Economics Model Answers Seven

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Introductory: 1. The best friend of free enterprise is ___________.

Competition.

2. Describe how you can use competition to help motivate yourself to accomplish a goal.

Trying to be the best in the class, or simply improve over how you did in a prior class or earlier homework or exam.

3. Until Conservapedia.com began, Wikipedia.com did not have any competition. What often happens to a firm or service when there is no competition? Why?

Without competition, motivation and quality decline. Inefficiency increases. People have less of a reason to try. A famous slogan of the car rental company Avis was, "We're number two. We try harder.

Intermediate: 4. Suppose you own a widget factory having fixed costs of $10,000. In addition to the $10,000, you have variable costs of $2,500 for each widget you make. Worse, the factory can make only 3 widgets in an entire year! Your widget sells for $5,000. Someone offered to buy your factory for $10,000. Should you sell it?

It depends on what portion of the fixed costs are recurring. There is a profit of $2,500 on every widget that is made, or $7,500 for each year. If less than $2,500 of the fixed costs are recurring on an annual basis (e.g, rental payments), then you would have an annual profit.

5. One day, you visit Wal-Mart to see if you can sell it some widgets. Wal-Mart said it has good new and bad news. The good news is that it wants high volume. The bad news is that it wants a price so low that your MC=MR for every unit sold to it. Should you agree? Explain.

Yes, you probably should agree. Even though your company is not making profits on this, Wal-Mart is paying for your costs (including salaries and advertising).

6. Suppose you own a company that has marginal cost (MC) = $9, average total cost (total cost divided by total output) = $11, average variable cost (average cost of variable inputs, like labor and materials) = $5 and price of the sold good (P) = $8. Should you make any additional goods at these numbers? Should you shut down your company?

Because MC>P, don't make any more goods. But don't shut down the company either, because P exceeds average variable cost. The owners are doing better than if they shut down.

7. Suppose you are running a dinner event at a free facility that has 24 tables seating 8 apiece. Your marginal cost (MC) is $15 per person. Suppose your speaker costs $3500 in fees and expenses. Suppose your demand curve is this: at price P=$15, quantity Q=200; at P=$35, Q=120; at P=$50, Q=70; at P=$60, Q=40; at P=$150, Q=7. How would you price and market your tickets?

The total cost at capacity seating is $3500 plus (24x8x$15=$2880) = $6380. P=$35 does not attract enough people to cover that expense. Only price discrimination, or charging different people different amounts, is going to reach the goal. We would charge for one person $150 and we would draw a maximum of 7 people for revenue of $1050. Perhaps they could sit with the speaker. For a couple or two people we could charge $50 each and we would draw 70 couples for revenue of $3500. Perhaps those couples could receive preferred seating and also meet with the speaker. For a group of four or more we would charge $35 each and we would get 120 people for revenue of $4200. With this approach we might be able to cover expenses and even have some money left over.

Honors: 8. “One of the greatest benefits of competition is accountability.” How?

Those who waste time and money are defeated by the competition.

9. Describe an industry where you think competition is nearly perfect, and another industry where competition is far from perfect, and explain why for both.

Competition in the stock markets and dairy industry is nearly perfect. Competition in cable television and education is far from perfect.

10. Is competition always a good thing?

Competition is usually a good thing, but not when it leads to wrongful conduct.

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