Case Study Two: Pricing Coins Guidelines

These exercises are designed to actively involve you in microeconomic reasoning and decision making and to help you apply the concepts covered in the course to complex real-world situations. The case studies provide practice reading and interpreting both quantitative and qualitative analysis. You will then use your analysis to make decisions and predictions. These exercises provide practice communicating reasoning in a professional manner.

Prompt

Case Study Two: Pricing Coins focuses on pricing strategies. In task 6-2 you will use graphs and equations to analyze pricing strategies.

Skills needed to complete this case study:

The ability to enter data, enter formulas, and create charts in Excel (Note: Use the Case Study Two Data document).

The headline above about Spain's court claim actually appeared on MSNBC's website. This case study, however, will focus on a fictitious monopolist: Treasure-Hunters' International, Inc. (THI). This monopolist has discovered a new sunken treasure ship, and it has clear evidence that the wreck contains a chest of gold coins. The firm has two options:

1. Spend $110 to bring the chest of gold coins to the surface, and then sell the coins

2. Leave the chest in the wreck and maintain secrecy about the location and existence of the wreck

Steps to complete Case Study Two:

1. The worksheet labeled Demand_1 in the Case Study Two Data document provides information about the initial demand curve faced by the monopolist. This monopolist has located a sunken treasure ship. It could spend $110 to bring a chest of gold coins the surface and sell the coins. At that point, the firm would have TFC = $110 and zero marginal cost. The firm would therefore set P to maximize revenue. What price should the firm set? (You can assume that the cost and prices are given in the worksheet are stated in thousands.)

• Create a column that computes point elasticity for each price
• Create a column that computes revenue for each price
• Create a column that computes marginal revenue for each price. Marginal revenue is equal to 12-4Q

Graph the three variables (elasticity, revenue, and marginal revenue.) After the graph has been created, place your cursor on one of the gridlines, and right click. Choose Format Gridlines. Choose Scale. Set the major unit equal to 1, so you can identify the point at which elasticity = -1.

2. The firm realizes that a second, separate market exists for these coins. Demand in this market is detailed in the worksheet labeled Demand_2 in the Case Study Two Data document. For this step, assume that the monopolist will be able to separate the two markets and prevent customers from purchasing coins in one market and reselling the coins in the other market. Therefore, you can analyze Demand_2 as a stand-alone demand curve.

Create a column that computes point elasticity for each price.

Create a column that computes revenue for each price.

Create a column that computes marginal revenue for each price. Marginal revenue is equal to 12-4Q.

Graph the three variables (elasticity, revenue, and marginal revenue).

After the graph has been created, place your cursor on one of the gridlines, and right click. Choose Format Gridlines. Choose Scale. Set the major unit equal to 1.

3. Compute the total revenue earned in both markets: ___________________

Remember that the firm's total fixed cost would be $110 to bring the coins to the surface. Will the firm spend the $110 to "produce" coins at the surface ready to sell?

4. Suppose the buyers in the high-price market find a way to purchase the good in the lower price market. The firm can no longer separate the two markets. It must therefore charge a single price to all buyers. The combined demand information is provided in the worksheet labeled Combined.

Create a column to show revenue for each possible quantity. Identify the profit-maximizing price and quantity.

5. Draw a graph (with pen) to show consumer surplus in the separated markets?

Why is consumer surplus relevant to understanding the impact of price discrimination on the buyers in the high price market?