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8. The US Government's announced this week that they will bring sanction on countries who buy oil from Iran. "This decision is intended to bring Iran's oil exports to zero, denying the regime its principal source of revenue," the statement from White House press secretary Sarah Sanders read. Explain how OPEC, an oil cartel led by Saudi Arabia benefits from this US announcement. To choose the right answer use the economic theory you learnt in class about how monopolies, oligopolies make gains in the market. a) OPEC does not benefit at all from this announcement. b) Total world supply of oil declines as US blocks Iran's oil export, so shortage leads price of oil supplied by Saudi Cartel to go up today. C) Total world supply of oil declines as US blocks Iran's oil export, so Saudi Cartel increases supply to meet shortage and therefore price of oil fell today. Profit-Maximizing Output and Price Price, cost, marginal revenue of diamond $1,000 Monopolist's optimal point Perfectly competitive PH - 600 industry's optimal point Monopoly profit Pr - 200 MC - ATC D 16 20 -200 MR -400 Quantity of diamonds 9. In the above diagram we see a diamond firm operating under two scenarios: monopoly and perfect competition. If it is a monopoly industry, based on the profit maximization rule: a) How many diamonds will the firm produce? i) 8 ii) 16 iii) 10 b) How much is the profit generated for the firm? i) $2000 ii) $3200 10. Under perfect competition, based on the profit maximization rule: a) How many diamonds will a competitive diamond firm produce? i) 8 ii) 16 iii)10 b) What is the equilibrium price under perfect competition? i) $200 ii) $600 iii) $1000(b) Assume these firms behave like price takers, how much will they produce and what price will they charge? Draw the outcome on a graph. What is the individual firms producer surplus? What is the total producer surplus of the market? (3 marks) (c) Suppose the four firms join together to form a single firm monopoly. What price will the cartel charge and how much output does the cartel produce? What is producer surplus for the cartel? (Hint: the marginal cost curve for the cartel firm is the supply curve found in part (a) with MC replacing P in this equation and MR = 200 -Q). What happens to consumer surplus and total welfare? (4 marks) 4. Calculate the own price elasticity of demand in the following situations (a) A price rise from po = 2 to p1 = 5 causes quantity demand to fall from go = 30 to q1 = 15 (1 mark) (b) The demand curve is given by q = 1/p with the slope of the demand curve given by $ = -1/p2. What is the own price elasticity of demand at any point?(2 marks) (c) The demand curve is given by q = 4 - 2p with the slope of the demand curve given by dp = -2. What is the own price clasticity of demand at: (i) p = 4; and (ii) p = 10? (2 marks) 5. Suppose the cost of producing q cars and q2 trucks is 45000 +80q1 + 10092. Calculate the measure of economies of scope when (1 mark each): (a) q1 = 100 and q2 = 200 (b) q1 = 500 and q2 = 800 6. Answer the following questions True, False, or Uncertain. Give a brief explanation of your answer. 1 mark for correctly identifying T, F. or U. 4 marks for explanation. (a) If a single price monopoly is instituted in what was a competitive market, consumer surplus will decrease more than producers gain. (b) If a firm's marginal cost is less than the firm's marginal revenue then the firm should decrease output and increase price. (c) If price is less than average cost then a firm will shut down. (d) A monopolist does not make a shutdown decision in the short-run and an exit decision in the long run since only competitive firms make these decisions.For simplicity suppose fuel, ethanol, and gasoline are all denominated in the above in energy equivalent gallons of gasoline (hereafter, simply "gallons"). Suppose all of the gasoline that is supplied is from crude oil imported from abroad. Suppose corn growers in Iowa convince the government to subsidize ethanol by $4.50/gallon. Relative to the no subsidy, competitive market equilibrium: a. What is the change in producer surplus to ethanol producers due to the subsidy? b. What is the change in producer surplus to gasoline producers due to the subsidy? c. What is the change in fuel demander's consumer surplus due to the subsidy? d. What is the final bill to taxpayers for the subsidy? e. What is the change in total welfare due to the subsidy? f. Iowa corn growers argued that the subsidy would help "reduce our dependence on foreign oil." This is the same thing as saying that they believe there is an additional societal benefit for each gallon of gasoline displaced by the subsidy relative to the competitive market equilibrium, given our prior assumptions. Suppose this is the case. Is the ethanol subsidy a good way to achieve this goal? Why or why not? Explain your reasoning. g. How large would the benefits from reducing oil dependency (per gallon of gasoline displaced) need to be to just justify the welfare loss due to the subsidy?A risk neutral principal hires a risk averse agent to work on a project. The agent' 5 utility function is V(w.-i) = WT: - 3(a). where w is wage, 303,-) is the disutility associated with the effort level 3,- exerted on the project. The agent can choose one of two possible effort levels, 814 or 31,, with associated disutility levels 3(EH) = 4, and 3(a) = 2. 0 If the agent chooses effort level 61.1, the project yields 80 with probability 1/ 2, and 0 with probability 1 / 2. e If the agent chooses q, the project yields 80 with probability 1/4 and 0 with probability 3 /4. The reservation utility of the agent is 0. Let {wH,wL} be an outputcontingent wage contract, where am is the wage paid if the project yields 80, and am is the wage if the yield is U. The agent receives a xed wage if :0 H = wL. (a) If effort is observable, which effort level should the principal implement? What is the best wage contract that implements this effort? [5 marks] (b) Suppose effort is not observable. What is the optimal contract that the principal should offer the agent? What effort level does this contract im- plement? [8 marks] (c) Compare the optimal contract in part (a) with that in part (b) and provide intuition for any similarity or difference in the income risk they impose on the agent and in the principal's payoff. ['2' marks]
