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Answer+Key+to+HW5 - Answer Key to Homework#5 1 As discussed...

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Answer Key to Homework #5 April 14, 2010 1. As discussed in the “Google Advertising” application, advertisers on Google’s web site bid for the right for their ads to be posted when people search for certain phrases. Google’s “Traffic Estimator Tool” provides potential advertisers with a guide to the auction prices they would expect to pay for different keywords in different locations. The traffic estimator provides a range of prices that other advertisers have paid recently for an ad being in positions 1-3 in a certain city and the search volume associated with that price range. Should a firm that provides local services (such as plumbing or pest control) expect to pay more or less for an ad in a small town or a large city? Why? Answer : You can give different answers for this question as long as your argument is logical. One possible answer might be the following. A firm that provides local services should expect to pay more for an ad in a large town, and less for an ad in a small town. Comparable firms in different places should pay more where it’s harder to identify the relevant customers through other means than ads (higher marginal benefit from ads). Thus, we should expect that the firm pay more for an ad in a large city. 2. Using the information in the “Botox Revisited” application, determine how much Allergan loses by being a single-price monopoly rather than a perfectly price- discriminating monopoly. Explain your answer. Answer : The difference in profit between a single price monopoly and perfect price discrimination is the area A and C in the application, which is $375 million. 3. A firm is a natural monopoly (see Chapter 11). Its marginal cost curve is flat, and its average cost curve is downward sloping (because it has a fixed cost). The firm can perfectly price discriminate.
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