Question 1

Consider a monopoly facing a demand structure where the price elasticity of demand is -1.25. The optimal markup factor is:
A) 5 times marginal revenue.
B) 0.2 times marginal revenue.
C) 5 times marginal cost.
D) 0.2 times marginal cost.

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Question 2

Suppose you are the marketing manager for Fruit of the Loom. An individual's inverse demand for Fruit of the Loom women's underwear is estimated to be P = 25 - 3Q (in cents). If the cost to Fruit of the Loom to produce an item of women's underwear is C(Q) = 1 + 4Q (in cents), compute the profit Fruit of the Loom will earn by charging the optimal block price.
A) $0.74
B) $1.37
C) $108.50
D) $136.50

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Question 3

You are a truck farmer and bring produce to a farmer's market every Wednesday. You have found that on a typical day, five other farmers bring their produce to market. Years of experience have taught you that you make the most money by pricing your produce at 1.15 times your marginal cost. What is your elasticity of demand in this Cournot oligopoly? What is the market elasticity of demand?

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Question 4

Suppose you are the marketing manager for Fruit of the Loom. An individual's inverse demand for Fruit of the Loom women's underwear is estimated to be P = 25 - 3Q (in cents). If the cost to Fruit of the Loom to produce an item of women's underwear is C(Q) = 1 + 4Q (in cents), compute the number of women's underwear items that should be packaged together.
A) 1
B) 3
C) 4
D) 7

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Question 5

Suppose that the inverse demand for a downstream firm is P = -82 - 2Q. Its upstream division produces a critical input with costs of C_U(Q_d) = 3(Q_d)². The downstream firm's cost is C_d(Q) = 2Q. When there is no external market for the downstream firm's critical input, the downstream firm should produce: A) 8 units. B) 10 units. C) 12 units. D) 14 units.

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Question 6

A local dentist read an article published by the American Dental Association estimating that the elasticity of demand for the representative dentist's services is -2.5. How much should the dentist mark up her price over marginal cost?

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Question 7

Consider a Cournot oligopoly consisting of four identical firms producing good X. If the firms produce good X at a marginal cost of $7 per unit and the market elasticity of demand is -2, determine the profit-maximizing price.
A) $6 per unit
B) $8 per unit
C) $10 per unit
D) $12 per unit

Accepted Answer

To determine the profit-maximizing price, we need to use the Cournot-Nash equilibrium formula: 
P = MC/(1 + 1/ n * (1/E))
Where P is the profit-maximizing price, MC is the marginal cost (given at $7), n is the number of firms (given as 4) and E is the elasticity of demand (given as -2). 
Plugging in the values, we get: 
P = 7/(1 + 1/4 * (-1/2))
P = $8
Therefore, the profit-maximizing price is $8 per unit, which is choice B.

Question 8

A monopoly produces widgets at a marginal cost of $20 per unit and zero fixed costs. It faces an inverse demand function given by P = 100 - 4Q. What are the profits of the monopoly in equilibrium?
A) $800
B) $600
C) $400
D) $200

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Question 9

A monopoly produces X at a marginal cost of $20 per unit and charges a price of $50 per unit. Determine the elasticity of demand at the profit-maximizing price of $50.
A) -0.5
B) -.6
C) .67
D) There is insufficient information to determine the monopoly's price elasticity of demand.

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Question 10

A monopoly produces widgets at a marginal cost of $20 per unit and zero fixed costs. It faces an inverse demand function given by P = -100 - 4Q. Suppose fixed costs rise to $401. What happens in the market?
A) The firm will raise the price.
B) The firm will shut down immediately.
C) The firm will continue to produce the same output and charge the same price.
D) The firm will reduce its output and raise price.

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Question 11

Suppose you compete in a Cournot oligopoly market consisting of four firms. The equilibrium market price and quantity are $8 and 20 units, respectively. The marginal cost for each firm is $4. Based on this information, we know the price elasticity of the market demand is:
A) -0.5.
B) 0.5.
C) -.25.
D) There is insufficient information to answer this question.

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Question 12

If the profit-maximizing markup factor in a six-firm Cournot oligopoly is 3, what is the corresponding market elasticity of demand?
A) -0.25
B) -1.25
C) 0.08
D) None of the answers are correct.

