Microeconomics / David Besanko, Ronald Braeutigam. DAVID BESANKO is the Alvin J. Huss Distinguished Professor of Management and. Library of Congress Cataloging-in-Publication Data Besanko, David, Microeconomics / David Besanko, Ronald Braeutigam. —4th ed. p. cm. Includes . Besanko & Braeutigam – Microeconomics, 3rd edition Solutions Manual Chapter 1 Analyzing Economic Problems Solutions to Review Questions 1. Microeconomics studies the economic behavior of individual economic Download pdf.
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Microeconomics Besanko 3rd Edition Solution Manual Microeconomics 5th Edition by David Besanko. – PDF Version Be the first to review. besanko braeutigam microeconomics, 5th editionsolutions manual chapter analyzing economic problems solutions to review questions what is the difference. David Besanko and Ronald R. Braeutigam. Microeconomics: An Integrated. Approach. John Wiley & Sons, Inc., New York, USA, José Mata, Economia da.
The objective function represents the relationship to be maximized or minimized. For example, a firms profit might be the objective function and all choices will be evaluated in the profit function to determine which yields the highest profit. The constraints place limitations on the choice the decision maker can select and defines the set of alternatives from which the best will be chosen.
Why would a higher price e. Why would a lower price e. If the price in the market was above the equilibrium price, consumers would be willing to download fewer units than suppliers would be willing to sell, creating an excess supply.
By definition, equilibrium is a state that will remain unchanged as long as exogenous factors remain unchanged. Since in this case suppliers will lower their price, this high price cannot be an equilibrium. When the price is below the equilibrium price, consumers will demand more units than suppliers have made available. This excess demand will entice consumers to bid up the prices to download the limited units available.
Since the price will change, it cannot be an equilibrium. What is the difference between an exogenous variable and an endogenous variable in an economic model? Would it ever be useful to construct a model that contained only exogenous variables and no endogenous variables?
Exogenous variables are taken as given in an economic model, i. An economic model that contained no endogenous variables would not be very interesting. With no endogenous variables, nothing would be determined by the model so it would not serve much purpose. Why do economists do comparative statics analysis?
What role do endogenous variables and exogenous variables play in comparative statics analysis? Comparative statics analyses are performed to determine how the levels of endogenous variables change as some exogenous variable is changed.
This type of analysis is very important since in the real world the exogenous variables, such as weather, policy tools, etc. An example of comparative statics analysis would be asking the question: If extraordinarily low rainfall an exogenous variable causes a 30 percent reduction in corn supply, by how much will the market price for corn an endogenous variable increase? What is the difference between positive and normative analysis?
Income effect on F: Substitution effect on F: So she would need an additional income of 24 plus her actual income of The compensating variation associated with the increase in the price of food is Shape of the demand curve in this case is the same as in part b. Therefore the market demand curve for 7-UP as a function of all possible values of price is: This will occur, for example, with a quasi-linear utility function.
This utility function will have the same marginal rate of substitution for any particular value of tea regardless of the level of total utility. If the price of tea falls, flattening the budget line, the consumer will reach a new optimum where the marginal rate of substitution is equal to the slope of the new budget line. Since the budget line has flattened, this cannot occur at the previous optimum amount of tea.
The substitution effect implies that this new optimum level of tea will be greater than the previous level. Thus, when the price of tea falls, the quantity of tea demanded increases, implying a downward sloping demand curve. This can be seen in the following figure. As stated in the text, when there is no income effect, compensating and equivalent variation will be identical and these will also equal the change in consumer surplus measured as the change in the area under the demand curve. You can see that this does not depend on the wage rate.
Since the amount of labor that Noah supplies equals 24 — L , we see that his supply of labor always increases with an increase in the wage rate. So, his labor supply curve is always positively sloped — that is, it is not backward bending. The production function tells us the maximum volume of output that may be produced given a combination of inputs. It is possible that the firm might produce less than this amount of output due to inefficient management of resources.
