CBE Microeconomics 2 — Questions and Answers
Question 1: When a firm in a perfectly competitive market is producing at a quantity where marginal cost exceeds marginal revenue, the firm should:
- Increase output to maximize profit
- Decrease output to maximize profit (Correct answer)
- Shut down immediately
- Raise its price above market price
Correct answer: Decrease output to maximize profit
When MC > MR, each additional unit reduces profit, so the firm should reduce output until MC = MR.
Question 2: The income effect of a price decrease for a normal good causes consumers to buy:
- Less of the good because real income falls
- More of the good because real income rises (Correct answer)
- Less of the good because the substitution effect dominates
- The same amount because preferences are unchanged
Correct answer: More of the good because real income rises
A price decrease raises real purchasing power, and for normal goods, higher real income leads to greater consumption.
Question 3: A natural monopoly is best characterized by:
- Patents that prevent entry
- Decreasing average total costs throughout the relevant market range (Correct answer)
- Exclusive government licensing
- Control of a key resource
Correct answer: Decreasing average total costs throughout the relevant market range
Natural monopolies arise when one firm can serve the entire market at lower average cost than multiple competing firms due to economies of scale.
Question 4: In game theory, a Nash equilibrium occurs when:
- Both players cooperate for maximum joint payoff
- Each player maximizes total social welfare
- No player can improve their payoff by unilaterally changing strategy (Correct answer)
- The dominant strategy yields the highest individual payoff for one player
Correct answer: No player can improve their payoff by unilaterally changing strategy
A Nash equilibrium is a stable outcome where each player's strategy is a best response to the strategies of all other players.
Question 5: Price discrimination is most profitable when markets have:
- Identical price elasticities across consumer segments
- High cross-price elasticity between segments
- Low price elasticities in all segments
- Different price elasticities and the ability to prevent resale (Correct answer)
Correct answer: Different price elasticities and the ability to prevent resale
Price discrimination requires charging groups with different elasticities different prices, and arbitrage between segments must be prevented.
Question 6: The Lerner Index measures monopoly power by comparing:
- Total revenue to total cost
- Price to average variable cost
- The markup of price over marginal cost relative to price (Correct answer)
- Consumer surplus to producer surplus
Correct answer: The markup of price over marginal cost relative to price
The Lerner Index = (P − MC) / P; a higher value indicates greater market power and deviation from competitive pricing.
Question 7: When two goods are perfect substitutes, the indifference curves are:
- L-shaped (right angles)
- Downward-sloping straight lines (Correct answer)
- Bowed inward toward the origin
- Upward-sloping
Correct answer: Downward-sloping straight lines
Perfect substitutes have a constant marginal rate of substitution, so indifference curves are linear with a constant negative slope.
CBE Microeconomics 2
When a firm in a perfectly competitive market is producing at a quantity where marginal cost exceeds marginal revenue, the firm should: