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| Microsoft sells two types of office software, a word processor it calls Word, and a spreadsheet it calls Excel. Both can be produced at zero marginal cost. There are two types of consumers for these products, who exist in roughly equal proportions in the population: authors, who are willing to pay $120 for Word and $40 for Excel, and economists, who are willing to pay $50 for Word and $150 for Excel. a. Ideally, Microsoft would like to charge authors more for Word and economists more for Excel. Why would it be difficult for Microsoft to do this? b. Suppose that Microsoft execs decide to sell Word and Excel separately. What price should Microsoft set for Word? (Hint: Is it better to sell only to authors, or to try to sell to both authors and economists?) What price should Microsoft set for Excel? What will Microsoft’s profit be from a representative group of one author and one economist? c. Suppose that Microsoft decides to bundle together Word and Excel in a package called Office, and not offer them individually. What price should Microsoft set for the package? Why? How much profit will Microsoft generate from a representative group of one author and one economist? d. Does bundling allow Microsoft to generate higher profit than selling Word and Excel separately? |
Microsoft sells two types of office software, a word processor
London’s Market Bar has a unique pricing system where a
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| London’s Market Bar has a unique pricing system where a computer sets the price based on demand. When demand picks up, the computer begins to gradually reduce prices. This pricing strategy is puzzling to those who have studied supply and demand. Celene Berman, the assistant manager, says a group of “young city-boy types” recently kept asking why prices “were going the wrong way around.” Explain, using your knowledge of block pricing, why the owner’s strategy of reducing prices as sales increase might actually lead to increased profit for the bar. |
Rockway & Daughters Piano Co. wishes to sell a piano
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| Rockway & Daughters Piano Co. wishes to sell a piano to everyone. But some consumers are budgetconscious, and others are not, and unfortunately, Rockway cannot tell which is which. So, Rockway produces a premium line of pianos that it markets under the Rockway name, and a similar line of pianos that it markets under the Dundee name. While the cost of producing these pianos is quite similar, all consumers agree that Rockway pianos are of higher quality than Dundee pianos, and would be willing to pay more for a Rockway. Budget-conscious consumers feel that Dundee pianos are worth $6,000, and Rockways are worth $8,000. Performance artists believe that Dundee pianos are worth $7,000 and Rockways are worth $12,000. a. Suppose Rockway & Daughters prices its Dundee pianos at $5,000 and its Rockway pianos at $10,500. Are these prices incentive compatible-that is, will more price-conscious consumers purchase the Dundee line, while more performance-oriented players choose the Rockway? Explain. b. How much must Rockway & Daughters reduce the price of its Rockway line in order to achieve incentive compatibility? c. Suppose instead that Rockway & Daughters tries to achieve incentive compatibility by raising the price of its Dundee line. Can it do so? And if so, how? |
Many textbooks are now available in two versions, a high-priced
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| Many textbooks are now available in two versions, a high-priced “domestic” version and a low-priced “international” version. Each version generally contains exactly the same text, but slightly altered homework problems. a. Why would a textbook publisher go to the trouble to produce two versions of the same text? b. Discuss whether the publisher’s strategy would be more effective if it made the alterations secret, or if it announced them boldly. c. The production of international versions of textbooks was concurrent with the explosion of the Internet. Explain why this is likely to be more than just a coincidence. |
A local golf course’s hired-gun econometrician has determined that there
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| A local golf course’s hired-gun econometrician has determined that there are two types of golfers, frequent and infrequent. Frequent golfers’ annual demand for rounds of golf is given by Qf = 24 – 0.3P, where P is the price of a round of golf. In contrast, infrequent golfers’ annual demand for rounds of golf is given by Qi = 10 – 0.1P. The marginal and average total cost of providing a round of golf is $20. a. If the golf course could tell a frequent golfer from an infrequent golfer, what price would it charge each type? How many times would each type golf? How much profit would the golf course generate? The greens manager has difficulty telling frequent from infrequent golfers, so she decides to use second-degree price discrimination (quantity