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UNIVERSITY OF CALIFORNIA HAAS SCHOOL OF BUSINESS EWMBA 201A—Economic Analysis for Business Decisions Fall 2007 Professor Catherine Wolfram Midterm Review Question Solutions: Perfectly Competitive Markets [Short answer questions.] 1. Currently, chewable aspirin are recommended for adults and for children 2 and older. Assume that the market for chewable aspirin is perfectly competitive. In other words, there are many buyers and sellers who have perfect information about one another, and the costs of transacting are small for any combination of buyer and seller. The Food and Drug Administration (FDA) is considering a policy of requiring chewable aspirin for 2-6 year olds to be subject to more testing and sold under separate label. Only some of the current suppliers of chewable aspirin have the facilities to do the required tests and, under the FDA’s policy, only these suppliers will be allowed to sell to 2-6 year olds. Assume that if a supplier has testing facilities, the costs of doing the tests are negligible, but suppliers without facilities will be unable to get them soon. Discuss the likely effects of the FDA’s policy on the price charged to 2-6 year olds for chewable aspirin relative to the price they are currently being charged. State any assumptions you’re making in answering this question. Solution: This is exactly the same set up as the question on problem set 1. Full credit if you pointed out that what would happen to the price for 2-6 year olds would depend critically on the fraction of sellers with testing facilities relative to the fraction of chewable aspirin consumed by 2-6 year olds. For instance, if the fraction of suppliers with testing facilities were greater than the fraction of 2-6 year olds, there would be no effect. 2. Is non-recyclable garbage scarce or not?
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