. Overall market supply of good by producer is indicated through market supply curve.
C) The statement is true. Consumer surplus is the amount that consumer is willing to pay and amount he actually paid or required to pay. So here, it is true as difference among two is consumer surplus.
D) The statement is False. Consumer surplus is related to demand curve as consumer surplus is an area above equilibrium price and below demand curve whereas producer surplus is related to supply curve as producer surplus is an area below equilibrium price and above supply curve.
E) The statement is true. Producer surplus is difference between the price at which he supply the good and price at which he is willing to supply good. So, it can also be explained as, a net benefit that producer derived from its production.

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Demand Versus Supply Subsidy. In Africa, the continent where the polio epidemic has been most difficult to control, international relief efforts aimed at disease eradication often work against a backdrop of civil unrest and war. In some countries, temporary cease-fire agreements must be negotiated to allow vaccination and prevent serious outbreaks from occurring. During peacetime and during war, low incomes make paying for the vaccine a real problem among the poor. To make the oral polio vaccine more affordable, either consumer purchases (demand) or production (supply) can be subsidized. Consider the following market demand and market supply curves for a generic oral polio vaccine: Q D = 24 , 000 - 1 , 600 P (Market Demand) Q S = -2 , 000 + 1 , 000 P (Market Supply) where Q is output measured in doses of oral vaccine (in thousands), and P is the market price in dollars. A. Vouchers have a demand-increasing effect. Graph and calculate the equilibrium price- output solution before and after the institution of a voucher system whereby consumers can use a $3.25 voucher to supplement cash payments. B. Per-unit producer subsidies have a marginal cost-decreasing effect. Show and calculate the equilibrium price-output solution after the institution of a $3.25 per unit subsidy for providers of the oral polio vaccine. Discuss any differences between answers to parts A and B.
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Following are the equations for Supply and demand,
img img At market equilibrium,
img Substitute the value of P in the equation of Quantity demanded to obtain the equilibrium quantity
img img After subsidy
img img At equilibrium
img Substitute price = 12 in quantity supplied equation,
img img Here we dint find any difference as subsidy is same in both case it doesn't matter whether its cash payment or per unit price ultimately result will be same. Calculation will be same as done for above part. As subsidy aid either in cash or in voucher it will have a same impact

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Generic Competition. The Federal Trade Commission seeks to ensure that the process of bringing new low-cost generic alternatives to the marketplace and into the hands of consumers is not impeded in ways that are anticompetitive. To illustrate the potential for economic profits from delaying generic drug competition for 1 year, consider cost and demand relationships for an important brand-name drug set to lose patent protection: TR = $10. 25 Q - $0. 01 Q 2 MR = ? TR/ ? Q = $10. 25 - $0. 02 Q TC = $625 + $0. 25 Q + $0. 0025 Q 2 MC = ? TC/ ? Q = $0. 25 + $0. 005 Q where TR is total revenue, Q is output, MR is marginal revenue, TC is total cost, including a riskadjusted normal rate of return on investment, and MC is marginal cost. All figures are in thousands. A. Set MR = MC to determine the profit-maximizing price-output solution and economic profits prior to the expiration of patent protection. B. Calculate the firm's competitive market equilibrium price-output solution and economic profits following the expiration of patent protection and onset of generic competition.
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At equilibrium, marginal revenue equals marginal cost. So, equate them to obtain equilibrium price and quantity.
img Substituting the quantity of 400 units in the MR and MC equation to obtain MR and MC,
img

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Wal-Mart founder Sam Walton amassed an enormous fortune in discount retailing, one of the most viciously competitive markets imaginable. How is this possible?
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Lump Sum Taxes. In 1998, California's newly deregulated power market began operation. The large power utilities in the state turned over control of their electric transmission facilities to the new Independent System Operator (ISO) to assure fair access to transmission by all generators. The new California Power Exchange (CalPX) opened to provide a competitive marketplace for the purchase and sale of electric generation. The deregulation required electric utilities to split their business into generation, transmission, and distribution businesses. The utilities continue to own all of the transmission and distribution facilities, but the ISO controls all of the transmission facilities. Utilities provide all distribution services, but customers are allowed to choose their energy supplier. The utilities were required to sell off 50 percent of their generating facilities. In addition, utilities have to sell all their electric generation to the Power Exchange and purchase all power for their customers through the Power Exchange. To illustrate the net amount of social welfare generated by a competitive power market, assume that market supply and demand conditions for electric energy in California are Q S = -87 , 500 + 1 , 250 P (Market Supply) Q D = 250 , 000 - 1 , 000 P (Market Demand) where Q is output in megawatt hours per month (in thousands), and P is the market price per megawatt hour. A megawatt hour is 1 million watt-hours, where watt-hours is a common measurement of energy produced in a given amount of time, arrived at by multiplying voltage by amp hours. The typical California home uses 1 megawatt hour of electricity per month. A. Graph and calculate the equilibrium price-output solution. Use this graph to help you algebraically determine the amount of producer surplus generated in this market. B. Calculate the maximum lump-sum tax that could be imposed on producers without affecting the short-run supply of electricity. Is such a tax apt to affect the long-run supply of electricity? Explain.
