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    of 1

    Microeconomics (Fall 2024)

    Problem Set 5: Perfect Competition and Policy Analysis


    Turn in your homework by uploading it as a single PDF in the Assignments tab on NYU classes

    • Write your answers on separate sheets of paper. Please include:

    – your name
    – your recitation teacher’s name
    – day and time of your recitation

    Part I: Short Answer

    1. Draw a graph showing the average total cost, average variable cost, and marginal cost curves for a typical
    firm. On your graph, draw in three prices: label as P3 a price that results in the firm making positive profits;
    label as P2 a price that results in the firm breaking even; and label as P1 a price that results in the firm
    making losses (negative profits) that are less than fixed costs.
    2. What is the production choice of a firm if the market price is p1 ? How does your answer change if we are in
    the long run (where in this setting fixed costs become variable costs) instead of the short run?

    Part II: Competitive Supply

    1. Suppose that a firm operating in a perfectly competitive industry has short-run cost function given by
    C(q) = 10 + 5q + 2q 2 . The market price is $17.

    (a) What is the firm’s marginal revenue at the profit-maximizing output level? (Hint: No calculations needed
    to answer this question)
    (b) What is the profit-maximizing output level for this firm?
    (c) What is the firm’s total revenue and profits at the profit-maximizing output?
    (d) What is the minimum price at which the firm will produce a positive level of output in the short run?
    (e) Write down the expression for the firm’s short-run supply curve.

    Part III: Policy Analysis

    1. Suppose market demand for gasoline is given by QD = 60 − 2P where QD is quantity demanded and P is the
    market price. Market supply is given by QS = 2P where QS is quantity supplied and P is the market price.
    (a) Find the equilibrium price and quantity in this market.
    (b) What is the consumer surplus and producer surplus?
    (c) Suppose that the government imposes a $2 tax on the good, to be included in the posted price (i.e. tax
    paid by suppliers). What is new equilibrium posted price? How much of that price do producers keep?
    What is the new market equilibrium quantity? What is the change in surplus for consumers? What is
    the change in surplus for producers?
    (d) Suppose instead the government imposes the $2 tax on top of the posted price (i.e. paid by consumers).
    What is the new equilibrium posted price? How much do the consumers pay for each unit of the good?
    What is the new market equilibrium quantity? How does consumer surplus and producer surplus compare
    to those in part (c)?
    (e) Suppose instead of the tax, the government limits quantity produced to be no more than 42 units. Imagine
    that in order to produce the good, firms must get permission from the government; the government can
    thus restrict total production by withholding permissions. What will be the equilibrium price in this
    scenario? Compare this policy, in terms of how it impacts producers and consumers, to the tax. What
    would producers prefer, the quantity restriction or the tax?

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