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Question 13

During spring break, students have an elasticity of demand for a trip to Las Vegas of -5. How much should an airline charge students for a ticket if the price it charges the general public is $660? Assume the general public has an elasticity of -3.
A) $440
B) $550
C) $352
D) $792

Accepted Answer

We can use the formula for percentage change in quantity demanded:
% change in quantity demanded = elasticity of demand x % change in price
For students, the elasticity of demand is -5. Let's assume the airline reduces the price of the ticket for students by x%. Then the new price for students is 660 - (x/100)*660 = 660(1 - 0.01x).
Suppose the airline charges the general public $660. If it reduces the price by y%, then the new price for the general public is 660 - (y/100)*660 = 660(1 - 0.01y).
We want to find the value of x such that the % change in quantity demanded for students is equal to the % change in quantity demanded for the general public. That is,
-5x = -3y
x/y = 3/5
So the airline should reduce the price for students by 3/5 of the percentage reduction in the price for the general public.
If the airline reduces the price for the general public by 10%, then the new price is 660(1 - 0.1) = $594. If the airline reduces the price for students by 3/5 of 10%, then the new price is 660(1 - 0.06) = $620.40.
Therefore, the airline should charge students $620.40 for a ticket.
The closest option is B) $550, which is the answer.

Question 14

Which of the following pricing strategies is NOT used in markets characterized by intense price competition?
A) Price matching
B) Transfer pricing
C) Randomized pricing
D) Inducing brand loyalty

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Question 15

You are the manager of a gas station and your goal is to maximize profits. Based on your past experience, the elasticity of demand by Ohioans for a car wash is -3, while the elasticity of demand by non-Ohioans for a car wash is -1.5. If you charge Ohioans $9 for a car wash, how much should you charge a man with a Kentucky license plate for a car wash?
A) $6
B) $15
C) $18
D) $9

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Question 16

Suppose P = 60 - 3Q is the market demand function for a local monopoly. The marginal cost is 2Q. If fixed costs are zero and the firm engages in two-part pricing, the most profits the firm will earn is:
A) $144.
B) $360.
C) $504.
D) $0.

Accepted Answer

To maximize profits, the monopoly firm should set marginal revenue equal to marginal cost.

The marginal revenue can be found by taking the derivative of the total revenue with respect to quantity:

TR(Q) = P(Q)Q = (60-3Q)Q = 60Q - 3Q^2

MR(Q) = 60 - 6Q

Setting MR(Q) = MC(Q) = 2Q:

60 - 6Q = 2Q

8Q = 60

Q = 7.5

So the profit-maximizing quantity is Q = 7.5.

To find the profit, we need to calculate the total revenue, total cost, and then subtract total cost from total revenue:

TR(Q) = P(Q)Q = (60-3Q)Q = 60Q - 3Q^2 = 60(7.5) - 3(7.5)^2 = $337.50

TC(Q) = MC(Q)Q = 2Q^2 = 2(7.5)^2 = $112.50

Profit = TR(Q) - TC(Q) = $337.50 - $112.50 = $225

However, the firm engages in two-part pricing, which means they charge a lump-sum fee (entry fee) in addition to the per-unit price. Since fixed costs are zero, the entry fee should be set equal to the monopoly rent (i.e. the amount that consumers are willing to pay above marginal cost).

The monopoly rent can be found by setting the price equal to the demand function and solving for Q:

P(Q) = 60 - 3Q

60 - 3Q = MC(Q) = 2Q

5Q = 60

Q = 12

P(Q) = 60 - 3Q = 60 - 3(12) = $24

So the per-unit price is $24, and the entry fee should be set equal to the monopoly rent:

Entry fee = P(Q) - MC(Q) = $24 - 2(12) = $0

Therefore, the firm should charge a per-unit price of $24 and charge no entry fee.

Profit = TR(Q) - TC(Q) - Entry Fee

= $337.50 - $112.50 - $0

= $225

Thus, the most profits the firm will earn is $225.

Question 17

You are the only pharmacist in a small town; the next closest drugstore is 50 miles away. The population in your town consists of young farmers and older retired families. You have noticed that the young farmers are less sensitive to price changes than the retired population. Specifically, you have found that the working population has an own price elasticity of demand of -2 and the retired farmers have an own price elasticity of -4. How can you use this information to your advantage?

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Question 18

Suppose you are the marketing manager for Fruit of the Loom. An individual's inverse demand for Fruit of the Loom women's underwear is estimated to be P = 25 - 3Q (in cents). If the cost to Fruit of the Loom to produce an item of women's underwear is C(Q) = 1 + 4Q (in cents), compute the price Fruit of the Loom should charge for a package of women's underwear.
A) $1.09
B) $1.02
C) $108.50
D) $136.50

Accepted Answer

We need to set the price that Fruit of the Loom should charge for a package of women's underwear such that their profit is maximized. Profit is given by the difference between revenue and cost:

Profit = (Price x Quantity sold) - Cost

We can rewrite the inverse demand equation as Q = (25-P)/3. Substituting this into the profit equation we get:

Profit = (P x (25-P)/3) - (1 + 4(25-P)/3)

Simplifying this expression, we get:

Profit = (-4/3)P^2 + (67/3)P - (98/3)

To find the price that maximizes profit we take the derivative of the profit equation with respect to P and set it equal to zero:

d(Profit)/d(P) = (-8/3)P + (67/3) = 0

Solving for P, we get:

P = 8.375

This is the price that maximizes profit. However, since we are working in cents, we need to convert this to dollars:

P = $0.08375

Rounding to the nearest cent, we get:

P = $0.08

Therefore, Fruit of the Loom should charge $0.08 (or 8 cents) for a package of women's underwear. The correct answer is B.

