ECON 101: Principles of Microeconomics – Discussion Section Week 3

TA: Kanit Kuevibulvanich

This week, you will learn

- Demand and Supply: Equilibrium
- Demand and Supply: Change in Quantity Demanded and Change in Demand
- The Market Demand Curve

Things you should know

- What is equilibrium? How to find the equilibrium in demand-supply system?
- What is the difference of change in quantity demanded and change in demand?
- What happen when there is a shift in demand?
- From individual demand, how to find the market demand curve?

Exercises
Question 1 (Let Us Quickly Remind Ourselves of the Joint PPF)
Suppose there are three countries in the world – North, Central and South. Each
country can produce Chocolate (C) and Fizzy drink (F) according to the following
individual PPF:
North F = 300 – C Central F = 300 – 2C South F = 400 – 4C
1. What is the maximum amount of each good each country can produce?
2. Which country has the comparative advantage in each good?
3. Draw the joint PPF. Mark the two end points and two kink points. Find the
equations of each segment of the joint PPF.
4. Demonstrate the individual PPF when production technology improves for both
goods. What about technological improvement on chocolate production only?
5. Demonstrate the joint PPF when there is a technological advancement in both
cases from part 5.

Question 2 (The Market Demand)

There are only three persons in the Austrian Alps – Jeremy, Mitch and Bibi. Each of
them has the following individual demand curve for Swiss cheese:
Jeremy p = 10 – 0.5q Mitch p = 16 – 2q Bibi p = 20 – q
The market supply is given by: Q = 0.5P.
1. Draw each of the individual demand curves.
2. At market price P = 14, what is quantity demanded in the market?
3. Find the market demand curve graphically and denote the kink points. Write down
the equations for each segment.
4. Find the equilibrium price and quantity.

Question 3 (Demand-Supply)
Let the demand equation be given by Q = 100 – 0.5P. The supply equation is Q = 0.5P.
1. Plot the demand and supply curves. Denote where there are shortage and surplus.
2. Find the equilibrium price and quantity.
3. If demand increases by 40 units, what is the new equilibrium?
4. If supply decreases by 10 units, what is the new equilibrium?
5. What can we say about the equilibrium if supply increases and demand increases?
6. What can we say about the equilibrium if supply decreases and demand dereases?

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 ECON 101: Principles of Microeconomics – Discussion Section Week 3
TA: Kanit Kuevibulvanich

Solution
Question 1
1. Fizzy drink: North 300, Central 300, and South 400.
Chocolate: North: 300, Central 150, and South 100.
2. Fizzy drink: South (OC = 0.25 C/F); Chocolate: North (OC = 1 F/C)
3. End points are (0, 1000) and (550, 0). Kink points are (300, 700) and (450, 400). The
equations are:
/ 1000 – C , when 0 ≤ C ≤ 300
F = | 1300 – 2C , when 300 ≤ C ≤ 450
\ 2200 – 4C , when 450 ≤ C ≤ 550
4. Individual PPF will shift out when production technology improves for both
goods. However, it will pivot around F-axis outward when there is a
technological improvement on chocolate production only.
5. Similar answers to 4.

Question 2
1. Jeremy: straight line with vertical and horizontal intercept at p = 10 and q = 20.
Mitch: straight line with vertical and horizontal intercept at p = 15 and q = 5.
Bibi: straight line with vertical and horizontal intercept at p = 20 and q = 20.
2. At P = 14, then Q = 6 + 1 + 0 = 7
3. The equations are given by:
/ 20 – Q , when 0 ≤ Q ≤ 4
P = | 56/3 – 2/3 Q , when 4 ≤ Q ≤ 13
\ 116/9 – 2/9 Q , when 13 ≤ Q ≤ 48 **Check your math here, I bugged it! ;)
4. Q* = 7, P* = 14

Question 3
1. Surplus occurs at any price above 100. Shortage occurs at any price below 100.
2. Q* = 50, P* = 100
3. Q* = 70, P* = 140
4. Q* = 45, P* = 110
5. Equilibrium quantity increases but equilibrium price is indeterminate.
6. Equilibrium price decreases but equilibrium quantity is indeterminate.

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 ECON 101: Principles of Microeconomics – Discussion Section Week 4
TA: Kanit Kuevibulvanich

This week, you will learn

- Demand and Supply: Qualitative Shifts and Indeterminacies
- Demand and Supply: Equilibrium, Consumer Surplus and Producer Surplus
- Demand and Supply: Quantitative Shifts
- Market Intervention: Price Ceiling, Price Floors, Subsidy (Price Guarantee)

Exercises
Question 1 (Qualitative Shifts and Indeterminacies)
Consider the market for iPhone (in general) where there is a downward sloping demand
curve and an upward sloping supply curve. For each scenario, graphically explain what
would happen to the demand and supply curve and find the effect on equilibrium price
and quantity. (Answer each question by "increase," "decrease," or "ambiguous.")
1. The new iPhone 5S is released and it becomes a fashionable accessories.
2. Aliens have stolen aluminum metal supplies required in producing the rear case.
3. Widespread virus in Android and Windows phones wreaks havoc non-iPhone users;
concurrently, Foxconn factory (suppliers of Apple) improves production method.
4. Rumor has it that Apple will slash the price by half during Black Friday, while
transportation from suppliers to Apple shop is cheaper and faster.
5. Suppose iPhone is a normal good and loads of money falls from the sky. However,
Android fan burns down Foxconn factory.
6. iOS 7 is too slow making iPhone useless as a brick, while shop workers go on strike.

Question 2 (Equilibrium, Consumer Surplus and Producer Surplus)

The market supply is given by: Q = P – 1. The market demand is: Q = 7 – P.
1. Find the equilibrium price and quantity.
2. Find the consumer surplus, producer surplus and the total welfare. (Total surplus)

Question 3 (Price Ceiling)

Demand for lift tickets at Aspen is given by P = 90 – Q; supply is given by Q = 2P.
1. Find the equilibrium price and quantity, consumer surplus and producer surplus.
2. To encourage tourism in Aspen, the Pitkin County imposes a price ceiling of $10.
Suppose there is no black market. Does this cause a shortage or surplus? What size?
3. Find consumer surplus and producer surplus after the price ceiling is imposed.

