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CHAPTER 10MONOPOLISTIC COMPETITION AND OLIGOPOLY

MULTIPLE CHOICE
1. For a firm in monopolistically competitive market equilibrium:
a. MC AC
b. MR AR
c. MR = MC
d. P AC
ANS: C
2. In oligopoly equilibrium:
a. MC = AC
b. MC > AC
c. MR = MC
d. MC > AC
ANS: C
3. A perfectly functioning cartel results in a(n):
a. monopoly equilibrium.
b. oligopoly equilibrium.
c. perfectly competitive equilibrium.
d. monopolistically competitive equilibrium.
ANS: A
4. A successfully exploited niche market involves elements of:
a. perfect competition.
b. monopolistic competition.
c. monopoly.
d. monopsony.
ANS: C
5. In both monopolistic competition and oligopoly markets:
a. there is easy entry and exit.
b. consumers perceive differences among the products of various competitors.
c. economic profits may be earned in the long run.
d. there are many sellers.
ANS: B
6. When prices in monopolistically competitive markets exceed those in a perfectly competitive
equilibrium, this difference is the cost of:
a. information.
b. market power.
c. inefficiency.
d. product differentiation.
ANS: D
7. Monopolistic competition always entails:

a.
b.
c.
d.

declining LRAC.
vigorous price competition.
increasing LRAC.
constant LRAC.

ANS: B
8. Monopolistic competition is characterized by:
a. homogeneous products.
b. barriers to entry and exit.
c. perfect dissemination of information.
d. few buyers and sellers.
ANS: C
9. In a monopolistically competitive industry, firms:
a. offer products that are not perfect substitutes.
b. make decisions in light of expected reactions from other firms.
c. set price equal to marginal cost.
d. are price takers.
ANS: A
10. The demand curve faced by a firm in a monopolistically competitive industry is:
a. the downward sloping industry demand curve.
b. downward sloping.
c. more elastic than the perfectly competitive firm's demand curve.
d. horizontal.
ANS: B
11. In long-run equilibrium, the monopolistically competitive firm will set a price equal to:
a. average cost.
b. average variable cost.
c. marginal cost.
d. minimum long run average cost.
ANS: A
12. A perfectly functioning cartel leads to a price/output combination identical to an industry that is:
a. monopolistic.
b. monopolistically competitive.
c. oligopolistic.
d. perfectly competitive.
ANS: A
13. An formal agreement to set prices and output is called:
a. collusion.
b. monopolistic competition.
c. kinked demand.
d. a cartel.
ANS: D
14. The demand faced by an industry price leader is:

a.
b.
c.
d.

market demand.
market demand plus the demand for output by follower firms.
market demand less the supply of output by follower firms.
kinked.

ANS: C
15. The industry supply curve is derived through the horizontal summation of firm:
a. average cost curves.
b. marginal revenue curves.
c. marginal cost curves.
d. demand curves.
ANS: C
16. The kinked demand curve theory of oligopoly assumes that rival firms:
a. react to price increases.
b. react to price increases and decreases.
c. do not react to price changes.
d. react to price decreases.
ANS: D
17. Equilibrium in oligopoly markets is characterized by:
a. P > AC and MR = MC
b. P = MR and AC = MC
c. P < MR and AC < MC
d. P = AC and MR = MC
ANS: D
18. A firm should increase advertising if the net marginal revenue derived is:
a. equal to the marginal cost of advertising.
b. greater than the marginal cost of advertising.
c. greater than zero.
d. less than the marginal cost of advertising.
ANS: B
19. The vigor of competition always decreases with a fall in:
a. product differentiation.
b. barriers to entry.
c. the level of available information.
d. the number of competitors.
ANS: C
20. The four-firm concentration ratio will rise following:
a. a rise in imports.
b. a fall in imports.
c. a merger between the two largest firms in the industry.
d. small firm entry.
ANS: C
21. A kinked demand curve results from:

a.
b.
c.
d.

different competitor reactions .


competitor price reactions.
an absence of competitor price reactions.
supply imbalance.

ANS: A
22. A perfectly functioning cartel results in:
a. oligopoly.
b. monopoly.
c. perfect competition.
d. monopolistic competition.
ANS: B
23. In monopolistically competitive markets, the firm demand curve is:
a. upward sloping.
b. downward sloping.
c. horizontal.
d. vertical.
ANS: B
24. In oligopoly markets, the market demand curve is:
a. upward sloping.
b. downward sloping.
c. horizontal.
d. vertical.
ANS: B
25. A theory used to explain rigid or "sticky" in oligopoly markets is proposed in the:
a. Cournot model.
b. Stackelberg model.
c. Bertrand model.
d. Sweezy model.
ANS: D
PROBLEM
1. Competition Concepts. Indicate whether each of the following statements is true or false and why.
A. A high ratio of distribution cost to total cost tends to increase competition by widening the
geographic area over which any individual producer can compete.
B.

The price elasticity of demand will tend to fall as new competitors introduce substitute
products.

C.

Equilibrium in monopolistically competitive markets requires that firms be operating at the


minimum point on the long-run average cost curve.

D. An increase in product differentiation will tend to decrease the slope of firm demand curves.
E.

A perfectly functioning cartel would achieve the perfectly competitive industry price-output

combination.
ANS:
A. False. A low ratio of distribution cost to total cost tends to increase competition by widening
the geographic area over which any individual producer can compete.
B.

False. The price elasticity of demand will tend to rise as new competitors introduce
substitute products.

C.

False. Stable equilibrium in perfectly competitive markets requires that firms must operate at
the minimum point on the long-run average cost curve. In monopolistically competitive
markets, however, equilibrium is achieved at a point of tangency between firm demand and
average cost curves. This tangency typically occurs at an output level below the point of
minimum long-run average costs.

D. False. An increase in product differentiation will tend to increase the slope of individual firm
demand curves.
E.

False. A perfectly functioning cartel would achieve the monopoly price-output combination.

2. Pricing Discretion. Would the following factors increase or decrease the ability of domestic
manufacturers to raise prices and profit margins? Why?
A. Elimination of uniform product safety standards.
B.

Increased import tariffs (taxes).

C.

Increase import quotas.

D. A rising value of the dollar that has the effect of lowering import prices.
E.

A tax on price advertising.

ANS:
A. Increase. An elimination of product safety standards will reduce product homogeneity. As
product differentiation rises, some increase in the pricing discretion of firms will result.
B.

Increase. An increase in import tariffs (taxes) will increase the price of imports, thus making
imports less attractive to buyers. This will reduce the price pressure on domestic
manufacturers, and make it easier for them to increase profit margins.

C.

Decrease. As import quotas are increased, more substitutes for domestic products become
available. This will increase competition in the industry, and put downward pressure on
profit margins.

D. Decrease. A rising value of the dollar that has the effect of lowering import prices will put
downward pressure on the profit margins of domestic manufacturers.
E.

Increase. A tax on price advertising will reduce price competition and thereby increase the
ability of firms to raise profit margins.

