microeconomics book solution 15

# microeconomics book solution 15 -...

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Solution Oligopoly 1. The accompanying table presents market share data for the U.S. breakfast cereal mar- ket in 2006. a. Use the data provided to calculate the Herfindahl–Hirschman Index (HHI) for the market. b. Based on this HHI, what type of market structure is the U.S. breakfast cereal market? 1. a. The HHI is 30 2 + 26 2 + 14 2 + 13 2 + 11 2 + 6 2 = 900 + 676 + 196 + 169 + 121 + 36 = 2,098. Since the HHI exceeds 1,800, the industry is an oligopoly. 2. The accompanying table shows the demand schedule for vitamin D. Suppose that the marginal cost of producing vitamin D is zero. a. Assume that BASF is the only producer of vitamin D and acts as a monopolist. It currently produces 40 tons of vitamin D at \$4 per ton. If BASF were to produce 10 more tons, what would be the price effect for BASF? What would be the quan- tity effect? Would BASF have an incentive to produce those 10 additional tons? Price of vitamin D Quantity of vitamin (per ton) D demanded (tons) \$8 0 71 0 62 0 53 0 44 0 35 0 26 0 17 0 Company Market Share Kellogg 30% General Mills 26 PepsiCo (Quaker Oats) 14 Kraft 13 Private Label 11 Other 6 Source: Advertising Age S-209 15 chapter: S209-S220_Krugman2e_PS_Ch15.qxp 9/16/08 9:23 PM Page S-209

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Solution b. Now assume that Roche enters the market by also producing vitamin D and the market is now a duopoly. BASF and Roche agree to produce 40 tons of vitamin D in total, 20 tons each. BASF cannot be punished for deviating from the agreement with Roche. If BASF, on its own, were to deviate from that agreement and produce 10 more tons, what would be the price effect for BASF? What would be the quantity effect for BASF? Would BASF have an incentive to produce those 10 additional tons? 2. a. If BASF produces 10 more tons, it now produces 50 tons and the price would fall to \$3 per ton. That is, on each of the 40 tons it was already producing, it would lose \$1. So the price effect is 40 × ( \$1) =− \$40. Since BASF produces an addi- tional 10 tons and sells them at \$3, the quantity effect is 10 × \$3 = \$30. So BASF gains \$30 revenue from producing 10 additional tons, but it loses \$40 revenue from producing those 10 additional tons. Since the marginal cost is zero, addi- tional production does not change BASF’s cost. Since BASF loses revenue, it has no incentive to produce the 10 additional tons. If BASF produces 10 more tons, the total produced is now 50 tons and the price would fall to \$3. That is, on each of the 20 tons it was already producing, it would lose \$1. So the price effect is 20 × ( \$1) \$20. Since BASF produces an addi- tional 10 tons and sells them at \$3, the quantity effect is 10 × \$3 = \$30. So BASF gains \$30 revenue from producing 10 additional tons, and it loses only \$20 rev- enue, resulting in an overall increase in revenue of \$10. Since the marginal cost is zero, there is no change to BASF’s cost. Since producing the 10 additional tons raises BASF’s revenue by \$10, BASF does have an incentive to produce 10 addition- al tons.
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## This note was uploaded on 01/19/2011 for the course ECON 11853 taught by Professor Brianallenhunt during the Spring '10 term at Georgia State University, Atlanta.

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microeconomics book solution 15 -...

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