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Man Econ Ass. Module 6

The firm has fixed costs of $20 and marginal costs of 4Q. Given the market price of $10, the profit-maximizing output is 2.5 units, but this will result in losses of $7.5. Therefore, in the long run the firm should shut down. Pic Industries, facing lower plastic input costs, can increase output and profits in the short run by keeping prices unchanged, as competitors have not experienced similar cost reductions. To turn around sales, Keds should have diversified styles while keeping the basic canvas design, used aggressive advertising emphasizing price and color advantages over competitors, and provided customer loyalty incentives. Detergent and soap companies hope to achieve short-term profits

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352 views2 pages

Man Econ Ass. Module 6

The firm has fixed costs of $20 and marginal costs of 4Q. Given the market price of $10, the profit-maximizing output is 2.5 units, but this will result in losses of $7.5. Therefore, in the long run the firm should shut down. Pic Industries, facing lower plastic input costs, can increase output and profits in the short run by keeping prices unchanged, as competitors have not experienced similar cost reductions. To turn around sales, Keds should have diversified styles while keeping the basic canvas design, used aggressive advertising emphasizing price and color advantages over competitors, and provided customer loyalty incentives. Detergent and soap companies hope to achieve short-term profits

Uploaded by

Trisha Mae Aboc
Copyright
© © All Rights Reserved
We take content rights seriously. If you suspect this is your content, claim it here.
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Download as DOCX, PDF, TXT or read online on Scribd
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1) If the market demand and supply functions for Beta Industries manufactures floppy disks that

consumers perceive as identical to those produced by numerous other manufacturers. Recently, Beta hired
an econometrician to estimate its cost function for producing boxes of one dozen floppy disks. The
estimated cost function is C = 20 + 2Q2.

a. What are the firm's fixed costs?


From C = 20 + 2Q2, the Fixed Cost is 20

b. What is the firm's marginal cost?


Derivation of C = 20 + 2Q2 to MC = 20 + 4Q
Firm’s Marginal Cost is 4Q

Now suppose other firms in the market sell the product at a price of P10.
c. How much should this firm charge for the product?
Also at P10

d. What is the optimal level of output to maximize profits?


P = MC(Q)
10 = 4Q
Q = 2.5 units

e. How much profit will be earned?


Profit = C(Q) – 20 + 2Q2
= (10 x 2.5) – (20 + 2(2.5)2)
= 25 – 32.5
= -P7.5 LOSS
f. In the long run, should this firm continue to operate or shut
down? Why?
No. Since the firm is going to have losses of P7.5, in the long run the firm will shut down.

2) Pic Industries produces plastic toothpicks that it sells to distributors in the Southwest. During the early
1990s, the price of the plastic it uses to produce toothpicks fell by 46 percent, due to a local glut of
recycled plastic containers. Assuming that the market for plastic toothpicks most closely resembles that of
perfect competition and that other firms in the industry do not experience similar cost savings in the short
run, what impact would this have on the profit-maximizing output, price, and profits of Pic Industries?

In order to optimize profits, Pic Industries is expected to increase its outputs as the cost of
producing its product has decreased and this will mean higher profits in the short term.
Furthermore, the price of their product would remain unchanged since other firms in the industry
did not experience similar cost savings.

3) Keds–the traditional maker of white canvas tennis shoes–was near oblivion in the early 1980s because
competitors like Nike, Reebok, Adidas, and Brooks took away many of its customers. If you were at the
helm of Keds, what would you have done to turn the company around?

The tennis shoes market is a very similar market to that of monopolistic competition. Therefore, a
reasonable approach for Keds would have been for Keds to increase the range of color and style while
preserving a simple, comfortable canvas design. At the same time, it could have used aggressive
advertising to emphasize the pricing and color advantages of its canvas design over the competition. In
addition, the company could have given loyal customers incentives such as points or discounts for every
purchased item.
4) Manufacturers of laundry detergent and dishwashing soap reinvest a relatively large percentage of their
sales revenues on advertising campaigns. Most of these advertisements that appear on television stress the
fact that their product is "New and Improved." Why?

The laundry detergents market is monopoly competitive, and businesses thus tend to achieve zero long-
term economic profits. The companies hope that they will make short-term profits through the continuous
publicity of new and enhanced features of their products.

5) Suppose the cost function for your firm is: C = 50 + 4Q + 2Q2


a. What is the average fixed cost of producing 5 units of output?
From C = 50 + 4Q + 2Q2, , 50 is the fixed cost.
AFC(5) = 50/5 = P10

b. What is the average variable cost of producing 5 units of output?


From C = 50 + 4Q + 2Q2, , 4Q + 2Q2 is the equations for variable cost
VC (5) = 4(5) + 2(5)2 = P70
Thus, AVC(5)= 70/5 = P14

c. What are the average total cost and marginal cost of producing 5 units of output?
ATC(5) = AVC(5) + AFC(5)
= 14 + 10
= P24

6) Philippine Airlines (PAL) experienced huge losses for several years in the 1990s, yet it continued to
operate its fleets. Why didn't (PAL) shut down its operations to avoid the losses?

The company was concerned for its variable costs (fuel costs, pilots, mechanics, flight staff, etc.). If its
service had shut down, losses would have been much more serious because of the high fixed cost of its
aircraft fleet.

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