ECONOMICS (ECO415)

ASSIGNMENT
(Total: 100 marks)

Answer ALL questions.

Question 1

(a) Complete the following table.

Number of workers Total Output/Product Average Product Marginal Product (MP)

(TP) (AP)

1 5 5 5

2 12 6 7

3 22 7.33 10

4 30 7.5 12

5 36 7.2 6

6 38 6.33 2

(4 marks)

(b) State the law of diminishing marginal returns. (2 marks)

It states, “As more of the variable inputs added to fixed inputs (capital such as technology), the additional
or marginal product of the variable input (MP) will eventually decline”.

(c) With the aid of diagrams, show and explain the Total Product (TP), Average Product (AP) and
Marginal Product (MP) curves.
 (8 marks)
o Total Product (TP) is the amount of output produced with a given amount of inputs.
o Average Product (AP) is calculated by dividing TP by the amount of input used;
AP = TP/number of labor
o Marginal Product is the changes of total product.

Question 2

(a) Differentiate between short-run and long run production periods. Using examples, explain four (4)
types of short run production cost with appropriate diagrams.

Short run production is the conceptual time period in which there are some or at least one
factor(s)/input(s) are variable and others are fixed; while long run production is when no fixed
factors/inputs of production, so that there are no constraints preventing changing the output
level by changing the capital stock or by entering or leaving an industry.

Short run production is governed by the “Law of Diminishing Marginal Returns”; while long
run production is governed by “Law of Returns to Scale”.

Short run production costs for production of sugar are:

● AFC – Average Fixed Cost
● AVC – Average Variable Cost
● AC – Average Cost
● MC – Marginal Cost
 (12 marks)
(b) Explain three (3) factors of economies and diseconomies of scale respectively.

The three factors of economies are:

● Production Labor – if the number of labor remains as the output increases, the firm
enjoys benefits
● Marketing- A large firm can spread its advertising and marketing budget over a large
output and it can purchase its inputs in bulk at negotiated discounted prices if it has
monopsony (buying) power in the market. A good example would be the ability of the
electricity generators to negotiate lower prices when negotiating coal and gas supply
contracts. The big food retailers have monopsony power when purchasing supplies
from farmers.
● Managerial - This is a form of division of labor. Large-scale manufacturers employ
specialists to supervise systems and oversee human resources.

The three factors of diseconomies are:

● Scarcity of raw material – as the output/production increases, it is expected the scarcity of
raw material occur
● Management problems – big businesses may lose control over fixed costs such as expensive
head offices, management expenses and marketing costs. There is also a risk that very
expensive capital projects involving new technology may prove ineffective and leave the
business with too much under-utilized capital.
● Technical difficulties- workers in large firms may feel a sense of alienation and subsequent
loss of morale. If they do not consider themselves to be an integral part of the business, their
productivity may fall leading to wastage of factor inputs and higher costs. A fall in
productivity means that workers may be less productively efficient in larger firms.
(10 marks)
Question 3

(a) Explain by using diagrams the type of profit earned by a perfect competition firm in the long
run.

(10 marks)
(b) Explain four (4) characteristics of monopoly firm.

i. A single seller producing a particular good or service in the industry.

ii. Produces a unique product that has no close substitute thus the demand curve is inelastic.
iii. Impossible for new firms to enter the market due to the barriers created by the monopolist that
can be in the form of technology, economic or legal.
iv. Has considerable power to control the price of its produce hence a monopolist is also known as
price maker.
(8 marks)
(b) Explain the type of profit earned by a monopoly firm in the long run.
● It will cause the abnormal profit for monopoly firm.

Features Monopoly
Number of Seller One
Long run Equilibrium Able to maintain abnormal profit
Price and Quantity Higher price with lower quantity
 Efficiency
Not Productive: P = AC

Not Allocative: P = MC
(10 marks)

Question 4

State whether the statement is True or False.

1. Market structure refers to the level of competition in a market. False

2. A perfect market is one where there are lots of sellers whose product is slightly differentiated. False
3. The higher the barriers to entry in an industry, the less competitive it will be. True
4. In a monopolistic market there is only one dominant producer. False
5. Oligopolistic markets are characterized by independent decision making. False
6. Monopolistic competition refers to a market where all of the assumptions of perfect competition hold
except for perfect mobility of labor. False
7. Price wars can be a characteristic of oligopolistic markets. False
8. In a monopoly market there is only one dominant producer. True
9. There are many buyers and sellers in perfect competition. True
10. The firm’s profit-maximizing output is any level of which average cost is equal marginal cost. False

(15 marks)

Question 5
Based on the above diagram:

(a) State the type of market. (2 marks)

Perfect Competition, Short-run market

(b) What is the profit maximizing price and output for this firm? (3 marks)
Profit maximizing is at AC = AR/MR at point b; the price is at P1 and output of Q1
(c) State the firm’s: TFC, TVC, TC and AFC at the equilibrium output. (8 marks)
TFC = TC – TVC = (P3 * Q1) – (P0 * Q1)
TC = P3 * Q1
TVC = P0 * Q1
AFC = P3 – P0
(d) Is the firm making abnormal profit, normal profit or loss? Show the area of profit or loss.
(4 marks)
Loss at box (P3 – c – b – P1) as shaded in diagram above

(e) If the firm is making a loss, should the firm continue production or leave the industry? Explain.
(4 marks)
The firm should continue its production because its TFC > loss. The TFC is the indicator as the firm
still has to pay rent, bank loan etc even if it shuts down.
As shown in the diagram below, loss is lesser than AFC, therefore it is better if the firm continue its
production. It will earn profit once the demand start to increase or its rival shut down their
production.
END OF QUESTIONS