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The following are questions and exercises that will help you prepare for the midterm: Question 1: Suppose that the annual demand for prescription antidepressant such as Prozac, Paxil, and Zoloft is: P = 1,000 – 0.025 Q. The competitive supply curve is given by: P = 150 + 0.033 Q a. Suppose this market is competitive, calculate the equilibrium price and annual quantity of antidepressants. (20 points) Demand: P = 1,000 – 0.025 Q Supply: P = 150 + 0.033 Q The equilibrium quantity: 1,000 – 0.025 Q = 150 + 0.033 Q Q * = 14655.17 The equilibrium price: P = 1,000 – 0.025 Q = 633.62 b. Explain clearly in a diagram: the demand and supply curve, equilibrium price, consumer and producer surplus. (10 points) (Hint: the diagram will help you answer question c.) The demand and supply curve: c. Calculate the producer surplus and consumer surplus in this competitive equilibrium. (20 points) Based on the demand and supply curve, the consumer surplus (the yellow area) is: P Q 1000 40000 D 150 S 633.62 14655.17

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CS = 0.5 ( 14655.17 ) (1000 – 633.62) = \$ 2684680.592 The producer surplus (the green area) is: PS = 0.5 ( 14655.17 ) (633.62 - 150) = \$ 3543766.66 Unfortunately, the market for prescription antidepressant is not a competitive market. Through advertising, excess capacity, patents etc, pharmaceutical companies have some degrees of market power. They can increase the price above the competitive level without fearing losing all customers. d. Suppose the market price for one-year subscription is raised to 750 dollars. How many antidepressants will be demanded? (10 points) Demand: P = 1,000 – 0.025 Q 0.025Q = 1000 – P Q = 40,000 – 40P Q = 10,000 e. Explain clearly in a diagram: the consumer and producer surplus, and the deadweight loss when price is set to \$750. (20 points) (Hint: the diagram will help you answer question f.) The yellow area is the consumer surplus. The green area is the producer surplus. The white triangle area is the deadweight loss. f. At 750 dollars, what are the new consumer surplus, producer surplus and the deadweight loss? (20 points) (Hint: The producer surplus is a trapezoid area. The P Q 1000 40000 D 150 S 10000 750 480 DWL
area of a trapezoid is ½ (a + b) * h, where h is the height of a trapezoid, ½ (a + b) are the average of the lengths of the two parrell sides of a trapezoid.) The consumer surplus (the yellow area) is now: CS = 0.5(10000)*(1000 – 750) = \$1250000 The producer surplus (the green area): PS = 0.5(10000)(600 + 270) = \$4350000 Deadweight Loss: DWL = 0.5 (270)(14655.17– 10000) = 628447.95 Question 2: The following relations describe monthly demand and supply for a computer support service catering to small businesses: Q d = 3000 – 10 P Q s = -1000 + 10 P Where Q is the number of businesses that need services and P is the monthly fee, in dollars. a. At what average monthly fee would demand equal zero? Solve the equation: Dd= 3000 – 10 P = 0 3000 – 10 P = 0 10P = 3000 P = 300 b. At what average monthly fee would supply equal zero? Solve the equation: Ds= -1000 +10 P = 0 -1000+ 10 P = 0 10P = 1000 P = 100 c. Plot the supply and demand curves. Clearly identify the intercepts.

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