3. Monopolistic Competition. Soft Lens, Inc., has enjoyed rapid growth in sales and high operating
profits on its innovative extended-wear soft contact lenses. However, the company faces potentially
fierce competition from a host of new competitors as some important basic patents expire during the
coming year. Unless the company is able to thwart such competition, severe downward pressure on
prices and profit margins is anticipated.
A. Use Soft Lens' current price, output, and total cost data to complete the following table:
Price
($)
$20
19
18
17
16
15
14
13
12
11
10

Monthly
Output
(mil.)
0
1
2
3
4
5
6
7
8
9
10

Total
Revenue
(mil.)

Marginal
Revenue
(mil.)

Total
Cost
(mil.)
$ 0
12
27
42
58
75
84
92
96
99
105

Marginal
Cost
(mil.)

Average
Cost
(mil.)

Total
Profit
(mil.)

(Note: Total costs include a risk-adjusted normal rate of return.)


B.

If cost conditions remain constant, what is the monopolistically competitive high-price/lowoutput long-run equilibrium in this industry? What are industry profits?

C.

Under these same cost conditions, what is the monopolistically competitive low-price/highoutput equilibrium in this industry? What are industry profits?

D. Now assume that Soft Lens is able to enter into restrictive licensing agreements with
potential competitors and create an effective cartel in the industry. If demand and cost
conditions remain constant, what is the cartel price/output and profit equilibrium?
ANS:
A.
Price
($)
$20
19
18
17
16
15
14
13
12
11
10

B.

Monthly
Total Marginal
Total Marginal
Average
Total
Output Revenue Revenue
Cost
Cost
Cost
Profit
(million) ($million) ($million) ($million) ($million) ($million) ($million)
0
$ 0
--$ 0
----$0
1
19
$19
12
$12
$12.00
7
2
36
17
27
15
13.50
9
3
51
15
42
15
14.00
9
4
64
13
58
16
14.50
6
5
75
11
75
17
15.00
0
6
84
9
84
9
14.00
0
7
91
7
92
8
13.14
-1
8
96
5
96
4
12.00
0
9
99
3
99
3
11.00
0
10
100
1
105
6
10.50
-5

The monopolistically competitive high-price/low-output equilibrium is P = AC = $14, Q =


6(000,000), and = TR - TC = 0. Only a risk-adjusted normal rate of return is being earned

in the industry, and excess profits equal zero. Because = 0 and MR = MC = $9, there is no
incentive for either expansion or contraction. Such an equilibrium is typical of
monopolistically competitive industries where each individual firm retains some pricing
discretion in long-run equilibrium.
C.

The monopolistically competitive low-price/high-output equilibrium is P = AC = $11, Q =


9(000,000), and = TR - TC = 0. Again, only a risk-adjusted normal rate of return is being
earned in the industry, and excess profits equal zero. Because = 0 and MR = MC = $3,
there is no incentive for either expansion or contraction. This price/output combination is
identical to the perfectly competitive equilibrium. (Note that average cost is rising and
profits are falling for Q > 9.)

D. A monopoly price/output and profit equilibrium results if Soft Lens is able to enter into
restrictive licensing agreements with potential competitors and create an effective cartel in
the industry. If demand and cost conditions remain constant, the cartel price/output and profit
equilibrium is at P = $17, Q = 3(000,000), and = $9(000,000). There is no incentive for the
cartel to expand or contract production at this level of output because MR = MC = $15.
4. Monopolistic Competition. Merck & Co. markets a product called ZOCOR that treats people who
suffer from high cholesterol and heart disease. ZOCOR works by reducing the amount of cholesterol in
your blood. ZOCOR can dramatically lower LDL ("bad") responsible for depositing cholesterol in
artery walls and elevate HDL ("good") cholesterol, which helps return LDL cholesterol to the
bloodstream, thus preventing buildup of cholesterol in the artery walls. Elevated LDL cholesterol is
associated with a greater risk of heart disease, and heart disease is the leading cause of death for people
in the United States.
A. Assume the following table shows relevant information for ZOCOR. Complete the table.
Price
per
unit
$30
28
26
24
22
20
18
16

Output
(billion)
0
1
2
3
4
5
6
7

Total
Revenue
(billion)

Marginal
Revenue
(billion)

Total
Cost
(billion)
$ 6
30
52
72
90
100
108
133

Marginal
Cost
(billion)

Average
Cost
($)

B.

Assuming cost conditions remain constant, what is the monopolistically competitive highprice/low-output long-run equilibrium?

C.

What is the monopolistically competitive low-price/high-output equilibrium? (Note: This is


also the perfectly competitive equilibrium.)

ANS:
A.
Price
per
unit
$30

Output
(billion)
0

Total
Revenue
(billion)
$ 0

Marginal
Revenue
(billion)
--

Total
Cost
(billion)
$ 6

Marginal
Cost
(billion)
--

Average
Cost
($)
--

28
26
24
22
20
18
16

B.

C.

1
2
3
4
5
6
7

28
52
72
88
100
108
112

$28
24
20
16
12
8
4

30
52
72
90
100
108
133

$24
22
20
18
10
8
25

$ 30
26
24
22.5
20
19
18

The monopolistically competitive high price-low output equilibrium is at P = AC = $24, Q =


3(billion) and = TR - TC = 0. No excess profits are being earned, MR = MC = $20, and
there would be no incentive for either expansion or contraction. Such an equilibrium is
typical of monopolistically competitive industries where each individual firm retains some
pricing discretion in the long-run.
The monopolistically competitive low price-high output equilibrium is at P = AC = $18, Q =
6(000) and = TR - TC = 0. No excess profits are being earned, MR = MC = $8, and there
would be no incentive for either expansion or contraction. This is similar to the perfectly
competitive equilibrium. (Note that average cost is rising for Q > 6.)

5. Monopolistic Competition. Paintless Dent Removal, Inc., was an early innovator in the noninvasive
removal of dents, dings, and hail damage from cars, trucks and SUVs. Imitation by traditional auto
body repair shops and a host of new rivals is poised to eliminat the company's early lead.
A. Assume the following table shows relevant information for Paintless Dent Removal.
Complete the table.
Price
per
unit
$625
600
575
550
525
500
475
450

Output
(000)
0
1
2
3
4
5
6
7

Total
Revenue
($000)

Marginal
Revenue
($000)

Total
Cost
($000)
$ 25
600
1,150
1,650
2,085
2,500
2,850
3,360

Marginal
Cost
($000)

Average
Cost
($)

B.

Assuming cost conditions remain constant, what is the monopolistically competitive highprice/low-output long-run equilibrium?

C.

What is the monopolistically competitive low-price/high-output equilibrium? (Note: This is


also the perfectly competitive equilibrium.)

ANS:
A.
Price
$625
600
575
550
525
500

Output
(000)
0
1
2
3
4
5

Total
Revenue
($000)
$ 0
600
1,150
1,650
2,100
2,500

Marginal
Revenue
($000)
-$600
550
500
450
400

Total
Cost
($000)
$ 25
600
1,150
1,650
2,085
2,500

Marginal
Cost
($000)
-$575
550
500
435
415

Average
Cost
($)
-$600
575
550
520
500

475
450

6
7

2,850
3,150

350
300

2,850
3,360

350
510

475
480

B.

The monopolistically competitive high price-low output equilibrium is at P = AC = $575, Q


= 2(000) and = TR - TC = 0. No excess profits are being earned, MR = MC = $550, and
there would be no incentive for either expansion or contraction. Such an equilibrium is
typical of monopolistically competitive industries where each individual firm retains some
pricing discretion in the long-run.

C.

The monopolistically competitive low price-high output equilibrium is at P = AC = $475, Q


= 6(000) and = TR - TC = 0. No excess profits are being earned, MR = MC = $350, and
there would be no incentive for either expansion or contraction. This is similar to the
perfectly competitive equilibrium. (Note that average cost is rising for Q > 6.)

6. Monopolistic Competition. Asian Imports, Inc., markets electronic devices imported from Asian
producers. The company recently introduced an innovative and enormously successful 5 GB Joystick
(computer memory device), but a flood of competitor entry and downward pressure on both prices and
profits is expected during the coming year.
A. Use Asian Imports' price, output and total cost data to complete the following table:
Price
per
unit
$50
48
46
44
42
40
38
36

Output
(000)
0
100
200
300
400
500
600
700

Total
Revenue
($000)

Marginal
Revenue
($000)

Total
Cost
($000)
$ 600
5,000
9,200
13,200
16,700
20,100
22,800
25,200

Marginal
Cost
($000)

Average
Cost
($)

B.

Assuming cost conditions remain constant, what is the monopolistically competitive highprice/low-output long-run equilibrium?

C.

What is the monopolistically competitive low-price/high-output equilibrium? (Note: This is


also the perfectly competitive equilibrium.)

ANS:
A.
Price
$50
48
46
44
42
40
38
36

Output
(000)
0
100
200
300
400
500
600
700

Total
Revenue
($000)
$
0
4,800
9,200
13,200
16,800
20,000
22,800
25,200

Marginal
Revenue
($000)
-$4,800
4,400
4,000
3,600
3,200
2,800
2,400

Total
Cost
($000)
$ 600
5,000
9,200
13,200
16,700
20,100
22,800
25,200

Marginal
Cost
($000)
-$4,400
4,200
4,000
3,500
3,400
2,700
2,400

Average
Cost
($)
-$50
46
44
41.75
40.20
38
36

B.

The monopolistically competitive high price-low output equilibrium is at P = AC = $46,


Q = 300(000) and = TR - TC = 0. No excess profits are being earned, MR = MC = $40,
and there would be no incentive for either expansion or contraction. Such an equilibrium is
typical of monopolistically competitive industries where each individual firm retains some
pricing discretion in the long-run.

C.

The monopolistically competitive low price-high output equilibrium is at P = AC = $36,


Q = 700(000) and = TR - TC = 0. No excess profits are being earned, MR = MC = $2,400,
and there would be no incentive for either expansion or contraction. This is similar to the
perfectly competitive equilibrium. (Note that average cost is rising for Q > 700.)

7. Price/Output Equilibrium. Osteopathic Devices, Inc., makes products used in the surgical
replacement of degenerated bone material. During recent years, its unique hip joint replacement
product has successfully exploited a small but profitable niche in the market. The company's monopoly
position in this market niche is now threatened by a competitor's announcement of a new device with
capabilities similar to those of the Osteopathic product.
A. Complete the following table based on the Osteopathic product's price, output and costs per
month:
Output
(00)
0
1
2
3
4
5

Price
$2,500
2,400
2,300
2,200
2,100
2,000

Total
Revenue
($00)

Marginal
Revenue
($00)

Total
Cost
($00)
$ 2,000
3,000
4,500
6,500
8,400
10,000

Marginal
Cost
($00)

B.

While Osteopathic still enjoys a monopoly position, what is their output, price, and profit at
the profit-maximizing activity level?

C.

What is the output, price, and profit for this product if a monopolistically competitive
equilibrium evolves in this market following the successful introduction of the competitor's
product? (Assume identical costs conditions for each firm.)

ANS:
A.
Output
(00)
0
1
2
3
4
5
B.

Price
($)
$2,500
2,400
2,300
2,200
2,100
2,000

Total
Revenue
($00)
$
0
2,400
4,600
6,600
8,400
10,000

Marginal
Revneue
($00)
-$2,400
2,200
2,000
1,800
1,600

Total
Cost
($00)
$ 2,000
3,000
4,500
6,500
8,400
10,000

Marginal
Cost
($00)
-$1,000
1,500
2,000
1,900
1,600

The profit-maximizing activity level is found where MR = MC. As a monopoly, MR = MC =


$2,000(00) at the Q = 3(00) activity level. This implies P = $2,200 and = TR -TC = $6,600
- $6,500 = $100(00) per month.

C.

The monopolistically competitive equilibrium occurs where MR = MC and zero excess


profits are earned, and TR = TC. Here, MR = MC = $1,600(00) and TR = TC = $10,000(00)
at Q = 5(00) units per month, with P = $2,000 and = TR - TC = $0 per month.

8. Price/Output Equilibrium. Suppose Target Stores, Inc., sell RainAway, an innovative product with
polymers used to coat the windshields of cars, planes, and boats. RainAway makes windshields and
other such surfaces slick enough for rain to slide off easily. In the case of windshields, RainAway
makes it possible to avoid the use of windshield wiper blades except during the most torrential
downpours. During recent years, RainAway has used its unique windshield coating product to
successfully exploited a small but profitable niche in the market. However, RainAway's monopoly
position in this market niche is now threatened by a competitor's announcement of a new product with
capabilities similar to those of the RainAway product.
A. Complete the following table based on the RainAway product's price, output and costs per
year:
Case
Output
(000)
0
1
2
3
4
5

Price
$15
14
13
12
11
10

Total
Revenue
($000)

Marginal
Revenue
($000)

Total
Cost
($000)
$ 1
13
25
36
44
55

Marginal
Cost
($000)

B.

While RainAway still enjoys a monopoly position, what is their output, price, and profit at
the profit-maximizing activity level?

C.

What is the output, price, and profit for this product if a monopolistically competitive
equilibrium evolves in this market following the successful introduction of the competitor's
product? (Assume similar cost conditions for each firm.)

ANS:
A.
Case
Output
(000)
0
1
2
3
4
5

Price
$15
14
13
12
11
10

Total
Revenue
($000)
$ 0
14
26
36
44
50

Marginal
Revenue
($000)
-$14
12
10
8
6

Total
Cost
($000)
$ 1
13
25
36
44
55

Marginal
Cost
($000)
-$12
12
11
8
11

B.

The profit-maximizing activity level is found where MR = MC. As a monopoly, MR = MC =


$12(000) at the Q = 2(000) activity level. This implies P = $13 and = TR - TC = $26 - $25
= $1(000) per year.

C.

The monopolistically competitive equilibrium occurs where MR = MC and zero excess


profits are earned, and TR = TC. Here, MR = MC = $8(000) and TR = TC = $44(000) at Q =

4(000) units per year, with P = $11 and = TR - TC = $0 per year.