While it is possible to produce many levels of output with the same level of inputs, some of which are less technically efficient than others, the production function gives us the upper bound on the maximum of the level of output. The labor requirements function, which is the inverse of the production function, tells us the minimum amount of labor that is required to produce a given amount of output.
The average product of labor is the average amount of output per unit of labor. With diminishing total returns to an input, increasing the level of the input will decrease the level of total output holding the other inputs fixed.
Diminishing marginal returns to an input means that as the use of that input increases holding the quantities of the other inputs fixed, the marginal product of that input will become less and less.
Essentially, diminishing total returns implies that output is decreasing while with diminishing marginal returns we could have output increasing, but at a decreasing rate as the amount of the input increases.
It is entirely plausible to have a total product function exhibit diminishing marginal returns but not diminishing total returns. This would occur when each additional unit of an input increased the total level of output, but increased the level of output less than the previous unit of the input did. Essentially, this occurs when output is increasing at a decreasing rate as the level of the input increases.
If the marginal product of labor is positive, then when we increase the level of labor holding everything else constant this will increase total output. To keep the level of output at the original level, we need to stay on the same isoquant. To do so, since the marginal product of capital is positive we would then need to reduce the amount of capital being used. So, to keep output constant, when the level of one input increases the level of the other input must decrease.
This negative relationship between the inputs implies the isoquant will have a negative slope, i. No, as with indifference curves, isoquants can never cross. In addition, suppose that these isoquants crossed at some point A as in the following diagram. Since A and C are on Q1, both achieve the same level of output. This would imply that B and C achieve the same level of output. However, this is not possible since point C contains more of both inputs which would achieve a higher level of output.
Therefore, isoquants cannot cross. By operating on the uneconomic portion of an isoquant, the firm would be using a combination of inputs in which one of the inputs has a negative marginal product, i. At a point such as this, the firm could increase output by decreasing the level of the input.
By decreasing the level of the input, the firm could decrease total cost. Thus, if a firm were operating on the uneconomic region of an isoquant it could simultaneously increase output and decrease total cost.
Microeconomics 5th Edition by David Besanko – PDF Version
Thus, a cost-minimizing firm would never operate on this portion of an isoquant because it would always take advantage of this opportunity. The elasticity of substitution measures how the marginal rate of technical substitution of labor for capital changes as we move along an isoquant. Essentially this value tells us the level of substitutability between capital and labor, i.
Equivalently, doubling inputs less than doubles output.
Equivalently, doubling inputs more than doubles output. L Q 0 0 1 5 2 16 3 27 4 32 5 25 6 0 a You can calculate the average product at each point by just dividing total output by L. The values obtained are 0,5,8,9,8,5,0. Average product is always positive, so this tells us nothing about the change in total product. Whether or not total product is rising depends on whether or not marginal product is positive. According to the table, we could do this with 8 units of labor and units of capital.
Now, since we have constant returns to scale, if we double the amount of labor and capital, i. That is, the marginal product of capital is negative over this range.
We can see the same thing if we start with any other input combination. For example, suppose the firm is initially producing 4 units of steel using 2 units of labor and units of capital. Because of constant returns to scale, if we double the amount of labor and capital, i.
Again, by reducing the amount of capital it uses holding the quantity of labor fixed , the firm can produce more output. Again, we see that the marginal product of capital is negative. The above calculations illustrate that a two-input production function with a constant returns to scale and b increasing marginal returns to labor must necessarily imply that the marginal product of capital is negative.
And, of course, if the marginal product of capital is negative, the firm can expand output by reducing the amount of capital it uses. It could, theoretically, produce an enormous amount of steel in a backyard blast furnace. Because this conclusion is absurd, the point of the illustration is that with constant returns to scale, marginal returns to labor cannot be everywhere increasing. Eventually the law of diminishing marginal returns must set in. Labor, L Total product, Q APL MPL 0 0 0 1 19 19 19 2 72 36 53 3 51 81 4 64 5 75 6 84 7 91 8 96 9 99 10 11 98 89 12 96 63 13 91 31 14 84 -7 15 75 6.
The dots represent particular combinations of inputs. For example, in moving from input combination 2,2 to 3,2 , we increase output from 8 to Hence, in moving from input combination 1,1 to 3,3 , we are tripling the quantity of labor and capital used.
As a result, the quantity of output produced triples as well.
However, the marginal product of capital MP K is increasing not diminishing as K increases remember, the amount of labor is held fixed when we measure MP K. Similarly, the marginal product of labor is increasing as L grows again, because the amount of capital is held fixed when we measure MP L.
This exercise demonstrates that it is possible to have a diminishing marginal rate of technical substitution even though both of the marginal products are increasing. Therefore this production function has a slightly higher elasticity of substitution, indicating a slightly greater ease of substitutability of inputs. This production function has constant returns to scale. To see why, let x and y denoted the quantities of eggs and mix, respectively, and let Q denote the number of cakes produced.
The equation of our production function is: If we increase each input by a factor of a, we have the following quantity of cake: Hence, increasing the quantities of inputs by a given proportion results in the same proportionate increase in output, and the production function thus exhibits constant returns to scale.
Therefore a linear production function has constant returns to scale.
Therefore the production function has constant returns to scale. Since output goes up by the same factor as the inputs, this production function exhibits constant returns to scale. The marginal product of labor is decreasing for all levels of L.
The MPL , however, will never be negative since both components of the equation above will always be greater than or equal to zero. This production function exhibits constant returns to scale. In either case, the elasticity of substitution is 2. Intuitively, in this production function, while you can increase the K and L inputs, you cannot increase the constant portion. So output cannot go up by as much as the inputs. Hence, the new recipe represents technological progress. With mixed ingredients held fixed at 8, we have: MPE is zero for all subsequent changes in E.
After the technological progress we have: Comparing the marginal products, we see that MPE when mix equals 8 is higher after the technological progress. This innovation has therefore resulted in technological progress as defined in the text. Since the marginal rate of technical substitution of labor for capital has decreased after the innovation this is labor-saving technological progress.
So there is indeed technological progress. Thus, the technological progress is neutral. Thus, the technological progress is labor-saving. Acquisition cost and opportunity cost are not necessarily the same.
As the text points out, opportunity costs are forward looking. The opportunity cost is the payoff associated with the best of the alternatives that are not chosen. Once the test tubes are downloadd, the decision is to use the tubes to clone snake cells or something else. The opportunity cost then is different than the acquisition cost. Since the business is computer consulting, an explicit cost, a cost involving a direct monetary outlay, might be the cost of paper and ink used to advertise your service.
An implicit cost, a cost not involving a direct monetary outlay, might be the opportunity cost of your time, e. Whether or not a particular cost is sunk or not depends on the decision being made. If the cost does not change as a result of the decision the cost is sunk, while if the cost does change the cost is not sunk. While the firm could produce a given output with a combination of inputs not on the isoquant, say by using more labor and more capital than necessary, a combination such as this would not be efficient and therefore not cost minimizing.
To understand why at an interior optimum the additional output the firm gets from a dollar spent on labor must equal the additional output the firm gets from a dollar spent on capital, assume these were not equal. Then the firm could take one dollar away from capital and reallocate it to labor. Since the firm gets more output from a dollar of labor than from a dollar of capital, it will require the firm to spend less than one dollar on labor to offset the decline in output from taking one dollar away from capital.
This implies the firm can keep output at the same level but do so at a lower cost. Therefore, if these amounts are not equal the firm is not minimizing cost.
This requirement does not necessarily hold at a corner solution. While the firm could potentially reduce cost by reallocating spending to the more productive input, at a corner solution, by definition, the firm is not using one of the inputs. There is no further opportunity to reallocate spending if the firm is spending nothing on one of the inputs, i.
The expansion path traces out the cost minimizing combinations of all inputs as the level of output is increased expanded holding the prices of the inputs fixed. Giffen goods arise when the income effect is so severely negative that it offsets the substitution effect.
