ECON2Z03 Chapter 9 Tutorial

1. The demand and supply functions for basic cable TV in the local market are given as:
QD = 200,000 - 4,000P and QS = 20,000 + 2,000P. Calculate the consumer and producer surplus in this market.
If the government implements a price ceiling of $15 on the price of basic cable service, calculate the new levels
of consumer and producer surplus. Are all consumers better off? Are producers better off?

2. Consider a perfectly competitive market. The total and marginal cost functions for a typical soft coal producer
are:
TC = 75,000 + 0.1Q2 and MC = 0.2Q
where Q is measured in railroad cars per year. The industry consists of 55 identical producers. The market
demand curve is:
QD = 140,000 - 425P,
where P is the price per carload. The market can be regarded as competitive.

a. Calculate the short run equilibrium price and quantity in the market. Calculate the quantity that each firm
would produce. Calculate producer surplus, consumer surplus, and total surplus at the equilibrium values.
Calculate the firm's profit (or loss).
b. The Federal government is considering the imposition of a $15 per carload tax on soft coal. Calculate the
short-run equilibrium price and quantity that would exist under the tax. What portion of the tax would be paid
by producers and what portion by consumers? Calculate the producer and consumer surplus under the tax and
analyze the efficiency consequences of the tax. Calculate the firm's profit (or loss) under the tax. Could the tax
be justified despite its efficiency implications?

3. The market demand and supply functions for pork are: QD = 2,000 - 500P and QS = 800 + 100P. To help pork
producers, the U.S. Congress is considering legislation that would put a price floor at $2.25 per unit. If this price
floor is implemented, how many units of pork will the government be forced to buy to keep the price at $2.25?
How much will the government spend in total? How much does producer surplus increase?

4. The market demand and supply functions for imported beer are: QD = 48,000 - 406.25P and
QS = 1,781.25P - 22,000. To encourage the consumption of domestic beer, Congress has imposed a quota of
25,000 units of imported beer. Calculate the change in producer surplus from this legislation.

1
Answer Key
Testname: ECON2Z03 CHAPTER 9 TUTORIAL

1. First we must determine the market equilibrium quantity and price. To do this, we set quantity demanded equal to
quantity supplied and solve for equilibrium price.
QD = 200,000 - 4,000P = QS = 20,000 + 2,000P P = 30. At a price of $30, the quantity exchanged will be: 80,000. The
choke price (lowest price such that no units are transacted) is $50.
1
The consumer surplus is CS = (50 - 30) 80,000 = 800,000.
2
1
Producer surplus is PS = 30(20,000) + (80,000 - 20,000)30 = 1,500,000.
2
If a price ceiling of $15 is implemented, producers will only bring 50,000 units to the market.

Consumer surplus is CS' = 0.5(50,000)(50 - 37.5) + (50,000)(37.5 - 15)

= 312,500 + 1,125,000 = 1,437,500
1
Producer surplus becomes PS = 20,000(15) + (50,000 - 20,000)15 = 525,000.
2
In this example, consumer surplus has risen by 637,500. However, not all consumers are better off as the price ceiling
brings about a shortage. That is, some consumers are willing to pay $15 for cable TV yet are unable to get it. Producer
surplus shrinks by 65% due to the price ceiling. Producers are worse off.
2. a.
To find market supply curve begin by finding firm's supply curve.
Firm's supply curve is MC curve (in this case all of MC lies above AVC):
Solve for Q in terms of MC = P:
MC = 0.2Q
Q = 5P
Market short-run supply is the horizontal sum of firm supply. There are 55 firms in the market, so market supply is 55
times the individual firm's supply.
QS = 275P

Equate QD and QS to determine P and Q.

