EC 515 ----  EXAM 2    PROBLEM SET           Name:______________________

1.  (A) Suppose two firms have exactly the same marginal cost curve, but their average fixed cost
curves are not the same.  Will their average variable cost curves be the same?  Why or why not?
(B) A firm's marginal product of capital is twice its marginal product of labor; the price of labor
is $6, and the price of capital is $3.  Is the firm minimizing its costs?  If not, how can it reduce its
costs? Explain. [Hint: see Chapter 5 Appendix]

2.  The Miracle Manufacturing Company's short-run average cost function is 

     AC = 3 + 4Q,

Where AC is the firm's average cost (in dollars per pound of the product), and Q is output rate
(A) What is the firm's short-run total cost function?
(B) Does the firm have any fixed costs?  Explain.
(C) If the price of Miracle Manufacturing Company's product (per pound) is $2, is the firm
making profits or losses?  Explain.

3.  What is a sunk cost, and how is it related to a decision problem?

4. Describe the relation between marginal and average cost. Describe the relation between
marginal and average fixed costs and between marginal and average variable costs.

5.  Explain the process by which economic profits are eliminated in a monopolistically
competitive industry as compared to a perfectly competitive industry.
 
6.  Will revenue-maximizing firms have short-run profits as large or larger than profit-
maximizing firms? If so, when?  If not, why not?

7.  Correctly draw and label the relationship between production functions and cost functions. In
other words, draw and label: Total Product (TP), Marginal Product (MP), Average Product (AP),
Total Cost (TC), Total Variable Cost (TVC), Total Fixed Cost (TFC), Marginal Cost (MC),
Average Total Cost (ATC), Average Variable Cost (AVC), and Average Fixed Cost (AFC).

8.  Define all of the variables that you illustrated in question 7. 

9.  Draw and label a perfectly competitive firm making economic profit.  Identify the profit, total
revenue, total costs, total fixed costs, total variable costs.  Label all curves.

10.  What influence do the profits earned by pharmaceutical companies have on the amount they
will spend searching for new drugs?

11.  "A price searcher should set marginal revenue as far above marginal cost as possible."
Explain why this statement is wrong.