By contrast, in the cost minimization problem output is exogenous while the expenditure is the objective function. Thus, a change in an input price affects only the relative substitutability of inputs via the tangency condition — there is no corresponding effect on the production constraint, since prices do not appear there.
Therefore, increases in input prices will always lead to decreases in the use of that input except at corner solutions, where there might be no change. So there cannot be a Giffen input. Assuming quantity is fixed, the short-run demand for a variable input would equal its long-run demand if the level of the fixed input in the short run was cost minimizing for the quantity of output being produced in the long run.
That is, Mr. Therefore Mr. If he were to shut down the shop, Mr. Therefore he should shut down the shop. Therefore, the firm could lower cost while achieving the same level of output by using fewer hours of labor and more hours of fermentation capacity. Since we are holding the level of output fixed, the isocost line will be tangent to the isoquant at the same point as prior to the price increase. Therefore, the cost-minimizing quantities of the inputs will not change.
The firm will substitute away from capital and add labor until either the tangency condition holds or a corner solution is reached. Hence, in the short-run the farmer chooses amount of capital and labor. Recall that the expansion path traces out the cost- minimizing combinations of inputs as output increases.
Essentially the expansion path traces out all of the tangencies between the isocost lines and isoquants. Therefore, it is not possible for the expansion paths to cross unless the prices are proportional, in which case the two expansion paths will be identical. This is steeper than the isoquant implying that the firm will employ only computer time K to minimize cost. This outcome can be seen in the graph below. The isocost lines are the dashed lines. Thus we need 0.
Let the factor prices of capital and labor be, respectively, r and w. At the given input prices slope of an isoquant is equal to the ratio of the input prices. Both types of labor are perfect substitutes.
Since the firm cannot use a negative amount of capital, the tangency condition is not valid in this case. Since the marginal product per dollar is higher for labor, the firm will use only labor and no capital.
Such upward-sloping input demand curves cannot exist.
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Therefore, the demand for each input is independent of price and the demand curves are vertical lines. Similarly it will use just capital if the rental rate w r a aw Q is low enough i. The graph of the demand for labor is as shown.
Clearly the demand curve 2 L r 2w for L is not a function of the level of output, Q. Therefore, as the level of output changes, the amount of labor is constant. Therefore, if we were to graph isoquants with labor on the horizontal axis, the expansion path for labor would just be a straight, vertical line. The demand curve for capital can be derived by substituting the demand curve for labor r r into the production function.
To find the short-run cost-minimizing quantity of labor, we need only solve the production function for L in terms of Q and K: The solution to this system gives us the long-run cost-minimizing input combination: We could write down a third tangency condition, but it would be redundant.
Thus Acme could maintain its current level of output while reducing costs by employing more capital and less labor. So it is not employing the optimal input bundle. Thus the firm cannot be minimizing its long-run total cost.
By employing more labor and less capital, it could maintain 32 units of output while lowering total costs. That is, the marginal product per dollar spent on computer time is always higher than the marginal product per dollar spent on draftsman time. The long-run total cost curve plots the minimized total cost for each level of output holding input prices fixed. In other words, for a given set of input prices, the long-run total cost curve represents the total cost associated with the solution to the long-run cost minimization problem for each level of output.
When the price of one input increases, the isocost line for a particular level of total cost will rotate in toward the origin. In order for an isocost line to reach a tangency with the original isoquant, the firm would need to move to an isocost line associated with a higher level of cost, i.
If the price of a single input goes up leaving all other input prices the same and the level of output constant, total cost will rise but by a smaller percentage than the increase in the input price. This occurs because the firm will substitute away from the now relatively more expensive labor to the now relatively less expensive other inputs.
If the prices of all inputs go up by the same percentage, total cost will rise by exactly that same percentage. Therefore, the long-run average cost curve will shift up. So, if the average cost curve is increasing it must lie below the marginal cost curve. The only determining factor here is whether or not marginal cost lies above or below average cost. Knowing that marginal cost is increasing or decreasing tells us nothing about average cost. TC MC AC Q When average cost is falling, marginal cost will lie below average cost, and when average cost is increasing, marginal cost will lie above average cost.
