ME SET I(KEY)

IBS553 ME/ SET – I(KEY)/0906

1. According to the kinked demand curve theory, when one firm raises its price, other firms will

a. also raise their pricesb. refuse to followc. increase their advertising

expenditured. exit the industrye. raise barriers to entry

2. Which of the following might not be a reason for emergence of monopoly?

a. Sole producer in the marketb. The firm big enough to satisfy the

entire market demand produced at minimum average cost

c. A company having patent for the product

d. Government has awarded license for the firm

e. Free entry of firms into the industry.

3. One possible effect of advertising on a firm’s long-run average cost curve is to

a. raise the curveb. lower the curvec. shift the curve rightwardd. shift the curve leftwarde. no effect on average cost

4. What is the likely impact on price in a perfectly competitive market when the demand curve shifts to the right slowly and the supply curve shifts to the right at a faster rate?

a. Price would increaseb. Price would fallc. The price remains samed. The cost of production would

determine the increase in pricee. Price is dependent on given factors.

5. Charging of different prices from different consumers is possible under which of the market conditions?

a. Perfect competitionb. Monopolyc. Oligopolyd. Monopolistic competitione. Duopoly

6. Which of the following is not true of a perfectly competitive market?

a. if supernormal profits are earned, then the price will fall over time

b. in long-run equilibrium, P = MR = SRMC = SRATC = LRAC

c. a constant-cost industry exists when the entry of new firms has no effect on their cost curves

d. homogeneous producte. In long run all firms earn super

normal profits

7. Suppose a car wash has 2 washing stations and 5 workers and is able to wash 100 cars per day. When it adds a third station, but no more workers, it is able to wash 150 cars per day. The marginal productivity of the third washing station is

a. 100 cars per dayb. 150 cars per dayc. 5 cars per dayd. 50 cars per daye. 15 cars per day

8. Assuming that the marginal cost curve for a firm is a smooth U-shaped, the corresponding total cost curve has a (an)

a. linear shapeb. S-shapec. U-shaped. Reverse S shapee. Reverse U shape

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Part – A: Basic ConceptsTOTAL MARKS: 30 MAXIMUM TIME: 30 MINUTES


9. What is likely to be the shape of supply curve of an increasing cost industry in the long run?

a. Negative sloped

b. Positive sloped

c. Parallel to X axis

d. Parallel to Y axis

e. U shaped

10. The change in quantity demanded resulting from change in purchasing power is known as

a. income effect

b. substitution effect

c. law of demand

d. consumer equilibrium effect

e. law of supply

11. What does the perfectly elastic demand curve under the perfect competition mean to the producer?

a. The demand is sensitive to price

b. The demand is less sensitive to price

c. There is no constraint on supply

d. Different prices exist in the market

e. The producer can sell as many goods as he wants at the existing price.

12. The amount of utility that a consumer gains from the consumption of one more unit of a good is called

a. incremental utility

b. total utility

c. diminishing utility

d. marginal utility

e. average utility

13. If the government wanted to raise tax revenue and shift most of the tax burden to the sellers, it would impose a tax on a good with a

a. steep (inelastic) demand curve and a steep (inelastic) supply curve

b. steep (inelastic) demand curve and a flat (elastic) supply curve

c. flat (perfectly elastic) demand curve and a steep (inelastic) supply curve

d. flat (perfectly elastic) demand curve and a flat (elastic) supply curve

e. perfectly inelastic demand and elastic supply

14. A manufacturer of Addidas hires an economist to study the price elasticity of demand for his product. The economist estimates that the price elasticity of demand coefficient for a range of prices close to the selling price is greater than 1. The relationship between changes in price and quantity demanded for this segment of the demand curve is

a. elastic

b. inelastic

c. perfectly elastic

d. perfectly inelastic

e. unitary elastic

15. Which of the following will result in an increase in total revenue?

a. price increases when demand is elastic

b. price decreases when demand is elastic

c. price increases when demand is unitary elastic

d. price decrease when demand is inelastic

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e. price increases when demand is perfectly elastic

16. An increase in consumer’s incomes increases the demand for Pepe Jeans. As a result of the adjustment to a new equilibrium, there is a (an)

a. leftward shift of the supply curveb. downward movement along the

supply curvec. rightward shift of the supply curved. upward movement along the

supply curvee. no shift in demand curve

17. Suppose autoworkers receive a substantial wage increase. Other things being equal, the price of autos will rise because of a (an)

a. increase in the demand for autosb. rightward shift of the supply curve

for autosc. leftward shift of the supply curve

of autosd. reduction in the demand for autose. upward shift in demand for autos

18. What is the likely impact on the supply curve and the price when there is technological progress in an industry?

a. The supply curve would shift upwards and the prices would increase

b. The supply curve will remain the same and the price would decline

c. The supply curve would shift to the left and the prices would decline

d. The supply will decrease and the price would not change

e. The supply and price will increase.