Question 4 (Price Floor)

Demand for potato is given by P = 30 – 2Q; supply is given by P = 10 + 2Q. Government
implements a price support (price floor) program at $24.
1. Is the price floor binding?
2. Find the quantity demanded and quantity supplied under the program.
3. What is the value of excess supply?

Question 5 (Subsidy – Price Guarantee)

With the same potato market in previous question, let the government implement a
price subsidy program by targeting the price at $24.
1. How many pounds of potatoes will be supplied in this program?
2. At what price are consumers willing to buy all 7 pounds of potatoes?
3. What is the cost of the subsidy program?

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 ECON 101: Principles of Microeconomics – Discussion Section Week 4
TA: Kanit Kuevibulvanich

Solution
Question 1
1. Demand shifts right, Q* increases, P* increases
2. Supply shifts left, Q* decreases, P* increases
3. Both demand and supply shift right, Q* increases, P* ambiguous
4. Demand shifts left and supply shifts right, Q* ambiguous, P* decreases
5. Demand shifts right and supply shifts left, Q* ambiguous, P* increases
6. Both demand and supply shifts left, Q* decreases, P* ambiguous

Question 2
1. Mind with the axes! Try to systematically solve with P on left-hand-side (whenever
it’s easy and possible) to facilitate graph drawing. The demand becomes P = 7 – Q
and supply becomes P = 1 + Q. Solve for equilibrium by setting demand equal to
supply 7 – Q = 1 + Q, so Q* = 3 and P* = 1 + 3 = 4.
2. Draw the demand and supply curves. The area under demand curve above the price
paid is consumer surplus CS = ½ x (7 – 4) x 3 = $4.5. The area above supply curve
under the price received is producer surplus PS = ½ x (4 – 1) x 3 = $4.5. Total welfare
is the sum of surpluses on both sides of the market, so TS = $9.

Question 3
1. Mind the axis of supply curve, we have P
= Q/2 to draw the supply curve. But here,
it is better to solve with Q on left-hand-
side since we can avoid fraction, so from
the demand, Q = 90 – P, set equal to
supply of Q = 2P, we have 90 – P = 2P, so
P* = $30, Q* = 2 x 30 = 60. The area under
demand curve above the price paid is
consumer surplus CS = ½ x (90 – 30) x 60
= $1,800. The area above supply curve
under the price received is producer
surplus PS = ½ x 30 x 60 = $900.
2. Since at P = $10, quantity demanded is Q = 90 – 10 = 80, but quantity supplied is Q =
2(10) = 20, so there exists a shortage of 80 – 20 = 60 units.
3. The area under demand curve above the price paid at quantity traded, which is a
trapezoid, is consumer surplus CS = ½ x (90 + 80) x 20 = $1,500. The producer
surplus is smaller at PS = ½ x 10 x 20 = $100.

Question 4
1. Solve for equilibrium price by
setting demand equals supply,
so 30 – 2Q = 10 + 2Q, so Q* = 5,
thus, P* = 30 – 2(5) = 20. Hence,
price floor is binding since at
price P = 24 > 20 = P*.
2. At price P = 24, quantity
demanded is Qd = 3 and
quantity supplied is Qs = 7.

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 ECON 101: Principles of Microeconomics – Discussion Section Week 4
TA: Kanit Kuevibulvanich

3. Excess supply is 7 – 3 = 4 units at price of $24 per unit, so the value of excess supply
is $24 x 4 = $96.

Question 5
1. At P = $24, quantity supplied
is Qs = 7.
2. At Qd = 7, the price must be P
= 30 – 2(7) = $16 to have the
consumers take all produces.
3. Government must pay the
price difference of $24 - $16 =
$8 per unit, with the quantity
transacted of 7 units, this
brings the program cost to
($24 - $16) x 7 = $56.

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 ECON 101: Principles of Microeconomics – Discussion Section Week 5
TA: Kanit Kuevibulvanich

This week, you will learn

- Demand and Supply: Market Interventions
o Excise Taxes
o Quantity Quota
o Agricultural Markets (Price Floor/Support vs. Price Guarantee/Subsidy)

Exercises
Question 1 (Excise Taxes)
The demand and supply for soft drinks are given by Q = 20 – P and Q = 3P, respectively.
1. Solve for the equilibrium price and quantity.
Suppose now the government imposes a per-unit tax of $4 on the sellers.
2. Solve for the new quantity, net price sellers received, and price consumers paid.
3. Calculate the government revenue from the taxation.
4. Calculate the deadweight loss resulting from the taxation. Point out what portion of
the deadweight loss used to belong to each party.
5. What fraction of the economic incidence of the tax is borne by consumers?
6. Answer verbally, what would happen to your analysis in Part 2–5 if instead of
imposing tax on the sellers, the government divides the legal burden of $1.11 per
unit to consumers and $2.89 per unit to producers.

Question 2 (Quantity Quota)

Consider the market for statisticians. The demand and supply for statistician is given by
P = 200 – Q/10 and P = 20 + Q/20, where P is hourly wage and Q is statisticians
employed.
1. Find the equilibrium wage (price) and statisticians employed (quantity).
Suppose the Society of Highly Trained Statisticians (SH*TS) persuades the government
that statisticians must be licensed. The SH*TS lets the government oversees the limited
600 licenses available.
2. What is the wage that statisticians receive? How many are employed?
3. What is the deadweight loss caused by this policy?

