Solution Manual for Economics for Managers, 3rd Edition

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Solutions to End of Chapter Problems
Farnham, Economics for Managers, 3/e
Chapter 1
Technical Questions
1. Microeconomics focuses on the behavior of individual consumers, firms, and industries as
they operate in a market economy. It analyzes how these various groups respond to changes
in prices that affect their consumption, production, and selling decisions. It also describes
how firms and consumers interact in various types of markets and can be used as a basis for
determining competitive strategies. Macroeconomics focuses on the overall economic
environment in which businesses operate. It analyzes the spending decisions of different
sectors of the economy—the household, business, government, and foreign sectors.
Macroeconomic policy deals with the issues of inflation, unemployment, and economic
growth. Changes in the macroeconomic environment influence firms through the
microeconomic issues of demand, cost, revenues, and profits.
2. Outputs are the final goods and services that firms and industries sell to consumers. Consum-
ers create a demand for all of these goods and services. Inputs are the resources or factors of
production that are used to produce the final outputs. Inputs include land, labor, capital, raw
materials, and entrepreneurship. Firms’ use of these inputs is related to the demand for their
products.

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3. The four major types of markets are perfect competition, monopolistic competition,
oligopoly, and monopoly. The key characteristics that distinguish these markets are (1) the
number of firms competing with each other, (2) whether the products sold in the markets are
differentiated or undifferentiated, (3) whether entry into the market by other firms is easy or
difficult, and (4) the amount of information available to market participants.
4. In the model of perfect competition, firms are price-takers because it is assumed there are so
many firms in each industry that no single firm has any influence on the price of the product.
Each firm’s output is small relative to the entire market, so that the market price is deter-
mined by the actions of all suppliers and demanders. In the other market models, firms have
an influence over the price. If they raise the price of the product, consumers will demand a
smaller quantity; if they lower the price, consumers will increase the quantity demanded.
5. In macroeconomics, the five major categories of spending are consumption (C), investment
(I), government (G), export (X), and import (M). GDP = C + I + G + X – M. The first four
categories are added together, while import spending is subtracted because it represents a
flow of expenditure out of the domestic economy to the rest of the world.
6. Fiscal policies are implemented by the national government and involve changing taxes (T)
and government expenditure (G) to stimulate or slow the economy. These decisions are made
by the political institutions in the country. Monetary policies are implemented by a country’s
central bank—the Federal Reserve in the United States. These policies focus on changing the
money supply in order to influence interest rates, which then affect real consumption, in-
vestment spending, and the resulting level of income and output.
Application Questions

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1. Microeconomic factors facing the global automobile industry include consumer demand for
increased automobile quality and additional features, the increased preferences for sport utili-
ty vehicles, the differing preferences of Chinese versus U.S. consumers, and the continued
need to redesign production processes to lower production costs. Macroeconomic factors in-
clude the continuing weak recovery in global economic activity especially in Europe and the
fluctuations in currency exchange rates.
2a. This is a description of a perfectly competitive market. It discusses factors influencing the
demand and supply of corn, where the focus is on the price and quantity in the entire market,
not the decisions of individual producers. The drought decreased the supply of corn in the
U.S., which caused prices to increase. Countries such as China, Japan, and South Korea then
turned to find substitute sources of corn in Argentina and Brazil.
b. Staples, OfficeMax, and Office Depot operate in an oligopoly market with interdependent
behavior. All three companies have been forced to close stores, downsize their existing stores,
and increase their online operations.
c. This discussion describes the attempt by the U.S. wireless telecommunications industry to
gain monopoly or market power through mergers of independent firms. The federal
government prohibited T-Mobile from merging with AT&T, given concerns over the market
power of that combined firm. T-Mobile then announced a merger with its smaller rival,
MetroPCS, that would still allow it to cut costs and expand its operations.