9. Price/Output Equilibrium. Dentists market a variety of tooth whitening products and services to a
growing market of aging baby boomers. Until recently, tooth whitening services provided by dentists
were a relatively small but highly profitable niche in the dental services market. Now, the position of
dentists in the tooth whitening services market is threatened by a host of new product introductions by
leading suppliers of toothpaste and mouth wash products.
A. Assume the following data shows annual data for tooth whitening services provided by
dentists in a typical major metropolitan area.
Output
(000)
0
1
2
3
4
5

Price
$100
90
80
70
60
50

Total
Revenue
($000)

Marginal
Revenue
($000)

Total
Cost
($000)
$ 5
80
150
210
240
260

Marginal
Cost
($000)

B.

If dentists had an exclusive ability to offer such services, what would be their output, price,
and profit at the profit-maximizing activity level?

C.

What is the output, price, and profit for this product if a monopolistically competitive
equilibrium evolves in this market following the successful introduction of competing
products? (Assume similar costs conditions for each firm.)

ANS:
A.
Output
(000)
0
1
2
3
4
5

Price
($)
$100
90
80
70
60
50

Total
Revenue
($000)
$ 0
90
160
210
240
250

Marginal
Revenue
($000)
-$90
70
50
30
10

Total
Cost
($000)
$ 5
80
150
210
240
260

Marginal
Cost
($000)
-$75
70
60
30
20

B.

The profit-maximizing activity level is found where MR = MC. As a monopoly, MR = MC =


$70(000) at the Q = 2(000) activity level. This implies P = $80 and = TR - TC = $160 $150 = $10(000) per month.

C.

The monopolistically competitive equilibrium occurs where MR = MC and zero excess


profits are earned, and TR = TC. Here, MR = MC = $30(000) and TR = TC = $240(000) at
Q = 4(000) units per month, with P = $60 and = TR - TC = $0 per month.

10. Price/Output Equilibrium. Sears markets an innovative two-step carpet cleaning process. Because
leftover carpet cleaning solutions can act as a magnet for dirt, Sears exclusive two-step carpet cleaning
system includes a specially formulated pH- balancing fiber rinse that removes carpet cleaning solution
residue right along with deep-down dirt. According to Sear's, all that's left behind is cleaner, softer,
more beautiful carpet.
A. Assume the following table shows relevant information for Sear's two-step carpet cleaning
business in a medium-size metropolitan area. Complete the following table.
Square
Yards
Output
(000)
0
1
2
3
4
5

Price
$30
28
26
24
22
20

Total
Revenue
($000)

Marginal
Revenue
($000)

Total
Cost
($000)
$ 0
26
48
68
88
100

Marginal
Cost
($000)

B.

While Sear's enjoys a monopoly position, what is their output, price, and profit at the profitmaximizing activity level?

C.

What is the output, price, and profit for this product if a monopolistically competitive
equilibrium evolves in this market following the successful introduction of the competitor
services? (Assume similar costs conditions for each firm.)

ANS:
A.
Output
(000)
0
1
2
3
4
5

Price
($)
$30
28
26
24
22
20

Total
Revenue
($000)
$ 0
28
52
72
88
100

Marginal
Revenue
($000)
-$28
24
20
16
12

Total
Cost
($000)
$ 0
26
48
68
88
100

Marginal
Cost
($000)
-$26
22
20
20
12

B.

The profit-maximizing activity level is found where MR = MC. As a monopoly, MR = MC =


$20(000) at the Q = 3(000) activity level. This implies P = $24 and = TR - TC = $72 - $68
= $4(000) per month.

C.

The monopolistically competitive equilibrium occurs where MR = MC and zero excess


profits are earned, and TR = TC. Here, MR = MC = $12(000) and TR = TC = $100(000) at
Q = 5(000) units per month, with P = $0 and = TR - TC = $0 per month.

11. Price/Output Equilibrium. The domestic sewing machine manufacturing industry is highly
concentrated with only three active firms. Annual output and the marginal cost of production for "free
arm" models produced by each company are as follows:
Marginal Cost

Annual
Output
(million)
1
2
3
4
5
6
7

Frantic
Frasier
(F)
$1,000
900
800
700
750
850
950

Neurotic
Niles
(N)
$1,200
1,000
800
600
750
900
1,000

Delightful
Daphne
(D)
$1,500
1,200
900
600
700
750
800

Competition from low-priced imports has been effectively limited by import tariffs (taxes). Given this
import protection, domestic firms are able to sell as much output as they wish at the current wholesale
market price of $750. However, industry prices haven't risen above $750 because this price triggers a
flood of foreign competition.
A. Calculate industry output and the market share of each firm based on the assumptions that
prices are stable, and therefore that P = MR = $750, and that MC > AVC.
B.

Calculate industry output and the market share of each firm if removal of import restrictions
reduces prices such that P = MR = $600. Again assume that MC > AVC.

ANS:
A. Each industry participant will produce to the point where MR = MC. Given P = MR = $750,
each firm will produce such that MC = MR = $750. A total Q = 16(000,000) units will be
produced as follows:
Firm
Fraiser (F)
Niles (N)
Daphne (D)
Total
B.

Output
5
5
6
16

Market
Share
31.25%
31.25%
37.50%
100.00%

Following a decrease in industry prices to P = MR = $600, industry output will fall to Q =


8(000,000) distributed as follows:
Firm
Fraiser (F)
Niles (N)
Daphne (D)
Total

Output
0
4
4
8

Market
Share
0%
50%
50%
100%

Note that Fraiser, with a minimum MC = $700, will be unable to justify production when P =
MR = $600 and therefore will withdraw from the industry.
12. Cartel Pricing. The optical fiber manufacturing industry is highly concentrated with only three active
firms. Annual output and the marginal cost of production for each company are as follows:
Marginal Cost
Annual

Output
(million)
1
2
3
4
5
6
7

Corning
(C)
$2,300
2,200
2,050
1,800
1,900
2,000
2,220

Fibercore
(F)
$2,400
2,150
1,950
1,800
2,000
2,100
2,300

INO
(I)
$2,500
2,300
2,100
1,900
2,000
2,150
2,250

Competition from lower-priced imports has been effectively limited by import tariffs (taxes). Given
this import protection, domestic firms are able to sell as much output as they wish at the current
wholesale market price of $2,000. However, industry prices haven't risen above $2,000 because this
price triggers a flood of foreign competition.
A. Calculate industry output and the market share of each firm based on the assumptions that
prices are stable, and therefore that P = MR = $2,000, and that MC > AVC.
B.

Calculate industry output and the market share of each firm if removal of import restrictions
reduces prices such that P = MR = $1,800. Again assume that MC > AVC.

ANS:
A. Each industry participant will produce to the point where MR = MC. Given P = MR =
$2,000, each firm will produce such that MC = MR = $2,000. A total Q = 16(000,000) units
will be produced as follows:
Firm
Corning (C)
Fibercore (F)
INO (I)
Total
B.