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In 1990, Congress adopted a luxury tax to be paid by buyers of high-priced cars, yachts, private airplanes, and jewelry. Proponents saw the levy as an effective means of taxing the rich. Critics pointed out that those bearing the hardship of a tax may or may not be the same as those who pay the tax (the point of tax incidence). Explain how the elasticities of supply and demand in competitive markets can have direct implications for the ability of buyers and sellers to shift the burden of taxes imposed upon them. Also explain how elasticity information has implications for the amount of social welfare lost due to the deadweight loss of taxation.
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Assume that you are willing to pay $1,100 for a new personal computer that has all the "bells and whistles." On the Internet, you buy one for the bargain price of $900. Unbeknownst to you, the Internet retailer's marginal cost was only $750. How much consumer surplus, producer surplus, and net addition to social welfare stems from your purchase? Explain.
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Labor Policy. People of many different age groups and circumstances take advantage of part-time employment opportunities provided by the fast-food industry. Given the wide variety of different fast-food vendors, the industry is fiercely competitive, as is the unskilled labor market. In each of the following circumstances, indicate whether the proposed changes in government policy are likely to have an increasing, a decreasing, or an uncertain effect on employment in this industry. A. Elimination of minimum wage law coverage for those working less than 20 hours per week. B. An increase in spending for education that raises basic worker skills. C. An increase in the employer portion of federally mandated FICA insurance costs. D. A requirement that employers install expensive new worker-safety equipment. E. A state requirement that employers pay 8 percent of wages to fund a new national health care program.
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Social Welfare. Natural gas is in high demand as a clean-burning energy source for home heating and air conditioning, especially in major metropolitan areas where air quality is a prime concern. The domestic supply of natural gas is also plentiful. Government reports predict that gas recoverable with current technology from domestic supply sources is sufficient to satisfy production needs for more than 50 years. Plentiful imports from Canada are also readily available to supplement domestic production. To illustrate the net amount of social welfare generated in this vigorously competitive market, assume that market supply and demand conditions are Q S = -2 , 000 + 800 P (Market Supply) Q D = 4 , 500 - 500 P (Market Demand) where Q is output in Btus (in millions), and P is price per unit. A British thermal unit (Btu) is an English standard unit of energy. One Btu is the amount of thermal energy necessary to raise the temperature of one pound of pure liquid water by one degree Fahrenheit at the temperature at which water has its greatest density (39 degrees Fahrenheit). A. Graph and calculate the equilibrium price-output solution. B. Use this graph to help you algebraically determine the amount of consumer surplus, producer surplus, and net social welfare generated in this market.
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After having declined during the 1970s and 1980s, the proportion of teenage smokers in the United States has risen sharply since the early 1990s. To reverse this trend, advertising programs have been launched to discourage teenage smoking, penalties for selling cigarettes to teenagers have been toughened, and the excise tax on cigarettes has been increased. Explain how each of these public policies affects demand for cigarettes by teenagers.
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Protective Tariffs. In the United States, steel production has remained constant since the 1970s at about 100 million tons per year. Large integrated companies, like U.S. Steel, remain important in the industry, but roughly 50 percent of domestic production is now produced by newer, nimble, and highly efficient mini-mill companies. Foreign imports account for roughly 30 percent of domestic steel use. In order to stem the tide of rising imports, President George W. Bush announced in 2002 that the United States would introduce up to 30 percent tariffs on most imported steel products. These measures were to remain in place for 3 years. To show how protective tariffs can help domestic producers, consider the following cost relations for a typical competitor in this vigorously competitive market: TC = $150 , 000 + $100 Q + $0. 15 Q 2 MC = ? TC/ ? Q = $100 + $0. 3 Q where TC is total cost, MC is marginal cost, and Q is output measured by tons of hot-dipped galvanized steel. Cost figures and output are in thousands. A. Assume prices are stable in the market, and P = MR = $400. Calculate the profit-maximizing price-output combination and economic profits for a typical producer in competitive market equilibrium. B. Calculate the profit-maximizing price-output combination and economic profits for a typical producer if domestic market prices rise by 30 percent following introduction of Bush's protective tariff.