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d. Chinese restaurants represent monopolistic competition. There are 36,000 Chinese
restaurants, most of them small, family operations. No national chain dominates these
restaurants, largely due to the use of the wok for cooking. Specialized stoves and chefs are
required for this type of cooking, which has limited the expansion of these firms into large-
scale production.
3. Numerous examples can be found. In general, the more competitive the market is, the more
firms will have to rely on reducing the costs of production, as they have less control over
price. Firms with market power often use all types of strategies. For example, many restau-
rants responded to the economic slowdown in 2007 and 2008 by scaling back expansion
plans, skimping on items like extra sauce and free sour cream, closing sites, and laying off
workers. After examining rivals’ portions of hash browns and french fries and analyzing
leftovers, Vicorp, which owns 400-plus Village Inn and Bakers Square restaurants, cut back
as much as an ounce from each serving of these foods with a projected annual savings of
more than $500,000. See Jeffrey McCracken and Janet Adamy, “Restaurants Feel Sting of
Surging Costs, Debt,” Wall Street Journal, April 24, 2008.
4. Examples of these types of strategies are discussed in Chapter 14. Firms looked for ways to
increase productivity and cut costs. Many also developed new pricing strategies to increase
their profits or minimize their losses.
Chapter 2
Technical Questions
1. a. Demand increases (assuming that computers are a normal good).
b. There is a decrease in the quantity demanded of computers (and no change in the demand

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curve).
c. Demand increases, as the price of a complementary good has fallen.
d. There is no change in demand, as semiconductors are an input to computer production and
thus a determinant of supply.
e. Demand decreases in October, as consumers wait to buy at a lower price in December.
2. a. Supply increases.
b. Supply decreases.
c. There is a decrease in the quantity supplied of computers (and no change in the supply
curve).
d. Supply decreases (because costs of production have increased).
e. There is no change in supply, as consumer incomes are a determinant of demand.
3. a. X is a normal good. We know this because there is a positive relationship between income
and the quantity demanded of good X.
b. X and Y are substitutes. We know this because there is a positive relationship between the
price of good Y and the demand for good X (thus, as the price of Y rises, consumers buy more
X).
c. X and Z are complements. We know this because there is a negative relationship between
the price of good Z and the demand for good X (thus, as the price of Z rises, consumers buy
less X).
d. QD = 500 – 5PX + 0.5I + 10PY – 2PZ

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= 500 – 5PX + 0.5(30) + 10(10) – 2(20)
= 575 – 5PX
e. Price intercept = $115; Quantity intercept = 575; Slope = -0.2.
f. The quantity demanded is 500.
g. The equation of the demand curve is
QD = 625 – 5PX Price intercept = $125; Quantity intercept = 625; Slope = -0.2.
4. a. X and Z are complements in production. We know this because there is a positive relation-
ship between the price of good Z and the supply of good X (thus, as the price of Z rises,
producers produce more X).
b. QS = –200 + 20PX – 5PI + 0.5PZ
= –200 + 20PX – 5(10) + 0.5(20)
= –240 + 20PX
c. Price intercept = $12; Slope = 0.05. See text answers for graph.
d. Set QS = 0. The minimum price is $12.00.
e. QS = –240 + 20(25) = 260.
f. QS = –200 + 20PX – 5(5) + 0.5(20) = –215 + 20PX; Price intercept = $10.75; Slope = 0.05.
5. a. Demand curve: Price intercept = $250; Quantity intercept = 500. Supply curve: Price
intercept = $33.3; Slope = 0.33.
b. Q* = 260; P* = 120.

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c. At P = $100, the quantity demanded is 300, while the quantity supplied is 200. Thus,
there is a shortage, and the market price will rise.
d. At P = $150, the quantity demanded is 200, while the quantity supplied is 350. There is a
surplus, and the market price will fall.
e. P* = 140; Q* = 320. New demand curve: Price intercept = $300; Quantity intercept =
600.
6. a. Demand increases (the price of a substitute has risen); equilibrium price and quantity rise.
See text answers for graphs.
b. Supply decreases (the price of an input has risen); equilibrium price rises and quantity
falls.
c. Demand increases; equilibrium price and quantity rise.
d. Supply increases; equilibrium price falls and quantity rises.
e. Demand decreases; equilibrium price and quantity fall.
7. a. The increase in the price of gasoline causes the demand for automobiles to decrease
(leftward shift of the demand curve), while the decrease in the price of steel causes the
supply of automobiles to increase (rightward shift of the supply curve). With no further
information, we know that the equilibrium price will fall, but the effect on quantity cannot be
determined.

