Assignment

1. A firm owns a warehouse that it originally purchased for $150,000 using a loan that it currently is paying at $600 per month. The firm is considering a project in which it needs the use of a warehouse and is considering using this warehouse for the project. The firm has determined that the project is acceptable if warehouse costs are $500 per month. The firm also knows that similar warehouses rent for $450 per month (though none are available at the current time to rent). Should the firm undertake the project? Explain why or why not.

2. Ford motor company has four vehicle manufacturing plants in various parts of the country. It is considering producing its own batteries for the vehicles that it builds instead of purchasing them from outside vendors. It could build one centralized location with a cost of $1,500,000 and each battery would cost $100, including shipping. If it builds four battery manufacturing plants near the vehicle manufacturing plants, each battery plant would cost $500,000 each, but the battery cost would be $80. Show your work/Explain for parts a-c.

a. Assuming each plant would produce 5,000 batteries each (so the single centrally located plant would produce all 20,000 batteries), which option would have the lowest costs?

b. If the production of batteries increased to 8,000 batteries per plant (or 32,000 batteries for the one centrally located plant), which option has the lowest costs?

c. What is the break-even point in terms of batteries produced?

d. If currently Ford needs 20,000 batteries but plans on producing more cars in the near future (so it would need more batteries), what should be considered when deciding which plan to follow?

3. A study of grocery stores in Northern England yielded the following cost function: 4.

C = 2.51 - 0.0195 Q - 0.000726 Q² + 0.000262 Q³
     (2.84)     (3.72)         (2.55)            (3.02)

Where C is the total cost per year (in millions of Euro) and Q is the quantity of sales (measured in millions of Euro). Note: the number in parenthesis below each coefficient is its respective t-statistic)

a. Which variable(s) is (are) statistically significant in explaining variations in the total costs of running a grocery store? Explain why
b. What type of cost-output relationship (e.g. linear, quadratic, or cubic) is suggested by these statistical results? Explain why.
c. If the cost function was instead C = 2.51 - 0.0195 Q + 0.000726 Q2, with all the coefficients statistically significant, what can you say about the existence of economies or diseconomies of scale in grocery stores in Northern England?

5. Information Asymmetry.

a. Adverse Selection: In the market for used airplanes, explain how adverse selection might arise. What might the buyer or seller do to eliminate adverse selection?

b. Moral Hazard and the Principal-Agent problem. Suppose you own a real estate office that represents buyers and sellers of residential homes. You hire someone to manage the office for you. What moral hazard issues might you encounter? How does this illustrate the Principle-agent problem, and what could you do to partially eliminate the principle-agent problem?

6. The demand schedule facing Ballreich's for their potato chips is given by the below table (on the left) and the variable cost schedule is below on the right:

a. Find the total revenue and marginal revenue schedules for the firm
b. Determine the marginal cost schedule for the firm
c. What are Ballreich's profit maximizing price and output levels for the production and sale of potato chips?
d. What is Ballreich's profit (or loss) at the solution determined in Part (c)? (assume no fixed costs)
e. Suppose that the school district of Tiffin announces that it will purchase as many bags of chips as possible from Ballreich's at a price of $4 per bag, in order to include them in school lunches. How does this affect the solution determined in part (c)? What is Ballreich's profit in this case?

7. Oligopoly. Suppose you own a gas station and the only other gas station in town is across the street from your gas station. Explain in general terms the two outcomes that you might expect to happen- in other words, if the gas stations collude, how would that differ from the gas stations competing? How would the profit of your station compare between the two outcomes and how would the prices charged to the consumers compare?

Give several reasons why collusion would be more likely in the above gas station case as compared with a farmer's market that meets monthly and attracts approximately ten to twenty farmers. Explain each reason.