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Answer Key First Midterm Examination: Econ 101 Richard Buddin Spring 2007 Please answer all questions. The questions are in no particular order. If you do not understand a question, you should skip it and return to it later in the exam. 1. Betty owns a pony ride attraction in Center Grove, Iowa. The ride attracts local children and their parents for pony rides on the weekends. The demand for rides by local residents is q R =35.8-6P, where q is the number of rides per week for each local child and P is the price of one pony ride. Suppose that the town has 120 children, and the total cost of pony rides is TC=0.8q. a) (5 points) Suppose that Betty charges a weekly entry fee (T) to ride ponys— each child that pays the fee can ride as much as they desire for one week, but they pay no additional fee per ride (P). Discuss whether this pricing strategy will maximize Betty’s profit. b) (5 points) A new factory opens in Center Grove and attracts new immigrants to the town. Betty notices than immigrant children never ride ponys at her business (assume P=0 and T is only fee as in part a). Discuss what this tells us about the demand for immigrant children compared with the initial residents. On a well-labeled graph show how the pony ride demand for immigrant children compares with that of other local children. c) (10 points) Now suppose the demand for each immigrant child is q I =27.8-6P, and there are 120 immigrant children in the area. After taking an online economic class, Betty revises her pricing strategy to attract both immigrant children and other local children. Assume that local laws require her to charge the same prices to all customers. What entry fee (T) and price per ride (P) should she charge to maximize her profits? Answer: a) If P=0, then the maximum entry fee is 106.8033, i.e., (35.8/6)*35.8*0.5. Per child profits are this amount minus the cost of 35.8 rides and this is 0.8*35.8=28.64. The per child profits from the strategy are 78.163333. A better strategy is to set P=MC=0.8 and to set T to the consumer surplus at this

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