BE300 SAMPLE EXAM QUESTION: MODULE 2

1. Snowowl ski resort in Utah faces very different consumer demand on different days of the week. Weekday
skiers consist largely of locals who are more price sensitive. Weekends, on the other hand, bring out-of-
towners who are far less price sensitive. The demand curves for ski passes are as follows:

Weekday: P = 1,000 – 0.2Q

Weekend: P = 1,200 – 0.1Q

Fixed costs are zero but when there are more skiers on the mountain, the cost of grooming the runs and
running the lifts increases by $100 per additional skier. Importantly, Snowowl believes that it is unsafe for
there to be more than 5,000 skiers on the mountain at once. The marginal cost of selling ski passes is thus:

MC = $100 if Q ≤ 5,000
= ∞ if Q > 5,000

Snowowl cannot safely accommodate any more than 5000 skiers, and thus MC is infinite for any units above
5000. Snowowl prices like a monopolist. What prices, rounded to the nearest dollar, should Snowowl charge
for ski passes on weekdays and weekends?

a) $100 for weekday passes and $700 for weekend passes

b) $550 for weekday passes and $700 for weekend passes
c) $500 for weekday passes and $650 for weekend passes
d) $400 for weekday passes and $500 for weekend passes
e) $500 for weekday passes and $500 for weekend passes

2. One of the big advancements in pharmaceuticals is the delivery of medication through patches, as opposed
to oral medication. Chronic conditions can now be treated with patches that are applied either daily or
weekly.

A brand new patch to treat high blood pressure will be coming on the market in 2020 and has been
approved for sale in the United States and Australia to date. Regulations are in place to prevent resale
between the two markets. The estimated annual demand curves for the United States and for Australia are
as follows (Q in millions of patches):

PUS = 16 – .0625QUS
PAUS = 10 – .2QAUS
MC = $8 in each market

The initial market price in both countries is set at $12 per patch. In this market, two-part pricing or a fixed
fee is not a relevant pricing strategy. If the pharma company marketing the new blood pressure patch wants
to maximize profits, which of the following is the strategy you would advise?

(a) Keep the price at $12 per patch in the U.S. and lower the price in Australia.
(b) Charge a higher price in the U.S. (the larger market) and keep the price at $12 per patch in Australia.
(c) Keep the price at $12 per patch in both national markets because at the quantities sold, MR = MC.
(d) Charge a higher price than $12 in both the U.S. and Australia.
(e) Charge a lower price in Australia, and sell more, because the marginal revenue < $8 in Australia.
3. AgathaFanBox has the rights to all British murder mystery programming produced by the BBC. It has 100
customers who are dedicated fans and 100 lukewarm customers who like but don’t love British murder
mysteries. Individual monthly demands follow:

Dedicated fans: P = 7 − .25q

Lukewarm fans: P = 4 − .5q

where P is the price in U.S. dollars and q is the number of episodes a customer streams. For each episode it
allows a viewer to stream, AgathaFanBox has a marginal cost of $0.50.
AgathaFanBox has decided to start charging monthly subscription fees in addition to a price per episode
streamed. Suppose AgathaFanBox CANNOT distinguish between dedicated fans and lukewarm viewers
and must charge everyone the same subscription fee and same episode price. Suppose also that the optimal
per episode price to charge if selling to both types is $2.875. Will it sell to both dedicated fans and
lukewarm viewers? What fixed fee (subscription fee) and price per episode should AgathaFanBox charge?
(Note: Some quantities may be fractional, please go ahead and use these fractional quantities. Please do not
round to the nearest whole unit).

a) AgathaFanBox will charge a Fixed Fee of $16 and a per episode price of $0 and will serve both lukewarm
viewers and dedicated fans.
b) AgathaFanBox will charge a Fixed Fee of $34.03 and a per episode price of $2.875 and will serve both
lukewarm viewers and dedicated fans.
c) AgathaFanBox will charge a Fixed Fee of $2.53 and a per episode price of $2.875 and will serve both
lukewarm viewers and dedicated fans.
d) AgathaFanBox will charge a Fixed Fee of $54.50 and a per episode price of $0.50 and only serve the
dedicated fans.
e) AgathaFanBox will charge a Fixed Fee of $84.50 and a per episode price of $0.50 and only serve the
dedicated fans.
4. The Economist Group, publishers of The Economist, an established British magazine focused on global
economics and world affairs, recently launched 1843, a culture and lifestyle magazine. The Economist
Group is now revising its pricing strategy. The Economist Group is currently selling to two consumers,
whose willingness to pay for each publication is characterized below. Suppose that the marginal cost of
printing either publication is $1.