Over the flat-bottomed portion where average cost is neither increasing nor decreasing, marginal cost and average cost will be equal. Marginal cost, MC, represents the change in total cost associated with an increase in output. When output increases, total cost must always rise for a given set of input prices, implying that MC is also always positive. Therefore, the output elasticity of total cost must always be positive. Because fixed cost does not change, marginal costs reflect the change in variable costs.
Thus, as with the relationship between any average and marginal, if average variable cost is decreasing, marginal cost must be below average variable cost, and if average variable cost is increasing, marginal cost must lie above average variable cost.
This implies marginal cost will intersect average variable cost at the minimum of average variable cost. If the average variable cost curve is flat, average variable cost is neither increasing nor decreasing. Marginal cost will therefore be equal to average variable cost and the marginal cost curve will therefore also be flat.
Graphically, average total cost will be declining and asymptotic to the average variable cost curve. The long-run average cost curve is the envelope to the short-run average cost curves associated with each level of output.
If each of these short-run average cost curves has the same minimum point, the long-run average cost curve will be a horizontal line tangent to all of these minimum points. Because the long-run average cost curve will be flat, long-run average cost is neither increasing nor decreasing, and the long-run marginal cost curve will also be flat and equal to long-run average cost.
Economies of scale refer to a situation when average total cost for a single product declines as the level of output for that product increases. Economies of scope refer to efficiencies that arise when a firm produces more than one product.
In particular, economies of scope exist if one firm producing N products does so at a lower total cost than N separate firms producing the same quantities of each product individually. The notion of economies of scale can actually be applied to a multi-product firm as well. We can use this extension to further refine the distinction between economies of scale and scope.
By contrast, economies of scope exist if it is less costly to have the outputs produced by one firm instead of by N firms, each specializing in the production of one of the outputs. Note that information about economies of scope does not tell us whether the firm has economies of scale. If a production process has economies of scope, there may not be economies of scale. Further, information about economies of scale does not tell us whether the firm has economies of scope.
If a production process has economies of scale, there may not be economies of scope. The experience curve represents the relationship between average variable cost and cumulative production volume over time. One would expect that as cumulative production volume increased, average variable cost would fall. Economies of scale refer to a situation when average cost declines as the level of output for that product increases within a given time frame. In general, economies of scale would occur if the average cost curve declined as the level of output increased.
Economies of experience would occur if, as cumulative production volume increased, the average cost curve shifted downward for all levels of output.
So, economies of scale refer to lower average costs that occur as output increases and economies of experience refer to lower average costs for all levels of output as cumulative production volume increases. First, since fixed costs are independent of quantity, the entire TFC column can be easily filled in. The rest is straightforward. The minimum point of the AC curve will be the point at which it intersects the marginal cost curve, i.
By definition, there are economies of scale when the AC curve is decreasing i. MC AC 8. In the short run, it is impossible to produce more than 5 units. This is because min L,5 cannot be any greater than 5. In this case, the total cost including the fixed cost is wQ. In particular, to produce Q units of output, the firm uses Q — 5 units of labor, for a cost of Q — 5, and 5 units of capital, for a cost of 5.
It can produce this output using its fixed stock of 5 units of capital and no labor. In particular, to produce Q units of output, the firm uses Q — 5 units of labor, for a cost of Q — 5, and 5 units of capital, for a cost of It also uses 5 units of capital at a total cost of 5. Note that this average cost curve is 4 7 independent of Q and is simply a straight line. Thus, there are three possible solutions to the long-run cost minimization problem: Hence, a cost-minimizing firm will never use K, L, and M simultaneously; it could produce the same output at less cost by just using M.
Thus, L and M are perfect substitutes. Therefore, it may be more expensive to produce additional units in the short run than in the long run when the firm can employ the optimal, i. For a plant size of , these two points must be kept in mind and the curve must be drawn carefully to comply with both. Economies of scope exist for this satellite TV company. If the firm were minimizing cost in the long run, by using the optimal combination of K and L , it would not be possible to reduce total cost when w is increased.