discounts) to make different types of golfers self-select into the most profitable pricing scheme. The course sets a price for individual rounds of golf, but also offers a quantity discount for members willing to buy a rather large quantity of rounds in advance. The course’s owners hope that frequent golfers will self-select into the discounted plan, and that infrequent golfers will choose to buy individual rounds. b. What price should the golf course set for individual rounds of golf? Why? c. If the course wishes to maximize profit, what price and minimum quantity should it establish for the discounted plan? d. Which plan will generate the greatest consumer surplus for frequent golfers, the individual-round plan or the discount plan? Illustrate your answer by showing and measuring the areas of surplus on frequent golfers’ inverse demand curves. e. Which plan will generate the greatest consumer surplus for infrequent golfers, the individual-round plan or the discount plan? Illustrate your answer by showing the areas of surplus on infrequent golfers’ inverse demand curves. f. Based on your answers to (d) and (e), will the plan be successful in making golfers self-select into the most profitable plan for the golf course? g. Suppose that each type of golfer came to the course with the word “frequent” or “infrequent” tattooed on his or her forehead. Is this information of any value to the golf course owner? (In other words, can the owner earn any more profits by segmenting than it did with its quantity discount plan?) |
Owners of a Florida restaurant estimate that the elasticity of
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| Owners of a Florida restaurant estimate that the elasticity of demand for meals is -1.5 for senior citizens and -1.33 for everyone else. a. Given this information, how big (in percentage terms) should the senior citizen discount be? b. Suppose that the restaurant owners discover that seniors tend to demand more attention from their waiters and send back more food as unsatisfactory, to the extent that the marginal cost of serving a senior is twice as high as serving an adult. Accounting for these costs, how large should the senior citizen discount be? (Hint: Refer back to the example in the text, but don’t cancel out marginal costs!) c. Were your results in part (b) surprising? Explain them, intuitively. |
Consider the demand for schnitzel in the diagram on the
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| Consider the demand for schnitzel in the diagram on the right. Suppose that there is a single seller of schnitzel, who acts as a single-price monopolist. a. Indicate the profit-maximizing price and quantity. b. List the areas of consumer and producer surplus. c. Suppose the seller begins perfectly price discriminating. How many schnitzels will she sell? d. What happens to areas A and B when the seller begins perfectly price discriminating? e. What happens to areas E and H when the seller begins perfectly price discriminating? |
Suppose that American Borax is a monopolist and that the
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| Suppose that American Borax is a monopolist and that the worldwide demand for borax is Q = 100 – P where Q is tons of borax and P is the price per ton. The total cost function for American Borax is TC = 10Q + 0.5Q2. a. Write out the firm’s total revenue as a function of Q. b. What is the profit function for American Borax? c. Find the firm’s profit-maximizing quantity by applying calculus to the profit function. d. Find American Borax’s profit-maximizing price and profit. |
Irwin is a monopoly seller of specialty bearings. Consider the
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| a. Find the monopolist’s profit-maximizing level of output. b. Determine the price the monopolist should charge to maximize profit. c. Draw an appropriate rectangle on your graph to represent the total revenue the seller receives from selling the profit-maximizing quantity of bearings at the profit-maximizing price. d. Draw an appropriate rectangle on your graph to represent the total cost of producing ball bearings. e. The difference in the areas you drew in (c) and (d) represents profit. Calculate the profit Irwin earns from selling 30-weight ball bearings. |
Consider the graph below, which illustrates the demand for Fluff.
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| a. Draw in a carefully constructed marginal revenue curve. b. Apply the MR = MC rule to determine the profit-maximizing level of output. What price must the monopolist charge to maximize profit? c. Calculate the profit earned by the monopolist. d. The slope of the demand curve indicates that in order to sell one more unit, the price must fall by 20 cents. Verify that the seller cannot increase profit by reducing price and selling slightly more. e. The slope of the demand curve indicates that if the price of Fluff increases by 20 cents, consumers will buy one less unit. Verify that the seller cannot increase profit by increasing price and selling slightly less. |