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b. The rise in gasoline prices will cause demand to decrease, which will cause the quantity to
fall, all other things held constant. If this effect is larger than the effect of the reduction in
steel prices (which will increase supply and cause the quantity to rise), then we may now be
able to conclude that the equilibrium quantity of automobiles is likely to fall.
8. a. Because hamburger is an inferior good, demand will increase as incomes decrease, causing
the price to rise (rightward shift of demand curve). The improvement in technology that
lowers production costs causes supply to increase and tends to lower price (rightward shift
of supply curve). With no further information, we know that the equilibrium quantity will
rise, but the effect on price cannot be determined. See text answers for graphs.
b. The fall in consumer incomes will cause demand to increase (for an inferior good), which
will cause the price to rise, all other things held constant. If this effect is smaller than the
effect of the improvement in technology (which will increase supply and cause the price to
fall), then we may now be able to conclude that the equilibrium price of hamburger is like-
ly to fall. See text answers for graphs.
Application Questions
1. Although copper prices reached an all-time high in February 2011, there was concern that the
demand from China would not continue, causing a leftward shift in the demand curve and
lowering prices. The worldwide economic downturn in 2010 and 2011 also caused demand to
decrease, putting downward pressure on copper prices. The supply curve could shift to the
left from severe winter weather in Chile, a major copper producer. However, there were also
previously unknown stockpiles of copper in China which could be released and cause the
supply to increase. Increases in copper prices had caused consumers to decrease the quantity
demanded (movement along the demand curve) and to substitute cheaper alternative materi-

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als, such as aluminum and plastic. The extreme volatility of prices in the copper market was
illustrated in the case for the chapter.
2. In February 2013 copper futures prices were at their highest level in nearly four months.
This change was another sign that the U.S. economy was growing stronger. Increased
manufacturing and construction activity appeared to be increasing the demand for copper and
supporting higher prices. Consumers were also demanding more phones, laptops, and air
conditioners, all of which use copper as an input. See: Tatyana Shumsky, “Copper Settles
1.4% Higher,” Wall Street Journal (Online), February 1, 2013.
3.a. The drought conditions in the Black Sea wheat belt caused the supply of wheat to decrease
and the price of wheat to rise. These conditions were easing,which resulted in an increased
supply and lower prices.
b. The increased demand from China for soybeans caused the demand curve to shift to the right
and prices to increase.
c. Farmers responding to high prices and planting more land represents an increase in the
number of producers and a rightward shift of the supply curve.
d. The USDA prediction also shows the increase in supply as a response to high crop prices.
e. Although cocoa production in the Ivory Coast increased in the previous year, possible civil
war could cause a decrease in supply and higher prices.
f. Weather problems in major wheat-producing countries caused a decrease in the supply of
wheat, which increased prices.
4. a. The hot summer and the lack of rain caused a significant decrease in the supply of pea-
nuts. This caused a leftward shift in the supply curve that increased the price of peanuts.

