PROBLEM SET

Problem 1: Using the Marginal Approach

Suppose your company runs a shuttle business of a hotel to and from the local airport. The costs for different customer loads are: 1 customer: $30 2 customers: $32 3 customers: $35 4 customers: $38 5 customers: $42 6 customers: $48 7 customers: $57 8 customers: $68.

1. What are your marginal costs for each customer load level? (Chart) 2. If you are compensated $10 per ride, what customer load would you choose? (Essay)

Problem 2: Elasticity and Pricing

Suppose the number of firms you compete with has recently increased. You estimated that as a result of the increased competition, the demand elasticity has increased from -2 to -3, i.e., you face more elastic demand. You are currently charging $10 for your product. What is the price that you should charge, if demand elasticity is -3?

(Essay)

Problem 3: Price Discrimination

An amusement park, whose customer set is made up of two markets, adults and children, has developed demand schedules as follows:

Price ($)

Quantity Adults Children 5 15 20 6 14 18 7 13 16 8 12 14 9 11 12 10 10 10 11 9 8 12 8 6 13 7 4 14 6 2

The marginal operating cost of each unit of quantity is $5. Because marginal cost is a constant, so is average variable cost. Ignore fixed costs. The owners of the amusement part want to maximize profits.

Calculate the price, quantity, and profit if: 1. The amusement park charges a different price for adults. (Chart) 2. The amusement park charges a different price for children. (Chart) 3. The amusement park charges the same price in the two markets combined. (Chart) 4. Explain the difference in the profit realized under the two situations. (Essay)

Problem 4: Bundling

Time Warner could offer the History Channel (H) and Showtime (S) individually or as a bundle of both. Suppose the reservation prices of customers 1 and 2 (the highest prices they are willing to pay) are presented in the boxes below. The cost to Time Warner is $1 per customer for licensing fees.

Preferences Showtime History Chanel Customer 1 9 2 Customer 2 3 8

1. Should Time Warner bundle or sell separately? (Essay)

2. Should Time Warner bundle if everyone likes Showtime more than the History Channel, i.e., preferences are positively correlated. (Essay)

3. Suppose Time Warner could sell Showtime for $9, and History channel for $8, while making Showtime-History bundle available for $13. Should it use mixed bundling. i.e., sells products both separately and as a bundle? (Essay)