Managerial Economics

Mr. Upton

Spring, 1998

First Midterm Examination
February 24, 1998

Name:
	Directions: do all work on the exam itself, answering the question in the space provided. If you require extra
	space, use the back of the exam, indicating that you have done so.

First Part (10 point questions). Explain whether you agree or disagree with these statements.

1. Even the best-made paper plates don't last as long as china plates. Therefore it is clear that paper plates are inferior goods.

Disagree. This confuses a technical definition of inferior with the economics definition. We do not know how often the wealthy picnic as opposed to the poor. Thus it is not "clear" that paper plates are inferior goods.

2. Luxury auto dealers are beginning to offer free loaners to customers while their cars are being repaired. This practice will surely spread to other car dealers in time.

Disagree. What about the value of time?

3. In equilibrium the last little bit of satisfaction derived from all goods must be equal.

Disagree. The satisfaction of the last dollar spent on each good must be the same.

Second Part (25 point questions)

Work any two of the following three questions. If you start a question and then change your mind about which question you want to work, please cross out the incorrect information. Also, please put check marks in two of the following boxes.

I have worked (check 2)

Question 1

Question 2

Question 3

1. Three firms are now manufacturing widgets for sale in a highly competitive market. Their cost functions are as follows:

Quantity	Total Costs
0	10
1	15
2	18
3	20
4	24
5	31
6	40
7	50

o Show how many widgets each firm will in the short run, the intermediate run and in the long run at the following prices:

I have filled in the table

Price	Short Run Production by
	Firm A	Firm B	Firm C
$2	0	0	0
$4	4	4	4
$7	5	5	5

Price	Long Run Production by
	Firm A	Firm B	Firm C
$2	0	0	0
$4	0	0	0
$7	5	5	5

Explain and defend your answers: Basically, this involves finding where MC =p, and then making an adjustment for long run and short run conditions. All three firms will be the same.

o If other firms can enter the business, what will happen? Explain and defend your answer LRAC is minimized at each firm producing 4 units at a cost of $6. Thus the price will be forced to $6.

2. East Wolcott is justly famous for its Limburger Cheese. The price in that cheese is reflected by the fact that each of its citizens now spends $400 a year on Wolcott Limburger Cheese. However the Chamber of Commerce has decided that the town could best promote its cheese if the citizens increased their consumption. To that end, it is considering two proposals

1. Each citizen who consumes more than $200 a year of Wolcott Limburger Cheese will get a bonus of $100 a year.

1. Each citizen who consumes more than $450 a year of Wolcott Limburger Cheese will get a bonus of $100 a year.

In all parts of this question, you may assume that all residents of Wolcott have the same income and the same preferences for Cheese and other goods. You may also initially assume that the program is financed by a special grant from Santa Claus.

A. Show what effects each of these schemes will have on domestic consumption. In each case answer two questions:

	Plan 1	Plan 2
Will Consumption of Wolcott Limburger Cheese Increase?	Yes	Yes
And if so, will it go up by more than $100?	No	No

B. Provide a clear graphical explanation and defense of your answers.

See last year's exam

C. An alternative is to finance the cost of the subsidy by levying a 100% tax on the second $100 of Wolcott Limburger Cheese consumed by Wolcott residents. Though enforcement of the tax may be difficult and complicated, a way has been found to do so, and you need not worry about how the tax will be administered. But you should worry about how your answers to "A" and "B" change. In particular:

	Plan 1	Plan 2
Will Consumption of Wolcott Limburger Cheese Increase?	No	Yes
And if so, will it go up by more than $100?		No

Provide a clear graphical explanation and defense of your answers. Hint: careful attention to the budget line for Wolcott residents will be helpful.

D. How would your answers to "A" and "B" change if Limburger Cheese were an inferior good.

Now, the grant from Santa Claus would depress the demand

3. Spring is coming to the town of Lake Elmore, and with it, the fishing season begins. Given the mild winter, the fishing is expected to be great this year. Every one of the town’s 1,000 citizens is an avid fisherman. The town council regards this as good news, for they face a budget deficit and must raise an additional $35,000 this year. They met secretly at Warren Miller's and agreed to raise the revenue by imposing a fishing tax. Because the citizens of Lake Elmore feel themselves overtaxed, the town council has decided to disguise the purpose of the tax as a "conservation measure" to keep the lake from getting over-fished. (In fact, this is a foolish worry).

A team of eminent econometricians from the local State University has determined that the number of fish each person will catch this year is

Q = 10-p

where p is the price in (dollars) charged for each fish caught. Two plans are under consideration. One is to charge a price for an "unlimited license"; the second is to charge a price for each fish caught. (Some of you might worry about how such a license will be monitored. Don't).

1. What is the maximum amount the town could charge each inhabitant for a license and still get customers? If the town goes this route, how many fish will each resident catch this year? Explain your answers.

This is a simple problem of finding the area under the demand curve. That area is a triangle with a base of 10 and a height of 10; thus the maximum charge is $50

2. If the town decides to charge by the fish, it wants to cut the number of fish caught by half of your answer to part A. What license fee per fish caught would do the job? How much revenue would be raised? Explain your answers.

$5 would do the trick. It would raise $25 per resident or $25,000.

3. As you can see, the revenue raised from "B" does not meet the town's revenue objective. An alternative is to charge $X for the first fish caught and $Y for each fish thereafter. What values of X and Y would you recommend to meet the dual objectives of cutting the catch in half and meeting the revenue objective? Explain your answers.

Set X = 15 and y to 5

4. Geroge Renzi, an unsuccessful candidate for town council, and known troublemaker, has taken some economics courses. The town council knows that he will compute the dead weight loss of proposals "B" and "C", as well as the deadweight cost of a simple $5 per year fishing license. To be prepared, they have asked you to compute the answers before he does. Be sure to explain your answers.

If Renzi misses this, his macro instructor is in trouble. B and C would involve dead weight losses of 12.50. The simple fishing license would involve no deadweight loss.