Question 3 (Agricultural Market Interventions)

Suppose the market for cotton is characterized by the market demand and supply
equations of P = 100 – Q/100 and P = Q/100, respectively.
1. Find the equilibrium price and quantity. Point out the consumer and producer
surplus
Suppose cotton farmers lobby the legislation to impose a price floor of $60 per unit, with
the government purchasing any surplus to ensure the price is achieved.
2. How many units do consumers purchase? How many units does government
purchase? Point out the consumer surplus and producer surplus.
3. Suppose it costs $10 per unit to store cotton, what is the total cost to the government?
Suppose instead of a price floor, the government implements a price guarantee program
with a target price of $60. Farmers are paid the difference between what they receive
from consumers and target price.
4. What quantity will farmers produce? What price will consumers pay?
5. How much will the government be paying farmers? Does the government have to
pay the storage cost and what is the total cost?

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 ECON 101: Principles of Microeconomics – Discussion Section Week 5
TA: Kanit Kuevibulvanich

Solution
Question 1
1. From Q = 20 – P and Q = 3P, equate the two to solve for equilibrium price and
quantity at P* = 5 and Q* = 20 – 5 = 15. (Note: As always, mind the axis! But
sometimes, working with non-fraction equations is easy!)
2. Rewrite the demand and supply equation as P = 20 – Q and P = Q/3.
With $4 tax on producers, the supply curve after tax is P = Q/3 + 4. Hence, the new
equilibrium quantity after tax can be found from equating P = Q/3 + 4 and P = 20 –
Q, so Q/3 + 4 = 20 – Q, which gives QT = 12.
Price producers receive is from pre-tax supply equation Pnet = QT/3 = 12/3 = 4.
Price consumers pay is obtained from demand equation PT = 20 – QT = 20 – 12 = 8, or
taxed supply equation PT = QT/3 + 4 = 12/3 + 4 = 8.
3. Government revenue is given by tax times the quantity transacted in the market so
$4 x 12 = $48.
4. Deadweight loss is calculated from ½ x $4 x (15 – 12) = $6, of which $4.5 is from
consumer’s under-consumption, and $1.5 is from producer’s under-production.
5. Consumer’s tax incidence = ($8 – $5) x 12 = $36
Producer’s tax incidence = ($5 – $4) x 12 = $12
Fraction of CTI = ($8 – $5)/$4 = 3/4. Fraction of PTI = ($5 – $4)/$4 = 1/4.
6. It does not matter which side of the market the tax is legally applied, the economic
result would hold as long as the total amount of tax is the same.

Question 2
1. From P = 200 – Q/10 and P = 20 + Q/20, equate the two to solve for equilibrium
quantity: 200 – Q/10 = 20 + Q/20, so: Q* = 1,200 and equilibrium price is P* = 20 +
1200/20 = $80.
2. With quantity restricted at 600 statisticians, the willingness to pay for a statistician is
P = 200 – 600/10 = $140. This is the wage that statistician receives. Since quota is
binding, only 600 statisticians are employed.
3. Note that at quantity Q = 600, the willingness to supply is at wage P = 20 + 600/20 =
$50. Deadweight loss is calculated from ½ x (1,200 – 600) x ($140 – $50) = $27,000.

Question 3
1. From P = 100 – Q/100 and P = Q/100, equate the two to solve for equilibrium
quantity: 100 – Q/100 = Q/100, so: Q* = 5,000 and equilibrium price is P* = 5000/100
= $50.
Price floor – government buys surplus (excess supply) and pays storage cost
2. At price P = 60, consumers are willing to buy only Q = 4,000 solved from 60 = 100 –
Q/100. However, producers are supplying Q = 6,000 solved from 60 = Q/100.
Hence, the government must by 6,000 – 4,000 = 2,000 units.
3. Government must buy surplus of 2,000 units at $60 each, and storage cost of $10 per
unit makes the government expenditure ($60 + $10) x 2,000 = $140,000.
Price guarantee – government promises target price, producers sell all and claim the difference
4. At price P = 60, producers are supplying Q = 6,000. To get rid of all 6,000 units, the
price must be P = 100 – 6,000/100 = $40 to incentivize consumers to buy all.
5. Since the price sold to consumers is $40 but the government promises $60, the
difference is $20 per unit. At 6,000 units produced, and note that there is no storage
cost, this brings the total spending to $20 x 6,000 = $120,000.

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 ECON 101: Principles of Microeconomics – Discussion Section Week 6
TA: Kanit Kuevibulvanich

This week, you will learn

- Demand and Supply: Application to International Trade
o Import/Export in Demand and Supply
o Tariffs and Quota in International Trade

Exercises
The demand and supply for coffee beans in Neverneverland are given by P = 800 – Q
and P = Q, respectively. Suppose initially that Neverneverland is in autarky.
1) Solve for the equilibrium price and quantity, consumer surplus and producer
surplus.
Suppose the Neverneverland government opens the border to international trade. Note
that Neverneverland is a small open economy.
2) Given the world price of coffee beans of $200, calculate the equilibrium price,
equilibrium quantity, consumer surplus and producer surplus in Neverneverland.
How many units of coffee beans are imported into/exported out of Neverneverland?
Compared to autarky, who wins and who loses? Graphically illustrate.
3) Repeat part 2) when the world price is $600 instead.
From this part on, assume that the world price is $200. Displeased by the influx of
imports leaving domestic producers worse off, the Neverneverland government is
considering intervention to trade.
4) Suppose the government imposes $100 tariff applied to imported coffee beans, what
is the value of deadweight loss resulting from this policy? How many units of coffee
beans are imported? What is the government revenue? Graphically illustrate.
5) Suppose the government restricts the quantity imported to 100 units by quota, what
is the value of deadweight loss resulting from this policy? How many units of coffee
beans are imported? What is the quota revenue? Graphically illustrate.
Briefly address the following counterfactual questions when the world price is $200.
6) A prohibitive import tariff is a tariff rate such that no goods are being imported.
Determine what is such import tariff rate. What is the value of deadweight loss from
this tariff? What is the government revenue?
7) Under import quota, what would happen if the import quota were set at 400 units?
For this part, assume that the world price is currently at $600.
8) Briefly draw the demand and supply curves that exhibit the export subsidy of $100
per unit of exports. Denotes the area corresponding to subsidy expenditure and the
deadweight loss.