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Price Floors. Each year, about 9 billion bushels of corn are harvested in the United States. The average market price of corn is a little over $2 per bushel, but costs farmers about $3 per bushel. Tax payers make up the difference. Under the 2002 $190 billion, 10-year farm bill, American taxpayers will pay farmers $4 billion a year to grow even more corn, despite the fact that every year the United States is faced with a corn surplus. Growing surplus corn also has unmeasured environmental costs. The production of corn requires more nitrogen fertilizer and pesticides than any other agricultural crop. Runoff from these chemicals seeps down into the groundwater supply, and into rivers and streams. Ag chemicals have been blamed for a 12,000-square-mile dead zone in the Gulf of Mexico. Overproduction of corn also increases U.S. reliance on foreign oil. To illustrate some of the cost in social welfare from agricultural price supports, assume the following market supply and demand conditions for corn: Q S = -5 , 000 + 5 , 000 P (Market Supply) Q D = 10 , 000 - 2 , 500 P (Market Demand) where Q is output in bushels of corn (in millions), and P is the market price per bushel. A. Graph and calculate the equilibrium price-output solution. Use this graph to help you algebraically determine the amount of surplus production the government will be forced to buy if it imposes a support price of $2.50 per bushel. B. Use this graph to help you algebraically determine the gain in producer surplus due to the support price program. Explain.
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Both employers and employees pay Social Security (FICA) on wage income. While the burden of this tax is designed to be borne equally by employers and employees, is a straight 50/50 sharing of the FICA tax burden likely? Explain.
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Import Controls. Critics argue that if Congress wants to make the tax code more equitable, a good place to start would be removing unfair tariffs and quotas. Today, there are more than 8,000 import tariffs, quotas, so-called voluntary import restraints, and other import restrictions. Tariffs and quotas cost consumers roughly $80 billion per year, or about $800 for every American family. Some of the tightest restrictions are reserved for food and clothing that make up a large share of low-income family budgets. The domestic shoe market shows the effects of import controls on a large competitive market. Assume market supply and demand conditions for shoes are Q US = -50 + 2. 5 P (Supply from U.S. Producers) Q F = -25 + 2. 5 P (Supply from Foreign Producers) Q D = 375 - 2. 5 P (Market Demand) where Q is output (in millions), and P is the market price per unit. A. Graph and calculate the equilibrium price-output solution assuming there are no import restrictions, and under the assumption that foreign countries prohibit imports. B. Use this graph to help you algebraically determine the amount of consumer surplus transferred to producer surplus and the deadweight loss in consumer surplus due to a ban on foreign imports. Explain.
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The demand for basic foodstuffs, like feed grains, tends to be inelastic with respect to price. Use this fact to explain why highly fertile farmland will fetch a relatively high price at any point in time, but that rising farm productivity over time has a negative overall influence on farmland prices.
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The New York City Rent Stabilization Law of 1969 established maximum rental rates for apartments in New York City. Explain how such controls can lead to shortages, especially in the long run, and other economic costs. Despite obvious disadvantages, why does rent control remain popular?
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Deadweight Loss of Taxation. To many upscale homeowners, no other flooring offers the warmth, beauty, and value of wood. New technology in stains and finishes calls for regular cleaning that takes little more than sweeping and/or vacuuming, with occasional use of a professional wood floor cleaning product. Wood floors are also ecologically friendly because wood is both renewable and recyclable. Buyers looking for traditional oak, rustic pine, trendy mahogany, or bamboo can choose from a wide assortment. At the wholesale level, wood flooring is a commodity-like product sold with rigid product specifications. Price competition is ferocious among hundreds of domestic manufacturers and importers. Assume that market supply and demand conditions for mahogany wood flooring are Q S = -10 + 2 P (Market Supply) Q D = 320 - 4 P (Market Demand) where Q is output in square yards of floor covering (000), and P is the market price per square yard. A. Graph and calculate the equilibrium price-output solution before and after imposition of a $9 per unit tax. B. Calculate the deadweight loss to taxation caused by imposition of the $9 per unit tax. How much of this deadweight loss was suffered by consumers versus producers? Explain.
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Your best income-earning opportunity appears to be an offer to work for a local developer during the month of June and earn $2,000. However, before taking the job, you accept a surprise offer from a competitor. If you actually earn $2,600 during the month, how much producer surplus have you earned? Explain.
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In 2004, OPEC reduced the quantity of oil it was willing to supply to world markets. Explain why the resulting price increase was much larger in the short run than in the long run.
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