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LP4.1 Assignment: Chapter Problems
3. Kelson Electronics, a manufacturer of DVRs, estimates the following relation between its marginal cost of production and monthly output:
o What does this function imply about the effect of the law of diminishing returns on Kelson’s short-run cost function?
o Calculate the marginal cost of production at 1,500, 2,000, and 3,500 units of output.
o Assume Kelson operates as a price taker in a competitive market. What is this firm’s profit-maximizing level of output if the market price is $175?
o Compute Kelson’s short-run supply curve for its product.
4. A manufacturer of electronics products is considering entering the telephone equipment business. It estimates that if it were to begin making wireless telephones, its short-run cost function would be as follows:
Q (Thousands) AVC AC MC AC MC
9 $41.10 $52.21 $30.70 $52.21 $30.70
10 40.00 50.00 30.10 50.00 30.10
11 39.10 48.19 30.10 48.19 30.10
12 38.40 46.73 30.70 46.73 30.70
13 37.90 45.59 31.90 45.59 31.90
14 37.60 44.74 33.70 44.74 33.70
15 37.50 44.17 36.10 44.17 36.10
16 37.60 43.85 39.10 43.85 39.10
17 37.90 43.78 42.70 43.78 42.70
18 38.40 43.96 46.90 43.96 46.90
19 39.10 44.36 51.70 44.36 51.70
20 40.00 45.00 57.10 45.00 57.10
a. Plot the average cost, average variable cost, marginal cost, and price on a graph.
b. Suppose the average wholesale price of a wireless phone is currently $50. Do you think this company should enter the market? Explain. Indicate on the graph the amount of profit (or loss) earned by the firm at the optimal level of production.
c. Suppose the firm does enter the market and that over time increasing competition causes the price of telephones to fall to $35. What impact will this have on the firm’s production levels and profit? Explain. What would you advise this firm to do?
5. This same manufacturer of electronics products has just developed a handheld computer. Following is the cost schedule for producing these computers on a monthly basis. Also included is a schedule of prices and quantities that the firm believes it will be able to sell (based on previous market research).
Q (Thousands Price MR AVC AC MC
1 1,570 $1,570 $1,281 $2,281 $1,281
2 1,490 1,410 1,134 1,634 987
3 1,410 1,250 1,009 1,342.33 759
4 1,330 1,090 906 1,156 597
5 1,250 930 825 1,025 501
6 1,170 770 766 932.67 471
7 1,090 610 729 871.86 507
8 1,010 450 714 839 609
9 930 290 721 832.11 777
10 850 130 750 850 1,011
3B. A firm in an oligopolistic industry has identified two sets of demand curves. If the firm is the only one that changes prices (i.e., other firms do not follow), its demand curve takes the form Q = 82 – 8P. If, however, it is expected that competitors will follow the price actions of the firm, then the demand curve is of the form Q = 44 – 3P.
a. Develop demand schedules for each alternative, and draw them on a graph.
b. Calculate marginal revenue curves for each.
c. If the present price and quantity position for the firm is located at the intersection of the two demand curves, and competitors follow any price decrease but do not follow a price increase, show the demand curve relevant to the firm.
d. Draw the appropriate marginal revenue curve.
e. Show the range over which a marginal cost curve could rise or fall without affecting the price the firm charges.
12. Oligopolistic models are based on behavioral assumptions. One behavioral assumption associated with differentiated product markets is that price increases will not be matched, but price decreases will be matched. This rather pessimistic view of pricing leads to the kinked demand curve discussed in Figure 9.3. To examine why, consider the following simple model: Market inverse demand is given by P(Q)=10 – Q.
a. Suppose firm A controls 50 percent of the market. What is the demand curve faced by this firm? Write inverse demand in slope-intercept form.
Suppose the current price of the product is $6.
b. What is demand faced by firm A given P = $6? Call this quantity Qb.
c. Suppose that, if firm A increases price from this point, other firms do not match the price increase. But if A decreases price, other firms decrease price to maintain their market share. The demand in this instance has two segments: the segment above P = $6 and the segment below P = $6. What should happen to market share for prices above $6? What happens to market share for prices below $6?
The final question that must be answered is how quickly does market share decline as price increases. Suppose A’s demand is linear above P =$6 and A is unable to sell any output above P = $8.
d. Describe algebraically the inverse demand curve faced by the firm in this instance. Provide a graph that is consistent with your answer. Based on this graph, explain why this is called the kinked demand model. (Hint: The equation for the inverse demand curve must be done in two parts.)
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