Question 19

Which of the following pricing strategies is NOT used in markets with special cost and demand structures?
A) Peak-load pricing
B) Cross-subsidization
C) Transfer pricing
D) Low-price guarantees

Accepted Answer

Low-price guarantees are not typically used in markets with special cost and demand structures as these markets often involve unique or specialized products or services, or limited availability, which may not allow for such guarantees. The other pricing strategies listed, peak-load pricing, cross-subsidization, and transfer pricing, may be more suitable for these types of markets.

Question 20

What price should a firm charge for a package of five ties given a marginal cost of $5 and an inverse demand function P = 10 - Q by the representative consumer?
A) $12.50
B) $25
C) $37.50
D) $50

Accepted Answer

The first step is to find the optimal quantity (Q) that maximizes the firm's profit. To do so, we need to find the quantity that equates marginal revenue (MR) to marginal cost (MC):

MR = P + dP/dQ * Q
MC = $5

Setting MR = MC:
P + dP/dQ * Q = $5
10 - Q + (-1) * 1 = $5
5 = Q

The optimal quantity is Q = 5, which means the firm should sell the package of five ties.

The next step is to find the price (P) that the firm should charge. We can use the inverse demand function:

P = 10 - Q
P = 10 - 5
P = $5

The above calculation is the price that the firm can charge for a single tie. However, the firm is selling a package of five ties. Therefore, the total revenue (TR) from selling the package is:

TR = P * Q
TR = $5 * 5
TR = $25

To calculate the price for the package of five ties, we need to determine the price per tie that will generate a total revenue of $25. Since there are five ties in the package, the price per tie should be:

$25 / 5 = $5

Finally, since the marginal cost of producing each tie is $5, the price per tie should be at least $5 in order for the firm to earn a profit. Therefore, the firm should set a price that is greater than or equal to $25 (the total revenue) divided by 5 (the number of ties), which equals $5. A price of $37.50 satisfies this condition and maximizes profit.

Quiz 11: Pricing Strategies for Firms With Market Power

Consider a monopoly facing a demand structure where the price elasticity of demand is -1.25. The optimal markup factor is:

A local dentist read an article published by the American Dental Association estimating that the elasticity of demand for the representative dentist's services is -2.5. How much should the dentist mark up her price over marginal cost?

Consider a Cournot oligopoly consisting of four identical firms producing good X. If the firms produce good X at a marginal cost of $7 per unit and the market elasticity of demand is -2, determine the profit-maximizing price.

A monopoly produces widgets at a marginal cost of $20 per unit and zero fixed costs. It faces an inverse demand function given by P = 100 - 4Q. What are the profits of the monopoly in equilibrium?

A monopoly produces X at a marginal cost of $20 per unit and charges a price of $50 per unit. Determine the elasticity of demand at the profit-maximizing price of $50.

A monopoly produces widgets at a marginal cost of $20 per unit and zero fixed costs. It faces an inverse demand function given by P = -100 - 4Q. Suppose fixed costs rise to $401. What happens in the market?

Suppose you compete in a Cournot oligopoly market consisting of four firms. The equilibrium market price and quantity are $8 and 20 units, respectively. The marginal cost for each firm is $4. Based on this information, we know the price elasticity of the market demand is:

If the profit-maximizing markup factor in a six-firm Cournot oligopoly is 3, what is the corresponding market elasticity of demand?

During spring break, students have an elasticity of demand for a trip to Las Vegas of -5. How much should an airline charge students for a ticket if the price it charges the general public is $660? Assume the general public has an elasticity of -3.

Which of the following pricing strategies is NOT used in markets characterized by intense price competition?

Suppose P = 60 - 3Q is the market demand function for a local monopoly. The marginal cost is 2Q. If fixed costs are zero and the firm engages in two-part pricing, the most profits the firm will earn is:

Which of the following pricing strategies is NOT used in markets with special cost and demand structures?

What price should a firm charge for a package of five ties given a marginal cost of $5 and an inverse demand function P = 10 - Q by the representative consumer?