Question:
The firm has fixed costs of $10 million per year and a variable cost of $1 per bag no matter how many bags are produced.
a. If this firm kept on increasing its output level, would Average Total Cost per bag ever increase? Is this a decreasing-cost industry?
b. If you wished to regulate this monopoly by charging the socially optimal price, what price would you charge? At that price, what would be the size of the firm's profit or loss? Would the firm want to exit the industry?
c. You find out that if you set the price at $2 per bag, consumers will demand 10 million bags. How big will the firm's profit or loss be at that price?
d. If consumers instead demanded 20 million bags at a price of $2 per bag, how big would the firm's profit or loss be?
e. Suppose that demand is perfectly inelastic at 20 million bags, so that consumers demand 20 million bags no matter what the price is.
What price should you charge if you want the firm to earn only a fair rate of return? Assume as always that Total Cost includes a normal profit.