Question

Cynthia Ames is the mayor of Bulloch, TX. The city is debating an exclusive contract for IXP Inc. to install and supply ultra-high speed internet to all buildings in Bulloch. Ms. Ames tells you that the demand, marginal revenue, total cost, and marginal cost functions for ultra-high speed internet in Bulloch are given below: P = 28 − 0.0008Q MR = 28 − 0.0016Q T C = 120, 000 + 0.0006Q 2 MC = 0.0012Q, where Q = the number of internet subscribers and P = the price of monthly internet connection. Ms. Ames has hired you to answer the questions listed below. (a) What price and quantity would be expected if IXP is allowed to operate completely unregulated? (b) Ms. Ames has asked you to recommend a price and quantity that would maximize social (i.e., producer and consumer) welfare. Identify the social welfare-maximizing price and quantity. (c) Compare the economic efficiency implications of (a) and (b) above. Your answer need not include numerical calculations, but should include relevant diagrams to demonstrate deadweight loss. (d) Ms. Ames asks you if IXP will be able to stay in business if she implements your suggestion from (c). She suggests imposing average cost pricing, but confesses that she doesn’t know what it means because she read about it on www.howtobeamayor.com. Will IXP prefer your suggestion or average cost pricing? Be explicit (i.e., make supporting calculations) about why you think it will or will not prefer average cost pricing to what you suggested in (c).

Answer 1