Question Set 101-Solution

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What is the difference between accounting profit and economic profit?  How could a firm earn a positive accounting profit but a negative economic profit?  Several years ago, the Monmouth restaurant Courtyard Kitchen was sold to new owners.  The previous owners told your instructor that they were earning positive accounting profits operating their restaurant yet they decided to sell the business.  Given your answer to the first part of this question, how would an economist explain their decision to sell?

A perfectly competitive firm has the following total cost and marginal cost functions: TC = 100 + 10q – q2 + (1/3)q3 and MC = q2 – 2q +10
(a) For quantities from 0 to 10 determine: TC, TFC, TVC, and MC.
(b) For quantities from 0 to 10 determine: ATC, AFC, and AVC.
c) Assume P (MR) equals 45.  For quantities from 0 to 10 determine: TR and profit.
d) At what quantity is profit maximized?  At this quantity what is true about the relationship between MC and MR?
Using a graph(s), illustrate the four possible short-run outcomes for a perfectly competitive firm.  You should draw separate graph for the market and for the representative firm

Suppose there is a competitive, constant-cost, industry in which each firm’s marginal and average costs are as follows:
MC = 10q
AC = 5q + (720/q)

Where q = quantity produced by each firm

1. Determine the quantity supplied by each firm in the long run, and determine the long run price in this industry.
2. Assume the market demand for the good produced in this industry is: P = 360 – (1/3q)
   Using your answers from part i., determine the equilibrium market quantity and the number of firms in the long run.

Suppose your firm, Jane & Joe’s Coffee Company, is in a competitive industry in which you are currently in long run equilibrium and making 0 economic profits. 

1. Illustrate this situation with a graph.  Show how the graph for the market is related to the graph for the firm.
2. Suppose the demand for coffee falls (the demand schedule shifts to the left).  Illustrate this situation and discuss what happens in the market and to the firm.
3. Describe and illustrate what will happen to your firm, and the industry, as it moves back toward long run equilibrium.

Suppose the market for yo-yos is such that at the equilibrium price there is no CS or PS. Show the demand and supply curves, P*. Why are you unable to determine Q*?

1. What three things must be true for a firm to price discriminate?
2. What kind of price discrimination is applicable to:
College tuition
Movie tickets
Coupons
Golf club memberships
Buying a house
Senior citizen discounts

Imagine you are lost in the desert and running low on water. Suddenly you find a person selling water at an oasis. But there is no information about the price of water. When you ask the seller about the price she says “let’s negotiate.” What kind of price discrimination is this?

Suppose you decide to open a gym/health club in Salem. You decide to charge your customers $100/year in membership fees plus a yearly fee. Suppose you know that there are two types of people who will join your club, the Type I people and the Type II people. Type I people had demand: P=200-Q and Type II people have demand: P=400-Q. At a price of $100 how many memberships will you sell to each group (assume Q is determine by the point at which price intersects the demand curves). What is the highest yearly fee you can charge without losing the Type I people?

A monopolist has the inverse demand function P=200-2Q. MC is constant and = 50. FC=0.

1. What is the firm’s P* and Q*
2. What is the firm’s profit
3. Calculate CS, PS, and DWL

Use the prisoner’s dilemma model to illustrate the incentive to cheat in a cartel.

The demand for slurpees in a competitive market is P=100-2Q and supply is P=Q. What is the equilibrium price and quantity? What is the value of the area of consumer surplus? What is the value of the area of producer surplus? What are the gains to trade in the market? Suppose the slurpee market is monopolized by one firm. Assume the supply function now represents the monopolists marginal costs schedule. The demand schedule is unchanged. What is the monopolist’s marginal revenue mathematically? With a monopoly, what is the equilibrium price and quantity? What is the value of the area of consumer surplus? What is the value of the area of producer surplus? What are the gains to trade in the market? What is the value of the area of deadweight loss.
David Beckham replica Los Angeles Galaxy soccer jerseys are produced in a competitive market where demand is P=500-(Q/2) and supply is P=2Q. A tax of 100 is applied to each jersey sold. The tax is collected from the sellers.
What is the equilibrium quantity of jerseys sold?
What is the equilibrium price to the buyer?
What does the seller receive per jersey?
Calculate the area of deadweight loss.

