14-3 Selling Salsa

Your family business produces a secret recipe salsa and distributes it through both smaller specialty stores and chain supermarkets. The chains have been demanding sizable discounts but you do not want to drop your prices to the specialty stores. When can you legally accommodate the chains without losing profits from the specialty stores?

14-4 Microwave Ovens

A manufacturer of microwaves has discovered that male shoppers have little value for microwaves and attribute almost no extra value to an auto-defrost feature. Female shoppers generally value microwaves more than men and attribute greater value to the auto-defrost feature. There is little additional cost to incorporating an auto-defrost feature. Since men and women cannot be charged different prices for the same product, the manufacturer is considering introducing two different models. The manufacturer has determined that men value a simple microwave at $70 and one with auto-defrost at $80 while women value a simple microwave at $80 and one with auto-defrost at $150.

If there is an equal number of men and women, what pricing strategy will yield the greatest revenue? What if women comprise the bulk of microwave shoppers?

14-6 Bundling

At a student caf, there are equal numbers of two types of customers with the following values. The caf owner cannot distinguish between the two types of students because many students without early classes arrive early anyway (i.e., she cannot price discriminate).

Students with Early Classes Students without Early Classes

Coffee 70 60

Banana 50 100

The MC of coffee is 10. The MC of a banana is 40. Is bundling more profitable than selling separately? If so, what price should be charged for the bundle?

19-1 Leasing Residuals

In the late 1990s, car leasing was very popular in the United States. A customer would lease a car from the manufacturer for a set term, usually two years, and then have the option of keeping the car. If the customer decided to keep the car, the customer would pay a price to the manufacturer, the "residual value," computed as 60% of the new car price. The manufacturer would then sell the returned cars at auction. In 1999, the manufacturer lost an average of $480 on each returned car (the auction price was, on average, $480 less than the residual value).

A. Why was the manufacturer losing money on this program?

B. What should the manufacturer do to stop losing money?

19-2 College Degrees Required for Police Officers

Many police officer positions require the applicant to have a college degree even though the tasks of a police officer rarely call upon college course material. Why don't police departments increase their applicant pool by dropping this requirement?

19-5 "Soft Selling" and Adverse Selection

Soft selling occurs when a buyer is skeptical of the usefulness of a product and the seller offers to set a price that depends on realized value. For example, suppose you're trying to sell a company a new accounting system that will reduce costs by 10%. Instead of naming a price, you offer to give them the product in exchange for 50% of their cost savings. Describe the information asymmetry, the adverse selection problem, and why soft selling is a successful signal.

20-2 Business Loan

A colleague tells you that he can get a business loan from the bank, but the rates seem very high for what your colleague considers a low-risk loan.

a. Give an adverse selection explanation for this, and offer advice to your friend on how to solve the problem.

b. Give a moral hazard explanation for this, and offer advice to your friend on how to solve the problem.

20-4 Auto Insurance

Suppose that every driver faces a 1 % probability of an automobile accident every year. An accident will, on average, cost each driver $10,000. Suppose there are two types of individuals: those with $60,000 in the bank and those with $5,000 in the bank. Assume that individuals with $5,000 in the bank declare bankruptcy if they get in an accident. In bankruptcy, creditors receive only what individuals have in the bank. What is the actuarially fair price of insurance? What price are individuals with $5,000 in the bank willing to pay for the insurance? Will those with $5,000 in the bank voluntarily purchase insurance? What is the effect of state laws forcing individuals to purchase auto liability insurance?

20-5 BPO Services

BPO Services is in the business of digitizing information from forms that are filled out by hand. In 2006, a big client gave BPO a distribution of the forms that it digitized in house last year, and BPO estimated how much it would cost to digitize each form.

FORM TYPE Mix of Forms Form Cost

A 25% $0.25

B 25% $0.10

C 25% $0.15

D 25% $0.50

A. Compute the average cost of digitizing a form.

B. The client agreed to pay the average cost computed in A for each form that BPO processed, but BPO lost money on the contract. How much did BPO lose, on average, for each form that it processed?