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 ECON 101: Principles of Microeconomics – Discussion Section Week 6
TA: Kanit Kuevibulvanich

Solution
1) Equilibrium price = $400, equilibrium quantity = 400 units, CS = $80000, PS = $80000.
2) Equilibrium price in Neverneverland = $200, equilibrium quantity consumed = 600
units, domestically produced = 200 units, imported = 400 units, CS = $180000, PS =
$20000, consumer wins, producer loses.
3) Equilibrium price in Neverneverland = $600, equilibrium quantity produced = 600
units, domestically consumed = 200 units, exported = 400 units, CS = $20000, PS =
$180000, producer wins, consumer loses.
4) Equilibrium price in Neverneverland = $300, equilibrium quantity consumed = 500
units, domestically produced = 300 units, imported = 200 units, CS = $125000, PS =
$45000, deadweight loss = $10000, government revenue = $20000
5) Equilibrium price in Neverneverland = $350, equilibrium quantity consumed = 450
units, domestically produced = 350 units, imported = 100 units, CS = $101250, PS =
$61250, deadweight loss = $22500, quota revenue = $15000
6) Prohibitive tariff rate = $200
7) Quota is not binding, original equilibrium with trade as part 2) is reinstated
8) Export subsidy shifts the world price up, more quantity is produced and exported,
less quantity is consumed domestically, deadweight loss results from
overproduction.

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 ECON 101: Principles of Microeconomics – Discussion Section Week 10
TA: Kanit Kuevibulvanich
Important Concepts:
• Income and Substitution Effect
• Production and Cost

Problems
1. A consumer has income of $3,000. Wine costs $3 per glass, and cheese costs $6 per pound.
a. Draw the consumer’s budget constraint (put cheese on the horizontal axis). What is the
slope of this budget constraint?
b. Suppose his income increases from $3,000 to $4,000. Show what happens if both wine
and cheese are normal goods.
c. Now show what happens if cheese is an inferior good.
d. The price of cheese rises from $6 to $10 per pound, while the price of wine remains $3
per glass. For a consumer with constant income of $3,000, show what happens to
consumption of wine and cheese. Decompose the change into income and substitution
effects.
e. Can an increase in the price of cheese possibly induce a consumer to buy more cheese?
Explain.

2. A chocolate factory has total production cost (TC) given by the equation TC = 300 + 15Q
where Q is the number of bars of chocolate produced.
a. What is the total fixed cost and what is the total variable cost?
b. Write the equations of average total cost (ATC), average variable cost (AVC) and average
fixed cost (AFC) and draw the ATC, AVC and AFC curves
c. What is the marginal cost (MC) for this factory?
d. If the factory produces 50 bars of chocolate, find its total fixed cost, total variable cost
and marginal cost.
e. Ignoring the existence of fixed cost and based on the ATC curve, does this firm have
increasing, constant or decreasing return to scale?

3. Kate Smith provides catered meals, and the catered meals industry is perfectly competitive.
Kate’s machinery cost $100 per day and is the only fixed input. Her variable cost consists of
the wages paid to the cooks and the food ingredients. The variable cost per day associated
with each level of output is given in the table. Find total cost, average variable cost, average
total cost and marginal cost. At what quantity or range of quantities does the minimum of
ATC occurs?
Q TVC TC AVC ATC MC

0 $0

10 $200

20 $300

30 $480

40 $700

50 $1,000

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 ECON 101: Principles of Microeconomics – Discussion Section Week 10
TA: Kanit Kuevibulvanich
Practice Midterm Questions (Midterm 2, Fall 2012 Afternoon)
4. Suppose that in the long run, if a firm increases its output from 50 to 80 units, this causes its
total cost to increase from $1200 to $1500. Given this information and holding everything
else constant, this firm exhibits:
a. Decreasing returns to scale
b. Increasing returns to scale
c. Constant returns to scale
d. Decreasing marginal product of labor

5. Suppose the marginal cost curve is increasing. If at a quantity q* the marginal cost curve is
above the average total cost curve, we can conclude that:
a. q* is larger than the quantity at which the average total cost curve achieves its minimum.
b. q* is smaller than the quantity at which the average total cost curve achieves its
minimum.
c. At q* the average total cost curve has a negative slope.
d. At q* the marginal cost curve has a negative slope.

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 ECON 101: Principles of Microeconomics – Discussion Section Week 10
TA: Kanit Kuevibulvanich
Solutions:
Question 1
a. Figure 1 shows the consumer's budget constraint. The intercept on the horizontal axis shows
how much cheese the consumer could buy if she bought only cheese with income of $3,000
and the price of cheese $6 per pound, she could buy 500 pounds of cheese. The intercept on
the vertical axis shows how much wine the consumer could buy if she bought only wine;
with income of $3,000 and the price of wine $3 per glass, she could buy 1,000 glasses of
wine. With cheese on the horizontal axis and wine on the vertical axis, the budget constraint
has a slope of – 1000/500 = – 2.

Figure 1

b. See Figure 2
c. See Figure 3

Figure 2 Figure 3

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 ECON 101: Principles of Microeconomics – Discussion Section Week 10
TA: Kanit Kuevibulvanich
Figure 2 shows the effect of an increase in income. The rise in income shifts the budget
constraint out from BC1 to BC2. If both wine and cheese are normal goods, consumption of
both will increase. If cheese is an inferior good, the increase in income causes the
consumption of cheese to decline, as shown in Figure 3.

d. A rise in the price of cheese from $6 to $10 per pound makes the horizontal intercept of the
budget line decline from 500 to 300, as shown in Figure 6. The consumer's budget constraint
shifts from BC1 to BC2 and her optimal choice changes from point A (c1 cheese, w1 wine) to
point B (c2 cheese, w2 wine). To decompose this change into income and substitution effects,
we draw the budget constraint BC3, which is parallel to BC2 but tangent to the
consumer's initial indifference curve at point C. The movement from point A to C
represents the substitution effect. Because cheese became more expensive, the consumer
substitutes wine for cheese as she moves from point A to C. The movement from point C to
B represents an income effect. The rise in the price of cheese results in an effective decline in
income.