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b. Because peanuts are an input to the production of peanut butter, the increase in peanut
prices shifted the supply curve of peanut butter to the left, thus increasing its price. Peanut
butter producers worried about the impact of price increases on their customers, so they
tried to find ways to cut other costs, such as shipping and warehousing, to offset the in-
crease in peanut prices.
c. The supply of peanuts also decreased due to the high price of cotton. Farmers shifted
some of their land from peanut to cotton production.
d. The heat also influenced the quality of the peanut plants. Because many plants were
scorched, the supply of peanuts used for peanut butter decreased, while the supply for pea-
nut oil increased.
5.a. Prices in the chicken market had been low relative to the costs of production. The in-
creased costs of production have caused a decrease in supply (leftward shift of the supply
curve). This change, combined with increased seasonal demand for chicken (rightward
shift of the demand curve) has caused chicken prices to rise.
b. The diversion of corn to make ethanol has increased the price of corn. This increase com-
bined with soybean-meal price increases led to higher production costs for chickens.
Higher production costs caused a decrease in the supply of chickens and chicken prices to
increase.
Chapter 3
Technical Questions
1. a. Price elasticity = –1 (unitary elasticity)
b. Price elasticity = –5.4 (elastic)

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c. Price elasticity = –0.54 (inelastic)
2. a. Price elasticity = –1 (unitary elasticity)
b. Price elasticity = –3.0 (elastic)
c. Price elasticity = –0.33 (inelastic)
3. a. Revenue will rise because demand is inelastic. A 10 percent price increase will cause the
quantity demanded to fall by 5 percent, but that will be more than offset by the 10 percent
increase in price on the units that are still sold.
b. Revenue will rise because demand is elastic. A 5 percent price decrease will cause the
quantity demanded to rise by 12.5 percent, and that will more than offset the lower price on
the original units.
c. Revenues will not change. Because elasticity is –1, a 1 percent increase in price will
result in a 1 percent decrease in quantity demanded, and thus revenue will not change.
d. Revenues will rise. Because demand is perfectly inelastic, there will be no change in the
quantity demanded when price increases, and, thus, revenues will increase.
4. a. PX = 250 – 1/2Q
TR = PQ = (250 – 1/2Q)Q = 250Q –1/2Q2
b. See text answers for graphs.
c. At Q = 250, MR = 0, and, thus, revenue is maximized. At that point, P = $125, and, thus,
TR = $31,250.
d. The midpoint of the demand curve is at Q = 250, P= $125. Above that point, demand is

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elastic, and below that point, demand is inelastic.
5. Demand is elastic (and, thus, revenues will fall if you increase the price and rise if you
lower it). Your good is a normal good and is income elastic (or a luxury good). The related
good is a complement because a rise in the price of the other good causes a decrease in
demand for your product; the goods are fairly strong complements, as the demand for your
product is elastic with respect to the price of the other good.
6. Demand is inelastic (and, thus, revenues will rise if you increase the price and fall if you
lower it). Your good is a normal good and is income inelastic (or a necessity good). The re-
lated good is a substitute because a rise in the price of the other good causes an increase in
demand for your product; the goods are fairly good substitutes as the demand for your prod-
uct is elastic with respect to the price of the other good.
Application Questions
1.a. The percent change in price from the discounting policy is -32.6% calculated as follows us-
ing the arc elasticity formula:
[1.00 – 1.39] / [(1.39 + 1.00) / 2] = -.39 / 1.195 = -0.326
Therefore, the quantity demanded would have to increase by at least 32.6% for the demand to
be elastic and total revenue to increase.
b. The implied cross-price elasticity is positive, assuming that drinks at McDonald’s and its
competitors are substitute goods. A decrease in the price of drinks at McDonald’s will de-
crease the demand for drinks at Burger King and Taco Bell.
c. Although the drink discount is designed to increase revenues from the sale of drinks at
McDonald’s, the company and its franchisees have to consider other effects of the policy.

