16.6.

In an economy, there are 40 “white-collar” households, each producing 10

units of capital (and no labor); the income from each unit of capital is r. There
are also 50 “blue-collar” households, each producing 20 units of labor (and no
capital); the income from each unit of labor is w.
Each white-collar household’s demand for energy is XW = 0.8MW/PX, where
MW is income in the household. Each white-collar household’s demand for food
is YW = 0.2MW/PY. Each blue-collar household’s demand for energy is XB =
0.5MB/PX, where MB is income in the household. Each blue-collar household’s
demand for food is YB = 0.5MB/PY. Energy is produced using only capital. Each
unit of capital produces one unit of energy, so r is the marginal cost of energy.
The supply curve for energy is described by PX = r, where PX is the price of a
unit of energy. Food is produced using only labor. Each unit of labor produces
one unit of food, so w is the marginal cost of food. The supply curve for labor is
described by PY = w, where PY is the price of a unit of food. a) In this economy,
show that the amount of labor demanded and supplied will be 1,000 units. Show
also that the amount of capital demanded and supplied will be 400 units.
b) Write down the supply-equals-demand conditions for the energy and food
markets.
c) In equilibrium how will the price of a unit of energy compare with the price of
a unit of food?
d) In equilibrium how will the income of each white-collar family compare with
the income of each blue-collar family?

16.10. Two consumers, Josh and Mary, together have 10 apples and 4 oranges.
a) Draw the Edgeworth box that shows the set of feasible allocations that are
available in this simple economy.
b) Suppose Josh has 5 apples and 1 orange, while Mary has 5 apples and 3
oranges. Identify this allocation in the Edgeworth box.
c) Suppose Josh and Mary have identical utility functions, and assume that this
utility function exhibits positive marginal utilities for both apples and oranges
and a diminishing marginal rate of substitution of apples for oranges. Could the
allocation in part (b)—5 apples and 1 orange for Josh; 5 apples and 3 oranges for
Mary—be economically efficient?
11.12. A monopolist faces a demand curve P = 210 - 4Q and initially faces a
constant marginal cost MC = 10.
a) Calculate the profit-maximizing monopoly quantity and compute the
monopolist’s total revenue at the optimal price.
b) Suppose that the monopolist’s marginal cost increases to MC = 20. Verify that
the monopolist’s total revenue goes down.
c) Suppose that all firms in a perfectly competitive equilibrium had a constant
marginal cost MC = 10. Find the long-run perfectly competitive industry price
and quantity.
d) Suppose that all firms’ marginal costs increased to MC = 20. Verify that the
increase in marginal cost causes total industry revenue to go up.

11.29. A firm produces output, measured by Q, which is sold in a market in

which the price P = 20, regardless of the size of Q. The output is produced using
only one input, labor (measured by L); the production function is Q(L) = L.
There are many suppliers of labor, and the supply schedule is w = 2L, where w is
the wage rate. The firm is a monopsonist in the labor market.
a) What wage rate will the monopsonist pay?
b) How much extra profit does the firm earn when it pays labor as a
monopsonist instead of paying the wage rate that would be observed in a
perfectly competitive market?
14.5. In the Castorian Airline market there are only two firms. Each firm is
deciding whether to offer a frequent flyer program. The annual profits (in
millions of dollars) associated with each strategy are summarized in the
following table (where the first number is the payoff to Airline A and the second
to Airline B):

a) Does either player have a dominant strategy? Explain.

b) Is there a Nash equilibrium in this game? If so what is it?
c) Is this game an example of the prisoners’ dilemma? Explain.
14.22 The only two firms moving crude oil from an oil-producing region to a port
in Atlantis are pipelines: Starline and Pipetran. The following table shows the
annual profit (in millions of euros) that each firm would earn at different
capacities. Starline’s profit is the left number in each cell; Pipetran’s profit is the
right number. At the current capacities (with no expansion) Starline is earning
40 million euros, and Pipetran is earning 18 million euros annually. Each
company is considering an expansion of its capacity. Since Pipetran is a fairly
small company, it can consider only a small expansion to its capacity. Starline
has the ability to consider both a small and a large expansion.

a) If the two firms make their decisions about expansion simultaneously, is there
a unique Nash equilibrium? If so, what is it? If not, why not? Explain whether
this game is an example of a prisoners’ dilemma.
b) Would Starline have a first-mover advantage if capacities were chosen
sequentially? If so, briefly explain how it might credibly implement this strategy.
c) Suppose you were hired to advise Pipetran about its choice of capacity. If
Pipetran has the option of moving first, should it do so? Explain.
13.8. In a homogeneous products duopoly, each firm has a marginal cost curve
MC = 10 + Qi, i = 1, 2. The market demand curve is P = 50 - Q, where Q = Q1 +
Q2.
a) What are the Cournot equilibrium quantities and price in this market?
b) What would be the equilibrium price in this market if the two firms acted as a
profit-maximizing cartel?
c) What would be the equilibrium price in this market if firms acted as price-
taking firms?

13.18. Consider a market in which we have two firms, one of which will act as the
Stackelberg leader and the other as the follower. As we know, this means that
each firm will choose a quantity, X (for the leader) and Y (for the follower).
Imagine that you have determined the Stackelberg equilibrium for a particular
linear demand curve and set of marginal costs. Please indicate how X and Y
would change if we then “perturbed” the initial situation in the following way:
a) The leader’s marginal cost goes down, but the follower’s marginal cost stays
the same.
b) The follower’s marginal cost goes down, but the leader’s marginal cost stays
the same.