Question

What is the correct alternative for each question?

1. Suppose there are two inputs for production, labor, and capital. The firm’s production process is
defined by the following production function y = f (L, K). How do we interpret the firm’s marginal rate
of technical substitution?
a) How many units of capital the firm would have to give up in order to attain one more unit of
labor, such that the firm maintains the same cost level
b) How many units of capital the firm would have to give up in order to attain one more unit of
labor, such that the firm produces one more unit of output
c) How many units of capital the firm would have to give up in order to attain one more unit of
labor, such that the firm maintains the same level of production
d) a) and b) are correct
e) a) and c) are correct

2. A firm creates an allergy medicine, call it Chemical X, and sells it on the market under patent
protection. Now suppose the patent expires, and other firms can now produce and sell Chemical X in
the market. What do we expect to happen to the market equilibrium quantity and price of Chemical
X?
a) The equilibrium price and quantity will increase
b) The equilibrium price and quantity will decrease
c) Equilibrium quantity will decrease and equilibrium price will increase
d) Equilibrium quantity will increase and equilibrium price will decrease
e) The market equilibrium will not be affected

3. Which of the following is a characteristic of an oligopoly market?
a) many firms
b) unique product
c) price setting power
d) best response functions
e) none of the above

4. A nash equilibrium is a strategy profile such that:
a) Both players are playing a best response strategy
b) Both players must be playing a dominant strategy
c) Both players achieve their highest possible payoff
d) a) and c)
e) b) and c)

Answer 1

1> C

MRTS assumes same amount of production with varying level of inputs, it is not necessary to have same level of cost. Thus, option C is correct.

2> d) Equilibrium quantity will increase and equilibrium price will decrease

Since more companies will produce the chemical X, there will be higher competition and due to that, the total quantity will increase and due to competition, the price will fall.

3> d) best response functions

Oligopoly is characterized by inter-firm dependencies where each play the best response given others strategy.

4>  a) Both players are playing a best response strategy

This is the definition of NE, it does not mean it is pareto optimal or the strategy is dominant.