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Revenue from drinks typically compensates for discounts and lost revenue on other products.
Discounting drinks might encourage customers to purchase more items from the Dollar Menu
and less from the regular menu. Sales of the pricier espresso beverages had been hurt in pre-
vious years by the discounted drink policy. However, McDonald’s hopes that the discount
policy combined with its new beverages will attract enough customers from its competitors
to offset any negative effects on its own menu.
2. We can use the facts in the question to make inferences about the price elasticity of demand
for walk-up, unrestricted business airfares.
a. On the Cleveland–Los Angeles route, the decrease in fare resulted in about the same reve-
nue as the higher fare. This implies a consumer price elasticity of demand around –1.00.
At unit elasticity, any change in price results in no change in total revenue. On the Cleve-
land–Houston route, the decrease in price resulted in less revenue, but greater market
share. Demand was inelastic on this route because quantity demanded increased as the
price was lowered, but total revenue decreased. Demand was price elastic on the Houston–
Oakland route because the lower airfares resulted in increased total revenue for Continen-
tal on this route.
b. Consumer behavior differs on the three routes, but is also different from prior expecta-
tions. As discussed in the chapter, the airlines typically assumed that demand for business
travel was inelastic, while demand for leisure travel was elastic. Under this assumption,
airline companies did not decrease business fares because they believed they would have
lost revenue in doing so.
c. Many businesses have gotten tired of paying the high, unrestricted fares for their business
travelers. Employees began searching for lower restricted fares that would meet their

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schedules or using videoconferencing or driving as a substitute for air travel. The terrorist
attacks on September 11, 2001, also had a major impact on the airline industry, with many
employees refusing to fly in the months following the attacks and with business only slow-
ly recovering in the following years. All of these factors resulted in major changes in busi-
ness traveler behavior and a probable increase in their price elasticity of demand. The
above market tests show that business demand is actually price elastic in certain markets.
3. Public health officials advocate the use of cigarette taxes to reduce teenage smoking because
the data in Table 3.7 show that the teenage price elasticity of demand for cigarettes is approx-
imately 1 or higher in absolute value. Thus, demand is unit or even price elastic. Teenagers
are sensitive to the price of cigarettes and will reduce or quit smoking in response to the taxes
imposed on cigarettes. Cigarette taxes are a good source of revenue for state and local gov-
ernments, given that the price elasticity of demand for adults is inelastic. This means that an
increase in price results in an increase in total revenue, given that the percentage change in
quantity is less than the percentage change
4. A price elasticity of demand for urban transit between –0.1 and –0.6 means that demand is
inelastic for transit users. Thus, increased fares will result in higher revenue for local gov-
ernments and transit authorities. This is the economic argument for raising transit fares.
However, there may be political constraints on raising fares. The inelastic demand may result
from the low income levels and lack of automobiles and other substitute forms of travel of
transit riders. Voters may perceive increased fares as placing an unfair burden on these low-
income riders. Transit authorities often obtain voter approval for new transit systems by
promising not to raise fares for a certain number of years. Governmental decisions are typi-
cally based on many factors other than economic arguments.

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5. Information for case studies can be found in sources such as the following: Butscher , Steph-
an A. Consumer Loyalty Programmes and Clubs, Aldershot, UK and Burlington, VT: Gow-
er, 2002; Basso LJ, Clements MT, Ross TW. Moral Hazard and Consumer Loyalty Pro-
grams. American Economic Journal: Microeconomics 2009; 1 (1): 101-123.
6. The price elasticity of demand for the product of an individual firm is typically greater than
the price elasticity for the product overall because the individual firm competes with all the
other producers of the same product. There are more substitutes for the product of an indi-
vidual firm than for the product overall. This outcome is most clearly shown in Table 3.7 for
agricultural products. The demand for many of the products in the table is inelastic for the
product overall, while the table shows a price elasticity of demand for individual producers
ranging from –800 to –31,000 (extremely elastic). The price elasticity of demand for individ-
ual physicians is also much larger than that for medical or dental care as a commodity. The
demand for dental care may be inelastic, while the demand for care from any given dentist is
price elastic, given the number of other dentists providing similar care.
7. EBay has been shifting the site’s emphasis away from auctions and toward fixed-price list-
ings in response to increased competition from Amazon.com and other rivals. The company
reduced the charge to post items and increased what it collected when an item sold. The
company also installed a new system to determine which items appear first in a search, which
uses a formula that takes into account price and how well an item’s seller ranks in consumer
satisfaction. EBay also offered fee discounts to their best-rated sellers. See: Geoffrey A.
Fowler, “Auctions Fade in eBay’s Bid for Growth,” Wall Street Journal, May 26, 2009. For
a review of online auctions, see Young-Hoon Park and Xin Wang, “Online and name-your-
own price auctions: a literature review,” in Vithala R. Rao (ed.), Handbook of Pricing Re-