The Economist 1843

Tom $12 $3
Janet $6 $4

What prices would the Economist Group charge for each publication if they were sold separately?
What price should they charge if they bundle? Does it make sense to bundle the magazines?

a. Optimal individual prices: $6 for The Economist, $3 for 1843; optimal bundle price: $10. They should sell
the publications individually and not sell the bundle.
b. Optimal individual prices: $12 for The Economist, $4 for 1843; optimal bundle price: $10. They should sell
the publications individually and not sell the bundle.
c. Optimal individual prices: $12 for The Economist, $4 for 1843; optimal bundle price: $15. They should
bundle rather than sell the publications individually.
d. Optimal individual prices: $12 for The Economist, $3 for 1843; optimal bundle price: $10. They should
bundle rather than sell the publications individually.
e. Optimal individual prices: $6 for The Economist, $4 for 1843; optimal bundle price: $15. They should
bundle rather than sell the publications individually.

5. You are running a tutoring company, offering one-on-one tutoring sessions. To price your product, you have
two parameters to play with: a per-session price, and a monthly membership fee.

After doing some market research, you determine that there are two types of consumers for your product, with
the following inverse demand functions:

High-Types: 𝑃𝑃𝐻𝐻 = 120 − 5𝑄𝑄

Low-Types: 𝑃𝑃𝐿𝐿 = 100 − 10𝑄𝑄

Although you know there are these two types of customers, you have no way of distinguishing them —you
must charge a single per-session price, and a single monthly membership fee.

You face a constant marginal cost per session of $20.

a. Suppose you are restricted to pricing each session at marginal cost. What is the highest fee you can charge
if you want both types to buy?
b. Suppose you are still restricted to pricing at marginal cost. What is the highest fee you can charge if you are
willing to drop the Low-Types and only serve the High-Types?
c. If there are equal numbers of both types, and you have to price at marginal cost, which fee does it make
sense to charge (i.e., which fee maximizes your profits)?
d. Suppose instead that there are twice as many Low-Types as there are High-Types, and you are still pricing
at marginal cost. Which fee maximizes your profits?
6. Assume that Disney faces two groups (i.e., types) of consumers, “low” and “high” demand consumers. The
individual demand of the low group is PL = 5 − 0.25QL and the individual demand of the high group is PH
= 6 − 0.25QH (prices in dollars, quantities in number of rides). Moreover, there are 100 consumers in each
group. Each additional use of any attraction in the park requires almost no additional resources, so imagine
that Disney’s marginal cost is $1.

a. What is the combined market demand that Disney faces?

b. What if Disney knows only the market demand you found in (a), i.e., it has no information on the demand of
each group. What single price would Disney charge in order to maximize profits?
c. Now, what if Disney can determine the market demand of each group, knows that there are 100 consumers of
each type, and can tell whether any given consumer belongs to the high demand or low demand group.
• What two-part tariffs (i.e., prices and fixed fees) should Disney offer?
• Would it offer different per ride prices to low and high consumers?
• What would the consumer surplus of the low and high types be?
• What would its profits be?
d. Now assume that Disney can no longer determine if a consumer is in the high or low demand group, but it set
the per unit prices and fixed fees at the levels in part c. Under this scenario, what would its profits be?
e. Suppose that Disney wants to serve only the high types. What two-part tariff scheme should it offer them?
What would its profit be?
f. Suppose Disney still cannot tell whether a given consumer has low or high demand. Can you find a single
tariff that Disney could use to serve both groups and make higher profits than in part (e)? Please answer yes
or no and briefly explain your answer. Please do not attempt any calculations here.
7. You are running a consulting company offering one-on-one consultation sessions on high school students’
college applications. Suppose you have the market power to do price discrimination. To price your product,
you need to decide your per-session rate. After doing some market research, you determine that there are
two types of consumers for your product, with the following inverse demand functions:

High-Types: 𝑃𝑃𝐻𝐻 = 120 − 5𝑄𝑄

Low-Types: 𝑃𝑃𝐿𝐿 = 140 − 10𝑄𝑄

Although you know there are these two types of customers, you have no way of distinguishing them, then
you are going to charge. The marginal cost per consulting session is $20. Does a quantity discount pricing
scheme work in this case?