As Figures 8. Therefore, this long-run total cost function is not consistent with long-run cost minimization by the firm. So the firm should produce 80 percent of output at plant 2 and 20 percent at plant 1. Since the plants are identical the entrepreneur will hire equal amounts of capital at each plant; and similarly for labor.
The difference between accounting profit and economic profit is in how total cost is measured. With accounting profit, total cost is measured as total accounting cost while with economic profit, total cost is measured as total economic cost. Accounting cost measures the historical expenses the firm incurred to produce and sell its product while economic cost measured the opportunity cost of the resources that the firm uses to produce and sell its product. If a firm chose to produce and sell a product it could earn a positive accounting profit but negative economic profit.
This would occur if the economic cost of the resources used was greater than the accounting cost of the resources used. In this case the economic cost exceeds the accounting cost and economic profit would be less than accounting profit. The law of one price ensures that all transactions will take place at a single market price. A perfectly competitive firm cannot affect the market price by increasing or decreasing production. Therefore, for each unit produced and sold, the firm will receive the market price as revenue.
Revenue will increase with each unit sold by the market price, implying the market price is equal to marginal revenue. A perfectly competitive firm would not produce if the market price is below the minimum of its average variable cost.
Suppose first that all of the fixed costs are non-sunk. Now suppose that some of the fixed costs are sunk. Then for at least some levels of market price below the minimum of short-run average cost, the revenue lost may be greater than the costs that can be avoided if the firm shuts down. When all fixed costs are sunk, the shut-down price is the minimum level of average variable cost. When all fixed costs are non-sunk, the shut-down price is the minimum level of short-run average cost.
The supply elasticity can be used to determine the extent to which the equilibrium price will change when demand shifts exogenously. If supply is elastic, then a shift in demand will have a smaller impact on the equilibrium price than when supply is inelastic. Because the minimum efficient scale is higher in industry 1 than in industry 2, and since in a perfectly competitive market each firm must produce at minimum efficient scale in the long-run, there will be fewer firms in industry 1 since each firm is producing more units.
Economic rent measures the economic surplus that is attributable to an extraordinarily productive input whose supply is limited. Economic rent and economic profit are closely related. If the firm pays the input its reservation value, the firm can earn a positive economic profit, but if the firm pays the input the reservation value plus the economic rent, as defined above, the firm will earn zero profit.
The producer surplus for an individual firm is the difference between the total revenue the firm receives and the non-sunk cost. In general, it is the area below price and above the supply curve.
Producer surplus for a market of firms when the number of firms is fixed is the sum of the producer surplus for each of the individual firms. Producer surplus for a firm will equal economic profit if the firm has no sunk fixed costs. If producer surplus and economic profit are not equal, producer surplus equals the difference between total revenue and total non-sunk costs while economic profit equals the difference between total revenues and all total costs. Therefore, producer surplus will exceed economic profit if the two are not equal.
In a market in which the long-run industry supply curve is upward sloping, the area between the price and the long-run supply curve measures the economic rents of inputs that are in scarce supply and whose price is bid up as more firms enter the industry.
Producer surplus and economic profit may be equal in the short run. Thus, in the short run producer surplus and economic profits differ by the level of sunk fixed costs. However, in the long run, since no fixed costs are sunk, producer surplus and economic profit will be equal. In general, producer surplus measures the difference between total revenue and total non-sunk costs while economic profit measures the difference between total revenue and all total costs.
These two measures differ from economic rent. Economic rent is the economic surplus that is attributable to an extraordinarily productive input whose supply is limited.
Essentially, economic rent measures the potential increase in economic profit attributable to the scarce input above and beyond the economic profit the firm would enjoy if the firm paid suppliers of the input an amount equal to their reservation value. However, it is possible that the input, because of its scarcity, can extract the economic rent from the firm so that the firm still earns zero economic profit.
