SELECT COLEGE

POST GRADUATE PROGRAM

MANAGERIAL ECONOMICS INDIVIDUAL ASSIGNMENT

(Maximum Mark, 20%)

DEADLINE, July 25, 2021

PART I DISCUSSION QUESTIONS

PART I DISCUSSION QUESTIONS:

1. The profit maximization is defined as the management of financial resources in such a
way that it increases the profit of the company. Here the focus is to increase the profit of the
company in the short term and it does not consider the risk and uncertainty that is there in
the business model of the company. It helps achieving efficiency in the company's day
today operations so that the business can be a profitable one. 
Whereas wealth maximization is the management of financial resources in such a way that
it increases the value of the shareholders in the company. The main focus here is on
increasing the value of the shares that the shareholder has a long-term. Wealth
maximization approach considers the risks and uncertainty that is there in the business
model of the company, it also helps in achieving a larger value of the company is worth,
which may reflect with increased market share of the company. 
 
2. Agency problem is a conflict of interest inherit in any relationship where one party is
expected to act in the best interest of another. The problem arises when an agent do not act
in the full best interest of the principal.
in the firm, agency problem usually refers to a conflict of interest between a company's
management and the company's stockholders. Here the managers acting As the agent for
the shareholders, are supposed to make decisions that will maximize the shareholders
wealth even though it is the best interest of the manager to instead maximize his own
wealth. This could create a conflict of interest and there is a chance that Manager may not
work with the best of his capability or interest because the agent for the shareholders, are
supposed to make decisions that will maximize the shareholders wealth even though it is
the best interest of the manager to instead maximize his own wealth. This could create a
conflict of interest and there is a chance that Manager may not work with the best of his
capability.
 
3. Managerial economics’ is basically an amalgamation or a mix of economic theory with
business practices so that there is a means for making decision and future planning and
management. It assists the firms to get a rational solution of obstacles faced by them by
formulating logical and general decisions. The subject helps to reduce the gap between
economics theory and its practice. This also helps in enhancement of analytical skills as
well as rational confederation of solutions to problems. Basically, managerial economics
applies microeconomic tools to meet business decisions. 
 
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4. Following the areas of decision making where managerial economics prescribes specific
solutions to business problems:
i. Deciding the price of the product and quantity of the commodity to be produced.
ii. Deciding whether to manufacture or buy a product
iii. Identifying the production technique for the production of a given item
iv. Making proper employment and training decisions.
v. Deciding the level of inventory a firm will maintain for the production or the raw materials
required for it.
 
5. Price elasticity of supply is the measure of responsiveness to the supply of a goods or
service after a change in its market price. There are three types of price elastic city of
supply i.e. perfectly inelastic supply, unitary elastic supply, perfectly elastic supply.  The
factors that affect price elasticity of supply are: nature of the industry, willingness to take
risks, nature of the goods, time, type of commodity, cost of raw materials, mobility factors
etc.
 
6. Break-even point analysis helps us to find a point in volume of production where total
costs is equal to total sales revenue, resulting into a new profit no loss situation. When
output of a product falls below this point there is a loss, and if the output exceeds the point
there is a profit.
There are various uses to analyse breakeven point as:
it helps in the determination of selling price which will give the organisation their desired
profit, it also helps in fixing the sales volume to cover the return on capital employed. It also
helps the organisation to forecast cost and profit which can happen as a result of change in
the volumes. It also enables the firms to make interfirm comparison of profitability from their
computers, it also reveals business strength and profit earning capacity of a concern without
much difficulty and effort. 

7. Monopoly and perfect competition are two extreme types of market structures. In a
perfectly competitive market price equals marginal cost in the firms on an economic profit of
zero whereas, in monopoly the price is set above the marginal cost and the firm answer
positive economic profit. The perfect competitive market produces an equilibrium in which
the price and the quantity of the good is economically efficient but, Monopoly is produced
and equilibrium at which price of the goods is higher and the quantity is lower. And for this
one reason government often want to regulate monopoly and encourage increased

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competition in the market by converting it into a perfectly competitive market. 
 