(a) Yes, you can offer a quantity discount of $70 for 10 sessions or more while charging $80 for less than 10
sessions.
(b) Yes, you can offer a quantity discount of $20 for 10 sessions or more while charging $30 for less than 10
sessions.
(c) No, you cannot use the quantity discount strategy here, because you can only charge $20 dollar per session.
(d) No, you cannot use the quantity discount strategy here, because the incentive compatibility condition is
violated here.
(e) Not enough information to determine.

8. Epsilon Air is a new monopoly between some rural airports and big urban hubs in the Midwest. Based on
market research, Epsilon Air believes that there are two types of consumers: the business type (“Business”),
and the regular traveler type (“Regular”). The firm cannot distinguish which type a consumer is likely to be,
and each customer will make only one purchase.

Assume there is only one customer of each type, i.e. one Business type customer, and one Regular type
customer, in the market.

Epsilon Air can offer two versions of pre-boarding lounge service: The Sky Standard experience (“Standard”),
and the Sky Deluxe (“Deluxe”). The Deluxe comes with additional accoutrements, such as free airport pickup
and dropoff services, and prioritized, private boarding entrance. The willingness to pay for these versions of
the Sky experience is as follows:

Customer Type Standard Deluxe

Business $200 $995
Regular $140 $595

The Deluxe version is much more expensive for Epsilon Air to provide. Its marginal cost is $80. The
marginal cost of providing the Standard version is $30.

Which pricing strategy would produce the most profits for Epsilon Air? Recall that the profit, in this
situation, is calculated as the sum of total revenue minus total cost across both types.

(a) 𝑃𝑃𝑆𝑆𝑆𝑆𝑆𝑆𝑆𝑆𝑆𝑆𝑆𝑆𝑆𝑆𝑆𝑆 = $200, 𝑃𝑃𝐷𝐷𝐷𝐷𝐷𝐷𝐷𝐷𝐷𝐷𝐷𝐷 = $935.

(b) 𝑃𝑃𝑆𝑆𝑆𝑆𝑆𝑆𝑆𝑆𝑆𝑆𝑆𝑆𝑆𝑆𝑆𝑆 = $140, 𝑃𝑃𝐷𝐷𝐷𝐷𝐷𝐷𝐷𝐷𝐷𝐷𝐷𝐷 = $885.
(c) 𝑃𝑃𝑆𝑆𝑆𝑆𝑆𝑆𝑆𝑆𝑆𝑆𝑆𝑆𝑆𝑆𝑆𝑆 = $140, 𝑃𝑃𝐷𝐷𝐷𝐷𝐷𝐷𝐷𝐷𝐷𝐷𝐷𝐷 = $995.
(d) 𝑃𝑃𝑆𝑆𝑆𝑆𝑆𝑆𝑆𝑆𝑆𝑆𝑆𝑆𝑆𝑆𝑆𝑆 = $140, 𝑃𝑃𝐷𝐷𝐷𝐷𝐷𝐷𝐷𝐷𝐷𝐷𝐷𝐷 = $935.
(e) Only sell the Deluxe version, and set 𝑃𝑃𝐷𝐷𝐷𝐷𝐷𝐷𝐷𝐷𝐷𝐷𝐷𝐷 = $995.
9. Epsilon Air notices the trend of offering a slightly better product than the Standard, which is often dubbed
“Premium”. This only includes priority boarding relative to the Standard version, but the trend seems to be
catching on among other airlines, so Epsilon Air did some market research. They found the following
willingness to pay figures for the Premium.

Customer Type Premium Deluxe

Business $500 $995
Regular $350 $595

As before, the Deluxe version is much more expensive for Epsilon Air to provide. Its marginal cost is $80.
The marginal cost of providing the Premium version, by the firm’s estimate, is $60. Let us continue to
assume there’s one customer of each type.

