38 Review and Practice

Concept Problems

1. Explain how each of the assumptions of perfect competition contributes to the fact that all decision makers in perfect competition are price takers.
2. If the assumptions of perfect competition are not likely to be met in the real world, how can the model be of any use?
3. Explain the difference between marginal revenue, average revenue, and price in perfect competition.
4. Suppose the only way a firm can increase its sales is to lower its price. Is this a perfectly competitive firm? Why or why not?

5. Consider the following goods and services. Which are the most likely to be produced in a perfectly competitive industry? Which are not? Explain why you made the choices you did, relating your answer to the assumptions of the model of perfect competition.

   1. Coca-Cola and Pepsi
   2. Potatoes
   3. Private physicians in your local community
   4. Government bonds and corporate stocks
   5. Taxicabs in Lima, Peru—a city that does not restrict entry or the prices drivers can charge
   6. Oats
6. Explain why an economic profit of zero is acceptable to a firm.
7. Explain why a perfectly competitive firm whose average total cost exceeds the market price may continue to operate in the short run. What about the long run?
8. You have decided to major in biology rather than computer science. A news report suggests that the salaries of computer science majors are increasing. How does this affect the opportunity cost of your choice?

9. Explain how each of the following events would affect the marginal cost curves of firms and thus the supply curve in a perfectly competitive market in the short run.

   1. An increase in wages
   2. A tax of $1 per unit of output imposed on the seller
   3. The introduction of cost-cutting technology
   4. The imposition of an annual license fee of $1,000
10. In a perfectly competitive market, who benefits from an event that lowers production costs for firms?
11. Dry-cleaning establishments generate a considerable amount of air pollution in producing cleaning services. Suppose these firms are allowed to pollute without restriction and that reducing their pollution would add significantly to their production costs. Who benefits from the fact that they pollute the air? Now suppose the government requires them to reduce their pollution. Who will pay for the cleanup? (Assume dry cleaning is a perfectly competitive industry, and answer these questions from a long-run perspective.)
12. The late columnist William F. Buckley, commenting on a strike by the Teamsters Union against UPS in 1997, offered this bit of economic analysis to explain how UPS had succeeded in reducing its average total cost: “UPS has done this by ‘economies of scale.’ Up to a point (where the marginal cost equals the price of the marginal unit), the larger the business, the less the per-unit cost.” Use the concept of economies of scale, together with the information presented in this chapter, to explain the error in Mr. Buckley’s statement (Buckley, W. F., 1997).
13. Suppose that a perfectly competitive industry is in long-run equilibrium and experiences an increase in production cost. Who will bear the burden of the increase? Is this fair?
14. Economists argue that the ultimate beneficiaries of the efforts of perfectly competitive firms are consumers. In what sense is this the case? Do the owners of perfectly competitive firms derive any long-run benefit from their efforts?
15. Explain carefully why a fixed license fee does not shift a firm’s marginal cost curve in the short run. What about the long run?
16. Explain the difference between the marginal product of a factor and the marginal revenue product of a factor. What factors would change a factor’s marginal product? Its marginal revenue product?
17. In perfectly competitive input markets, the factor price and the marginal factor cost are the same. True or false? Explain.
18. Many high school vocational education programs are beginning to shift from an emphasis on training students to perform specific tasks to training students to learn new tasks. Students are taught, for example, how to read computer manuals so that they can more easily learn new systems. Why has this change occurred? Do you think the change is desirable?
19. How would an increase in the prices of crops of fresh produce that must be brought immediately to market—so-called truck crops—affect the wages of workers who harvest those crops? How do you think it would affect the quantity of labor supplied?
20. If individual labor supply curves of all individuals are backward bending, does this mean that a market supply curve for labor in a particular industry will also be backward bending? Why or why not?
21. There was an unprecedented wave of immigration to the United States during the latter third of the nineteenth century. Wages, however, rose at a rapid rate throughout the period. Why was the increase in wages surprising in light of rising immigration, and what probably caused it?
22. Suppose you were the economic adviser to the president of a small underdeveloped country. What advice would you give him or her with respect to how the country could raise the productivity of its labor force? (Hint: What factors increase labor productivity?)
23. The text argues that the effect of a minimum wage on the incomes of workers depends on whether the demand for their services is elastic or inelastic. Explain why.
24. How would a successful effort to increase the human capital of unskilled workers affect their wage? Why?
25. Does the Case in Point on computer technology and labor demand suggest that bank tellers and automatic tellers are substitutes or complements? Explain.
26. What does the airline pilot’s supply curve in the Case in Point on how she has dealt with wage cutbacks look like? Does the substitution effect or the income effect dominate? How do you know?
27. Given the evidence cited in the Case in Point on the increasing wage gap between workers with college degrees and those who have only completed high school, how has the greater use by firms of high-tech capital affected the marginal products of workers with college degrees? How has it affected their marginal revenue product?

