BA533: Economics for Managers THE PENNSYLVANIA STATE UNIVERSITY

Fall 2017 Smeal College of Business

ANSWERS TO PRACTICE PROBLEMS:
Module 5

28. (c) The monopolist is not maximizing profit. It should be at the point where MR = MC, rather than where
P = MC. The monopolist is overproducing and should decrease output.

29. Demand is P = 100 – 0.5Q, and MC = 5. The monopolist should produce up to the point where MR = MC
=> 100 – Q = 5 => Q = 95. The monopoly price is therefore P = 100 – 0.5(95) = $52.50.

30.

a. The information given implies that TR = P*Q = $109.5 billion. Therefore, P = 109.5/9,054,000 =
12,094 per car. Since we are assuming that AC = MC = 12,039, we can calculate DWL =
0.5(9,087,000 – 9,054,000)(12,094 – 12,039) = $907,500 in 1977. See the diagram below.

12,094

DWL
12,039 MC= AC

MR D
9,054,000 9,087,000 Q

b. The transfer of surplus is almost $500 million (this used to be part of consumer surplus under perfect
competition, but it is now the “monopolist’s” profits). This transfer is far greater than the DWL figure
calculated in part (a).

31.

a. See the graph below. Substituting P = $1.50 into the demand equation gives Qc = 1500. The demand
equation can be rewritten as P = 9 - 0.005Q, so that CS = 0.5(9 - 1.50)(1500) = $5,625. PS = $0: All
surplus goes to consumers (because MC is flat).

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BA533: Economics for Managers THE PENNSYLVANIA STATE UNIVERSITY
Fall 2017 Smeal College of Business
ANSWERS TO PRACTICE PROBLEMS:
Module 5

b. Set MR = 9 - 0.01Q = MC = $1.50. This gives Qm = 750 and Pm = $5.25. CS = 0.5(9 - 5.25)(750) =
$1406.25. PS = (5.25 - 1.50)(750) = $2,812.50. Total surplus equals $4,218.75, less than under
competition. Two thirds of this total surplus goes to producers.

c. Under first-degree price discrimination, the monopolist charges each customer according to his or her
willingness to pay. Total output and total surplus will be the same as under perfect competition, but all
of the $5,625 surplus goes to the monopolist.

$
9

Demand

Pm = 5.25

MR

Pc = 1.50 MC = LRAC

Q
Qm = 750 Qc = 1500 1800

32. If barriers to entry are low, predatory pricing is not a rational strategy. Suppose the incumbent (dominant)
firm is successful in lowering the price and driving the rival out. When the firm then tries to raise price to
recoup the losses, earning monopoly profits, the high price will attract entry. The firm would have to
constantly be engaged in a price war, which can't be the best long-run strategy.

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