Problem 1

The supply and demand for beer are QS = P, and QD = 30 - 2P. However, each unit of beer consumption increases the likelihood that consumers of beer will be involved in accidents that harm consumers that do not consume beer. The harm inflicted on consumers that do not consume beer is $2 per unit of beer consumed. For simplicity, assume that the harm from accidents due to beer consumption is inflicted entirely upon non-consumers of beer. (This is not realistic, but it makes it simpler to make the point.) Also assume that it is too costly for beer consumers and non-consumers to write contracts that constrain consumers' beer consumption.

1. Which of the following is the best characterization of the harm inflicted by beer consumers on non-consumers of beer.

A.The harm is a a pecuniary externality and does not affect social surplus.

B.The harm is an externality, but it does not affect social surplus.

C.The harm is illusory,as externalities do not distort competitive markets.

D.The harm is an externality, and the social cost of the externality is the$2 times the

E.number of bottles of beer consumed.

F. Noneoftheabove.

2. What are the competitive equilibrium price and output in the competitive beer market with externalities? What is total surplus at the competitive equilibrium after taking into account the costs associated with accidents?

3. What is the socially optimal per-unit tax on beer consumption?

Problem 2.

1. The demand curve we draw on a graph when talking about competitive markets has two interpretations, depending on whether we are speaking of the quantity associated with each price or the price associated with each quantity. These interpretations are:

A.The quantity demanded at different prices and the average price paid per unit when the customer purchases all units that have positive personal value at some positive price.

B.The quantity demanded at the average price and the marginal benefit to the producers of the last unit produced.

C.The quantity demanded at each price and the customer's maximum willingness to pay for the last unit purchased when the customer purchases a given quantity.

D. Alloftheabove.

E. Noneoftheabove.

2. The supply curve we draw on a graph when talking about an individual competitive firm's quantity decision describes:

A.The amount the firm will supply at a given price.

B.The maximum amount the the firm would be willing to accept for the last unit supplied

when the firm supplies a given quantity.

C.The minimum amount the firm would be wiling to accept for the last unit supplied when

the firm supplies a given quantity.

D. AandB.

E. A and C.

3.In a perfectly competitive market,

A.At the equilibrium price, consumer surplus is maximized.

B.At the equilibrium price, producer surplus is maximized.

C.At the equilibrium price,total surplus(producer plus consumer surplus)is maximized.

D.None of the three surplus valuesconsumer-,producer-,or total surplus,is maximized.

E. Noneoftheabove.

4.Imagine a perfectly competitive industry with a downward sloping industry demand, an

industry supply curve QS = 100P, and individual firm cost functions C(Q) =(1/2) Q2. Suppose the market becomes monopolized (e.g. through a series of mergers), and the monopolist's cost function after the series of mergers is Cm(Q) =(1/200) Q2. The demand curve is the same after the mergers as it was before. Nothing else changes. The monopolization of the market will:

A. Lead to an increase in price.

B. Lead to a decrease in price.

C. Leave price unchanged.

D. Could increase or decrease price, depending on factors omitted from the question. E. None of the above.

Problem 3

You have taken a job that puts you in charge of ticket pricing for Indiana University basketball. Although Assembly Hall holds 17472 people, you have 16,000 tickets to sell after seats have been set aside for press and VIPs. Marginal cost is zero. For simplicity, you must charge the same price for every ticket.

1. Suppose demand from fans other than the press and VIPs is QD = 32,000 - 320P. If your objective is to maximize profits, which price should you set?
2. One of the games on the schedule is against Grand Canyon University, a team that is quite deep (so to speak), but has limited talent. You estimate that the demand for tickets to that game is only half the demand given in question 1. If your goal is to maximize profits, which price should you set now?

Problem 4

The industry demand for gasoline is initially given by QD = 10 - P, and the industry supply is QS = P. The gasoline market is initially competitive.

1. Find competitive price, quantity, consumer and producer surpluses.

2.An individual gasoline refiner's cost is C(Q) = Q + Q2. The market is competitive, and this refiner behaves as a competitive firm. If the gasoline price is 5, how much gasoline should the refiner produce?

3.The EPA has passed a regulation that will: (1) encourage the consumption of alternative energy and (2) make it more costly to produce gasoline. The research department at the EPA estimates that the regulation will cause each consumer's marginal willingness to pay for gasoline to fall by $2 for each unit consumed, and that each supplier's marginal cost will rise by $1 for each unit produced. What are the new price and quantity of gasoline?

4.Suppose a coup d'etat in the country causes the government to acquire all gasoline refineries, and no additional companies can enter the business. The new government set the regulations, which give a demand for gasoline of QD = 8 - P and a cost function of C(Q)=Q2. The government chooses a private firm to run the refinery, sets the gasoline price, and charges the firm a fixed license fee. If the government must allow the firm to earn nonnegative profit, and if its objective is to maximize the license fee, what gasoline price will it set?