There are two firms in the insurance industry, Firm A and Firm B. Assume each firms acts independently to determine its profit maximizing output of insurance polices and the price of those policies. The demand for Firm A’s policies is P=100-Q and its marginal cost is MC=Q. The demand for Firm B’s policies is P=60-Q and its marginal cost is MC=2Q.

1. Determine each firm’s marginal revenue.
2. Determine Firm A’s profit maximizing output and price.
3. Determine Firm B’s profit maximizing output and price.

Suppose the two firms form a cartel and their joint demand function is P=80-(Q/2) and marginal cost is MC=2/3Q.
D.            Determine their joint marginal revenue.
E.            Determine their profit maximizing output and price.

What are PSLs? Why are they an important source of revenue? What kind of price discrimination do they represent? In determining the price of the PSL, what must the team consider (what limits the maximum price the team can charge for a PSL)?

A firm that sells slurpees believes that its customers are either Type A customers or Type B customers. The firm estimates the demand for Type A’s as: P=200-2Q and for Type B’s: P=100-1/2(Q). Using the point-slope formula for price elasticity of demand, determine which Type has more elastic demand and which has less elastic demand. Then, assuming MC=20, determine the profit maximizing price and quantity for each Type.

New Zealand Food Prices Jumped 1 % in May 2008

A leap of 1 per cent in the food prices for the month of May 2008 drove the Food Price Index (FPI) up 6.8 per cent in the year 2008 to May 2008, reports Statistics New Zealand.

According to the reports released by the Statistics New Zealand on food prices in the month of May 2008, showing the prices of food edged higher 1.0% on month from 0.3% increase in April 2008.

For the year 2008 to May 2008, food prices rose 6.8%, with the most significant upward contribution came from higher prices for the grocery food subgroup, which was up 11.8% recorded in May, reports RTT News.

This increase in the food prices was mainly driven by higher prices for fruit and vegetables, non-alcoholic beverages and grocery food. Talking about fruit and vegetables subgroup, the main contributor for the food price rise was driven in particular by tomatoes, lettuce and broccoli.

Price and demand of soft drink became the main contributor for price rise in the non-alcoholic beverages subgroup and the grocery food subgroup price rose due to higher prices for a wide range of goods within this subgroup.

Rising oil prices is said to be another contributor for the food price rise not only for the country but through out the world. Also an increased demand and shift in eating habit from developing countries especially from China and India has created a gap in supply and demand for the food materials.

"Obviously if petrol prices and food prices do continue to rise from here, then we do risk inflation being a little bit higher than what the Reserve Bank expects," says Nick Tuffley, ASB Economist, reports One News.

According to the research analyst at Arth Business Research, “Skyrocketing oil prices and increasing prices of fruit and vegetables, non alcoholic beverages and food grocery along with increasing demand from developing countries is expected to increase the food prices further for the country.”

Slower Domestic Demand Pushes Australian Retail Sales to Drop 0.2% in April 2008

A sharp drop in retail sales figures for April 2008 masks what economists consider is a flat result for the month.

Australian retail sales fell in April 2008, adding to evidence of slowing the nation's 17 years of economic expansion.

Sales fell 0.2 percent from March, when they climbed a revised 0.2 percent, the Bureau of Statistics said in Sydney today. The median estimate of 22 economists surveyed by Bloomberg News was for a 0.2 percent gain, reports Bloomberg.

Skyrocketing gasoline prices and a rise in borrowing cost by the central bank is the main reason behind the fall in the retail sales. Slowing economy along with higher borrowing cost tide the customer hands for further spending. Hence less domestic demand is creating the pressure on the retail sales industry and forcing its sales to drop down.