Output
6
5
5
16

Market
Share
37.50%
31.25%
31.25%
100.00%

Following a decrease in industry prices to P = MR = $1,800, industry output will fall to Q =


8(000,000) distributed as follows:
Firm
Corning (C)
Fibercore (F)
INO (I)
Total

Output
4
4
0
8

Market
Share
50%
50%
0%
100%

Note that INO with a minimum MC = $1,900 will be unable to justify production when P =
MR = $1,800 and therefore will withdraw from the industry.
13. Cartel Pricing. The domestic color separator manufacturing industry is highly concentrated with only
three active firms. Color separators are used in the production of high-quality images used to produce
glossy color, pamphlets, newspapers, etc. Annual output and the marginal cost of production for
production grade models produced by each company are as follows:
Marginal Cost
Annual
Houston
Rapid
Color
Output
Graphics
Color
Purple

(thousand)
1
2
3
4
5
6
7

(H)
$70,000
50,000
35,000
45,000
55,000
65,000
75,000

(R)
$60,000
40,000
20,000
30,000
35,000
55,000
65,000

(C)
$80,000
50,000
20,000
35,000
50,000
65,000
75,000

Competition from low-priced imports has been effectively limited by import tariffs (taxes). Given this
import protection, domestic firms are able to sell as much output as they wish at the current wholesale
market price of $35,000. However, industry prices haven't risen above $35,000 because this price
triggers a flood of foreign competition.
A. Calculate industry output and the market share of each firm based on the assumptions that
prices are stable, and therefore that P = MR = $35,000, and that MC > AVC.
B.

Calculate industry output and the market share of each firm if removal of import restrictions
reduces prices such as P = MR = $20,000. Again assume that MC > AVC.

ANS:
A. Each industry participant will produce to the point where MR = MC. Given P = MR =
$35,000, each firm will produce such that MC = MR = $35,000. A total Q = 12(000) units
will be produced as follows:
Firm
Houston Graphics (H)
Rapid Color (R)
Color Purple (C)
Total
B.

Output
3
5
4
12

Market
Share
25.00%
41.67%
33.33%
100%

Following a decrease in industry prices to P = MR = $20,000, industry output will fall to Q =


6(000) distributed as follows:
Firm
Houston Graphics (H)
Rapid Color (R)
Color Purple (C)
Total

Output
0
3
3
6

Market
Share
0%
50%
50%
100%

Note that Houston Graphics, with a minimum MC = $35,000 is unable to justify production when P =
MR = $20,000 and therefore will withdraw from the industry.
14. Cartel Pricing. The highway asphalt resurfacing business in upstate New York is highly concentrated
with only three active firms. Weekly output and the marginal cost of asphalt resurfacing services by
each company are as follows:
Marginal Cost
Output
(miles per

Pataki Construction

Hillary & Co.

Cuomo-Sumo, Inc.

week)
1
2
3
4
5
6
7

$230,000
210,000
190,000
200,000
215,000
230,000
245,000

$230,000
210,000
195,000
180,000
200,000
215,000
225,000

$260,000
240,000
220,000
205,000
180,000
200,000
220,000

Competition from low-priced out-of-state competitors has been effectively limited by licensing
requirements. Given this protection, local firms are able to sell as much output as they wish at the
current wholesale market price of $200,000. However, industry prices haven't risen above $200,000
because this price triggers a flood of out-of-state competition.
A. Calculate industry output and the market share of each firm based on the assumptions that
prices are stable, and therefore that P = MR = $200,000, and that MC > AVC.
B.

Calculate industry output and the market share of each firm if removal of import restrictions
reduces prices such as P = MR = $180,000. Again assume that MC > AVC.

ANS:
A. Each industry participant will produce to the point where MR = MC. Given P = MR =
$200,000, each firm will produce such that MC = MR = $200,000. A total Q = 15 units will
be produced as follows:
Firm
Pataki Construction
Hillary & Co.
Cuomo-Sumo, Inc.
Total
B.

Output
4
5
6
15

Market
Share
26.67%
33.33%
40.00%
100.00%

Following a decrease in industry prices to P = MR = $180,000, industry output will fall to Q


= 9 distributed as follows:
Firm
Pataki Construction
Hillary & Co.
Cuomo-Sumo, Inc.
Total

Output
0
4
5
9

Market
Share
0%
44%
56%
100%

Note that Pataki Construction, with a minimum MC = $190,000 will be unable to justify
production when P = MR = $180,000 and therefore will withdraw from the industry.
15. Cartel Pricing. An illegal cartel has been formed by three leading residential sanitation (trash pick-up)
service companies in Honolulu, Hawaii. Total production costs at various levels of service per month
are as follows:
Pick-ups
per Month

Aloha
Pick-up

Total Cost ($000)


Beta
Service,

Delta
Sanitation,

(000)
0
1
2
3
4
5

Ltd.
$ 2
7
11
14
16
25

Inc.
$ 4
10
14
17
22
30

Inc.
$ 0
2
5
9
14
20

A. Construct a table showing the marginal cost of production per firm.


B.

From the data in part A, determine an optimal allocation of output and maximum profits if
the cartel sets Q = 10(000) and P = $6.

C.

Is there an incentive for individual members to cheat by expanding output when the cartel
sets Q = 10(000) and P = $6?

ANS:
A.
Pick-ups
per Month
(000)
0
1
2
3
4
5
B.

Aloha
Pick-up
Ltd.
-$5
4
3
2
9

Marginal Cost ($000)


Beta
Service,
Inc.
-$6
4
3
5
8

Delta
Sanitation,
Inc.
-$2
3
4
5
6

Production should be allocated according to which firm is able to supply output at the lowest
marginal cost. When Q = 10(000), total cost is minimized if production is allocated as
follows:
Firm
Aloha
Beta
Delta
Total

Output Market Share


4
40%
3
30%
3
30%
10
100%

Profits = TR - TCA - TCB - TCD


= $6(10) - $16 - $17 - $9
= $18(000) per month
C.

Yes. At P = $6, both Beta and Delta would have an incentive to expand output. Profits for
each firm would grow if they each increased service because the $6 price exceeds their
marginal cost of service.

16. Cartel Pricing. An illegal cartel has been formed by the three leading catering services companies in
Colorado Springs, Colorado. Each are large enough to handle parties and food service for groups of
over 100 persons. Total production costs for various group sizes are as follows:
Total Cost ($000)

Maximum
number of
guests to serve
(000)
0
1
2
3
4
5

Flair for
Food Co.
(F)

Cater to
You, Inc.
(C)

Action
Catering,
Inc. (A)

$ 0
16
30
42
52
70

$ 4
22
38
50
62
84

$ 2
20
34
50
70
92

A. Construct a table showing the marginal cost of production per firm.


B.

From the data in part A, determine an optimal allocation of output and maximum profits if
the cartel sets Q = 10(000) and P = $16.

C.

Is there an incentive for individual members to cheat by expanding output when the cartel
sets Q = 10(000) and P = $16?

ANS:
A.
Flair for
Food Co.
(F)
-$16
14
12
10
18

Pickups per
Day (00)
0
1
2
3
4
5
B.