Figure 4

e. An increase in the price of cheese could induce a consumer to buy more cheese if cheese is a
Giffen good. In that case, the income effect of the rise in the price of cheese induces the
consumer to buy more cheese because cheese is an inferior good. If the income effect is
bigger than the substitution effect (which induces the consumer to buy less cheese), the
consumer will buy more cheese.

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 ECON 101: Principles of Microeconomics – Discussion Section Week 10
TA: Kanit Kuevibulvanich
Question 2
a. TFC = 300, TVC = 15Q
b. ATC = (300+15Q)/Q = 15 + 300/Q, AVC = 15, AFC = 300/Q
c. MC = AVC = 15
d. If Q = 50, fixed cost is 300, total variable cost is 750, marginal cost is 15
e. As ATC is decreasing as Q increases, this is an example of increasing return to scale
Graph of b. looks like this:

Vertical distance between ATC and AFC is constant as AVC is constant.

Question 3

Q Total Cost Average VC Average TC Marginal cost

0 100 - - -
10 300
ffqQ 20 30 (300-100)/10 = 20
20 400 15 20 (400-300)/10 = 10
30 580 16 19.33 (580-400)/10 = 18
40 800 17.5 20 (800-580)/10 = 22
50 1100 20 22 (1100-800)/10 = 30

Minimum of ATC occurs between Q = 20 and Q = 40.

Question 4 b.

Question 5 a.

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 ECON 101: Principles of Microeconomics – Discussion Section Week 11
TA: Kanit Kuevibulvanich
Important Concepts:
• Production and Cost
• Perfectly Competitive Market

Problems
1. The graph below shows the production cost curves of a firm in a perfectly competitive
industry. Assume the equilibrium price equals $30 in the short run.

a. In the short run, what is the profit maximizing level of output for this firm? At this
quantity, what is the marginal revenue?
b. In the short run, how much is the total cost for this firm at the profit maximizing level of
output?
c. In the short run, will the firm make (economic) profit or suffer loss? How much? Should
the firm shut down?
d. Given the information above, can you figure out the fixed cost of this firm? Can you
figure out the variable cost at the production of 35? How about the variable cost at the
level of 40?
e. What is the break-even price for this firm? What is the shut down price for this firm?
f. Suppose that the fixed cost increases, what impact will this have on this firm’s profit
maximizing level of output in the short run?

2. In a perfectly competitive industry, all the potential firms are identical with the following
TC = 6q2 + 2q + 96 and MC = 12q + 2
a. Find the VC, FC, AVC and ATC for each firm. What is the shutdown price? What is the
break-even price?
b. What is the supply curve of each firm?
c. Suppose that there are two firms in the short-run, what is the market supply?
d. The market demand is P = 114 – Q. Find the equilibrium price. How many units are
consumed? How many units does each firm produce?
e. What is the profit of each firm?
f. Find the equilibrium in the long run, what is the price? Quantity consumed? How many
firms will there be in the long run? What is the profit of each firm?
g. If the market demand has changed to P = 30 – Q, briefly explain what would happen.

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 ECON 101: Principles of Microeconomics – Discussion Section Week 11
TA: Kanit Kuevibulvanich
Solutions:
Question 1
a. Profit maximization: produce at P = MC, so q* = 35. Marginal revenue = $30, since we are in
perfectly competitive market. If the price you asked is higher than $30, I can walk away.
Total revenue = 30 x 35 = $1050.
b. Total cost = ATC x q = 40 x 35 = $1400.
c. Loss = (40 – 30) x 35 = $350, since fixed cost = $700, do not shutdown.
d. Fixed cost = (40 – 20) x 35 = $700. Total variable cost = $1400 – $700 = $700.
e. Breakeven is the lowest point of ATC, which MC also cuts through, so Pbreakeven = $38.
Shutdown is the lowest point of AVC, which MC also cuts through, so Pshutdown = $15
f. Fixed cost does not matter to quantity q* that maximizes profit since it is the point where P =
MC, but the short run profit decreases if fixed cost increases. However, it will affect the
breakeven and shutdown price.

Question 2
a.
𝑉𝐶 = 6𝑞 ! + 2𝑞
𝐹𝐶 = 96
𝑇𝐶 96
𝐴𝑇𝐶 = = 6𝑞 + 2 +
𝑞 𝑞
𝑉𝐶
𝐴𝑉𝐶 = = 6𝑞 + 2
𝑞
The shutdown price is equal to the minimum AVC. In this special case the AVC is a linear
line with positive slop. If you draw the line you can see that the minimum is 2. So the
shutdown price is 2.
The break-even price is equal to the minimum ATC. We know that the MC intersect with
the ATC at the minimum, so we can find the minimum of ATC by finding the point of
intersection (MC = ATC):
𝑀𝐶 = 𝐴𝑇𝐶
96
12𝑞 + 2 = 6𝑞 + 2 +
𝑞
𝑞 ! = 16
𝑞=4
To find the minimum ATC we just need to plug 𝑞 = 4  in the ATC or MC (Check that they
!"
are equal at this point). 𝑀𝑖𝑛  𝐴𝑇𝐶 = 6 ∙ 4 + 2 + = 50
!
So the break-even price is 50.
b. The supply curve of each firm, is the part of the MC curve that is above the AVC. In this
special case you can easily see that MC is above AVC for any quantity (they intersect at
q=0). So the supply curve is 𝑃 = 12𝑞 ! + 2.
c. The market supply if there were two firms is 𝑄 ! = 𝑞!! + 𝑞!! :
𝑃 1
𝑃 = 12𝑞!! + 2 ⇒ 𝑞!! = −
12 6
𝑃 1
𝑃 = 12𝑞!! + 2 ⇒ 𝑞!! = −
12 6

