Question

Paper bags are produced in a perfectly competitive market. Bemidji Bag Company produces paper bags in this market. The equilibrium price in the paper bag market is $400 per pallet.

1. (4 points) Briefly explain why Bemidji Bag will want to price at $400 per pallet and will be able to sell all the bags it wants to produce at this price. What is the price elasticity of demand for Bemidji Bag’s demand and how does this differ from the price elasticity of demand for paper bags overall? (Hint: Identify the characteristics of the product sold in any perfectly competitive market.)
2. (10 points) Bemidji Bag has a total variable cost of 50*Q² where Q denotes monthly production. Total fixed cost is $800 per day. Producing and selling how many pallets per day will maximize profit for Bemidji Bag?
3. (6 points) Presuming costs include both explicit and implicit costs, and that Bemidji Bag is a typical firm in this industry, is the industry in long run equilibrium? Please explain.

Answer 1

(a)

Bemidji Bag will want to sell at price $400 per pallet and will be able to sell all the bags it wants to because it operates in a competitive framework. A firm in a competitive framework is a part of a large number of sellers, each having negligible power to influence price. The price is market determined through industry where a large number of buyers as well as sellers exist. If Bemidji Bag tries to lower the price, it will incur losses, while if it tries to raise prices, it will not be able to sell any output since, given perfect knowledge in this framework, no buyer will be willing to buy from him. However, at the prevailing market prices, it will be able to sell any amount of output it wishes to.

Thus, Bemidji Bag's price elasticity for demand is infinite at the prevailing equilibrium price. However, the industry faces an elastic demand curve.

(b)

(c)