Question

A large share of the world supply of diamonds comes from Russia and South Africa. Suppose that the marginal cost of mining diamonds is constant at $3,000 per diamond, and the demand for diamonds is described by the following schedule:

Price (Dollars)	Quanity (Diamonds)
8,000	3,000
7,000	4,000
6,000	5,000
5,000	6,000
4,000	7,000
3,000	8,000
2,000	9,000
1,000	10,000

1. If there were many suppliers of diamonds, the price would be $____??? per diamond and the quantity sold would be ___??? diamonds.

2. If there were only one supplier of diamonds, the price would be $____???per diamond and the quantity sold would be ____??? diamonds.

Suppose Russia and South Africa form a cartel.

3. In this case, the price would be $____???per diamond and the total quantity sold would be ____??? diamonds. If the countries split the market evenly, South Africa would produce ____??? diamonds and earn a profit of $___???.

4. If South Africa increased its production by 1,000 diamonds while Russia stuck to the cartel agreement, South Africa's profit would DECREASE OR INCREASE to $____???.

5. Why are cartel agreements often not successful? CHOOSE ONE

One party has an incentive to cheat to make more profit.

Different firms experience different costs.

All parties would make more money if everyone increased production.

Answer 1

Marginal cost = $3000 per diamond.

1. If there were many suppliers of diamonds , which implies that market for diamonds were perfectly competitive. So, Price equals marginal cost. Hence, price= $3000 per diamond and quantity sold would be 8000 diamonds.

2. If there were only one supplier of diamonds, then quantity would be set where marginal cost (MC) equals marginal revenue (MR) . Because one supplier represents monopolist.

Price (thousands of dollars)	Quantity (Thousands)	Total revenue (Millions of dollars) = P(Q)	Marginal revenue (thousands of dollars)
8	3	24	-
7	4	28	4
6	5	30	2
5	6	30	0
4	7	28	-2
3	8	24	-4
2	9	18	-6
1	10	10	-8

The monopolist will maximise profit ar a price of $7000 per diamond because MR>MC at this. If P=$6000 , then MR<MC. Therefore, price =$7000 and quantity sold at this price = 4,000 diamonds.

3. Suppose Russia and South Africa form a cartel.

In this case, they would set price and quantity like a monopolist , where MR=MC . Therefore, price =$7000 per diamond and quantity sold would be 4000 diamonds.

If the countries split the market evenly, they would share total revenue of $28 million and costs of (3000)(4000) = $12 million, for a total profit of $(28-12) million=16 million. So each would produce 4000/2 = 2000 diamonds and get a profit of $16/2 = $ 8 million. It implies that if the countries split the market evenly, South Africa would produce 2000 diamonds and earn a profit of $8 milllion.

4. If South Africa increased its production by 1000 diamonds while Russia stuck to the cartel agreement. It implies that Russia produce 2000 diamonds and South africa produced 3000 diamonds . Then total quantity sold = 5000 diamonds. Therefore, the price would decline to $6000. South Africa's revenue woud rise to (3000)($6000) = $18 million and costs would be $(3000)(3000) = $9 million. So profit of South Africa = $(18 -9) million = $9 million. which is an increase of $1 million.

5. Cartel agreements are often not successful because one party has an incentive to cheat to make more profit . In this case, each could increase profit by $1 million by producing an extra thousand diamonds . However, if both countries did this, then profits would decline for both of them.