275P = 140,000 - 425P
700P = 140,000
P = $200
Q = 275(200)
Q = 55,000

Individual firm equates P to MC:

200 = 0.2Q
Q = 1,000
= TR - TC
TR = (200)(1000)
TR = 200,000
TC = 75,000 + 0.1(1000)2
TC = 175,000
= 25,000

Producer and consumer surplus:

Solve for P in terms of Q.
QS = 275P
P = 0.0036Q

2
Answer Key
Testname: ECON2Z03 CHAPTER 9 TUTORIAL

QD = 140,000 - 425P
P = 329.41 - 0.0024Q

Producer surplus = 0.5(55,000)(200) = 5,500,000

Consumer surplus = 0.5(55,000)(329.41 - 200) = 3,558,775
Total of producer and consumer surplus is
3,558,775 + 5,550,000 = 9,058,775

b.
Pb = buyer's price
Ps = seller's price (net of tax)
Pb - Ps = 15 = tax
QD = 140,000 - 425 Pb is market demand
QS = 275 Ps is market supply
Set supply equal to demand:
140,000 - 425 Pb = 275 Ps
Pb = Ps + 15
140,000 - 425 (Ps + 15) = 275 Ps
140,000 - 425 Ps - 6,375 = 275 Ps
Ps = 190.89
Pb = Ps + 15 = 205.89
Consumers pay:
Pb - Po = 205.89 - 200 = 5.89, 5.89/15*100=39.27% . Consumers bear 39.27% of the tax.
Producers pay:
Po - Ps = 200 - 190.89 = 9.11, 9.11/15*100=60.73%. Producers bear 60.73% of the tax.
Plug Ps into the supply equation to get quantity:
Q = Qs = 275 Ps = 275(190.89) = 52,495
(If you plug Pb into the demand equation instead your answer will differ slightly due to rounding.)

Individual firm equates P to MC:

205.89 = 0.2Q + 15
3
Answer Key
Testname: ECON2Z03 CHAPTER 9 TUTORIAL

Q = 954.5
= TR - TC
TR = 205.89(954.50)
TR = 196,522
TC = 75,000 + 0.1Q2 + 15Q
TC = 180,424.53
= 16,097.48
Profit fell from 25,000 to 16,097.48.
Producer and Consumer Surplus:
Demand curve remains: P = 329.41 - 0.0024Q
Solve for P in terms of QS.
QS = -4125 + 275P
275P = QS + 4,125
P = 15 + 0.0036 Q

5,010,576.17
Producer surplus = 0.5(52,497)(190.89) =
Consumer surplus = 0.5(52,497)(329.41 - 205.89) = 3,242,214.72 tax revenue=52,497*15=787,455
P.S.+C.S.+tax revenue=9,040,245.89
Total surplus fell from 9,058,775 to 9,040,245.89.
There is a welfare loss as indicated by the loss in total surplus. The tax could be justified by known externalities of soft
coal.

4
Answer Key
Testname: ECON2Z03 CHAPTER 9 TUTORIAL

3. First we must determine the market equilibrium quantity and price. To do this, we set quantity demanded equal to
quantity supplied and solve for equilibrium price.
QD = 2,000 - 500P = QS = 800 + 100P P = 2. At a price of $2, the quantity exchanged will be: 1,000. The choke price
1
(lowest price such that no units are transacted) is $4. The consumer surplus is CS = (4 - 2)1,000 = 1,000. Producer
2
1
surplus is PS = 2(800) + (1,000 - 800)2 = 1,800. If a price floor of $2.25 per unit is implemented, consumers will
2
purchase 875 units. However, producers will bring 1,025 units to the market. The government will be forced to buy
1
up the surplus 150 units at $2.25 per unit. Consumer surplus is: CS = (4 - 2.25)875 = 765.625. Producer surplus is
2
1
PS = 2.25(800) + (1,025 - 800)2.25 = 2,053.125. Government spending is $337.50. Producer surplus increases by
2
$253.125 or 14.1%. Consumer surplus falls by over 23%.
4. First we must determine the market equilibrium quantity and price before the quota. To do this, we set quantity
demanded equal to quantity supplied and solve for equilibrium price.
QD = 48,000 - 406.25P = QS = 1,781.25P - 22,000 P = 32. At a price of $32, the quantity exchanged will be: 35,000.
The choke price (lowest price such that no units are transacted) is $118.15. The highest price such that no beer will be
imported is $12.35. Consumer surplus is
1 1
CS = (118.15 - 32) 35,000 = 1,507,625. Producer surplus is PS = (32 - 12.35) 35,000 = 343,875. If a quota of 25,000
2 2
units is implemented, consumers will bid the market price up to $56.62 for each of the units.

The new PS=(56.62-26.39)*25,000+0.5*(26.39-12.35)*25,000=931,250

Producer surplus increases.