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search in Marketing (Cheltenham UK: Edward Elgar, 2009), 419-434; and Kevin Hasker and
Robin Sickles, “eBay in the Economics Literature: Analysis of an Auction Marketplace,” Re-
view of Industrial Organization 37 (2010): 3-42.
8. The U.S. Postal Service raised Priority Mail rates by 16 percent, and Bear Creek Corporation
reduced its package shipping by 15 to 20 percent. The implied price elasticity of demand
(%Q/%P) ranges from –15/16 = –0.94 to –20/16 = –1.25. If this response is typical for all
Postal Service customers, revenues will either remain approximately the same or decrease,
given that the price elasticity of demand is approximately unitary or price elastic. Particularly
if the demand is elastic, the Postal Service will not be able to reduce its deficit by this strate-
gy because revenues will decrease. Consumers will use Federal Express or UPS instead of
the Postal Service to ship their packages.
Chapter 4
Technical Questions
1.a. Auto industry executives have analyzed the shifting population demographics and are now
beginning to target younger customers rather than the baby boomer generation. They used
census and other marketing data to analyze the size of the population trends and the prefer-
ences of the younger generations.
b. Many companies are using the latest technology, including retina-tracking cameras, to meas-
ure consumer behavior for their products. These techniques have again shown that what
people want to do and what they say they want to do are often quite different.
c. Beer producers are responding to changing consumer tastes by developing new beers and
changed packaging. They test a variety of new beers in their research breweries before these

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products reach the market.
2. The plotted data are simply price and quantity combinations for each of the 10 years. Alt-
hough the data appear to indicate a downward sloping demand curve for potatoes, many fac-
tors other than the price of potatoes changed over this period. These factors included con-
sumer incomes, the prices of other vegetables that could be substituted for potatoes, the in-
troduction of packaged dried potatoes in grocery stores, and the changing tastes for French
fries at fast-food outlets. Thus, each data point is probably on a separate demand curve for
that year, and the data points in the figure result from shifts in those demand curves. To de-
rive a demand curve from this time-series data, a multiple regression analysis should be run
that includes other variables, such as income and the prices of substitute goods. Once these
other variables are held constant statistically, the regression results can be used to plot the
relevant demand curve showing the relationship between price and quantity demanded, all
else held constant.
.
3. In multiple regression analysis, researchers try to include all the relevant variables that influ-
ence the demand for a product based on economic theory, market analysis, and common
sense. The regression coefficients then show the effect of each variable, while statistically
holding constant the effects of all other variables. Because each study is based on a limited
set of data, researchers want to be able to generalize the results. Therefore, they test hypothe-
ses about whether each coefficient is significantly different from zero (i.e., whether the vari-
able actually has a positive or negative effect on demand) in a statistical sense. If the variable
is not significantly different from zero, its positive or negative coefficient is likely to result
only from the given sample of data. The variable does not have an effect on demand in the