Marginal Cost
Cater to
You, Inc.
(C)
-$ 18
16
12
14
20

Action
Catering,
Inc. (A)
-$ 18
14
16
20
22

Production should be allocated according to which firm is able to supply output at the lowest
marginal cost. When Q = 10(000), total cost is minimized if production is allocated as
follows:
Firm
Flair for Food (F)
Cater to Your (C)
Action Catering (A)
Total

Output
4
4
2
10

Market
Share
40%
40%
20%
100%

Profits = TR - TCF - TCC - TCA


= $16(10) - $52 - $64 - $34
= $10(000) per day
C.

Yes. At P = $16, Action Catering would have an incentive to expand output. Profits for the
firm would grow if they increased service because the $16 price exceeds their marginal cost
of service.

17. Cartel Pricing. An illegal cartel has been formed by three leading on-site tractor trailer fleet washing
service companies in Harrisburg, Pennsylvania. Total costs at various levels of service per day are as
follows:
Tractor Trailer
Washes per
Day
0
25
50
75
100
125

On the Job,
Inc. (O)

Total Cost
H2O on the
Go (H)

50
500
900
1,250
1,550
2,100

$ 100
600
1,000
1,350
1,800
2,400

Fleet Services
(F)
$

0
450
900
1,450
2,050
2,700

A. Construct a table showing the marginal cost of production per firm.


B.

From the data in part A, determine an optimal allocation of output and maximum profits if
the cartel sets Q = 250 and P = $22.

C.

Is there an incentive for individual members to cheat by expanding output when the cartel
sets Q = 250 and P = $22?

ANS:
A.
Tractor Trailer
Washes per
Day
0
25
50
75
100
125
B.

On the Job,
Inc. (O)

Marginal Cost
H2O on the
Go (H)

Fleet Services
(F)

-$450
400
350
300
550

-$500
400
350
450
600

-$450
500
550
600
650

Production should be allocated according to which firm is able to supply output at the lowest
marginal cost. When Q = 250, total cost is minimized if production is allocated as follows:
Firm
On the Job, Inc. (A)
H2O on the Go (H)
Fleet Services (F)
Total

Output
100
100
50
250

Market
Share
40%
40%
20%
100%

Profits = TR - TCO - TCH - TCF


= $22(250) - $1,550 - $1,800 - $900
= $1,250 per day
C.

Yes. At P = $22, Fleet Services (F) would have an incentive to expand output. Profits for the
firm would grow if they increased service because the $22(25) = $550 price exceeds their

marginal cost of service for twenty-five additional tractor trailers.


18. Cartel Pricing. An illegal cartel has been formed by three leading ready-mix cement suppliers in the
local market. Total costs at various levels of service per day are as follows:

Daily Output
(000 cu. yds.)
0
1
2
3
4
5

Ready
Mixes,
Inc.
$ 2
12
21
29
36
47

Total Cost ($000)


Concrete
Products,
Inc.
$ 3
14
23
30
41
53

Hard Stuff,
Inc.
$ 0
8
17
27
38
50

A. Construct a table showing the marginal cost of production per firm.


B.

From the data in part A, determine an optimal allocation of output and maximum profits if
the cartel sets Q = 10(000) and P = $10.

C.

Is there an incentive for individual members to cheat by expanding output when the cartel
sets Q = 10(000) and P = $9?

ANS:
A.
Daily Output
(000 cu. yds.)
0
1
2
3
4
5
B.

Ready
Mixes,
Inc.
-$10
9
8
7
11

Marginal Cost ($000)


Concrete
Products,
Inc.
-$11
9
7
11
12

Hard Stuff,
Inc.
-$ 8
9
10
11
12

Production should be allocated according to which firm is able to supply output at the lowest
marginal cost. When Q = 10(000), total cost is minimized if production is allocated as
follows:
Market
Firm
Output
Share
Ready Mixes, Inc.
4
40%
Concrete Products, Inc.
3
30%
Hard Stuff, Inc.
3
30%
Total
10
100%
Profits = TR - TCR - TCC - TCH
= $10(10) - $36 - $30 - $27
= $7(000) per day

C.

No. At P = $10, none of the three firms would have an incentive to expand output. Profits for

each firm would decrease if they each increased service because the $10 price is less than the
marginal cost of expanded service.
19. Kinked Demand. VoIP Telephone, Inc., provides local and long distance telephone service in the
Toledo, Ohio market. The company faces the following segmented demand and marginal revenue
curves for its service:
Over the range of 0 to 25(000) customers per month:
P1 = $6 - $0.04Q
MR1 = TR1/Q = $6 - $0.08Q
When output exceeds 25(000) customers per month:
P2 = $8 - $0.12Q
MR2 = TR2/Q = $8 - $0.24Q
The company's total and marginal cost functions are as follows:
TC = $2.50 + $1.50Q + $0.02Q2
MC = TC/Q = $1.50 + $0.04Q
where P is price (in dollars), Q is output (in thousands), and TC is total cost (in thousands of dollars).
A. Graph the demand, marginal revenue, and marginal cost curves.
B.

How would you describe the market structure of this industry? Explain why the demand
curve takes the shape indicated above.

C.

Calculate price, output, and profits at the profit-maximizing activity level.

D. How much could marginal costs rise before the optimal price would increase? How much
could they fall before the optimal price would decrease?
ANS:
A.

B.

The firm is in an oligopolistic industry. It faces a kinked demand curve, indicating that
competitors will react to price reductions by cutting their own prices and causing the
segment of the demand curve below the kink to be highly inelastic. Price increases are not
followed, causing the portion of the demand curve above the kink to be very elastic.

C.

An examination of the graph indicates that the marginal cost curve passes through the gap in
the marginal revenue curve. Graphically, this indicates that optimal P = $5 and Q = 25(000).
Analytically,
MR1 = $6 - $0.08 (for Q < 25,000)
MR2 = $8 - $0.24Q (for Q > 25,000)
MC = $1.50 + $0.04Q
If one solves for the output levels where MR = MC, it is clear that MR 1 > MC over the range
Q < 25(000) and MR2 < MC for the range Q > 25(000). Therefore, CPI will produce 25(000)
units of output and market them at a price P1 = $6 - $0.04Q = $6 -$0.04(25) = $5.
Alternatively, P2 = $8 - $0.12Q = 4 - $0.12(25) = $5.
At P = $5 and Q = 25:
= TR - TC
= $5(25) - $2.50 - $1.50(25) - $0.02(252)
= $72.5(000) or $72,500 per month

D. At Q = 25(000),
MR1 = $6 -$0.08Q
= $6 - $0.08(25)
= $4

MR 2 = $8 - $0.24Q
= $8 - $0.24(25)
= $2

This implies that if marginal costs at Q = 25(000) exceed $4, the optimal price would
increase. Conversely, if marginal costs at Q = 25(000) fall below $2, the optimal price would
decrease. So long as marginal cost at Q = 25(000) is in the range of $2 to $4, the firm will
have no incentive to change its price.
20. Kinked Demand. Brooklyn Broadband, Inc., is a local provider of broadband access to the Internet in
Brooklyn, New York. Brooklyn faces the following segmented demand and marginal revenue curves
for its residential service:
Over the range of 0 to 50(000) customers per month:
P1 = $15 - $0.05Q
MR1 = TR1/Q = $15 - $0.1Q
When output exceeds 50(000)customers per month:
P2 = $22.50 - $0.2Q
MR2 = TR2/Q = $22.50 - $0.4Q
The company's total and marginal cost functions are as follows:
TC = $7.50 + $1.50Q + $0.025Q2
MC = TC/Q = $1.50Q + $0.05Q
where P is price (in dollars), Q is output (in thousands), and TC is total cost (in thousands of dollars).
A. Graph the demand, marginal revenue, and marginal cost curves.
B.