2
 
 ECON 101: Principles of Microeconomics – Discussion Section Week 11
TA: Kanit Kuevibulvanich
𝑃 1
𝑄 ! = 𝑞!! + 𝑞!! =−
6 3
⇒ 𝑃 = 6𝑄 ! + 2
d. Equilibrium 𝑄 ! = 𝑄 !
6𝑄 + 2 = 114 − 𝑄
⇒ 𝑄 ∗ = 16
⇒ 𝑃 ∗ = 98
The firms are price takers, to find how many units each one produces, we just need plug the
market price in their supply curve.
𝑃∗ 1
𝑞!!∗ = − =8
12 6
𝑃∗ 1
𝑞!!∗ = − =8
12 6
Alternatively you can argue that since the firms are identical, the market quantity will be
divided equally between the two firms.
𝑄∗
𝑞!!∗ = 𝑞!!∗ = =8
2
e. The profits of the two firms are the same (why is that?):
𝜋!∗ = 𝑃 ∗ ∙ 𝑞!!∗ − 6 𝑞!!∗ ! − 2𝑞!!∗ − 96
𝜋!∗ = 98 ∙ 8 − 6 ∙ 8! − 2 ∙ 8 − 96 = 160
𝜋!∗ = 160
f. We know that in the long run with free entry/exit of firms to the market, the profit of each
firm is normal (profit equal 0). The price will be equal to the minimum ATC.
𝑃 ∗ = 𝑀𝑖𝑛  𝐴𝑇𝐶 = 50
Given the equilibrium price in the long-run, we can find the quantity demanded in the
market by plugging the price in the market demand:
𝑄 ! = 114 − 𝑝
𝑄 !∗ = 114 − 50 = 64
We know that each firm that is in the market produces 4 units of the good (Why is that?
Think what quantity brings ATC to the minimum), so we can find the number of firms:
𝑄∗ 64
𝑛∗ = !∗ = = 16
𝑞 4
g. (d) equilibrium 𝑄 ! = 𝑄 !
6𝑄 + 2 = 30 − 𝑄
⇒ 𝑄∗ = 4
⇒ 𝑃 ∗ = 26
You can find the quantity that each firm produces (see part d above):
𝑞!∗ = 𝑞!∗ = 2
(e) 𝜋!∗ = 𝜋!∗ = −72
(f) None! Note that the break-even price for any firm (with this cost function) is 50, but the
quantity demanded for this level of price is 0.

3
 
 ECON 101: Principles of Microeconomics – Discussion Section Week 12
TA: Kanit Kuevibulvanich
Important Concepts:
• Monopoly

Comparison of Perfectly Competitive Market and Monopoly Market

Perfect Competition Monopoly
Number of
Many sellers, many buyers One seller, many buyers
Participants
Product Differentiated product with no close
Homogeneous product
Characteristics substitutes
Entry-Exit Free entry and exit into market Natural or created barriers to entry
Same technology; perfect information Possibly exclusive technology or limited
Technology
of consumers and producers flow of information to consumers
Profit Max.
Rule
Demand Curve
for a Firm
Pricing Power
of a Firm

Problems
1. A monopoly faces a market demand curve given by P = 42 – Q. Its marginal cost curve is
given by MC = Q.
a. What is the equation for the marginal revenue? Show this on a graph.
b. Find the profit-maximizing level of production for this monopolist.
c. What price will the monopolist charge?
d. What price and quantity would be socially optimal?
e. What is this monopolist’s total revenue?
f. Graph the producer surplus, the consumer surplus, and the deadweight loss for the
market with the monopolist.

2. True or False: A monopolist can always make a positive profit.

3. True or False: A firm in perfectly competitive market will always earn zero economic profit.

4. Suppose a monopolistic local utility company faces a demand curve given by P = 120 – 4Q.
Total cost for this firm is given by TC = 400 + 4Q, and MC is fixed at $4 per unit.
a. Does the technology of a firm represent economies of scale?
b. What is the fixed cost? Does this indicate high barriers to entry?
c. What is the socially optimal level of production and price?
d. Suppose this industry operates as a monopoly. Find the equilibrium price and quantity.
e. The government, bowing to public pressure to regulate monopolies, decides to force
firms to charge their marginal cost just like they would in perfect competition. How much
will the monopolist produce? What is the profit for this monopolist?
f. Suppose the government instead chooses to force the monopolist to charge a price equal to
their average total cost, this monopolist will supply 25 units. What will be their profits?

1
 
 ECON 101: Principles of Microeconomics – Discussion Section Week 12
TA: Kanit Kuevibulvanich
Practice Questions for Midterm 2

1) Demand-supply and International Trade

Montrovia is a small, closed economy that produces tires. The domestic demand and domestic
supply of tires in Montrovia is given by the following equations where P is the price per unit
and Q is the quantity of tires:
Domestic Demand: P = 500 – (5/1000)Q
Domestic Supply: P = 100 + (1/600)Q
You are also told that the world price for tires is $150 per tire. Suppose Montrovia opens its tire
market to international trade while simultaneously the government of Montrovia implements a
tariff that raises the price per tire to $180. Holding everything else constant, the amount of tariff
revenue the government earns from this tariff will equal?
a. $480,000
b. $16,000
c. $2,880,000
d. $1,800,000

2) Elasticity
Which of the following statements is false?
a. If Andrew’s income elasticity of demand for good X is equal to zero, Andrew’s demand for
good X would not be affected if he suddenly loses his job.
b. For Mary, honey is a substitute for sugar. Then, her cross-price elasticity of demand for
honey and sugar must be positive.
c. The Internet has made it easier for people to search for a large number of products on
websites like eBay and Amazon. This should result in a higher price elasticity of demand for
many goods.
d. For John, apples are an inferior good. Then, his income elasticity of demand for apples must
be positive.