9. Actually, the primary concern of a monopolist is to maximise its profit and it can easily do
so as it can arbitrarily decide the price of the goods or service they are selling. Usually this
decision is made in such a way that prices are kept as highest possible while also satisfying
the customers demand. So both profit maximisation and price determination goes hand-in-
hand as both of the factors are interrelated with one another. This means that if a
monopolist want to increase their profit they have to increase the price and vice versa. 
 
10. The basic difference between monopoly and monopolistic competition is the number of
players in them. A monopoly has a single seller whereas monopolistic competition requires
at least two but not a large number of sellers. due to more number of players in
monopolistic competition there is competition in sales in price whereas in monopoly there is
absolute control. A monopoly makes it really difficult for new entrants due to good
acceptability and the nature of their product, whereas in monopolistic competition, entry and
exit are easy and it hardly affects the overall demand and supply. The profit and under
monopoly market is enjoyed by a single player, on the other hand in monopolistic
competition it is shared between all of them. Generally monopoly scenario is possible for
designer or extremely luxurious products whereas monopolistic scenario is more present
practically. 
 
11.  In the short run, a monopolistic competitive market is in efficient. As it does not achieve
allocative or productive efficiency. Since, the monopolistic competitor firms has power over
the market that are similar to a monopoly, its profit maximising level of productivity will result
in a net loss of consumer and producer surplus which will create a dead weight loss.
 
12. Oligopoly is defined as a market structure with the small numbers of firms, in which
none of them can keep the other firm from having a significant influence in the market. Here
usually the firm sells homogeneous or differentiated products. Some example of an
oligopolistic market are cement, steel, automobiles etc.
The characteristic features of oligopoly are: that out a few firms, there are barriers to entry,
firms try to avoid price competition due to fear of price wars, there is also interdependence
of the firm amongst each other, since firm try to avoid competition the selling cost are
usually the same as the other competitors.
 
13. In a market price discrimination occurs when identical goods and services are sold at
different prices by the same provider. Here, the seller will charge the buyer and absolute
maximum price that he is willing to pay. Companies use price discrimination in order to
make the maximum revenue possible from each customers. This allows the companies to
captureMore of the total surplus. An example for this can be the cost of movie tickets. As
the charge differently for children, adults, the price can also vary based on the date and
time of the show and the part of the country as well. Price discrimination is basically a way
to increase revenue by the companies. 
 
14. i. First degree price discrimination: this involves charging the maximum price that the
customer is willing to pay for a good or service. Here, the entire revenue is captured by the
firm but the problem here is in the difficulty to determine the maximum amount of customers
willing to pay. Therefore, such strategy is rarely a used.

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 ii. Second degree price discrimination: this process involves charging customers different
prices for the different amount or quantity that they consume. Example can be different
kinds of phone plans, rewards on cards, quantity discount for purchasing specified number
of certain goods et cetera.
iii. Third degree price discrimination: This involves charging different prices depending on
the market segment or consumer group. This is commonly seen in the entertainment
industry where they charge different prices for different movies, screenings, age or date and
time of the show. 
 
15. Different types of market structure provides an easier model in real life situation.
Therefore, knowledge about different market structure helps the manager to understand the
real-life conditions and situations associated with the rules of decision-making in them. It
also equips the managers for understanding a specific problem in the market condition.
When the managers can identify the problem of that particular segment they can promote
the solution aggressively. Or example in a monopoly, the manager has to make a choice
between price and the quantity of the commodity sold in the market. And there are single
seller with many buyers so, and this market structure by understanding the model one can
make sure that it Or example in a monopoly, the manager has to make a choice between
price and the quantity of the commodity sold in the market. And there are single seller with
many buyers so, and this market structure by understanding the model one can make sure
that it is not product differentiating but rather product enhancing market, and so accordingly
decisions can be taken.
PART II WORK OUT QUESTIONS
1. Suppose that you have the following demand curve. Q  800  12P .01I

Q = quantity demanded P = price and I= average income.