How would you describe the market structure of this industry? Explain why the demand
curve takes the shape indicated above.

C.

Calculate price, output, and profits at the profit-maximizing activity level.

D. How much could marginal costs rise before the optimal price would increase? How much
could they fall before the optimal price would decrease?
ANS:
A.

B.

The firm is in an oligopolistic industry. It faces a kinked demand curve, indicating that
competitors will react to price reductions by cutting their own prices and causing the
segment of the demand curve below the kink to be highly inelastic. Price increases are not
followed, causing the portion of the demand curve above the kink to be very elastic.

C.

An examination of the graph indicates that the marginal cost curve passes through the gap in
the marginal revenue curve. Graphically, this indicates that optimal P = $12.50 and Q =
50(000). Analytically,
MR1 = $15 - $0.1Q (for Q < 50(000)
MR2 = $22.50 - $0.4Q (for Q > 50(000)
MC = $1.50 + $0.05Q
If one solves for the output levels where MR = MC, it is clear that MR 1 > MC over the range
Q < 50(000) and MR2 < MC for the range Q > 50(000). Therefore, SMI will produce
50(000) units of output and market them at a price P1 = $15 - $0.05Q = $15 - $0.05(50) =
$12.50. Alternatively, P2 = $22.50 - $0.2Q = $22.50 - $0.2Q(50) = $12.50.
At P = $12.50 and Q = 50:
= TR - TC
= $12.50(50) - $7.50 - $1.50(50) - $0.025(502)
= $480(000) or $480,000

D. At Q = 50(000),
MR1 = $15 - $0.1Q MR2 = $22.50 - $0.4Q
= $15 - $0.1(50) = $22.50 - $0.4(50)
= $10 = $2.50
This implies that if marginal costs at Q = 50(000) exceed $10, the optimal price would
increase. Conversely, if marginal costs at Q = 50(000) fall below $2.50, the optimal price
would decrease. So long as marginal cost at Q = 50(000) is in the range of $2.50 to $10, the

firm will have no incentive to change its price.


21. Firm Supply. Iota Facsimile Products, Ltd., and JustheFax, Inc. are domestic suppliers of moderatelypriced facsimile machines. Given the vigor of domestic and foreign competition, P = MR in this
market. Marginal cost relations for each firm are:
MCI = $625 + $0.01QI

(Iota Facsimile)

MCJ = $975 + $0.0025QJ

(JustheFax)

where Q is output in units, and MC > AVC for each firm.


A. What is the minimum price necessary in order for each firm to supply output?
B.

Determine the supply curve for each firm.

C.

Based on the assumption that P = PI = PJ, determine industry supply curves when P < $975
and P > $975.

ANS:
A. Profits are maximized when MR = MC. Because P = MR in this market, the supply offered
by each company can be determined by setting P = MC. Because MC I = $625 when QI = 0
for Iota, this company will supply no output at this price or below. Similarly, JustheFax has a
MCJ = $975 when QJ = 0. Thus, JustheFax requires a minimum price of $975 to supply an
output to the market.
B.

The supply curve for each company is found by setting P = MC:


PI = MCI = $625 + $0.01QI
or
QI = -62,500 + 100PI
PJ = MCJ = $975 + $0.0025QJ
or
QJ = -390,000 + 400PJ

C.

When P < $975 only Iota can profitably supply output, so this firm's supply curve becomes
the industry supply curve:
P = $625 + $0.01Q
or
Q = -62,500 + 100P (When P < $975)
When P > $975 both firms will be able to profitably supply output and industry supply will
be the horizontal summation of individual firm supply:
Q = QI + QJ
= -62,500 + 100P - 390,000 + 400P
= -452,500 + 500P
or
P = $905 + $0.002Q (When P > $975)

22. Firm Supply. Wilson Fabricators, Inc., and Johnson City Metalworks, Ltd., are domestic suppliers of
backyard basketball goals. Given the vigor of domestic competition, P = MR in this market. Marginal
cost relations for each firm are:

MCW = $25 + $0.001QW

(Wilson Fabricators)

MCJ = $75 + $0.00025QJ

(Johnson City Metalworks)

where Q is output in units, and MC > AVC for each firm.


A. What is the minimum price necessary in order for each firm to supply output?
B.

Determine the supply curve for each firm.

C.

Based on the assumption that P = PW = PJ, determine industry supply curves when P < $75
and P > $75.

ANS:
A. Profits will be maximized when MR = MC. Because P = MR in this market, the supply
offered by each company can be determined by setting P = MC. Because MC W = $25 when
QW = 0 for Wilson, this company will supply no output at this price or below. Similarly,
Johnson City has a MCJ = $75 when QJ = 0. Thus, Johnson City requires a minimum price of
$75 to supply an output to the market.
B.

The supply curve for each company is found by setting P = MC:


PW = MCW = $25 + $0.001QW
or
QW = -25,000 + 1,000PW
PJ = MCJ = $75 + $0.00025QJ
or
QJ = -300,000 + 4,000PJ

C.

When P < $75 only Wilson can profitably supply output, so this firm's supply curve becomes
the industry supply curve:
P = $25 + $0.001Q
or
Q = -25,000 + 1,000P (When P < $75)
When P > $75 both firms will be able to profitably supply output and industry supply will be
the horizontal summation of individual firm supply:
Q = QW + QJ
= -25,000 + 1,000P - 300,000 + 4,000P
= -325,000 + 5,000P
or
P = $65 + $0.0002Q (When P > $75)

23. Firm Supply. Common Electric Products, Inc., and Lighthouse Manufacturing, Inc., are domestic
suppliers of halogen gas light bulbs used in roadside lamps. Given the vigor of domestic and foreign
competition, P = MR in this market. Marginal cost relations for each firm are:
MCC = $15 + $0.0005QC

(Common Electric Products, Inc.)

MCL = $45 + $0.000125QL

(Lighthouse Manufacturing, Inc.)

where Q is output in units, and MC > AVC for each firm.


A. What is the minimum price necessary in order for each firm to supply output?
B.

Determine the supply curve for each firm.

C.

Based on the assumption that P = PC = PL, determine industry supply curves when P < $45
and P > $45.

ANS:
A. Profits will be maximized when MR = MC. Because P = MR in this market, the supply
offered by each company can be determined by setting P = MC. Because MC C = $15 when
QC = 0 for Common Electric, this company will supply no output at this price or below.
Similarly, Lighthouse has a MCL = $45 when QL = 0. Thus, Lighthouse requires a minimum
price of $45 to supply an output to the market.
B.