Note that the willingness to pay for the Deluxe has not changed.

Continue to assume there is only one customer of each type.

If the monopolist chooses to improve the Standard to the Premium, what would be the consumer surplus for
individuals for each type? What would total profits be? Given these answers, would the firm choose to
improve the Standard? (Note: to answer this question, you will need to calculate the profit associated with
your choice to the previous question)

(a) 𝐶𝐶𝐶𝐶𝑅𝑅𝑅𝑅𝑅𝑅𝑅𝑅𝑅𝑅𝑅𝑅𝑅𝑅 = $0, 𝐶𝐶𝐶𝐶𝐵𝐵𝐵𝐵𝐵𝐵𝐵𝐵𝐵𝐵𝐵𝐵𝐵𝐵𝐵𝐵 = $150, profits = $1,055; so, Epsilon Air should not improve the Standard to
Premium.
(b) 𝐶𝐶𝐶𝐶𝑅𝑅𝑅𝑅𝑅𝑅𝑅𝑅𝑅𝑅𝑅𝑅𝑅𝑅 = $0, 𝐶𝐶𝐶𝐶𝐵𝐵𝐵𝐵𝐵𝐵𝐵𝐵𝐵𝐵𝐵𝐵𝐵𝐵𝐵𝐵 = $150, profits = $1,195; so, Epsilon Air should improve the Standard to
Premium.
(c) 𝐶𝐶𝐶𝐶𝑅𝑅𝑅𝑅𝑅𝑅𝑅𝑅𝑅𝑅𝑅𝑅𝑅𝑅 = $0, 𝐶𝐶𝐶𝐶𝐵𝐵𝐵𝐵𝐵𝐵𝐵𝐵𝐵𝐵𝐵𝐵𝐵𝐵𝐵𝐵 = $150, profits = $1,205; so, Epsilon Air should improve the Standard to
Premium.
(d) 𝐶𝐶𝐶𝐶𝑅𝑅𝑅𝑅𝑅𝑅𝑅𝑅𝑅𝑅𝑅𝑅𝑅𝑅 = $0, 𝐶𝐶𝐶𝐶𝐵𝐵𝐵𝐵𝐵𝐵𝐵𝐵𝐵𝐵𝐵𝐵𝐵𝐵𝐵𝐵 = $150, profits = $1,055; so, Epsilon Air should improve the Standard to
Premium.
(e) 𝐶𝐶𝐶𝐶𝑅𝑅𝑅𝑅𝑅𝑅𝑅𝑅𝑅𝑅𝑅𝑅𝑅𝑅 = $0, 𝐶𝐶𝐶𝐶𝐵𝐵𝐵𝐵𝐵𝐵𝐵𝐵𝐵𝐵𝐵𝐵𝐵𝐵𝐵𝐵 = $150, profits = $995; so, Epsilon Air should not improve the Standard to
Premium.
10. Your company ValuVault develops software for home security systems. Your product has a “Lite” version
that only has some basic features and is geared towards regular use in private residences (i.e., residential
customers). Your company also has a highly customizable “Max” version of the product that is targeted for
use in commercial properties. Market research suggests that residential and commercial customers have the
following valuations of the two versions of the product:

Lite Max

Residential $150 $400

Commercial $270 $2,000

The cost of the software download is negligible and can be ignored for your calculations. You have an equal
number of residential and commercial customers but cannot distinguish between the customer types.
Indifferent consumers will prefer buying to not buying and will prefer the Max version to the Lite version.
What should you charge for the Lite and Max versions to maximize your profits?

(a) Lite: $400. Max: $2000.

(b) Lite: $150. Max: $1880.
(c) Lite: $270. Max: $1880.
(d) Lite: $150. Max: $1730.
(e) Lite: $270. Max: $2000.

