Due Wednesday December 8th in class. You are encouraged to work with your classmates to
determine solutions to these problems, but you must prepare unique, individual answers for
grading. Late homework assignments will not be accepted under any circumstances.
1. Explain what a cartel is and the difficulties faced in maintaining a cartel.
2. Does an oligopoly produce the efficient quantity of output or does it create a
deadweight loss? Do the firms want to produce the efficient quantity of output? Explain
your answer.
Price (dollars per unit) Quantity demanded (units)
30 0
25 10
20 20
15 30
10 40
5 50
0 60
3. The table above has the market demand schedule in an industry that has two firms in it.
The marginal cost of this product is zero because these two firms have exclusive
ownership of the resource and it does not cost any additional amount to produce
additional units.
a) If the firms cooperate with each other so that they operate as a monopoly, what price
will they charge and what (total) output will they produce?
b) If the firms cannot cooperate but instead behave as perfect competitors, what will be
the price and the (total) output they produce?
4. Nimbus, Inc., and Cleansweep, Inc., are the only producers of flying brooms. Each firm
has two strategies: Spend 30,000 galleons a year on research and development (R&D) or
spend nothing on R&D. If neither firm spends on R&D, Nimbus' economic profit is 80,
000 galleons and Cleansweep's economic profit is 40,000 galleons. If each firm conducts
R&D, market shares are maintained, but each firm's profit is lower by the amount spent
on R&D. If Nimbus conducts R&D and Cleansweep does not, Nimbus makes an economic
profit of 120,000 galleons, while Cleansweep incurs an economic loss of 20,000 galleons.
If Cleansweep con-ducts R&D and Nimbus does not, Cleansweep makes a profit of
60,000 galleons while Nimbus loses 10,000 galleons.
a) Construct a payoff matrix for the game that Nimbus and Cleansweep must play.
b) Find the Nash equilibrium. In the Nash equilibrium, what is each firm's equilibrium
profit?
c) What is the cooperative outcome? Would the firms make more economic profit if they
collude to achieve the cooperative outcome?
5. Why does a profit-maximizing firm hire labor up to the point where the value of
marginal product equals the wage rate?
6. Why does the labor supply curve eventually bend backwards?
Quantity of labor Marginal product Value of marginal product, Value of marginal product,
(pounds per hour) $2 per pound(dollars) $1 per pound (dollars)
1 8
2 10
3 7
4 5
5 4
7. Tom and Mary own a perfectly competitive tomato farm. They can hire different
numbers of college students to help plant, cultivate, and harvest the tomatoes. The
above table gives their marginal product schedule.
a) If the price of a pound of tomatoes is $2 a pound, complete the first value of marginal
product column in the table. If Tom and Mary must pay their workers $10 an hour, how
many workers do they hire?
b) If the price of a pound of tomatoes falls to $1 a pound, complete the second value of
marginal product column in the table. If Tom and Mary still must pay their workers $10
an hour, how many workers do they hire?
c) When the price of a pound of tomatoes falls, what happens to Tom and Mary's demand
for labor curve?
8. Why does a firm maximize its profits by hiring so that VMP = W?