PRACTICE

1. Suppose there is a perfectly competitive industry where all the firms are
identical with identical cost curves. A representative firm’s total cost : TC =
100 + q2 + q where q is the quantity of output produced by the firm; the market
demand for this product: P= 1000 – 2Q where Q is the market quantity; the
market supply curve is given by the equation P = 100 + Q.
a. What is the equilibrium quantity and price in this market given this
information?
b. The firm’s MC equation based upon its TC equation is MC = 2q + 1. Given this
information and your answer in part (a), what is the firm’s profit maximizing
level
of production, total revenue, total cost and profit at this market equilibrium? Is
this a short-run or long-run equilibrium? Explain your answer.
c. Given your answer in part (b), what do you anticipate will happen in this market
in the long-run?
d. In this market, what is the long-run equilibrium price and what is the long-run
equilibrium quantity for a representative firm to produce? Explain your answer.
e. Given the long-run equilibrium price you calculated in part (d), how many units
of this good are produced in this market?

2. A monopolist firm faces the following average revenue (demand) curve:

P = 100 - 0.01Q
where Q is weekly production and P is price, measured in cents per unit. The
firm’s cost function is given by C = 50Q + 30,000. Assuming the firm
maximizes profits,
a. What is the level of production, price, and total profit per week?
b. If the government decides to levy a tax of 10 cents per unit on this product,
what will be the new level of production, price, and profit?

3. A firm in perfect competitive market has VC ($) = 2Q2 + 10Q and FC ($) =200,
where Q is in units.
a. At P = $150, pls. calculate Q* and Profit at profit MAX
b. Calculate the break-even point of this firm .
c. What is the firm’s decision when the market price is P = $10?
d. At what price should this firm close its business?
Present all the above results on a graph.
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4. Statistics about a perfectly competitive market of a good are as below:

P ($/unit) 15 18 21 24 27 30

Qd(unit) 500 440 380 320 260 200

Qs (unit) 250 400 550 700 850 1000

a. demand and supply functions?

b. market equilibrium price and quantity?
c. consumer surplus and producer surplus?
d. Calculate the actual quantity in the market at the price of P1 = $18 and P2=$11
e. There is negative externality in the market. Estimated value of the negative
impact on bystanders is $2/unit. Write the social cost function. What is the
optimum outcome to society. Compare with answers in part (b). What should
Government do to internalize this externality?
5. A monopolist runs business with the demand curve: P($) = 250-Q
, with the firm’s cost functions is TC($)=1.5Q2 + 40Q +100
a. Pls. calculate P*, Q* and Profit MAX. What is the consumers’ surplus in this
case?
b. Pls. calculate the DWL caused by this monopolist
c. To reduce the deficit budget, government imposes 20$/ unit tax on producer.
Pls. calculate new P*, Q* and ∏ when this firm still wants to maximize profit?
d. For the case Government imposes a fixed tax amount of 200$ (a lump sum tax)
on producer. Calculate new P*, Q* and ∏ when this firm still wants to
maximize profit?
Present all the above results on a graph

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 Answer
1. We have: TC=100+𝑄2 +Q
The demand function (Qd): P=1000-2Q
The supply function (Qs): P=100+Q
a. When the market equilibrium: (Qs)= (Qd) -> 1000-2Q = 100+Q  900 = 3Q
 Q=300
 P = 100 +300 = 400
a. Since the equilibrium market price is the firm’s marginal revenue you know
that MR = $400=P* (from part (a)).
MC= TC’=2Q + 1
The profit maximizing when MR = MC
 400 = 2Q + 1 -> or Q* = 199.5 units
 TR = P*xQ*=400 x 199.5 = 79,800.
 TC = 100+𝑄2 +Q = 100+ 199.5^2+ 199.5 = 40,099.75.
Profit = TR – TC = 79,800 – 40,099.75 = 39,700.25.
b. Since profit is not equal to zero this cannot be a long-run equilibrium situation:
it must be a short-run equilibrium situation.
Since there is a positive economic profit in the short run, there should be entry of
firms in the long-run resulting in an increase in the market quantity, a decrease
in the market price, and firms in the industry earning zero economic profit.
c. The long-run equilibrium price is that price that results in the representative
firm earning zero economic profit.
This will occur when MC = ATC for the representative firm.
ATC is just the TC equation divided by Q.
Thus, 2Q + 1 = (100 + Q2 + Q)/Q
Q2 =100
 Q = 10.
 ATC = (100 + 102 + 10)/10 = $21.
So, when P= MR = min ATC = MC = $21, this firm will break even.
TR = P*Q= 21*10=$210
TC = (100 + 102 + 10)=$210.
Thus, the firm earns zero economic profit.
d. To find this quantity you need to substitute $21 (the long-run equilibrium
price) into the market demand curve to determine the quantity that the market
must produce in order to be in long-run equilibrium. This quantity is equal to
489.5 units
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P=1000-2Q
=> Q=(1000-P)/2==(1000-21)/2=489.5 units
2. The demand function: P = 100 - 0.01Q
The cost function : C = 50Q + 30000
=> MC = 50
The total revenue function: TR = P*Q = 100Q - 0,01 𝑄2
=> MR = 100 - 0,02Q
a. When the firm’s maximize profit, MR = MC
So 100 – 0,02Q = 50  0,02Q = 50  Q =
2500
=> P = 100 - 0,01*Q = 100 – 0,01* 2500 = 100 - 25 = 75 (cents)
The total profit per week :
π = TR – TC = 100Q - 0,01𝑄2 – 50Q – 30000 = 50Q – 0,01𝑄2 - 30000
= 32500 (cents) = $325