Also inflated food prices made the damage to the retail sales with decreasing spending on retail food products. The Australian turnover of retail sales decreased due to decline in sales by chain and large retailers. The sales decline for small retailers is expected to be marginal. At the same time decline in spending on the recreational goods made the retails sales to decline further.

"If we exclude the Easter effect, we can see that ex-food retail sales over the last two months have been flat," ANZ economist Katie Dean wrote in a note to clients. "This confirms the economy is slowing and should put the RBA out of the game. The big uncertainty is whether this slowdown will continue when the July tax cuts arrive," she adds, reports The Age.

According to research analyst at Arth Business Research, “ This decline in retail sales is expected to improve in coming months as the Australian government is expect to cut the income taxes which would increase the income of the wage earners marginally. Also some expected relief from RBA would help the retail sales to regain the ground.”

U.S. Mobile Handset Sales Decline In the First Quarter Of 2008

Sales of cell phones in the U.S. declined during the first quarter (January- March) of 2008, as the maturing market was hit by a slowing U.S. economy.

U.S. purchases of new cell phones declined in the first quarter (January- March, 2008) for the first time in several years, signaling that worries about an economic slowdown are hurting the handset market, according to two new studies, reports The Wall Street Journal.

Nearly 31 million handsets were sold in the U.S. during the first quarter of this year (2008), down 22 % from the same period a year ago, according to the NPD Group. Sales of mobile handsets generated USD 2.7 billion, down from USD 2.9 billion for the same period a year ago (2007), reports Cnet News.com.

The main reason for decline in mobile handset sale is a slowing economy and a maturing U.S. wireless market. Due to the maturing U.S. wireless market, in which more than eight in 10 Americans owning a cell phone, demand is dropping.

Also some factors like due to wider adoption of post-paid cellular plans and high end mobile phone sales has dropped the sales of pre-paid and basic cell phones, which in turn is reshaping the overall U.S. mobile handset market.

Some other important factors like growth in the sales of mobile handset are slowing down in the low income group and children and keeping the sales dry.

Ian Shepherdson, chief US economist for High Frequency Economics, said: “Mobile phones are, on the whole, a discretionary spend item. None of us really need to upgrade to a better model. The outlook for retail sales in the US is horrible. We expect it to be extraordinarily weak for the foreseeable future, and by that I mean definitely this year and probably next. We have not hit the bottom yet.” reports Times Online.

According to research analyst at Arth Business Research, “As the U.S. is facing an economic slowdown and at the same time mobile handset market is maturing with most of the people owns a handset is expected force the mobile handset market in U.S. to go slow further. Also declining demand from low income group and children who are the key motivator for the mobile handset market is expected to push the sales further.”

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Consumer Goods Demand Pushed China Retail Sales Up 22.0% in April

China's retail sales rose in April 2008 at the fastest pace since at least 1999, signaling that strong domestic consumption may help offset weak overseas demand.

China's retail sales of consumer goods in April 2008 rose 22.0 % year on year to 814.2 billion Yuan (USD 116.3 billion), the National Bureau of Statistics (NBS) said on Tuesday.

That brings China's retail sales of consumer goods in the first four months of this year (2008) to 3.3697 trillion Yuan, up 21.0 %, compared with 20.6 % growth rate recorded in the first quarter of this year, reports China Daily.

Retail sales of consumer goods in April in urban areas were up 22.9 % to 555.9 billion Yuan, while the retail sales of consumer goods at county level or below totaled 258.3 billion Yuan, up 20.1 %.

Rising inflation is the main reason which not only forced consumers to pay more for daily necessities, but also seemed to encourage spending on durable and luxury goods. Sales of consumer goods like garments, home appliances, furniture and recreational goods picked up due to inflation worries and hence pushed the retail sales to increase.