19. Price ceiling is likely to result in

a. Increase in supply b. Surplus productionc. Black marketing

d. Decrease in demande. Unlimited amount being

available for customers distribution20. The gap between the short run total cost

and the short run variable cost is dependent on

a. Fixed cost

b. Average fixed cost

c. Average variable cost

d. Average cost

e. Marginal cost.

21. An economic theory claims that a rise in gasoline prices will cause gasoline purchases to fall, ceteris paribus. The phrase ‘ceteris paribus’ means that

a. other relevant factors like consumer incomes must be held constant

b. gasoline prices must first be adjusted for inflation

c. the theory is widely accepted but cannot be accurately tested

d. consumers need for gasoline remains the same regardless of price

e. all factors are subject to change in short run

22. A review of the performance of the Indian economy during the 1990’s is primarily the concern of

a. macroeconomics

b. microeconomics

c. both macro and micro economic

d. neither micro nor macro economics

e. welfare economics

23. Economics is the study of

a. how to make money

b. how to operate a business

c. people making choices because of the problem of scarcity

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d. the government decision making process

e. money

24. An increase in the distance between the isoquants as the output is increased would indicate

a. Diminishing returns to a variable factor

b. Increasing returns to a variable factor

c. Increasing returns to scale

d. Decreasing returns to scalee. Constant returns to scale.

25 The point beyond which no rational firm would employ labor is

a. when the average product of labor is equal to marginal product of labor

b. when the marginal product of labor is maximum

c. when the marginal product of labor is zero

d. when total product of labor is zeroe. when the average product of labor is

zero

26. On a production possibilities curve, a change from economics inefficiency to economic efficiency is obtained by

a. movement along the curveb. movement from a point outside

curve to a point on the curvec. movement from a point inside

curve to a point on the curved. a change in the slope of the curvee. movement from outside the curve to

another point outside the curve

27. The difference between the price an individual is willing to pay and the price he or she actually pays is

a. producer costb. monopolist profitc. economic profit

d. producer surpluse. consumer surplus

28. General equilibrium analysis is concerned with the analysis of the

a. effect of changes in an individual market holding other things equal

b. equilibrium state for the economy as a whole in which the markets for all goods and services are simultaneously in equilibrium

c. effect of change in the equilibrium point when the demand is kept constant and supply is changed

d. effect of change in the equilibrium point when the supply is kept constant and demand is changed

e. effect of change in equilibrium when demand and supply are kept constant while all other things are varying

29. Given that the elasticity of demand for the high end cell phones is inelastic, what is the likely impact on the high end cell phone producing firm’s revenue in case there is reduction in the prices of these cell phones?

a. The revenue would be the same

b. Revenue would increase

c. Revenue would fall

d. Given a small price change revenue would increase

e. The impact cannot be calculated.

30. Which of the following has the lowest elasticity of supply?

a. luxury items

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END OF PART - A


b. necessities

c. perishable goods

d. items that have the least budgetary allocation

e. normal goods

1. The Dolan Corporation, a maker of small engines, determines that in 2006 the demand curve for its product is

P = 2,000 – 50Q

where P is the price (in dollars) of an engine, and Q is the number of engines sold per month.

a. To sell 20 engines per month, what price would Dolan have to charge?

b. If it sets a price of $500, how many engines will Dolan sell per month?

c. What is the price elasticity of demand if price equals $500?

d. At what price, if any, will the Demand for Dolan’s engines be unitary elastic?

(2 + 2 + 3 + 3 = 10 marks)

Answer:(a) If Q = 20, P, = 2000 – 50(20) = 1,000

Thus price would have to equal $1000

(b) Since 500 = 2,000 – 50Q, Q = 1,500/50 = 30. Thus, it will sell 30 per month

(c) Because Q = (2,000-P)/50 = 40 – 0.02P,dQ/dP = -0.02,Thus, (P/Q)*(∂Q/∂P) = -0.02*500/30 = -0.33

(d) If -0.02*P/(2,000 – P)/50 = -1 -0.02*50P/2,000 – P = -1

P = 2,000 – P= 2,000/2 = 1,000

Thus, if price equals $1000, the demand is unitary elastic.