11. You are field testing a new product called ValuVaultAI that combines home security systems with video
surveillance by an artificial intelligence (AI). The “Basic” version is unsupervised and geared towards regular
use in private residences (residential customers). Your company also has a “Gold” version of the product that
is targeted for use in commercial properties. The Gold version is costlier because it involves supervision of
the AI by a security professional. Market research suggests that residential and commercial customers have
the following valuations of the two products:

Basic Gold

Residential $250 $1000

Commercial $770 $3100

The cost of providing the Basic version is $100. The cost of providing the Gold version is $270. You cannot
distinguish between residential and commercial use. For simplicity, suppose you have one residential and one
commercial customer. Indifferent consumers will prefer buying to not buying and will prefer the Gold version to
the Basic version. What is the maximum profit you can make in this market?

(a) $2980
(b) $2460
(c) $2830
(d) $3350
(e) $3620
12. You are fulfilling your artistic dreams by managing the iconic Michigan Theatre in Ann Arbor. One advantage
that the Michigan has is some market power, and another advantage is that movie tickets cannot be re-assigned
at this theater. There are two types of customers in the Ann Arbor movie market and their weekly market
demand curves for the Michigan Theatre are as follows (price is in cents):

Regular (i.e, Full Price) customers: 𝑄𝑄1 = 100 − 0.4𝑃𝑃

Discount (e.g., student, active military, senior) customers: 𝑄𝑄2 = 90 − 0.6𝑃𝑃

Marginal costs for each additional customer in your theater are 30 cents per customer for cleaning and
service. You are focused on operating profits, so you set aside the matter of fixed costs.

a. If you can identify customer types, what are the optimal prices, quantities, and profits for each customer type?

b. If you cannot identify customer types, and thus must set a single price for movie tickets, what is the
combined market demand? Derive
(i) the “kink” point of the combined demand curve
(ii) the algebra (functional) expression for the demand curve, AND
(iii) draw a complete graph (including D, MR, MC, and all key P,Q points), and label all the axis and intercepts.

c. If you cannot identify customer types, what are the optimal quantity of tickets to sell and optimal per ticket
price to charge? What will profits be?

d. Briefly explain the economic intuition of why the segmented market with different prices for different
customers (in part 1) yields higher profits than the combined market demand (in part 2) with a single-price-for-
all strategy.
13. You are a pricing analyst for the EraStation gaming console. The company’s client base consists of three
types of consumers: the gaming enthusiasts (GE), the infrequent gamers (IG), and the trend chasers (TC).
They have market demand curves given by the following:

𝑃𝑃𝑇𝑇𝑇𝑇 = 250 − 0.5𝑄𝑄𝐺𝐺𝐺𝐺

𝑃𝑃𝐼𝐼𝐼𝐼 = 350 − 𝑄𝑄𝐼𝐼𝐼𝐼
𝑃𝑃𝐺𝐺𝐺𝐺 = 600 − 2𝑄𝑄𝑇𝑇𝑇𝑇

EraStation is a monopolist within this overall market and faces a constant marginal cost of $200 per gaming
console. For simplicity, assume there are equal numbers of consumers of each type.

a. Suppose that EraStation is able to verify the identity of different customers, charge each type a single price
different from the price charged to the other types, and can prevent resale. Note: for each type of customer,
EraStation charges a single price (i.e., this is not a two-part tariff question), and each customer buys one gaming
console.

i. Determine the profit-maximizing quantities EraStation would sell to each customer type.
ii. Determine the profit-maximizing prices EraStation would charge each customer type.
iii. Calculate the consumer surplus captured by each customer group.
iv. Calculate EraStation’s overall operating profit.

b. Now suppose that EraStation cannot tell whether its customers are gaming enthusiasts, infrequent gamers or
trend chasers, — nor can it prevent resale —and consequently it must charge one single price. Show your work
in answering to the following questions:

i. Derive the combined market demand curve.

ii. EraStation decides to charge the single price of $300 to all consumer types. Using this pricing and the
demand curve from part (i) find:
- EraStation’s expected sales
- EraStation’s operating profit
- Consumers’ surplus under these conditions (Hint: it is easier to calculate consumer surplus if you
do it for each customer type using their original inverse demand curve and the new price/quantity)

c. Assuming that EraStation could continue to operate profitably under either pricing scenario and that fixed costs
are the same across both pricing scenarios, compare the segmented markets outcomes (part (a)) with the single
market pricing outcomes (part (b)). Which of the following statements best describes your assessment of the
outcomes. Circle the best answer.