"With inflation at a decade-high level, it is not surprising to see nominal retail sales reaching a decade-high as well," Goldman Sachs' economists Song Yu and Liang Hong said in a research note, reports People’s Daily Online.

A heavy buying in foodstuff and beverages, grain and edible oil also helped the retail sales of china to rise amid rising food price inflation.

According to research analyst at Arth business Research, “As the demand for food prices is rising continuously with a greater pace than the supply and at the same the oil prices are hitting all time high, it is expected to force people to purchase more goods like garments, home appliances, and other luxury goods on the expectation that the price of these goods will go higher in near future which in turn will push the retail sales up further.”

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US Trade Deficit Narrowed As Import Dropped To a Record Level

US trade deficit shrunk as domestic demand for foreign made goods declined while foreign demand for US products increased due to weaken US dollar.

The US trade deficit shrank more than expected in March 2008 to USD 58.2 billion. The trade gap narrowed from a revised USD 61.7 billion in February 2008. Most economists had predicted that the deficit would narrow to 61.3 billion.

The trade gap shrank 5.7% in March 2008, the Commerce Department reported on Friday, much smaller than expected, reports The Age.

The reason for this record drop in US imports is slowing domestic demand due to inflating US economy is directly supporting the US trade balance in March 2008 despite record high oil prices. Also imports dropped as Americans; due to weak US dollar did not show interest to buy foreign-made cars and trucks, consumer goods, industrial supplies and certain foods among other goods.

The tumbling down dollar value against other world currencies had made US-made goods much more affordable for rest of the world and helped to create a big demand for US product in the international market and made the trade balance to shrink the deficit.

Also US exports which set records in 12 consecutive months helped the US economy afloat during a time of mayhem due to housing slump and spreading liquidity crisis and made the trade deficit to shrank.


"The weaker dollar against the euro, pound and Canadian dollar is boosting exports," said Peter Morici, a business professor at the University of Maryland, reports AFP.

As per the research analyst at Arth Business Research, “With increasing oil prices and inflating US economy the domestic demand for foreign made products are expected remain low by crushing down slightly improving US dollar. Hence with slowing domestic demands and increasing exports is expected to narrow the US trade deficit further.”

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Australian Trade Deficit Narrows as Export Rebound

Australia's trade deficit narrowed in March as exports jumped, stoking an economic expansion in its 17th year.

The seasonally adjusted balance on trade in goods and services narrowed to a deficit of AD 2.7 billion in March 2008 from a revised deficit of AD 3.3 billion in February 2008, the Australian Bureau of Statistics said today, reports The Australian.

Imports rose by 1.0 per cent and exports climbed 4 per cent to produce the narrower-than-expected deficit in March. Analysts had expected a deficit of AD 2.9 billion. However, imports of household electrical items were 7 per cent lower while textiles, clothing and footwear imports eased 3 per cent in March from February.

The reason behind improvement in trade balance is an upward movement in coal, metal and mineral export. Coal export soared as flood ravaged areas in central Queensland were able to resume coal production following heavy rainfall. Wheat and rural export which include cereal and meat also helped the overall export to rise.

Increased demand of Australian products from Asian countries like Japan and china is one among the reasons for improvement in Australian trade balance. At the same time slowing domestic demand is resulting in a slowdown in import growth and hence improving the trade balance for the country.

UBS senior economist Adam Carr said rising global demand for commodities could eventually lead to a trade surplus. "With domestic demand slowing, import growth will slow and given those bulk commodity price gains, we would be very surprised if exports value dosen’t continues to grow at a strong clip," he said, reports The West.

According to research analyst at Arth Business Research, “Improvement in coal and wheat production due to good rainfall and at the same time increasing demand from Asian countries is expected to improve the export level in the coming months of the year (2008). Also lowering domestic demand is expected to decrease the growth rate for imports which are expected improve the trade balance of the country for this year (2008).”

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