b.
+ When the government decides to levy a tax of 10 cents/ unit, If the monopolist
had to pay the tax instead of the consumer, the monopolist’s cost function
would then be:
C = 50Q + 30000 + 10Q = 60Q + 30000
=> MC = 60
When the firm maximize profits , MR = MC
So 100 – 0,02Q = 60
=> 0,02Q = 40
=> Q = 2000
=> P = 100 – 0,01* 2000 = 80 ( cents)

The new profit per week: π = TR – TC

= 80Q-(60Q + 30000)
=20Q-30000
=20*20000-30000
= 10000 ( Cents )
= $100
+ When the government decides to levy a tax of 10 cents/ unit, If the consumers
must pay the tax to the government. Since the total price (including the tax)
consumers would be willing to pay remains unchanged, the demand function
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 is:
P* + T = 100 - 0.01Q,
Or P* = 100 - 0.01Q - T, where P* is the price received by the suppliers.
 TR=PQ= (100 - 0.01Q – T)Q
 TR’=MR = 100 - 0.02Q – T=100 - 0.02Q - 10
where T = 10 cents. To determine the profit-maximizing level of output with the
tax:
MC=MR
 100 - 0.02Q - 10 = 50
 Q = 2,000 units.
Substituting Q into the demand function (D) to determine price:
P* = 100 - (0.01)(2,000) - 10 = 70 cent
Profit is total revenue minus total cost:
Profit = TR-TC=(100 - 0.01Q – 10)Q – (50Q + 30000)
=40Q-0.01Q2-30.000
=40*2,000 -0.01*2,0002-30.000
=10,000 cents, or $100 per week.

Note: The price facing the consumer after the imposition of the tax is 80 cents.
The monopolist receives 70 cents. Therefore, the consumer and the monopolist
each pay 5 cents of the tax.

3. VC ($) = 2Q2 + 10Q and FC ($) =200

a. TC =VC + FC =2Q2+10Q+200 => MC =4Q+10 => MR =P = 150
Profit max  MR = MC => 4Q + 10 = 150 => Q = 35(units)
Profit : TR – TC = 35 x 150 – (2 x 352 +10 x 35+ 200) = 2250 $
b. The point at which marginal cost equals average total cost (MC = ATC) is
known as the break-even point.
ATC = TC/Q = 2Q + 10 +200/Q
In the break-even point, ATC = MC
So 2Q + 10 + 200/ Q = 4Q + 10  2𝑄2 + 10Q + 200 – 4𝑄2 – 10Q = 0  Q =
10
P=MC=4Q+10=50
c. P=MC=10=4Q+10-> Q=0; -> TR=P*Q=0
 TC=Q*(Q+5)+400=400
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 Profit=-400 ($)
 AVC=10=$P:
 We know that the producer will Shut down if P < AVC. For this case,
continuing to produce also suffers the fix costs, similar to the case of shut-
down decision, thus if the producer only cares about the costs, they should shut
down.
d. At what price should this firm close its business?
Shut down when AVC=P, based on the (c), firm close its business at P=$10

4.
a. (Qd) P= -0.05Q+40 (Qs) P= 0.02Q + 10
We have demand function: Qd = a.P + b
with P= 15, Qd = 500 => 500 = 15a + b (1)
with P= 18, Qd = 440 => 440 = 18a + b (2)
From (1), (2) we have: a= -20, b=800
=> The demand function: Qd = -20P + 800 => P= - 0,05Qd + 40

We have supply function: Qs = c.P +d

with P = 15 , Qs = 250 => 250 = 15c + d (3)
with P = 18 , Qs = 400 => 400 = 18c + d (4)
From: (3), (4) we have c=50, d= -500
=> The supply function: Qs = 50P – 500 =>P = 0,02Qs + 10
b. When the market equilibrium Qs = Qd
so -20P + 800 = 50P – 500
 70Q = 1300
 P = 18,6
=> Q = 50P – 500 = 50.18,6 – 500 = 428,6
c. The consumer surplus is area under demand curve, above the price curve (CS
= 𝑆𝐷𝐵𝐶 )
The producer surplus is area under the price curve , above the supply curve (PS
= 𝑆𝐴𝐵𝐶 ) (see Fig. 1)

