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Intro Micro Your Name(s):__________________________________________

Professor Kane


Problem Set 2


For graphs, it is often best to use Excel or draw your graph and attach the picture

Recall Beyoncé from PS1 (CONTINUATION OF PS1). Reuse the tables you produced there based on:

serving

MU Duck

Total Worker Hours

1

$45.00

0.75

2

$42.75

1.58

3

$40.61

2.48

4

$38.58

3.48

5

$36.65

4.58

6

$34.82

5.79

7

$33.08

7.12

8

$31.43

8.58

9

$29.85

10.18

10

$28.36

11.95

1. (6 points) Monopoly and equilibrium

a. (2 points) Beyoncé gets smart and realizes that she is the only quality bistro around. Calculate the marginal revenue she gets for each additional serving as the change in total revenue (price times sales). Graph this. What is the new quantity of sales and the new price?

b. (1 point) Shade in the entire area of consumer surplus on your monopoly graph. Shade in the entire area of producer surplus.

c. (2 points) Estimate consumer and producer surplus under perfect competition and under monopoly. What is the dollar value of each, and of total social surplus? Which is better for consumers? Which is better for producers? Which is better for society? Explain.

d. (1 point) Prices and Regulations Hepatitis C is a potentially deadly disease of the liver. Sovaldi is a recently-approved drug that, when used in combination with other drugs, can cure Hepatitis C in as many as 93-95% of the cases. The company that markets this drug, Gilead Science, sells it for $1,000 a pill (for an 12 week, 84 pill course of treatment) in the US, and for $4 a pill in India (http://www.chicagotribune.com/business/ct-drug-price- sofosbuvir-sovaldi-india-us-20160104-story.html ). The company’s stock price soared on approval of the drug, from $20/share to $112/share. (It now sells at about $80.) Think about the elasticity of demand and supply for life-saving drugs and where the MC of producing more is very low. Would you recommend that the government regulate the price of Sovaldi? Why? Why not?

2. (4 points) Moving Equilibrium. Show the effect of each on the monopoly market equilibrium; you don’t need to have exact answers but explain the direction of change in the demand and/or marginal cost curves.

For each of the following produces, explain whether the change in the market price and quantity sold reflects a shift in supply or a shift in demand and in what direction.

Product

Prices

Quantity sold

Supply or demand curve shift? Direction?

Sales of vegan ice cream as more people become vegan

Up

Up

DVDs with more streaming services

Down

Down

Salmon after we completely pollute the ocean

Up

Down

Sales of electric vehicles with improvements in battery storage

down

Up

3. (5 points) Social supply and demand

a. (2 points) Does the community demand curve slope down? Even with diminishing marginal utility for the individual, the community demand curve may not be downward sloping. People may conclude that Beyonce’s duck is good because others are eating in her restaurant (information). People may enjoy eating in the restaurant only if other people are there (network effects). People may value her restaurant more because it is expensive (status effects).

i. Draw a demand curve for her restaurant under assumptions of information, network effects, status effects. Do you still have a downward sloping demand curve? Do you necessarily have an equilibrium price and quantity where demand equals marginal cost?

ii. If demand curves slope up, will there be an equilibrium between supply and demand?

b. (2 points) Can a perfectly competitive business survive? Before a single plane was built, Boeing spent as much as $50 billion on the 787 Dreamliner. Planes can then be made at relatively low cost.

i. If Boeing sells planes at marginal cost, will it be able to recoup its investment?

ii. If companies that invest in fixed costs cannot survive, can we have a productive economy?

c. (1 point) If practice makes perfect, do supply curve slope up? As Adam Smith had predicted, most production processes are characterized by learning by doing with increasing efficiency over time and with the experience. In the production of liberty ships during World War II, for example (see the graph to the left), the labor required to build a ship fell by as much as two thirds over less than four years because experience allowed workers and engineers to become better at building ships and to figure out better ways to organize production.

i. Draw a marginal cost curve for a firm where productivity increases with output. Do supply curve slope up?