2001 Micro Free Response

1.    (a)    Assume that a profit maximizing firm in a perfectly competitive industry is earning economic profits.  For a given market price, draw a correctly labeled graph and show each of the following for a typical firm in this perfectly competitive industry.

(i)    Marginal revenue
(ii)    Output
(iii)    Economic Profits

(b)    Using the information in (a), draw correctly labeled side-by-side graphs for the industry and a typical firm.

(i)    Given the existence of economic profits of the typical firm, show on the graphs how the industry adjusts in the long run and explain the process that leads to the long-run equilibrium.

(ii)    Show on the graphs each of the following for the industry and for the typical firm in long-run equilibrium.

(c)    Now assume that the Economics sets a price that is less than the equilibrium price but greater than average variable cost.  Indicate how each of the following will change for the typical firm and explain why the change occurs.

(i)    Marginal revenue
(ii)    Level of output
(iii)    Short-run total cost
(iv)    Short-run total revenue

Answer to #1

2.    Assume that product X is produced in a perfectly competitive industry and that product X yields costs to individuals who are neither consumers nor producers of product X.

(a)  Using one correctly labeled graph, show the industry output and price under each of the following conditions.

(i)  The industry ignores the externality.
(ii)  The industry produces the socially optimum level of output.

Assume that the market is producing the level of output you identified in (i).

(b)  Identify one policy the Economics might use to achieve the level of output you identified in (ii).

Answer to #2

3.    Sparkle Car Wash is a profit-maximizing firm with the following production information.

Number of Workers

Number of Cars Washed per Day

0 0
1 15
2 35
3 60
4 75
5 85



(a)    With which worker is marginal product maximized?
(b)    Identify and define the economic principle that explains why marginal product eventually decreases.
(c)    Explain why Sparkle would never hire the sixth worker.
(d)    If Sparkle charges $6 for washing a car, what is the maximum daily wage that Sparkle would be willing to pay the fourth worker?

Answer to #3

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