All of the accounting costs are also economic costs. The first three expense items wages paid to hired labor, utilities, and downloads of drugs and supplies are expenses in competitive markets, so the opportunity cost is reflected in the market prices. We can look at this another way.
The relationship between MR and MC is unaffected by fixed cost. Therefore the firm is earning positive economic profit. So it should produce 10 units of output.
The total cost function increases in Q, and at an increasing rate. Total Profit at first increases in Q and then decreases. From the graph, it appears that Profit is maximized when Q is about 10, which we found in a.
To decide whether to operate or shut down, the firm should look at producer surplus rather than profit. So he should stay in business in the short run; he will lose money, but not as much as if her were to shut down.
It is a rectangle whose height is the market price and the average cost of the 50th unit, and whose width is the 50 units being produced. The minimum level of ANSC is thus At this price, each firm produces 20 units of output. Since non-sunk fixed costs are 50, sunk fixed costs must total up to To find the shut-down price, we find the minimum level of ANSC. Thus, the short-run supply curve for a firm is: The firm will shut down if the market price is less than the minimum of ANSC. Market demand is — 2.
In equilibrium 2. The quantity demanded in the market would be — 2. At this price, a type A firm supplies 10 units, while a type B firm supplies 50 units.
Microeconomics Sln Ch 1 - Besanko, 4th edition.pdf
Therefore the firm earns positive economic profit. Therefore the firm is making negative economic profit in the short run. However, the fact that the firm is still operating means that marginal cost must be above the average non-sunk cost curve, so that it is better for the firm to continue operating, albeit at a loss, than to shut down. If this is true, setting market supply equal to market demand: So the equilibrium price must be less than 10, with only Type B firms producing and Type A firms not producing.
Setting market supply equal to market demand: We have found that in equilibrium, only Type B firms produce, and the equilibrium price is 6. At this equilibrium both types of firms will be producing. We can this as follows. Each producer supplies a quantity of output equal to the point at which long-run average is minimized. This is given as 2 million tons per year. The price between reflects a market that is in long-run equilibrium. The increase in price in early reflects the movement to a short-run equilibrium following the increase in demand.
Once price stabilizes at the new short-run equilibrium, firms earn positive economic profits, which attracts new entry. As new entry occurs during and , the short-run supply curve shifts rightward, causing price to fall. Entry is no longer profitable once price is reestablished at the minimum level of long-run average cost for a typical firm. As a result of the increase in demand, the market now contains more active producers in than it did in In this case marginal cost is constant implying perfectly elastic supply.
Therefore, the number of firms cannot be determined. At the shut down price: In the short run, however, the number of firms is fixed, so total market supply is simply the sum of the supply of each individual firm. In the long run, though, the firms cannot continue to earn positive economic profit. New firms will enter, driving the price back down until economic profit is zero.
In a constant cost industry this occurs at the same equilibrium price as prior to the increase in market demand.
Thus, in the long run, any quantity will be supplied and the number of firms will adjust so that each firm earns zero economic profit. The primary difference in the derivation then is that in the short run the number of firms is fixed, but in the long run the number of firms will adjust to maintain zero economic profit. At this price, firms having average CEOs will earn zero economic profit and firms with exceptional CEOs will earn positive economic profit.
This salary is the amount that would drive economic profit to zero. A monopoly market consists of a single seller facing many downloaders. Because the firm is by definition supplying the entire market, it faces the entire set of downloaders making up the market demand curve. Marginal revenue is less than price for a monopolist. This is because as it lowers its price two things happen. The change in revenue is the sum of the increase from the marginal units and the decrease from the inframarginal units.
Because the firm is operating on the inelastic region of the demand curve marginal revenue is negative.
Thus, decreasing output will increase total revenue. And, since output is lower, total cost will be lower. Thus, by decreasing output and increasing price the firm can increase profits.
When the firm operates on the elastic portion of the market demand curve, increasing output will increase total revenue. In addition, increasing output will increase total costs. Thus, the effect on profit will depend on how costs increase in relation to revenue. The firm will not be maximizing total revenue at the point where the firm maximizes total profit.
