Question

Assume that there are two types of radios on the market: good radios and bad radios. Of the firms that manufacture radios, 50% produce good radios and 50% produce bad radios. A good radio does not break for five years, while a bad radio has a 50% chance of breaking when it is first used. If the bad radio does not break immediately, it works for five years, just like the good radio. A good radio is worth $100 to consumers, and a bad radio is worth nothing.

a) What is the maximum price any consumer would be willing to pay for a radio if both types of firms produce radios? (1 mark)

b) If it costs $55 to manufacture each radio, will any firms want to produce radios?
 


c) If it costs $50 to manufacture each radio, which firms will want to produce radios?
 


d) Suppose that it costs $50 to manufacture each radio and $20 to repair a broken radio. Also suppose that the firms that produce good radios give a warranty in which they promise to repair any radio that breaks within five years of purchase. If the price of radios were to rise above $50, which type of firm would issue a warranty? If the price rose to $60, which type of firm would offer a warranty? Can warranties signal quality? What is the equilibrium price for radios in the market? 


Reference: university exercise

Answer 1

Part A

The consumer is willing to pay the $50 for the radio as the cost

because there is ratio of 50% of all radios the radios can be good or bad

Part B

NO , If the cost of producing the radio is $50 then no one will manufacture it because it has no profit and there is loss even of $5 on each unit and in thi condition no on is doing business in this situation

Part C

Here if the cost of the radio would be $50 then the firm producinf bad radios can start manufacturing because 50% of the consumers facing issues and will repurchase the radios and it will increase there sales in short term and having profits within no time limits.

Part D

If the price of the radio rise above 50$ both firms can give warranty because it will give extra earnings as $20 in each and every repair

if price would be$60 then both firms can give the warranty

the warranty does not shows the quality aspect its just to attract the more customers and will have more earnings on the name of the repairing amount

the equillibrium price of the radio can be $50