Question

1. Suppose the market for fresh pork is a competitive market. Initially, it is operating at its long-run competitive equilibrium at a market price of $50. Owing to the spread of COVID-19, many people turn to buying frozen meat once a week rather than fresh pork every day. As a result, the market price of fresh pork reduces to $30.

a. With the aid of a pair of market-and-firm diagrams, illustrate how this would affect the equilibrium price and quantity in the fresh pork market and the output of a typical butcher of fresh pork in the short-run.

b. Suppose, for the situation in (a), the average cost of a typical butcher of fresh pork is $40, which includes $15 on buying meat from suppliers, $12 on paying rent, $8 on paying hourly wages on staff, and $5 on other costs. Explain whether a typical butcher should shut down in the short run.

2. a. Show the output, price and profits of a monopoly in a well-labeled diagram.

b. Suppose the government imposes a lump-sum tax of $200,000 on this monopoly in (a). In words, explain whether this will affect your answers to (a).

Answer 1

QUESTION 1. The pork firm and market:

a.

a. As we see in the graph, due to fall in demand, the market demand curve shifts to the left, from D1 to D2. The price falls to $30, Equilibrium quantity falls to Q2. The butcher's ATC is above price when price = $50. So he is making profits. But when price falls to $30, he is charging price lower than ATC. But still his price is above AVC.

b. Butcher's average cost = $40. His average fixed cost = $12 (rent). Average variable cost = $28 (meat+wages+other costs). When price = $30, he is covering his cost of production. So he can continue to produce. He is still making a profit of $2 per unit. It is not yet time to shut down.

QUESTION 2:

a) the graph of monopoly:

  

In the graph above, we see that Q* is the quantity of output and P* is the price in a monopoly market. Profit = P*ESC.

b)

  

  

b. When a lumpsum tax of $200,000 is levied, answers to (a) remain the same for price and output, but change for profit of the monopolist.

reason: When tax is imposed on the monopolist, it is as if his fixed costs have increased. AC1 shifts upward to AC2. Now, his costs have increased, but output and price are the same. As a result of this shift, his profits reduce from P*ESC1 to P*ERC2. There is a decrease in the profits.