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larger population. Economic theory may give the researcher some knowledge of the expected
sign of the variable (i.e., a price variable should have a negative coefficient in a demand
equation). In many cases, however, the researcher does not know the expected sign of the
variable, so the test is simply to determine whether the variable is significantly different from
zero.
Application Questions
1. Deloitte Consulting executives have argued that technology innovations have rewired con-
sumers’ brains and behaviors and that managers must be able to adapt to these changes. Re-
tailers should invest in Wi-Fi so that consumers will be encouraged to check product reviews
and compare prices. They should be prepared to deal both with customers who want to visit
physical locations and those who are content to shop online. See “The Rewired Customer,”
CIO-Wall Street Journal, June 4. 2013.
2. Test marketing and price experiments can be established so that consumer characteristics in
addition to price, such as income and other demographics, can be varied in the different set-
tings. Thus, consumer reaction to price can be measured while holding income constant in
one setting and changing it to another level in a different setting. Individuals of various back-
grounds can be specifically selected for different focus groups and laboratory experiments.
Thus, test marketing, price experiments, focus groups, and laboratory experiments can be
constructed to vary one characteristic (usually price), while holding other factors constant.
Multiple regression analysis accomplishes this same task statistically. When variables are en-
tered into a multiple regression analysis equation, their effects are statistically held constant.
Each estimated coefficient shows the effect on the dependent variable of a one-unit change in
an independent variable, holding the values of all other variables in the equation constant.

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3. Using expert opinion may bias the results regarding consumer behavior because sales
personnel and others closely connected with an industry may have strong incentives to
overstate consumer interest in a product. Experts may also have a limited view of the entire
set of factors influencing consumer demand. With direct surveys, consumer responses may
not accurately reflect their actual behavior in the marketplace. Interviewees may be reluctant
to admit that they will not pay a certain price for a product. In any experiment or laboratory
situation, there is always the issue of whether consumers will behave the same in the
laboratory situation as when facing real-world market decisions. In regression analysis,
biases and other statistical problems can arise if relevant variables are omitted from the
estimating equations or if irrelevant variables are included. Yet appropriate data may not be
available for all relevant variables. There can also be problems interpreting the effects of
individual variables if the variables in the equation are highly correlated with each other.
4. The estimating equation included variables measuring the monetary price of the cars as well
as variables measuring the search costs of subsequent visits to a dealer and whether a con-
sumer repurchases the same brand of vehicle (which lowers search costs). Because these var-
iables, as well as the monetary price variable, were statistically significant in the analysis,
they indicate that consumers do consider the full price of purchasing an automobile and not
just the monetary price.
Chapter 5
Technical Questions
1.a.
Capital (K) Labor (L) Total Product Average Marginal

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(TP) Product (AP) Product (MP)
10 0 0 -- --
10 1 5 5 5
10 2 15 7.5 10
10 3 30 10 15
10 4 50 12.5 20
10 5 75 15 25
10 6 85 14.2 10
10 7 90 12.9 5
10 8 92 11.5 2
10 9 92 10.2 0
10 10 90 9 -2
b. See shapes of graphs in Figure 5.1 in the text.
c. After the fifth worker (or output of 75), there are diminishing marginal returns.
d. Average product is maximized at an output level between 75 and 85 (between 5 and 6 work-
ers).
2.a.
Total Average Marginal
Capital (K) Labor (L) Product (TP) Product (AP) Product (MP)
10 0 0 — —

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10 1 25 25 25
10 2 100 50 75
10 3 220 73 120
10 4 303 76 83
10 5 357 71 54
10 6 392 65 35
10 7 414 59 22
10 8 424 53 10
10 9 428 48 4
10 10 429 43 1
b. See text answers for graphs.
c. After the third worker (or output of 220), there are diminishing marginal returns.
d. Average product is maximized at an output level of 303.
3. a. Explicit: lease, inventory, wages, electricity, insurance.
Implicit: Jim’s forgone salary and the forgone interest on his savings.
b. Fixed: Lease, insurance.
Variable: Inventory, wages, electricity (probably varies with output).
4. a. Accounting profit is total revenue less explicit costs = $150,000 – [25,000 + 12,000 +
30,000 + 20,000] = $150,000 – 87,000 = $63,000.
b. Economic profit = total revenue – explicit costs – implicit costs
= $150,000 – 87,000 – 50,000 – 5,000 = $8,000

