Part one.

.

1 "Monopolistic competition lies between perfect competition and monopoly according to general microeconomic theory. This implies that firms in this market structure have features of both, perfect competition and monopoly". In terms of the above statement, answer the following questions:

3.1.1 Why do monopolistically competitive firms face a downward sloping demand curve? (8)

3.1.2 Compare the short-run and long-run profit maximizing positions of firms in this market structure relating your answer to the characteristics of perfect competition and monopoly. Motivate your answer with the aid of a diagram.

Part ii.

Part A. Answer the following questions. Keep your answers to one page or less (30 marks)

The local council of a city plans to reduce pollution by imposing a tax on gasoline. To avoid any backlash from voters, they decide to impose the tax on gas stations, and not the buyers. Draw a diagram to show how a gasoline tax imposed on gas stations would affect the price of gasoline and the quantity sold. Make sure that your diagram shows the tax, which curve shifts and how, the original equilibrium before the tax (P and Q), and the situation after tax (P and Q from the point of view of buyers and sellers). Discuss whether the council will be successful in avoiding any effects on buyers.

COVID-19 vaccines reduce both the risk of people who get vaccinated to get a serious form of the disease, and the risk of them infecting other people. What economic concept does this positive effect onto other people illustrate?

Imagine that vaccines are sold like many other goods in a competitive market. Draw the diagram to show the market for vaccines and the impact vaccines have onto people who don't necessarily get vaccinated. Show the market equilibrium and the socially optimal equilibrium. Explain in words why in the absence of any government intervention the quantity of vaccines that people would choose to buy would be less than the socially optimal quantity. How can government encourage more people to get vaccinated?

Imagine that there a single formula for COVID_19 vaccine production and that the inventor and manufacturer of that formula can choose the price at which they sell the vaccine to the public. Now imagine that the government buys the formula for the vaccine and gives it for free to all pharmaceutical companies who are interested in producing the vaccine. Beyond the investment in developing the formula, the marginal cost or producing vaccines is constant and small. For simplicity we assume that the demand for vaccines is downward sloping and linear.

Draw a diagram to show the price and quantity of vaccine that the single firm would choose to maximize their profit. On the same diagram, show the price and quantity of vaccines that would be produced if a large number of small manufacturers would compete in this market. Which outcome is efficient and why?

Bonus Question (2 marks): In reality, there are several vaccines for COVID-19 already, with slightly different formulas, costs and price points. What type of market structure best characterizes the market for vaccines? Is this type of market better or worse than having a single producer? Why?

Part B Solve the following problem and answer each question (35 marks)

Assume you have the following information about testing for COVID-19 in a typical laboratory.

The first column shows the number of specialized personnel that could work on testing in any given day (L). The second column shows the number of COVID-19 tests that can be performed daily in the laboratory (Q) given the number of people hired. The TC column shows the total costs of performing the number of tests from column (2).

Please note that all these numbers are hypothetical and created for the purpose of this exam! I have no expertise in this area.

L

Q

MPL

APL

FC

VC

TC

AVC

ATC

MC

0

0

1800

1

50

2750

2

120

3940

3

220

5490

4

360

7520

5

480

9310

6

560

10620

7

630

11810

8

670

12640

9

700

13350

10

710

13820

Complete the table (14 marks)

What do MPL, APL acronyms stand for? Explain the concepts behind them. (2 marks)

Why do the MPL numbers first increase and then increase? (2 marks)

How much is the fixed cost of production? Give two examples of fixed costs that you think a testing lab might incur. (2 marks)

Assume that the lab is run by a government agency. If the government wanted to perform the maximum number of tests every day, how many tests would the lab perform? How many people should they hire? What would be their cost per test? What would be the total cost of testing per day? (4 marks)

If the lab wanted to produce their output with the lowest cost per unit (ATC), how many people would get tested daily? What is the cost per test performed daily in this case? How many people would be hired by the lab? (3 marks)

Now assume the lab is privately owned. The government offers to pay the lab $24 per test. If the lab is looking to maximize its profit (like any other private entity) how many tests should the lab perform daily? How many people should they hire? What is the cost per test performed daily in this case? What is the lab's daily profit? (4 marks)

If the government plans to reduce the price per test they offer, what is the minimum price level for a test at which the lab will continue to perform tests in the short run? Explain.(2 marks)

If the number of labs can easily change (new labs can be easily set up and running) what do you predict will be the price for a test and the daily profit of a lab in the long run? Explain. (2 marks)

Part c.

Answer the following questions.

Exercise 3.6 {A Three-Period Open Economy} Considerathreeperiod small open endowment economy populated lay a large number of households with preferences given by the lifetime utilityr function in CI -l- in ('3'; + 111 (.73. where C} , 72, and C3 denote, respectively, consumption in periods 1, 2, and 3. Suppose that households receive exogenous endowments of goods given by Q1, Q2, and Q3 in periods 1, 2, and 3, respectively. Every household enters period 1 with an asset position, including interest, equal to {1 + m] 35, where so denotes the interest rate prevailing in period 0. Finally, suppose that the country enjoys free capital mobility and that the world interest rate is constant over time and equal to r\". plain how this development affects the interest rate, output, and investment. 2 The following questions deal with the medium-run correction in a closed economy after it is perturbed by a negative shock. (a) Combine the Phillips Curve (PC) equation 7 -7 = m+z-au with the production function Y = N to obtain the following alternative expression for the PC. IT - Te = ( Y - Yn) In your answer briefly define the variables used in the above relations. Suppose that the economy is initially in a medium-run equilibrium, in which the actual and expected inflation rates are 2% and inflation expectations are anchored at 7 = 2%, but then, due to a fall in business confidence, investment spending significantly falls. In parts (b), (c) and (d) below explain in words and illustrate using both the IS-LM model and the PC. (b) Describe the impact of the fall in business confidence in the short run. How does the short- run equilibrium output and inflation rate compare to the initial medium-run equilibrium output and inflation rate if the central bank does not change the real policy rate? MATHOO02 5 TURN OVER (c) Describe the medium run correction process. Be sure to discuss the change in output, inflation and interest rate. (d) In the course of the medium run correction, does the economy face the possibility of running into a liquidity trap? If so, propose alternative policies to get the economy out of the liquidity trap