You know that the current market price is $40 and average income is $40,000

i. Calculate current demand.

ii. Calculate the price elasticity of demand
iii. Calculate the income elasticity of demand

1.

Q= 800-12P+0.01I
Current Market Price= 400
Average Demand = 40,000
a)
Current Demand = 
Q= 800-12P+0.01I
Q= 800-12(400)+0.01(40,000)
Q= 800-480+400 = 720 units
 
b) Price Elasticity of Demand=

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dQ/dP* P/Q
= -12P/ 800-12P+0.01I
= -12(40)/ 800-12(400)+0.01(40,000)
= -480/ 800-480+400 
= -480/720
= 0.667
 
c) Income Elasticity of Demand=
/dI* I/Q
= 0.01I/ 800-12P+0.01I
= 0.01(40,000)/ 800-12(400)+0.01(40,000)
= 400/ (800-480+400) 
= 400/720
= 0.556

2. Assuming the unit price of a commodity is defined by: P = 90 – 2q, and the cost function is
given as: C = 10 + 0.5 q 2 ,
i. Determine the profit-maximizing level of output and the unit price.
ii. Determine the cost-minimizing level of output

Solutions.

P = 90 -2Q
C = 10 + 0.5Q 2
0 = 90 -2Q
2Q = 90
2Q /2 = 90 /2
Q = 45
TR = PQ
TC = C (C0ST FUNCTION)
Π = TR – TC
Π = (90-2Q) Q – 10 + 0.5Q 2
Π = (90 – 2 (45))45 -10 + 0.5(45) 2
Π = (90 – 90)45 – 10 + 1012.5
Π = K1002.5 Ans

B. = 10 + 0.5 q2

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 0 = 10 +0.5 q2
- 0.5 q2/0.5 = 10 /-0.5
q 2 = √−20
Q = -4.472
C = 10 + 0.5 q 2
C = 10 + 0.5 (−4.472) 2
C = 20 Ans
3. Determine whether the following production functions show constant, increasing, or
decreasing returns to scale:
i. Q = L 0.60 K 0.40
ii. Q = 5K 0.5 L 0.3
iii. Q = 4L + 2K
Answer:
i. The production function exhibits diminishing returns to scale, since the total output
decreases when either input is increased while holding the other input constant. 
ii. The production function exhibits constant returns to scale, since the total output is
unchanged when either input is increased while holding the other input constant. 
iii. The production function exhibits increasing returns to scale, since the total output
increases when either input is increased while holding the other input constant.
Step-by-Step explanation
i. The production function in part i exhibits diminishing returns to scale. To see this,
note that if we double both inputs, then the output will be:
Q = 2L0.6K0.4 = (2L)0.6(2K)0.4.
This is less than 2Q, since:
(2L)0.6 < 2L, and (2K)0.4 < 2K.
Thus, doubling both inputs results in less than double the output, and hence the
production function exhibits diminishing returns to scale.
 
ii. The production function in part ii exhibits constant returns to scale. To see this,
note that if we double both inputs, then the output will be
Q = 5(2K)0.5(2L)0.3 = 10K0.5L0.3.
This is equal to 2Q, since:
10K0.5L0.3 = 2(5K0.5L0.3).
Thus, doubling both inputs results in double the output, and hence the production
function exhibits constant returns to scale.
 
iii. The production function in part iii exhibits increasing returns to scale. To see this,
note that if we double both inputs, then the output will be:
Q = 4(2L) + 2(2K) = 8L + 4K.
This is greater than 2Q, since:
8L + 4K > 2(4L + 2K).