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5.a
K L TP TFC TVC TC AFC AVC ATC MC
10 0 0 200 0 200 -- -- -- --
10 1 5 200 10 210 40.00 2.00 42.00 2.00
10 2 15 200 20 220 13.33 1.33 14.66 1.00
10 3 30 200 30 230 6.67 1.00 7.67 0.67
10 4 50 200 40 240 4.00 0.80 4.80 0.50
10 5 75 200 50 250 2.67 0.67 3.34 0.40
10 6 85 200 60 260 2.35 0.71 3.06 1.00
10 7 90 200 70 270 2.22 0.78 3.00 2.00
10 8 92 200 80 280 2.17 0.87 3.04 5.00
b. See Figure 5.2 in the text.
c. Average total cost is minimized at an output level of approximately 91. Average variable cost
is minimized at an output level of approximately 80.
6. a.
K L MP/TP TFC TVC TC AFC AVC ATC MC
10 0 —/0 500 0 500 — — — —
10 1 25/25 500 20 520 20 0.80 20.80 0.80
10 2 75/100 500 40 540 5 0.40 5.40 0.27
10 3 120/220 500 60 560 2.27 0.27 2.54 0.17
10 4 83/303 500 80 580 1.65 0.26 1.91 0.24
10 5 54/357 500 100 600 1.40 0.28 1.68 0.37
10 6 35/392 500 120 620 1.28 0.31 1.59 0.57
10 7 22/414 500 140 640 1.21 0.34 1.55 0.91
10 8 10/424 500 160 660 1.18 0.38 1.56 2.00

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10 9 4/428 500 180 680 1.17 0.42 1.59 5.00
10 10 1/429 500 200 700 1.16 0.47 1.63 20.00
b. See text answers for graphs.
c. Average total cost is minimized at an output level of approximately 414 (or average total
cost of $1.55). Average variable cost is minimized at an output level of approximately 303
(or average variable cost of $0.26).
7. a See Figure 5.4 in the text.
b. The total product curve has a diminishing slope everywhere. Both the marginal product
and average product curves are downward sloping with marginal product everywhere below
average product after their point of equality. The total variable cost and total cost curves are
upward sloping everywhere. The marginal cost and average variable cost curves are upward
sloping with marginal cost greater than average variable cost after their point of equality.
The marginal cost curve intersects the average total cost curve at its minimum point.
8. An improvement in technology lowers (shifts rightward) marginal cost and all other cost
curves (except fixed cost, which is not affected by marginal product). The minimum points
on the average total and average variable cost curves will be at higher outputs and lower
costs.
9. L = 50; APL = 50; MPL = 75; PL = $80; TFC = $500.
a. AP = Q/L
50 = Q/50

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Q = 2,500
AVC = TVC/Q = (80)(50)/2,500 = 4,000/2,500 = $1.60
b. MC = PL/MPL = 80/75 = $1.07
c. ATC = TC/Q = [TVC + TFC]/Q = [4,000 + 500]/2,500 = 4,500/2,500 = $1.80
d. (1) We don't know if marginal cost is increasing or decreasing, as we have only one data
point. (2) Average variable cost must be decreasing, as marginal cost is less than AVC. (3)
Average total cost must be decreasing for the same reason.
Application Question
1. With a given technology and fixed inputs, as employees at the drive-through windows worked
faster to achieve the goal of a 90-second turnaround time for a drive-through customer, the
quality of the service began to decline, and worker frustration and dissatisfaction increased.
This situation represents diminishing returns as more variable inputs are used relative to the
amount of fixed inputs. The management response to these problems was to implement new
technologies for the production process: placing an intercom at the end of the drive-through
line to correct mistakes in orders and finding better ways for employees to perform multiple
tasks in terms of kitchen arrangement. In an attempt to cut costs and increase productivity
even further, approximately 50 McDonald’s franchises have been testing remote order-
taking. With a remote call center, an order-taker can answer a call from a different
McDonald’s where another customer has already pulled up.
2. a. There will be diminishing returns in the drug manufacturing process because much of the
testing for quality, gauging of dryness, and testing for bacterial contamination is done by

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Solution Manual for Economics for Managers, 3rd Edition

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