3) Elasticity and Taxation

The market for telephones is in equilibrium when the government decides to levy an excise tax
of $5 per telephone on consumers. If at the initial equilibrium point consumer demand is
inelastic and producer supply is unit elastic, which of the following could describe the tax
incidence?
a. Consumers pay 100% of the tax incidence.
b. Consumers pay 20% and producers pay 80% of the tax incidence.
c. Consumers pay 80% and producers pay 20% of the tax incidence.
d. Consumers pay 0% of the tax incidence.

4) Real and Nominal

Each year on her birthday, Amber buys herself one piece of cheesecake. Suppose Amber notices
that this year she has to pay less in the store for her cheesecake than she had to last year.
Furthermore, she heard on the news that this year the overall price level in the country has gone
up as compared to last year. What can you conclude about the real price of cheesecake?
a. The real price of cheesecake is higher this year than it was last year.
b. The real price of cheesecake is lower this year than it was last year.
c. The real price of cheesecake is the same this year as it was last year.
d. There is not enough information to answer this question.

2
 
 ECON 101: Principles of Microeconomics – Discussion Section Week 12
TA: Kanit Kuevibulvanich
5) Consumer Theory (with crossover to Elasticity)
Use the following diagram to answer the next question.
Direction of higher utility
Y
IC1 IC2 IC3 IC4

X
What can you conclude about goods X and Y from the above diagram?
a. The cross-price elasticity of demand for goods X and Y is equal to positive infinity.
Y b. The income-elasticity of demand for good Y is positive.
c. IC
The1
cross-price
IC2 elasticity of demand for goods X and Y is equal to zero.
d. The cross-price elasticity of demand for goods X and Y is equal to negative infinity.

6) Consumer Theory
Use the following graph to answer the next question.

Y1

BL1 BL2
X

If a consumer consumes at point A, his marginal rate of substitution is ________ than the price
ratio. Hence the consumer can get a higher utility by ________ the consumption of Good B and
by ________ the consumption of good A.
a. Larger; decreasing; increasing
b. Larger; increasing; decreasing
c. Smaller; decreasing; increasing
d. Smaller; increasing; decreasing

3
 
 ECON 101: Principles of Microeconomics – Discussion Section Week 12
TA: Kanit Kuevibulvanich
7) Production and Cost
Suppose the marginal cost curve is increasing. If at a quantity q* the marginal cost curve is
above the average total cost curve, we can conclude that:
a. q* is larger than the quantity at which the average total cost curve achieves its minimum.
b. q* is smaller than the quantity at which the average total cost curve achieves its minimum.
c. At q* the average total cost curve has a negative slope.
d. At q* the marginal cost curve has a negative slope.

8) Production and Cost

Suppose that when a firm triples all of its inputs, it doubles the amount of output it produces.
Then this firm
a. Is experiencing increasing returns to scale.
b. Is experiencing decreasing returns to scale.
c. Is experiencing constant returns to scale.
d. Is experiencing diminishing marginal returns.

9) Perfectly Competitive Market

Pizza and beer are complementary goods for consumers in a local market. The beer industry,
which has constant marginal cost, is perfectly competitive and is now in long run equilibrium. If
the market price of pizza permanently decreases, which of the following statements is correct
about the beer market in the short run?
a. The market price of beer falls and each firm produces less beer.
b. The market price of beer does not change, but the quantity increases because new firms
enter the beer industry.
c. The market price of beer does not change, but the quantity decreases because some firms
exit the industry.
d. The market price of beer rises and each firm produces more beer.
ECON 101: Principles of Microeconomics – Discussion Section Week 12
TA: Kanit Kuevibulvanich
10) Monopoly
P
A

B C
P1

E
D F!
C1 MC = ATC

O Q1 Q2 Q
MR
From the information in the above figure we can say that:
a. Monopoly revenues are given by the area BCQ1O.
Solutions:
b. The
Question 1 deadweight loss in this market is given by the area CEF.
a. c. Profit
Themaximization:
total profit produce at Pmonopolist
for this = MC, so q* = is
35.given
Marginal
byrevenue = $30,
the area since we are in
BCED.
perfectly competitive market. If the price you asked is higher than $30, I can walk away.
d. All of the above.
Total revenue = 30 x 35 = $1050.
b. Total cost = ATC x q = 40 x 35 = $1400.
4
c. Loss = (40 – 30) x 35 = $350, since fixed cost = $700, do not shutdown.
d.   Fixed cost = (40 – 20) x 35 = $700. Total variable cost = $1400 – $700 = $700.
e. Breakeven is the lowest point of ATC, which MC also cuts through, so Pbreakeven = $38.
Shutdown is the lowest point of AVC, which MC also cuts through, so Pshutdown = $15
f. Fixed cost does not matter to quantity q* that maximizes profit since it is the point where P =
 ECON 101: Principles of Microeconomics – Discussion Section Week 12
TA: Kanit Kuevibulvanich
Solutions:
Question 1
a. Double the slope of the demand curve to get the MR: MR=42-2Q. Graph should show a line
twice as steep as the original demand curve, but with the same intercept.
b. Set MR = MC to get 42 – 2Q = Q ⇒ Q=14.
c. Plug the Q from part b. into the demand curve: P = 42 – 14 = $28.
d. Socially optimal price where MC = P ⇒ 42 – Q = Q ⇒ Q = 21, P = 42 – 21 = $21.
e. TR = P x Q = 28 x 14 = 392
f.

P  
MC  

CS  
P*  

DWL  
PS  

MR   D  

0   Q*  
Q  

Question 2 False. Monopolist can make profit or loss.

Question 3 False. Firms in perfectly competitive market can make profit or loss.