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PART – B&C

INSTRUCTIONS TO CANDIDATESAnswer Part B & Part C in SINGLE ANSWER BOOKLET.Write your enrollment number on the first page of the answer book at the space provided only.All rough work may be done on any blank page in the answer bookPencil should not be used for answeringThe unused portion of the answer book must be boldly crossed prior to submittingAttempt all questionsMarks are indicated against each question.

Part–B: (40 Marks)

Problems testing, Conceptual Understanding and Application Analytical Ability, Case lets, Situational Analysis

TOTAL MARKS: 70 MAXIMUM TIME: 2½ HOURS


2. The Sun Pharmaceutical Company’s total variable cost function is estimated as follows:

TVC = 50 Q – 10 Q2 + Q3

where Q is the number of output produced.

a. What is the output where marginal cost of production is minimum?

b. What is the output level where average variable cost is a minimum?

c. What are the values of average variable cost and marginal cost at the output specified in the answer to part (b)?

(4 + 3 + 3 = 10 marks)

Answer: (a) Since MC is first derivative of total variable cost and equals dTVC/dQ

MC = 50 – 20 Q + 3 Q2

It is a minimum when

dMC/dQ = - 20 + 6 Q = 0

or

Q = 20/6

(b) Average variable cost equals

AVC = TVC/Q = 50 – 10Q + Q2

It is minimum when

d AVC/dQ = - 10 + 2Q = 0

or

Q = 5

(c) if q = 5, average variable cost equals

50 – 10 (5) + 5 (5) = 25

MC equals 50 - 20 (5) + 3 (5) (5) = 25

Thus, MC equals average variable cost at this output level.

3. Suppose that the market demand function of a perfectly competitive industry is given by QD = 4,750 – 50P and the market supply function is given by

QS = 1,750 + 50P, and P is expressed in dollars.

a. Find the market equilibrium priceb. Find the quantity demanded and supplied in the market at P = $50, $40, $30, $20

and $10.c. Draw the market demand curve, the market supply curve and the demand for one of

100 identical perfectly competitive firms in this industry and explain.d. Write the equation of the demand curve of the firm.

(2.5 + 2.5 + 4 + 1 = 10 marks)Answer:

(a) QD = QS4,750 – 50P = 1,750 + 50PP = $30 (equilibrium price)

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(b) Market Demand and Supply Schedule

Price ($) QD QS50 2,250 4,25040 2,750 3,75030 3,250 3,25020 3,750 2,75010 4,250 2,250

(c) Draw the figure showing how you determine price for a perfectly competitive industry and firm

(d) P = $30

4. Deep Shawak is hired as a consultant to a firm producing ball bearings. This firm sells in two distinct markets, one of which is completely sealed off from the other. The demand curve for the firm’s output in the one market is P1 = 160 – 16Q1, where P1 is price of the product, and Q1 is the amount sold in the first market. The demand curve for the firm’s output in second market is P2 = 80 – 4Q2, where P is the price of the product, and Q is the amount sold in second market.

The firms marginal cost curve is 5 + Q, where Q is the firm’s entire output (destined for either market). The firm asks Deep Shawak to suggest what its pricing policy should be.

a. How many units of output should the firm sell in the second market?

b. How many units of output should the firm sell in the first market?

c. What price should it establish in each market?

(3.5 + 3.5 + 3 = 10 marks)

Answer:

(a) MR1 = 160 – 16Q1

MR2 = 80 – 4Q2

MC = 5 + (Q1 + Q2)Therefore, 160 – 16Q1 = 5 + Q1 + Q2

80 – 4Q2 = 5 + Q1 + Q2

Or 155 – 17Q1 = Q2

75 – 5Q2 = Q1

Thus1550- 17(75 – 5Q2) = Q2

155 – 1,275 + 85Q2 = Q2

84Q2 = 1,120Q2 = 1,120/84 = 13.33It should sell 13.33 units in the second market

(b) Q1 = 75 – 5Q2

= 75 – 5(1,120/84)= 75 – 66.66 = 8.33

It should sell 8.33 units in the first market

(c) P1 = 160 – 8(8.66) = 93.66P2 = 80 – 2(13.33) = 53.33

9END OF PART - B


5. (a) Professor Rahul Gupta is a University professor working in US. He is considering leaving the university job and opening a consulting business. For his service as a consultant, he would be paid $75,000 a year. To open this business, Professor Gupta must convert a house from which he collects rent of $ 11,000 per year into an office and hire a secretary at a salary of $15,000 per year. University pays professor Gupta $ 50,000 a year. Based only on economic decision making, do you predict the professor will leave the university to start a new consulting business?