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 Thus, doubling both inputs results in more than double the output, and hence the
production function exhibits increasing returns to scale.
4. Given the cost function: C = 1000 + 10Q 1/2 + Q + 2Q 2 , derive the average and marginal cost
functions. At 5 units of output, what are the average and marginal costs.
Answer:
The average cost function is C/Q = 1000 + 10Q1/2 + Q + 2Q 2 /Q.
 At 5 units of output, the average cost is C/5 = 1000 + 10(5)1/2 + 5 + 2(5) 2 /5 = 1132. 
The marginal cost function is C' = 10Q -1/2 + 1 + 4Q.
 At 5 units of output, the marginal cost is C'(5) = 10(5) -1/2 + 1 + 4(5) = 41.

5. A monopoly firm wishes to supply two different markets, 1 and 2, with the corresponding
demand functions given as:
P1 = 500 – Q1 (Market 1)
P2 = 300 – Q2 (Market 2)
P1 and P2 represent the prices charged in markets 1 and 2, respectively, and Q1 and Q2 are
quantities sold in markets 1 and 2, respectively.
The cost function is given by: C = 50,000 – 100Q
i. The profit maximizing output for the monopolist
ii. Allocation of output between the two markets
iii. The price charged in each of the two markets
iv. The total or maximum profit.

Answer:

1. The profit maximizing output for the monopolist is Q = 250. 

2. The monopolist should allocate output such that Q1 = Q2 = 125.
3. Therefore, the monopolist should charge prices P1 = 375 and P2 = 275.
4. The maximum profit is given by P = $62,500.

Step-by-Step explanation
i.) explanation 

 The monopolist's profit is given by:

 Profit = (P1 - C)Q1 + (P2 - C)Q2
 Substituting in the values for P1, P2, and C, we get:
 Profit = (500 - 50,000 - 100Q)Q1 + (300 - 50,000 - 100Q)Q2

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 Differentiating with respect to Q, we get:
 dProfit/dQ = -100Q1 - 100Q2
 Setting this equal to 0 and solving for Q, we get:
 Q = (Q1 + Q2)/2
 Substituting in the values for Q1 and Q2, we get:
 Q = (250 + 250)/2 = 250

 
ii.) explanation 

 The monopolist's profit is given by:

 Profit = (P1 - C)Q1 + (P2 - C)Q2
 Substituting in the values for P1, P2, and C, we get:
 Profit = (500 - 50,000 - 100Q)Q1 + (300 - 50,000 - 100Q)Q2
 Differentiating with respect to Q1 and setting equal to 0, we get:
 dProfit/dQ1 = (500 - 100Q) - 100Q2 = 0
 Solving for Q2, we get:
 Q2 = (500 - 100Q)/100
 Similarly, differentiating with respect to Q2 and setting equal to 0, we get:
 dProfit/dQ2 = -100Q1 + (300 - 100Q) = 0
 Solving for Q1, we get:
 Q1 = (300 - 100Q)/100
 Substituting Q1 into the equation for Q2, we get:
 Q2 = (500 - 100(300 - 100Q)/100)/100
 Simplifying, we get:
 Q2 = (500 - 300 + 100Q)/100
 Solving for Q, we get:
 Q = 200
 Substituting Q into the equation for Q1, we get:
 Q1 = (300 - 100(200))/100
 Simplifying, we get:
 Q1 = 100
 Therefore, the monopolist should allocate output such that Q1 = Q2 = 125.

iii.) explanation 

 The monopolist's profit is given by:

 Profit = (P1 - C)Q1 + (P2 - C)Q2
 Substituting in the values for Q1, Q2, and C, we get:
 Profit = (P1 - 50,000 - 100(250))Q1 + (P2 - 50,000 - 100(250))Q2
 Differentiating with respect to P1 and setting equal to 0, we get:
 dProfit/dP1 = Q1 - 100Q2 = 0
 Solving for Q2, we get:
 Q2 = Q1/100
 Substituting Q2 into the equation for P2, we get:
 P2 = 275
 Similarly, differentiating with respect to P2 and setting equal to 0, we get:
 dProfit/dP2 = -100Q1 + Q2 = 0

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 Solving for Q1, we get:
 Q1 = 100Q2
 Substituting Q1 into the equation for P1, we get:
 P1 = 375
 Therefore, the monopolist should charge prices P1 = 375 and P2 = 275.

iv.) explanation 

 The maximum profit is given by P = $62,500.