The supply curve for each company is found by setting P = MC:


PC = MCC = $15 + $0.0005QC
or
QC = -30,000 + 2,000PC
PL = MCL = $45 + $0.000125QL
or
QL = -360,000 + 8,000PL

C.

When P < $45 only Common Electric can profitably supply output, so this firm's supply
curve becomes the industry supply curve:
P = $15 + $0.0005Q
or
Q = -30,000 + 2,000P (When P < $45)
When P > $45 both firms will be able to profitably supply output and industry supply will be
the horizontal summation of individual firm supply:
Q = QC + QL
= -30,000 + 2,000P - 360,000 + 8,000P
= -390,000 + 10,000P
or
P = $39 + $0.0001Q (When P > $45)

24. Price Leadership. Leading People Magazine is a dominant price leading firm in the popular celebrity
news magazine market. Moonlighting and National Inquest are competing news magazines that
address the same audience. Total and marginal cost relations for each magazine are:
Leading People
TCL = $12,500 - $1QL + $0.000005QL2
MCL = TCL/QL = -$1 + $0.00001QL
Moonlighting
TCM = $10,000 + $0.5QM + $0.00005QM2
MCM = TCM/QM = $0.5 + $0.0001QM
National Inquest

TCN = $50,000 + $1.25QN + $0.000025QN2


MCN = TCN/QN = $1.25 + $0.00005QN
and the industry demand curve is:
QD = 170,000 - 20,000P
Assume throughout this problem that Moonlighting and National Inquest are perfect substitutes for
Leading People magazine.
A. Determine the supply curves for the Moonlighting and National Inquest magazines,
assuming the firms operate as price takers.
B.

What is the demand curve faced by Leading People?

C.

Calculate Leading People profit maximizing price and output levels. (Hint: Leading People's
total revenue and marginal revenue functions are TR L = $4QL - $0.00002Q and MRL =
TRL/QL = $4 - $0.00004QL.)

D. Calculate the profit maximizing output levels for the Moonlighting and National Inquest
magazines.
E.

Is the market for these three magazines in short-run equilibrium?

ANS:
A. Because price followers take prices as given, they operate where individual marginal cost
equals price. Therefore, the supply curves for Moonlighting and National Inquest are:
Moonlighting
PM = MCM = $0.5 + $0.0001QM
0.0001QM = -0.5 + PM
QM = -5,000 + 10,000PM
National Inquest
PN = MCN = $1.25 + $0.00005QN
0.00005QN = -1.25 + PN
QN = -25,000 + 20,000PN
B.

As the industry price leader, Leading People demand equals industry demand minus
following firm supply. Remember that P = PL = PM = PN because Leading People is a price
leader for the industry.
QL = Q - QM - QN
= 170,000 - 20,000P + 5,000 - 10,000P + 25,000 - 20,000P
= 200,000 - 50,000P L
PL = $4 - $0.00002QL

C.

To find Leading People's profit maximizing price and output level, set MR = MC L.
MR = MCL
$4 - $0.00004QL = -$1 + $0.00001QL
5 = 0.00005QL
QL = 100,000 units
PL = $4 - $0.00002QL

= $4 - $0.00002(100,000)
= $2
D. Because Leading People is a price leader for the industry,
PL = PL = PM = PN = $2
Optimal supply for Moonlighting and National Inquest magazines are:
QM = -5,000 + 10,000PM
= -5,000 + 10,000(2)
= 15,000
QN = -25,000 + 20,000PN
= -25,000 + 20,000(2)
= 15,000
E.

Yes, the industry is in short-run equilibrium because the total quantity demanded is equal to
total supply. The total industry demand at a price of $2 is:
QD = 170,000 - 20,000P
= 170,000 - 20,000(2)
= 130,000
The total industry supply is:
QS = QL + QM + QN
= 100,000 + 15,000 + 15,000
= 130,000 units
Thus, the industry is in short-run equilibrium.

25. Price Leadership. Biking Magazine is a dominant price leading firm in the popular bicycle magazine
market. Wheel Deal and Free Wheel are competing magazines that address the same audience. Total
and marginal cost relations for each magazine are:
Biking
TCB = $17,500 - $0.50QB + $0.000005QB2
MCB = TCB/QB = -$0.50 + $0.00001QB
Wheel Deal
TCW = $15,000 + $2QW + $0.00005QW2
MCW = TCW/QW = $2 + $0.0001QW
Free Wheel
TCF = $40,000 + $1.875QF + $0.0000125QF2
MCF = TCF/QF = $1.875 + $0.000025QF
and the industry demand curve is:
QD = 305,000 - 50,000P.
Assume throughout this problem that Wheel Deal and Free Wheel are perfect substitutes for Biking
magazine.
A. Determine the supply curves for the Wheel Deal and Free Wheel magazines, assuming the
firms operate as price takers.

B.

What is the demand curve faced by Biking?

C.

Calculate Biking profit maximizing price and output levels. (Hint: Biking's total revenue and
marginal revenue functions are TRB = $4Q B - $0.00001QB2 and MRB = TRB/QB = $4
- $0.00002QB.)

D. Calculate the profit maximizing output levels for the Wheel Deal and Free Wheel magazines.
E.

Is the market for these three magazines in short-run equilibrium?

ANS:
A. Because price followers take prices as given, they operate where individual marginal cost
equals price. Therefore, the supply curves for Wheel Deal and Free Wheel are:
Wheel Deal
PW = MCW = $2 + $0.0001QW
0.0001QW = -2 + PW
QW = -20,000 + 10,000PW
Free Wheel
PF = MCF = $1.875 + $0.000025Q F
0.000025QF = -1.875 + PF
QF = -75,000 + 40,000PF
B.

As the industry price leader, Biking demand equals industry demand minus following firm
supply. Remember that P = PB = PW = P F because Biking is a price leader for the industry.
QB = Q - Q W - Q F
= 305,000 - 50,000P + 20,000 - 10,000P + 75,000 - 40,000P
= 400,000 - 100,000PB
PB = $4 - $0.00001QB

C.

To find Biking's profit maximizing price and output level, set MR B = MCB.
MRB = MCB
$4 - $0.00002QB = -$0.50 + $0.00001QB
4.50 = 0.00003QB
QB = 150,000 units
PB = $4 - $0.00001QB
= $4 - $0.00001(150,000)
= $2.50

D. Because Biking is a price leader for the industry,


PB = PB = PW = PF = $2.50
Optimal supply for Wheel Deal and Free Wheel magazines are:
QW = -20,000 + 10,000PW
= -20,000 + 10,000(2.50)
= 5,000
QF = -75,000 + 40,000PF
= -75,000 + 40,000(2.50)
= 25,000

E.

Yes, the industry is in short-run equilibrium because the total quantity demanded equals the
total supply. The total industry demand at a price of $2.50 is:
QD = 305,000 - 50,000P
= 305,000 - 50,000(2.50)
= 180,000
The total industry supply is:
QS = QB + QW + QF
= 150,000 + 5,000 + 25,000
= 180,000 units
Thus, the industry is not in short-run equilibrium, a surplus situation exists.