A. Consumers prefer the constraint of a single price, and EraStation prefers segmented pricing.
B. Consumers prefer segmented pricing, and EraStation prefers single market pricing.
C. Both Consumers and EraStation prefer segmented pricing.
D. Both Consumer and EraStation prefer single market pricing.
E. Without fixed cost information, we cannot determine which pricing EraStation and Consumers prefer.
14. The ColdFluRX company makes a special patented cold and flu relief drug. ColdFluRX’s marginal cost of
production for this drug is $1 per pill. ColdFluRX also knows that it faces two different groups of
customers:

US customers each have an individual monthly demand curve of:

P = 30-Q

Canadian customers each have an individual monthly demand curve of:

P = 20-Q

a. If ColdFluRX can differentiate (i.e., segment) its two customer groups, what is the profit maximizing price it
should charge to each group (if they can only set one price per group, and charging a fee is not an option)?

Price to US customers:
Price to Canadian customers:

b. If ColdFluRX is unable to differentiate (i.e., segment) between the two markets due to regulatory constraints,
what is the combined market demand curve they would face?
a. Q = 50- 2P if P ≥ 20 and P < 30 and Q = 30 – P if P < 20
b. Q = 50- 2P if P < 20 and Q = 30 – P if P ≥ 20 and P < 30.
c. P = 50 – 2Q if Q ≥ 20 and Q < 30 and P = 30 – Q if Q < 20.
d. P = 50 – 2Q if Q < 20 and P = 30 – Q if Q ≥ 20 and Q < 30.
15. Whiskr has developed a new technology that converts pictures of cats into comfortable cat-depicting
blankets. Currently Whiskr is an unknown company, with relatively low initial demand for their blankets of
P = 80 − 4Q. Whiskr has constant marginal costs of $16 per unit sold. Assume Whiskr’s blankets are unique
and unavailable from any other company.

After doing some market research, Whiskr’s data analysts determine that there will be network effects to
getting their product in more customer hands early on. They predict that if Whiskr sells at least 20 blankets
in the first year, then demand in the second year will increase to P = 200 − 4Q. If Whiskr sells fewer than
20 blankets in the first year, then demand in the second year will stay at P = 80 − 4Q. In either case, Whiskr
will continue to have the same marginal costs of $16 per unit sold. The data analysts are pushing the firm to
offer a low introductory price this year.

Assuming there is no discounting between the two periods, which of the following strategies would
maximize total profits (from both years one and two)?

a. Whiskr should charge P = $48 in both years

b. Whiskr should charge P = 0 in year one, and P = $48 in year two
c. Whiskr should charge P = 0 in year one, and P = $108 in year two
d. Whiskr should charge P = $16 in year one, and P = $48 in year two
e. Whiskr should charge P = $48 in year one, and P = $108 in year two

16. With support from ZLI consultants and Kickstarter investors, you have developed HOMES—a new and
unique gaming console which you anticipate will change the market. Because you do not yet have any
brand recognition or reputation for the quality of your product, your market research shows that initial
demand for your product is Q = 1600 - 20P, and the marginal cost of production is constant at $70 (i.e., MC
= 70).

However, you are well aware that products such as yours can benefit from positive network effects. If you
can sell at least 200 units in year one, then you estimate that the demand in year two will be Q = 2000 - 10P.
In addition, because of manufacturing improvements due to experience, you anticipate that the marginal
cost of producing each gaming console unit in year two will fall to $60 (i.e., MC = 60) IF you produce 200
or more units in year one.

Which of the following strategies would maximize total profits across the two years, assuming there is no
discounting of year two revenues or costs?

a. HOMES should charge a first year price of P = $75, and charge P = $130 in the second year.
b. HOMES should charge a first year price of P = $75, and charge P = $75 in the second year.
c. HOMES should charge a first year price of P = $0, and charge P = $70 in the second year.
d. HOMES should charge a first year price of P = $0, and charge P = $130 in the second year.
e. HOMES should charge a first year price of P = $70, and charge P = $140 in the second year.
f. HOMES should charge a first year price of P = $70, and charge P = $130 in the second year.
17. Tesla is manufacturing a new vehicle, the Model 4, a new model with proprietary technology that no other
manufacturer has the ability to produce. Based off historical data and market research, Tesla believes that
there are two types of consumers interested in this vehicle: commuters (with a “high” demand) and non-
commuters (with a “low” demand). They cannot determine which type a consumer is likely to be, and each
consumer will make one purchase. There are equal numbers of each consumer type. Tesla can produce two
versions of their new vehicle: the Model 4 Standard and the Model 4 Advanced. The Advanced has a larger
battery, can drive further, and is slightly faster. The willingness to pay for the Model 4 is as follows:

Consumer Type Number of Consumers WTP for Standard WTP for Advanced
Low 1,000 $20,000 $25,000
High 1,000 $25,000 $50,000

The Advanced version is more expensive to produce than the Standard version, but they each have constant
marginal costs:

Standard: MCS = $18,000

Advanced: MCA = $30,000

Note: You can assume that if consumers are indifferent between buying the Standard and the Advanced, they
will buy the Advanced. If they are indifferent between buying something and buying nothing, they will choose
to buy. S and A subscripts are used to denote Standard and Advanced, respectively.

a. Which strategy would produce the most revenue?

A. Produce both products with PS = $20,000 and PA = $50,000

B. Produce both products with PS = $20,000 and PA = $45,000
C. Produce both products with PS = $20,000 and PA = $25,000
D. Produce both products with PS = $25,000 and PA = $45,000
E. Produce only Advanced with PA = $50,000

b. Which strategy would produce the most profits?

A. Produce both products with PS = $20,000 and PA = $50,000

B. Produce both products with PS = $20,000 and PA = $45,000
C. Produce both products with PS = $20,000 and PA = $25,000
D. Produce both products with PS = $25,000 and PA = $45,000
E. Produce only Advanced with PA = $50,000

c. Suppose prior to production, Tesla realizes that in addition to the marginal costs for each version, they’ll also
need to purchase a new factory before they can start producing the Model 4, at a cost of $15 million. Given this
additional information, what is their profit maximizing decision now?

A. Pay the fixed cost to purchase the factory, and then produce and price as in part b above.
B. Choose not to purchase the new factory and do not produce the new model.
18. The snow removal service GreenSnow is the only business in town that uses electrical tools instead of highly
polluting gas-powered equipment. Inverse market demand (in $ dollars) for GreenSnow is P = 140 − 2Q,
where Q is the number of properties serviced. They have constant marginal and average costs of production
of $20. GreenSnow believes there may be network effects if they expand their customer base early. If they
can service at least 40 properties in year one, they will have higher demand in year two of P = 220 − 2Q as
their customer network grows.

Marginal and average costs are still constant at $20 in year two. Assuming there is no discounting between
the two periods, what is the maximum year 1+2 profits that GreenSnow can make? GreenSnow can only
charge per unit and cannot charge fixed fees.

a. $0
b. $3,600
c. $5,000
d. $6,600
e. $10,000

19. After graduation, Remy is hired by a boba tea chain as a research analyst. He has collected the following
information about two types of customers (Wolverines and Spartans), their willingness to pay (WTP), as well
as the marginal cost of producing milk tea and mini croissants. This data is summarized in the table below:

Wolverine WTP Spartan WTP Marginal Cost

Mini croissant $3 $5 $1.5
Milk tea $4 $3 $0.5

When the products are priced separately, and there are 100 Wolverine and 100 Spartan customers, the
maximum total profits would be (fill in the blank).

20. Andrew, Beth, and Cathy live in Lindhville. Andrew’s demand for bike paths, a public good, is given by Q =
12 − 2P. Beth’s demand is Q = 18 − P, and Cathy’s is Q = 8 − P/3. The marginal cost of building a bike path
is MC = 21. The town government decides to use the following procedure for deciding how many paths to
build. It asks each resident how many paths they want, and it builds the largest number asked for by any
resident. To pay for these paths, it then taxes Andrew, Beth, and Cathy the prices a, b, and c per path,
respectively, where a + b + c = MC. (The residents know these tax rates before stating how many paths they
want.)

a. If the taxes are set so that each resident shares the cost evenly (a = b = c), how many paths will get built?

b. Show that the government can achieve the social optimum by setting the correct tax prices a, b, and c. What
prices should it set?