Question 4
a. Since ATC = TC/Q = 400/Q + 4, this exhibits economies of scale. ATC decreases in Q over
the range of Q’s for which there is demand.
b. FC = $400. Yes, there are high barriers to entry.
c. Social optimum where P = MC ⇒ 4 = 120 – 4Q ⇒ Q = 29, P = $4
d. MR = 120 – 8Q ⇒ 120 – 8Q = 4 ⇒ Q = 14.5 ⇒ P = 120 – 4(14.5) = $62
e. The monopolist will produce at the social optimum quantity of 29 units.
TC = 400 + 4(29) = $516, TR = (4)(29) = $116, Profit = -$400
⇒ Government subsidy will be required to keep this firm in business.
f. Since P = ATC. The firm will earn zero profit.

Practice Midterm 2 Questions

1) a. 2) d. 3) c. 4) b. 5) c.
6) c. 7) a. 8) b. 9) d. 10) d.

5
 
 ECON 101: Principles of Microeconomics – Discussion Section Week 13
TA: Kanit Kuevibulvanich
Important Concepts:
• Natural Monopoly
• Price Discrimination
• Game Theory

Problems
1. Suppose a monopolistic local utility company faces a demand curve given by P = 120 – 4Q.
Total cost for this firm is given by TC = 400 + 4Q, and MC is fixed at $4 per unit.
a. Does the technology of a firm represent economies of scale?
b. What is the fixed cost? Does this indicate high barriers to entry?
c. What is the socially optimal level of production and price?
d. Suppose this industry operates as a monopoly. Find the equilibrium price and quantity.
e. The government, bowing to public pressure to regulate monopolies, decides to force
firms to charge their marginal cost just like they would in perfect competition. How much
will the monopolist produce? What is the profit for this monopolist? Is it sustainable?
f. Suppose the government instead chooses to force the monopolist to charge a price equal to
their average total cost, this monopolist will supply 25 units. What will be their profits?

2. Plastic molding has both industrial and dental uses. Consider a monopolist producer of this
good with constant marginal cost MC = 4. The demand curves for the two market segments
are given below
Dental users: P = 100 – 2Q
Industry users: P = 50 – 0.5Q
a. If a monopolist can practice third-degree price discrimination, what price will they set in
the two markets? What is the consumer surplus for each market?
b. Now suppose the monopolist cannot price discriminate. Instead, they must charge a
single price in both markets. What price will they charge?
c. Is consumer surplus higher or lower without price discrimination?
d. (True story) Facing a market like this, one supplier of the plastic molding methyl
methacrylate considered mixing arsenic with the product sold to industrial users. You
might think about why this could be advantageous to the seller.

3. Anna and Boris went to the state fair together, but now can’t find each other. They’d like to
meet up, but can go to only one of two events to find the other. They can go to the horse
show or to the truck rally. Neither person will enjoy the event if alone, but Anna would
prefer the horse show while Boris would prefer the truck rally. This is modeled as a game in
the table below
Boris
Horse Show Truck Rally
Horse Show 2,1 0,0
Anna
Truck Rally 0,0 1,2

a. Does Anna have a dominant strategy? Does Boris?

b. What are the equilibria in this game?

1
!
Econ 101 Handout 13 Solutions
Question 1
See solutions from handout 12.

Question 2
Plastic molding has both industrial and dental uses. Consider a monopolist producer of this good with
constant marginal cost M C = 4. The demand curves for the two market segments are given below.

Dental users : P = 100 2Q

Industry users: P = 50 .5Q

a.) Third-degree price discrimination

This is essentially two separate monopolist problems. First, we profit maximize in the dental segment.
Find marginal revenue, M R = 100 4Q
Next, we set M R = M C.
100 4Q = 4
96 = 4Q
Q = 24 ) P = 100 48 = $52
Now, we consider the industrial segment.
50 Q=4
46 = Q ) P = 50 .5 ⇥ 46 = $27
Finally, we can calculate consumers surplus.
1
Dental CS = (100 52) ⇥ 24 ⇥ = 242 = $576
2
Dental P S = 24 ⇥ (52 4) = $1152
1
Industrial CS = (50 27) ⇥ 46 ⇥ = 232 = $529
2
Industrial P S = 46 ⇥ (27 4) = $1058
T otal P S = $2210

1
 Industry Dental

80 100

80 100
60

60
price

price
40

40
20

20
0

0
0 20 40 60 80 100 0 20 40 60 80 100

quantity quantity

Figure 1: Graphs.

b.) No price discrimination

Now, the two markets become one. We must horizontally sum these demand curves.
Qdental = 50 .5P
Qindustry = 100 2P
Qtotal = 150 2.5P () P = 60 .4Q (for prices below 25)
Profit-maximization,
M R = 60 .8Q = 4 = M C
56 = .8Q
Q = 70 ) P = 60 .4(70) = 60 28 = $32
T R = 2100 + 140 = $2240
V C = 4 ⇥ 70 = $280
P S = 2240 280 = $1960

2
 Combined

100
80
60
price

40
20
0

0 20 40 60 80 100 120 140

quantity

Figure 2: Here there are two intersections of MC/MR. You should technically compare profit at both
intersections of MR and MC. It’s good enough to note that PS from the high-quantity intersection is
higher than the PS from only serving the dental market (the low-quantity intersection calculated in part
a). Green is MC, red is MR, black is demand.

c.) We now calculate consumer surplus.

Surplus to the dental segment,
CSden = 12 ⇥ (100 32) ⇥ 34 = 34 ⇥ 34 = $1156
Surplus to the industrual segment,
CSind = 12 ⇥ (50 32) ⇥ 36 = 9 ⇥ 36 = 270 + 54 = $324

We see that total consumer surplus is higher.

True story.)
By poisoning industrial plastics, the company could prevent resale. This would help maintain the market
segmentation. Otherwise, an “industrial” user could buy up plastic molding at a low price and undercut
the monopolist’s price to dental users.

Question 3
a.) Neither player has a dominant strategy, as their best action depends on the other player’s action.
b.) There are two equilibria. In one, both go to the horse show. In the other, both go to the truck rally.