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 Figure 1: Consumer surplus & producer surplus

The consumer surplus : CS = 𝑆𝐷𝐵𝐶

BC is the height of DBC: BC = 428,6
BD is size of bottom of DBC: BD = 40 – 18,6 =21,4
Thus, CS = ½* BC* BD = 1/2* 428,6*21,4 = 4586,02
The producer surplus : PS = 𝑆𝐴𝐵𝐶
BC is the height of ABC: BC = 428,6
AB is size of bottom of ABC : AB = 18,6 – 10 = 8,6
Thus, PS = ½ * BC*AB = ½ * 8,6 * 428,6 = 1842,98
d. With P1 = $ 18 ,we have:
Qs = 50P -500 = 400 (unit)
Qd = -20P + 800 =440 (unit)
 Qd>Qs: Shortage 40 (unit); Actual quantity = 400 units

With P2 = $ 11, we have:

Qs = 50*11 – 500 = 50
Qd = -20*11 + 800 = 580
 Qd>Qs: Shortage 530 (unit); Actual quantity = 50 units

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(Note: If the result with Qd<Qs: Surplus (=Qs-Qd) (unit); Actual quantity = Qd
units)
e. Social Cost function: P= 0.02Q + 10 + 2 -> P= 0.02Q + 12
(Note: negative impact, thus affect Supply function; Because cost per unit
($2/unit), thus price of each unit increase $2, or P new = P old +2, thus, for
this case P= 0.02Q + 10 + 2 -> P= 0.02Q + 12)
The equilibrium of price and quantity : Qd = Qs
 P = $ 20
 Qs=Qd=400 units

The optimum quantity for society is 400 units, smaller than the quantity produced
in the market (428,6 units)
The Government should tax this market $2/unit to make the quantity produced to
be 400 units equal to the optimum.
5. The demand curve : P = 250 – Q
The cost function : TC = 1,5𝑄2 + 40Q + 100
a. We have:
TC = 1,5𝑄2 + 40Q + 100 => MC = TC’ = 3Q + 40
TR = P*Q = 250Q - Q^2 => MR = 250 – 2Q
The profit maximum when MR = MC
So 3Q + 40 = 250 – 2Q  5Q = 210  Q* = 42 units
with the demand curve => P* = 250 – 42 = $208
Thus, the maximum profit: π= TR – TC = 42*208- (1,5*422 +40*42+ 100) =
$4310
The consumer surplus is area under demand curve, above the price curve P = $208
CS = 𝑆𝐴𝐵𝐶
AB is the height of ABC: AB = 250-208 = 42
AC is size of bottom of ABC: AC = 42
THUS, CS = ½ * 42* 42 = 882
b. DWL=$220,5
The DWL is the area under the demand curve, above maginal cost DWL = 𝑆𝐵𝐸𝐹
(see Fig. 2)

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 Price C P > MC;
monopoly
250 Deadweight Marginal cost
loss

208 B
Monopoly
price
F P = MC; perfect
competition and
optimum
166
E
Marginal
revenue Demand

42 52.5
0 Monopoly Efficient quantity Quantity
quantity

Figure 2: Deadweight loss and Monopoly

When Demand curve cuts the MC curve (D=MC), the quantity of the market at F
point: (D=MC): 3Q + 40 = 250 – Q => Q c= 52,5 units
THE PRICE of the market at E point: P= 3Q +40 = 3*42 + 40 = $166
BE is the size of bottom of BEF : BE = 208- 166 = 42
QcQ is the height of BEF : QcQ = 52,5- 42 = 10,5
So DWL = ½ * BE* QcQ = ½ * 42 * 10,5 = $220,5

c. The Government impose $20/unit tax on producer so we have the new total
cost function: TC = 1,5𝑄2 + 40Q + 100+20Q = 1,5𝑄2 + 60Q + 100
=> MC = 3Q + 60
The profit is maximum when MR = MC
So 3Q + 60 = 250 – 2Q  5Q = 190  Q* = 38
=> P* = 250 – 38 = 212
The maximum profit:
𝜋 = TR – TC = 212Q- (1,5𝑄2 + 60Q + 100) =152Q – 1,5𝑄2 – 100

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 = 3510

d. The Gorvernment imposes a fixed tax amount of $200 on producer (a lump

sum tax ), thus we have the new total cost function:
TC = 1,5𝑄2 + 40Q + 100 +200 = 1,5𝑄2 + 40Q + 300
=> MC = 3Q + 40
Similar to part a: Q* = 42
P* = 208
Π = 42*208- (1,5*422 +40*42+ 300) = 4110

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