28. Explain how each of the following events would affect wages in a particular labor market:

    1. an increase in labor productivity in the market.
    2. an increase in the supply of labor in the market.
    3. an increase in wages in another labor market that can be easily entered by workers in the first labor market.
    4. a reduction in wages in another market whose workers can easily enter the first market.
    5. an increase in the price of the good labor in the market produces.
29. How can a supply curve for labor be backward bending? Suppose the equilibrium wage occurs in the downward-sloping portion of the curve. How would an increase in the demand for labor in the market affect the wage? How would this affect the quantity of labor supplied?

30. How do you think a wage increase would affect the quantity of labor supplied by each of the following speakers?

    1. “I want to earn as much money as possible.”
    2. “I am happy with my current level of income and want to maintain it.”
    3. “I love my work; the wage I’m paid has nothing to do with the amount of work I want to do.”
    4. “I would work the same number of hours regardless of the wage I am paid.”

Numerical Problems

1. 31. The graph below provides revenue and cost information for a perfectly competitive firm producing paper clips.

       Output (in Thousands)	Total Revenue	Total Variable Cost	Total Fixed Cost
       1	$1,500	$1,500	$500
       2	$3,000	$2,000	$500
       3	$4,500	$2,600	$500
       4	$6,000	$3,900	$500
       5	$7,500	$5,000	$500

       1. How much are total fixed costs?
       2. About how much are total variable costs if 5,000 paper clips are produced?
       3. What is the price of a paper clip?
       4. What is the average revenue from producing paper clips?
       5. What is the marginal revenue of producing paper clips?
       6. Over what output range will this firm earn economic profits?
       7. Over what output range will this firm incur economic losses?
       8. What is the slope of the total revenue curve?
       9. What is the slope of the total cost curve at the profit-maximizing number of paper clips per hour?
       10. At about how many paper clips per hour do economic profits seem to be at a maximum?

   32. Suppose rocking-chair manufacturing is a perfectly competitive industry in which there are 1,000 identical firms. Each firm’s total cost is related to output per day as follows:

       Quantity	Total cost	Quantity	Total cost
       0	$500	5	$2,200
       1	$1,000	6	$2,700
       2	$1,300	7	$3,300
       3	$1,500	8	$4,400
       4	$1,800

       1. 1. Prepare a table that shows total variable cost, average total cost, and marginal cost at each level of output.
          2. Plot the average total cost, average variable cost, and marginal cost curves for a single firm (remember that values for marginal cost are plotted at the midpoint of the respective intervals).
          3. What is the firm’s supply curve? How many chairs would the firm produce at prices of $350, $450, $550, and $650? (In computing quantities, assume that a firm produces a certain number of completed chairs each day; it does not produce fractions of a chair on any one day.)

       33. Suppose the demand curve in the market for rocking chairs is given by the following table:

       Price	Quantity of chairs Demanded/day	Price	Quantity of chairs Demanded/day
       $650	5,000	$450	7,000
       $550	6,000	$350	8,000

       a. Plot the market demand curve for chairs.

       b. Compute and plot the market supply curve, using the information you obtained for a single firm in Question 32.

       c. What is the equilibrium price?

       d. The equilibrium quantity?

       e. Given your solution in part (d), plot the total revenue and total cost curves for a single firm.

       f. Does your graph correspond to your solution in part (c)? Explain.

34. The following table shows the total output, total revenue, total variable cost, and total fixed cost of a firm. What level of output should the firm produce? Should it shut down? Should it exit the industry? Explain.

1. Suppose a rise in fuel costs increases the cost of producing oats by $0.50 per bushel. Illustrate graphically how this change will affect the oat market and a single firm in the market in the short run and in the long run.
2. Suppose the demand for car washes in Collegetown falls as a result of a cutback in college enrollment. Show graphically how the price and output for the market and for a single firm will be affected in the short run and in the long run. Assume the market is perfectly competitive and that it is initially in long-run equilibrium at a price of $12 per car wash. Assume also that input prices don’t change as the market responds to the change in demand.

35. Suppose that the market for dry-erase pens is perfectly competitive and that the pens cost $1 each. The industry is in long-run equilibrium. Now suppose that an increase in the cost of ink raises the production cost of the pens by $.25 per pen.

1. Using a graph that shows the market as a whole and a typical firm in this market, illustrate the short run effects of the change.
2. Is the price likely to rise by $.25? Why or why not?
3. If it doesn’t, are firms likely to continue to operate in the short run? Why or why not?
4. What is likely to happen in the long run? Illustrate your results with a large, clearly labeled graph.

