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Unformatted text preview: BUAD 351 - Economic Analysis for Business Decisions Homework 5 PART (i): multiple choice question 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 answer a d b b a c d c a a c d b d c b d b b c PART (ii): SHORT ANSWERS 1. You are a monopsonist employer in a small rural town (say, you operate a large steel mill that employs 80% of the local workers). Your total bene&t from hiring L workers (measured in hundreds) is TB ( L ) = 20 L & L 2 ; so that your marginal bene&t (your demand curve) is MB ( L ) = 20 & 2 L: The supply of labor is competitive and given by L S = W & 2 ; where W is the wage rate (measured in thousands of dollars per year). (i) given your market power, how many workers would you employ? The net value of hiring L workers is TB ( L ) & TE ( L ) = & 20 L & L 2 ¡ & W ( L ) L: Since W = L S + 2 from the labor supply, we have TB ( L ) & TE ( L ) = & 20 L & L 2 ¡ & ( L + 2) L; giving MB ( L ) = ME ( L ) ! 20 & 2 L = 2 + 2 L ! L = 4 1 2 (ii) what would be the socially optimal level of employment (and the associated wage)? The socially optimal level of employment solves demand equals supply, so that 20 & 2 L = L + 2 ! L = 6 ;W = 8 (iii) Could the government restore e¢ ciency by establishing a price ceiling or a price ¡oor? If so, what would be the socially optimal ceiling or ¡oor? Yes, with a price ¡oor. The reason why the monopsonist is choosing an ine¢ ciently low level of employment is because he is able to suppress the wage he needs to pay to his employees that way. As a result, the perceived marginal cost of hiring an extra worker is higher than the wage paid (because wage on the inframarginal workers needs to increase as well). By setting a price ¡oor, the &rm is not allowed to o/er a lower wage than the ¡oor, which eliminates this temptation. Setting W floor = 8 would restore e¢ ciency. 2. Discuss the di/erences between perfect and imperfect price discrimination and the bene&ts of each to a monopolist. Perfect price discrimination is possible when a monopolist knows the consumer£s willingness to pay for every unit he sells and can charge a di/erent price for each unit. Perfect price discrimination maximizes aggregate surplus, although consumers receive no surplus at all. Perfect price discrimina- tion is often not possible because a monopolist does not know the consumer£s willingness to pay for...
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