Management Engineering - Business & Industrial Economics

Full exam

BUSINESS AND INDUSTRIAL ECONOMICS Final exam July 12th 2019 SURNAME - NAME (Matricola no.)____________________________________________________________ Multiple choice questions 1) The market for light bulbs is currently dominated by the BigBulb (BB) company, which earns monopoly profits equal to 600. The Lord of Light (LoL) company is considering the possibility to enter the market. If LoL enters and BB responds aggressively (price war scenario), both firms are going to incur losses (i.e. negative profits) equal to 100. Instead, if LoL enters and BB responds in an accommodating way, both firms are going to earn profits equal to 50. Furthermore, BB has the possibility to make an ex-ante investment, before LoL decides whether to enter or not. This investment will reduce the profits of BB by 500 in all cases, apart from the price war scenario, where the profit reduction will be equal to 400 (indeed, the ex-ante investment covers all of the price war expenses). BB’s possible ex-ante investment will not affect LoL’s profits in any way. Given that both players are perfectly rational and perfectly informed, what will be the outcome of their strategic interaction? a) BB will make the ex-ante investment and Lol will not enter. Thus, BB will earn profits equal to 100. b) BB will not make the ex-ante investment, Lol will enter and BB will respond in an accommodating way, with both firms earning profits equal to 50. BONUS c) BB will not make the ex-ante investment and Lol will not enter. Thus, BB will earn profits equal to 600. d) None of the above. 2) A patent can be conceived as: a) An institutional barrier to entry. b) An ownership advantage. c) Both of the above. BONUS d) None of the above. 3) Under the assumption that the focal firm has marginal costs equal to 0, what happens to the main intuition behind Baumol’s model of sales maximization? a) It is no longer meaningful, as profit maximization collapses into revenue maximization. BONUS b) It is weakened but it still holds, as managers are still incentivized to maximize sales to increase their prestige. c) Nothing happens, as Baumol’s main intuition is completely unrelated to the cost side. d) It is even stronger than before, because the absence of marginal cost increases managerial discretion. 4) Suppose there are 2 roommates . Each one has a wealth of 500 €. Suppose they have to decide whether to buy or not a TV. Each person values the TV at 100 €. Suppose that there is no way for one of the roommates to exclude the other one from watching. Suppose that the cost of the TV is 150€. Suppose that each roommate decides independently whether or not to buy the TV, and the two roommates cannot communicate. Which is the most likely outcome in this scenario? a) The TV will be bought since the sum of their willingness to pay exceeds the cost of the TV. b) The TV will not be bought due to an asymmetric information problem. c) The TV will not be bought due to a free-riding problem. BONUS d) One of the roommates will buy the TV and his/her utility will be lower than the one of the other roommate. 5) Consider a second-hand market for bikes. There are high-quality bikes, which buyers value at most 800 euros, and low-quality bikes, which buyers value at most 400 euros. High-quality sellers accept at minimum 700 euros, while low-quality sellers accept at minimum 300 euros. Assume that buyers cannot observe quality before purchasing. We can conclude that both kinds of bikes are traded on the market if the fraction q of high-quality bikes is: a) q ≥ 3/4. BONUS b) q ≥ 1/4. c) q ≥ 1/2. d) None of the above. 6) A coal-fired power plant jointly produces electricity and air pollution. Air pollution adversely affects a nearby farm. Assume: p e = 24 the price of electricity, p f = 20 the price of the agricultural product of the farm (both firms are price-taker), c e(e,x) = e 2 + (x - 8) 2 the cost for the coal-power plant of producing electricity e jointly with x units of pollution, and c f(f,x) = f 2 + fx the cost for the farm of producing f units of agricultural products, when the coal-fired plant emits x units of pollution. If the two firms merge to internalize the negative externality, then: a) e* = 12, f* = 12/5, x* = 76/5. b) e* = 12, f* = 4, x* = 8. c) e* = 12, f* = 8, x* = 4. BONUS d) None of the above. 7) Perfect price discrimination (i.e. 1° price discrimination): e) Maximizes social welfare even if the output produced and sold is not the same as the one produced and sold under perfect competition. f) Maximizes social welfare and the output produced and sold is the same as the one produced and sold under perfect competition. BONUS g) Maximizes consumer and producer surplus and therefore maximizes social welfare. h) Maximizes producer surplus but doesn’t maximize social welfare. 8) The competitive selection model (Jovanovich, 1982, Econometrica) establishes that for a given firm: i) Output and profits are an increasing function of its θ. BONUS j) Output is an increasing function of its θ and profits are a decreasing function of its θ. k) Profits are an increasing function of its θ and output is a decreasing function of its θ. l) Output and profits are a decreasing function of its θ. 9) A firm is subjected to the following total cost function TC = q 2 + 8q + 9. Is this a natural monopoly? m) Yes, since the minimum efficient scale is equal to 3, which is one third of fixed costs. n) No, since the underlying AC curve is U-shaped. o) No, since this is not an affine cost function. p) It depends. BONUS 10) Suppose you manufacture 5 million hard drives per year specifically for Dell laptop computers. Suppose your average variable cost C=$10/unit, annualized cost of investment to build a hard drive factory I=$40 million (I is an unavoidable cost, you have to make your payment even if you do not do business with Dell), and the market price (bailout market price in the event Dell does not buy) P m=$15/unit. If Dell agrees to purchase the 5 million hard drives at a price P *=$25/unit and the deal subsequently falls apart, what is your company’s “quasi-rent”? q) $10 million. r) $50 million. BONUS s) $30 million. t) -$10 million. Structured question (Write in a readable way) With reference to network economics: a) Following Rohlfs (1974, Bell Journal of Economics), formally derive the aggregate demand curve for a network good and draw it. b) Define the concept of critical mass in network economics and identify the critical mass on the aggregate demand curve for a network good. c) Suppose two consumers have to decide at the same time whether or not to migrate towards a new technology exhibiting network externalities. By finding the Nash equilibrium (or equilibria) of the following game and defining what excess momentum or excess inertia mean, please tell what should happen for the arising of one of the two: Consumer 2 Consumer 1 New Old New 3,3 1, 2 Old 2,1 4,4 d) Starting from the above reported game and related payoffs, now suppose Consumer 1 plays first and then Consumer 2 plays after. Suppose also that Consumer 1 suffers from a penalty of -3 in staying with the old technology. By representing the game in its extensive form, please find the sub-game perfect Nash equilibrium (or equilibria), and evaluate this outcome (or these outcomes) in terms of social welfare. a) See Lecture 17 Network economics 2: Slides 14 -17. b) See Lecture 17 Network economics 2: Slides 11 and 16. c) The adoption game has 2 Nash equilibria (New; New) and (Old; Old). In this case, we could have excess momentum, when (New; New) is the equilibrium that arises in the economy, while this is Pareto dominated by the other (Old; Old). See Lecture 18 & 19 Network economics 3_4: Slide 22. d) (New; New) is the only subgame perfect Nash Equilibrium. It does not Pareto dominates (Old; Old) so it is not possible to draw neat conclusions in terms of social welfare. But we can say either that: a) Consumer 2-type experiences excess momentum b) overall, this excess momentum is inferior to the advantage that consumer 1- type has to move forward towards the new technology (i.e., (4 + 1) < (3 + 3)). See Lecture 18 & 19 Network economics 3_4: Slides 23 and 24.