 The monopolist's profit is given by:
 Profit = (P1 - C)Q1 + (P2 - C)Q2
 Substituting in the values for P1, P2, Q1, Q2, and C, we get:
 Profit = (375 - 50,000 - 100(250))(125) + (275 - 50,000 - 100(250))(125)
 Simplifying, we get:
 Profit = 62,500

1. The demand for petrol rises from 500 to 600 Barrels when the price of a particular scooter is
reduced from Birr. 25000 to Birr.22000. Find out the cross elasticity of demand for the two.
What is the nature of their relationship? A company has the following demand equation.
Q= 1000–3000P+10A, Q = Quantity demanded, P = Product Price, A = Advertisement
expenditure, Assume that P = 3 and A = 2000

1. The cross elasticity of demand is -1.667

The relationship between the two is that: The demand for scooters will decrease as the
price for petrol goes up. 
2. If the firm drops the price, it will be beneficial since the demand will increase.
3. If the firm increases the price and also increase the advertisement expenditure, it will not
be beneficial since the demand will drop.
Step-by-Step explanation
Question 1:
Cross elasticity of demand E= Percentage change in quantity X / Percentage change in
price of Y
Change in quantity X= 500-600=-100
Change in price Y = 25,000-22,000= 3,000
X= 25,000
Y= 500
= (-100/3000) * ( 25,000/500)
= - 1.667
Negative cross elasticity of demand means that the demand for the scooters will decrease
as the price for petrol goes up.

2. Suppose the firm drops the price to Birr. 2.50 would this be beneficial.
Question 2:
Q= 1000-3000P+10A
Q= 1000- 3000(3) + 10(2000)
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 Q=12,000
If the Price P is 2.50; Q=1000-3000(2.50) +10(2000)
Q= 13,500
The demand will increase if the is reduced to 2.50 from 3. 
This will be beneficial.
3. Suppose the firm raises the price to Birr. 4.00 While increasing its advertisement expenditure
by 100 would this be beneficial? Explain
Question 3:
If the price P= 4.00, Advertising expenditure= 2000+100
Q= 1000-3000(4) + 10( 2100)
Q= 10,000
This step will not be beneficial. This is because, these changes will reduce the demand

4. Assume a firm’s total cost function is

Required: Suppose that the firm produces 20 units of output. Calculate total fixed cost (TFC),
total variable cost (TVC), average total cost (ATC), average fixed cost (AFC), average variable
cost (AVC), and marginal cost (MC).

Total fixed cost (TFC) = 12

Total variable cost (TVC)= 60Q-15Q2+Q3 when Q= 20 , TVC = 60*20-15*202+203 = 3200

Average total cost (ATC)= Total fixed cost (TFC) /Q = (12+60Q-15Q 2+Q3)= 12/Q+60-
15Q+Q2 when Q= 20 , ATC = 12/20+60-15*20+202 = 160.6

Average fixed cost (AFC )= Total fixed cost (TFC)/Q = 12/Q when Q= 20 AFC 12/20 =
0.6

Average variable cost (AVC) = Total variable cost (TVC)/Q = (60Q-15Q 2+Q3 )/Q= 60 -
15Q+Q2 when Q= 20 , AVC = 60-15*20+202 = 160

Marginal cost (MC)= dTC/ dQ = 60-30Q+3Q2 when Q= 20 MC= 60-30*20+3*202 = 660

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