(5 Marks)

Answer:There is difference between accounting profit and economic profit. Accounting profit is the difference between total revenue and total explicit cost. Explicit cost implies payments to nonowners of a firm for their resources. Economic profit is total revenue minus explicit and implicit costs. Implicit cost implies the opportunity costs of using resources owned by the firm. In the consulting business, the accounting profit is $ 60,000. An account would calculate profit as the annual revenue of $ 75,000 less the explicit cost of $ 15,000 per year. However, the accountant would neglect implicit costs. Professor Gupta’s business venture would have implicit costs of $ 11,000 in forgone rent and $ 50,000 in forgone salary earnings. His economic profit is -$1000, calculated as the accounting profit of $60,000 less the total implicit costs of $61,000. So the professor will stay with the university to avoid an economic loss.

5. (b) Suppose the total cost equation for a monopolist is given by

TC = 500 +20Q2

Let the demand equation be given by

P = 400 – 20 Q

where P is the product/service price and Q is company output/service.

what are the profit –maximizing price and quantity?

(5 marks)

Answer:

Profit maximization condition in monopoly market is MR = MC

The equation for marginal revenue is the derivative of the total revenue equation with respect to Q. Similarly, marginal cost is the derivative of total cost with respect to quantity. That is

Because total revenue is price time’s quantity, the total revenue is

TR = 400Q – 20 Q2

MR = dTR/dQ = 400 – 40Q

and

MC = dTC/dQ = 40Q

Profits are maximized by choosing the quantity where marginal revenue equals marginal cost. Thus

400 - 40Q = 40Q

Solving for Q gives 5 Units as the profit maximizing quantity. Substituting Q = 5 into the demand equation gives P = 300

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Part – C: (30 Marks)

Case Analysis / Applications of concepts


6. Market researchers have studied the market for milk, and their estimates for the supply of and the demand for the milk per month are as follows

Price per gallon($)

Quantity demanded(millions of gallons)

Quantity supplied(millions of gallons)

2.50 100 5002.00 200 4001.50 300 3001.00 400 2000.50 500 100

(a) Using above data, graph the demand for and the supply of milk. Identify the equilibrium point. What happens to equilibrium if price rises or falls in the given case up or below than the equilibrium price respectively?

(b) Suppose the government enacts a milk support price of $2 per gallon. Indicate this action on your graph, and explain the effect on the milk market. Why would the government establish such a support price?

(c) Now assume the government decides to set a price ceiling of $1 per gallon. Show and explain how this legal price affects your graph of the milk market. What objective would government is trying to achieve by establishing such a price ceiling?

(4 + 3 + 3 = 10 marks)

Answer:

Draw the graph w.r.t. data given in the table and show the equilibrium point, equilibrium price and quantity at that point on the respective axis.

(a) The equilibrium prie is $1.50 per gallon, and the equilibrium quantity is 300 million gallons per month. The price system will restore the market’s $1.50 per gallon price because in either a surplus will drive prices down or a shortage will drive the prices up.

(b) The support price results in a persistent surplus of 200 million gallons of milk per month, which the government purchases with taxpayers money. Consequently, taxpayers who do not drink milk are still paying for milk. The purpose of the support price is to bolster the incomes of dairy farmers.

(c) The ceiling price will result in a persistent shortage of 200 million gallons of milk per month, but 200 million gallons are purchased by consumers at price $1 per gallon. The shortage places a burden on the government to ration milk in order to be fair and to prevent black markets. The government’s goal is to keep the price of milk below the equilibrium price of $1.50 pr gallon, which would be set by a free market.

7. Suppose IBM raised the price of its printers, but Hewlett-Packard (the largest seller) refused to follow. Two years later IBM cut its price, and H-P retaliated with an even deeper price cut, which IBM was forced to match. For the next five years, H-P raised its prices five times, and each time IBM followed suit within 24 hours. Does the pricing behavior of these

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computer industry firms follow the Cartel or price leadership model? Why? Explain the features of both the models giving some examples.

10 marks

Answer:

The pricing behavior follows the price leadership model. The price leader is H-P, which is the largest and most dominant firm in the computer printer industry. After a price war, IBM followed each of H-P’s price hikes. Price leadership is a pricing strategy in which a dominant firm sets the price for an industry and the other firms follow. A cartel is a group of firms that formally agree to control the price and the output of a product. The goal of the cartel is to reap monopoly profits by replacing competition with cooperation. OPEC is one of the most successful cartels in the world.

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END OF QUESTION PAPER

ME SET I(KEY)

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