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Suppose that Pattys Pool has the demand data given in Table in the chapter. Further, suppose
that Patty has just two types of costs: (1) rent of $25 per day and (2) towel service costs equal
to 50 cents per swimmer. Over the short run, rent is a fixed cost (Patty has a lease she cant get
out of), but towel service is a variable cost (it varies with the number of swimmers). Pattys
marginal cost is therefore constant at 50 cents.
a. Under these cost conditions, what are Pattys short-run profit-maximizing output and price?
What is her profit or loss per day?
b. Now suppose that, in addition to the costs just described, the town imposes a swimming
excise tax on Pattys Pool equal to $2 per swimmer. What are Pattys new short-run profit
maximizing output and price? What is her new profit per day?
c. In addition to the costs just described (including the swimming excise tax of $2 per swimmer),
suppose the town imposes a fixed swimming tax requiring Patty to pay $2 per day for operating
her pool, regardless of the number of swimmers. What are Pattys new short-run profit-
maximizing output and price? What is her new profit per day?
d. Now suppose that costs are as in (c), except that the fixed swimming tax is $5 per day
instead of $2 per day. What are Pattys new short-run profit-maximizing output and price? What
is her new profit per day?
e. With the $5 per day fixed swimming tax, what should Patty do in the short run? If Pattys long
run costs are the same as her short-run costs, what should she do in the long run?
f. Based on your answers to b, c, d, and e, assess the following statement: When an excise
(variable) tax is imposed on a monopoly, it will pass part, but not all, of the tax on to consumers
in the form of a higher price. But a fixed tax has no effect on monopoly behavior over any time
horizon. Are both of these sentences true? Explain briefly.
ANSWER
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