You decide in May that the coming summer’s corn crop will be much larger and the fall corn price consequently much lower than most people expect.
A. To act on your beliefs, should you buy or should you sell December corn futures? (Futures are contracts to buy or sell at a future date at a price established now.)
B. If a substantial number of knowledgeable people come to share your opinion about the size of this summer’s crop, what will happen to the price of December corn futures?
C. What information will this change in the price of corn futures convey to current holders and users of corn?
D. How will this information affect their decisions about holding corn for future sale or use?
E. How will these decisions, based on the information provided by the change in the price of December corn futures, affect June consumption?
F. Can speculators carry a bumper crop backward in time from a period of lesser to a period of greater scarcity?
2. The text argues that if an activity is known to be profitable, more people will go into that activity and the profits will disappear. Does that apply to the selling of cocaine?
A. The costs of selling cocaine include the risk of being arrested and imprisoned. Why is a ten-year sentence not twice as strong a deterrent as a five-year sentence? Why does one chance in five of being imprisoned for 10 years translate into less than two years’ imprisonment? Is a cocaine seller likely to use a high or a low discount rate in deciding on the subjective cost of possible imprisonment? Why is the threat of imprisonment more effective in deterring some people than others?
B. Another cost of selling is the risk of being killed by competitors. This cost will be much lower for some people than for others. Characterize a person for whom this cost will be relatively low.
C. For whom is the selling of cocaine profitable?
3. Use Figure 8-7 on page 199 of the textbook for this question.
Have you ever wondered why otherwise identical books usually sell for so much more in hardcover than in softcover editions? Surely it doesn’t cost that much more to attach a hard cover when it’s all being done on an assembly-line basis! This question tries to construct a plausible explanation, and to give you practice in working with the concepts of marginal cost and marginal revenue. Some potential purchasers of a new book will be eager to obtain it as soon as it’s published and will be willing to pay a high price to do so.
Those who want to give the book as a present may be willing to pay a high price to demonstrate their generosity, and may appreciate having a hard cover on the book as a sign of its quality. Still other potential purchasers—libraries are the clearest example—want hardcover books because they stand up better to heavy use; these purchasers are willing to pay a substantially higher price for a book to avoid the considerable expense of having to bind it themselves between hard covers. Libraries also will want to purchase a popular book right after it has been published in order to satisfy their eager patrons. There are also many potential purchasers, however, who want to read the book, would be willing to buy a copy if the price isn’t too high, and who don’t very much care whether it is in hard-cover or soft. The demand curve on the left-hand graph in Figure 8–7 portrays the kind of demand for the book that might emerge in such circumstances. The top segment of the demand curve is created by those willing to pay a premium to obtain the book quickly, or to get it between hard covers. Once the price falls below $20, “general readers” also become willing to purchase a copy. (The demand curve would not have such a sharp kink, but straight lines are easier to work with than curves.) Assume throughout that the marginal cost to the publisher of printing and shipping one more book is $4.
A. What would be the most profitable price for the publisher to set for the book? The marginal-revenue curves that correspond to each segment of the demand curve have been drawn for you, using the gimmick explained in Figure 8–3.
B. The most profitable price is the price that enables the publisher to sell all those copies, but only those copies for which marginal revenue is greater than marginal cost. The problem in this case is that in order to sell the units from 16,000 to 24,000, for which marginal revenue exceeds marginal cost, the publisher must also sell the units between 12,000 and 16,000, for which marginal revenue is less than marginal cost. Which is the more profitable place to stop? Should the publisher set the price at $28 and sell 12,000, or set the price at $16 and sell 24,000?
C. Suppose the publisher puts a hard cover on the book when it’s first published, then waits six or eight months before bringing the book out in a paperback edition at a lower price. What prices should it set for each edition? A reasonable approach would be to assume that all prospective purchasers at prices above $20 either are not willing to wait or want the hardcover edition, while those below $20 are willing to wait and to accept the paperback edition. To calculate the prices to set for each edition, you must first separate the two demand curves. Cut the lower section of the demand curve from the upper section and drag it to the left so that it begins at the price axis; it will then show the quantity of softcover books that will be demanded at various prices when the paperback edition is published. This has been done for you on the right-hand graph in Figure 8–7. Draw the marginal-revenue curve for each demand curve, find out where marginal revenue crosses marginal cost in each market, and set the appropriate prices.
4. How should NASA, (manufacturing a new supersonic commercial airliner), take account of the plane’s development costs in determining the prices to charge airline companies? Should they suspend production if they can’t obtain a price that will cover development costs? Or do development costs have no bearing on what travelers are willing to pay? Explain.
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