36. Felicia Álvarez, a bakery manager, faces the total product curve shown, which gives the relationship between the number of bakers she hires each day and the number of loaves of bread she produces, assuming all other factors of production are given.

    Number of bakers per day	Loaves of bread per day
    0	0
    1	400
    2	700
    3	900
    4	1,025
    5	1,100
    6	1,150

    Assume that bakers in the area receive a wage of $100 per day and that the price of bread is $1.00 per loaf.

    1. Plot the bakery’s marginal revenue product curve (remember that marginal values are plotted at the mid-points of the respective intervals).
    2. Plot the bakery’s marginal factor cost curve on the same graph.
    3. How many bakers will Ms. Álvarez employ per day?
    4. Suppose that the price of bread falls to $.80 per loaf. How will this affect the marginal revenue product curve for bakers at the firm? Plot the new curve.
    5. How will the change in (d) above affect the number of bakers Ms. Álvarez hires?
    6. Suppose the price of bread rises to $1.20 per loaf. How will this affect the marginal revenue product curve for bakers? Plot the new curve.
    7. How will the development in (f) above affect the number of bakers that Ms. Álvarez employs?

37. Suppose that wooden boxes are produced under conditions of perfect competition and that the price of a box is $10. The demand and supply curves for the workers who make these boxes are given in the table.

    Wage per day	Workers demanded	Workers supplied
    $100	6,000	12,000
    80	7,000	10,000
    60	8,000	8,000
    40	9,000	6,000
    20	10,000	4,000

    Plot the demand and supply curves for labor, and determine the equilibrium wage for box makers.

38. Assume that the market for nurses is perfectly competitive, and that the initial equilibrium wage for registered nurses is $30 per hour. Illustrate graphically how each of the following events will affect the demand or supply for nurses. State the impact on wages and on the number of nurses employed (in terms of the direction of the changes that will occur).

    1. New hospital instruments reduce the amount of time physicians must spend with patients in intensive care and increase the care that nurses can provide.
    2. The number of doctors increases.
    3. Changes in the labor market lead to greater demand for the services of women in a wide range of occupations. The demand for nurses, however, does not change.
    4. New legislation establishes primary-care facilities in which nurses care for patients with minor medical problems. No supervision by physicians is required in the facilities.
    5. The wage for nurses rises.

39. Plot the supply curves for labor implied by each of the following statements. In this problem, actual numbers are not important; rather you should think about the shape of the curve.

    1. “I’m sorry, kids, but now that I’m earning more, I just can’t afford to come home early in the afternoon, so I won’t be there when you get home from school.”
    2. “They can pay me a lot or they can pay me a little. I’ll still put in my 8 hours a day.”
    3. “Wow! With the raise the boss just gave me, I can afford to knock off early each day.”

40. At an hourly wage of $10 per hour, Marcia Fanning is willing to work 36 hours per week. Between $30 and $40 per hour, she is willing to work 40 hours per week. At $50 per hour, she is willing to work 35 hours per week.

    1. Assuming her labor supply curve is linear between the data points mentioned, draw Ms. Fanning’s labor supply curve.
    2. Given her labor supply curve, how much could she earn per week at the wage of $10 per hour? $30 per hour? $40 per hour? $50 per hour?
    3. Does the substitution or income effect dominate wages between $10 and $30 per hour? Between $30 and $40 per hour? Between $40 and $50 per hour?
    4. How much would she earn at each hypothetical wage rate?

41. Jake Goldstone is working 30 hours per week. His marginal utility of income is 2, his marginal utility of leisure is 60, and his hourly wage is $20. Assume throughout this problem that the income effect is zero.

    1. Is Mr. Goldstone maximizing his utility?
    2. Would working more or less increase his utility?
    3. If his wage rose to $30 per hour, would he be maximizing his utility by working 30 hours per week? If not, should he work more or fewer hours?
    4. At a wage of $40 per hour, would he be maximizing his utility? If not, would working more or less than 30 hours per week increase his utility?

42. The table below describes the perfectly competitive market for dishwashers.

1.  Draw the demand and supply curves for dishwashers.
2. What is the equilibrium daily wage rate and quantity of dishwashers?
3. What is the total (i.e., cumulative) daily income of dishwashers at the equilibrium daily wage?
4. At a minimum daily wage of $200 per day, how many dishwashers will be employed? How many will be unemployed? What will be the total daily income of dishwashers?
5. At a minimum wage of $250 per day, how many dishwashers will be employed? How many will be unemployed? What will be the total daily income of dishwashers?