While perfectly competitive firms do not have market power, it is not true that any firm that faces competition does not have market power. In this particular example, while Toyota clearly has competition, Toyota also sells a differentiated product from the other automobile manufacturers. This will allow Toyota to control its price since no other manufacturer is producing the identical product. Thus, Toyota will have some market power.
It is true, however, that this market power may be limited by the prices other manufacturers set for their automobiles. A multi-plant monopolist will choose a level of output and then allocate output between plants so that marginal costs are equalized across plants.
If a perfectly competitive firm had multiple plants it would follow the same rule. To see why, imagine it did not and allowed marginal costs to be different across plants. If marginal costs were different then it reallocate one unit of output from the high marginal cost plant to the low marginal cost plant. This would reduce total cost without changing revenue. Thus, profit would increase.
Therefore, to maximize profit the firm should allocate output between plants to equalize marginal cost. A monopolist creates a deadweight loss because it produces a lower level of output and charges a higher price than would occur in perfect competition.
This choice allows the monopolist to generate economic profits and increase producer surplus, essentially extracting surplus away from consumers.
The firm, however, will not be able to gain as much surplus as consumers lose, lowering total net benefits, and creating a deadweight loss. A monopsonist is a firm that is a single downloader that can download from many sellers, whereas a monopolist is a firm that is a single seller that can sell to many downloaders.
It is possible for a firm to be both a monopolist and a monopsonist. Using the text example, suppose some local area had only one hospital. It would be a monopolist in the provision of some hospital services, e. Marginal expenditure will exceed unit cost because as the monopsonist increases the price it pays for units of input it must pay this higher price for the units it could have downloadd at lower prices.
The monopsonist creates a deadweight loss. This occurs because the monopsonist hires a lower quantity and pays a lower price for its input than would occur in perfect competition. This allows the monopsonist to extract surplus away from suppliers, but the monopsonist is unable to earn as much additional surplus as suppliers lose, lowering net total benefits, and creating a deadweight loss.
At this point, if the firm lowered its output it would increase total revenue, and with the lower level of output total cost would fall. Thus, decreasing output would increase profit. The firm has nonsunk fixed costs: So the firm should continue to operate in the short run. If it operates, its profit is Now find the quantity that maximizes profit. Therefore, the increase in marginal cost will be TR Thus, total industry revenue increases in the perfectly competitive market after the increase in marginal cost.
There are two regions of output: Region I: This quantity must be greater than the quantity when income equals I , i. If it were not, i. Therefore, the price will increase when consumer income increases. Now assume that both firms have identical constant marginal cost e. In this case the demand curve for the second monopolist is steeper.
Since marginal cost is constant, the monopolist with the steeper demand function will have the higher mark-up ratio.
This will therefore increase the equilibrium price. This implies that the demand elasticity is —2. That is, the profit maximizing quantity must be less than 20 units. So this approach would be invalid. Hence, the firm will use only plants 1 and 2. Otherwise, the firm could take the last unit produced at the high-cost plant and instead produce that same unit at the low cost plant, not changing revenues and reducing costs.
Now find the inverse aggregate demand curve: The marginal revenue associated with the aggregate demand curve has the same vertical intercept and twice the slope as the demand curve: The aggregate demand in part b is also linear, with a choke price of The marginal cost is constant at This is the same in parts a and b. Since MC Net benefits are Knowing that marginal cost is increasing or decreasing tells us nothing about average cost.
In addition, suppose that these isoquants crossed at some point A as in the following diagram. El Nino would, however, cause demand for U. In fact he consumes q 2 — q 1 more units.
Thus, even at the corner point, the marginal utility per dollar spent on CDs is lower than on sandwiches. First, since fixed costs are independent of quantity, the entire TFC column can be easily filled in.
The firm will substitute away from capital and add labor until either the tangency condition holds or a corner solution is reached. This will result in the same figure as that for part c. Now find the quantity that maximizes profit.