Whitman CollegeEcon 107Exam 2March 9, 2006Show all of your work. Write all answers in your bluebook, or on the graph paper provided. The exam ends at 12:10.1. (a) (10pts) Draw a set of short run cost curves for a firm. Your graph should include an average fixed cost curve (AFC), an average variable cost curve (AVC), an average total cost curve (ATC), and a marginal cost curve (MC). Assume that diminishing marginal returns set in at some point on your graph. Be sure to label your axes. (b) (5pts) On your graph, label with an “a” the point at which diminishing marginal returns set in.Suppose this firm operates in a perfectly competitive industry.(c) (10pts) Describe how to find the firm’s short run supply curve. On your graph, indicate the firm’s short run supply curve. (d) (5pts) If the other firms in the competitive industry have the same costs as this firm, explain how to find the long-run equilibrium price for this industry. On your graph, indicate the long-run equilibrium price. 2. Suppose that Company X holds the patent on the drug Widgetal and is its sole producer. There are no close substitutes for Widgetal. The marginal cost of producing Widgetal is $5 per liter, and there are no fixed costs of production. Consider the following market demand schedule for Widgetal. Widgetal is divisible and the demand curve is a straight line. Price of Widgetal ($ per liter) Quantity Demanded of Widgetal (liters)14 55 501 70Suppose Company X wants to maximize its profits. It cannot charge different prices to different customers. Answer the following questions.(a) (5pts) What quantity does Company X produce?(b) (5pts) What price does it charge?(c) (5pts) How much economic profit does it earn?(d) (5pts) What is the consumer surplus in this market?(e) (5pts) How much deadweight loss is there in this market for Widgetal?Now suppose that the patent for Widgetal expires and the market becomes perfectly competitive. Any company can produce this drug at a marginal cost of $5 per liter, with no fixed costs of production. (f) (5pts) What total quantity does the competitive market produce?(g) (5pts) What price do firms charge in the competitive market?(h) (5pts) What is the consumer surplus in the competitive market?(i) (5pts) How much economic profit does each firm earn?(j) (5pts) How much deadweight loss is there in the competitive market?(k) (5pts) Describe the economic rationale for the United States government to grant patents which will expire. Why does it grant the patents, and why does it specify that they will expire?3. Suppose that the production of a good in a perfectly competitive industry generates a negative externality. (a) (2pts) Give an example of a good whose production generates a negative externality. Explain why production of this good generates a negative externality.(b) (8pts) On a supply and demand diagram for the industry, show the deadweight loss atthe perfectly competitive level of output. Explain how you found your answer. (c) (5pts) In the case of a negative externality, a competitive market fails to produce the socially optimal quantity of output. Suggest one solution to this problem of market failure, and describe how your solution would work to improve the well-being of society as a
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