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Examiners commentaries 2013

MN3028 Managerial economics
Important note
This commentary reflects the examination and assessment arrangements
for this course in the academic year 201213. The format and structure
of the examination may change in future years, and any such changes
will be publicised on the virtual learning environment (VLE).
Information about the subject guide and the Essential reading

references
Unless otherwise stated, all cross-references will be to the latest version
of the subject guide (2011). You should always attempt to use the most
recent edition of any Essential reading textbook, even if the commentary
and/or online reading list and/or subject guide refers to an earlier
edition. If different editions of Essential reading are listed, please check
the VLE for reading supplements if none are available, please use the
contents list and index of the new edition to find the relevant section.
General remarks
Learning outcomes
At the end of this course and having completed the Essential reading and
Learning activities, you should be able to:
prepare for Marketing and Strategy courses by being able to analyse
and discuss consumer behaviour and markets in general
analyse business practices with respect to pricing and competition
define and apply key concepts in decision analysis and game theory.
Format of the examination

The examination is three hours long and comprises two sections. You
have to answer all four questions in Section A (12.5 marks each) and two
questions in Section B (25 marks each).
Planning your time in the examination

The marks for each question correspond roughly to the proportion of time
you are expected to spend on it. Try not to spend too much time on any
one question. You can always go back to it later if you have time left.
When you select which questions to answer in Section B, take time to read
all the questions (and all parts of each question). Often candidates select a
question on the basis of the topic of the question only to realise that they
are able to answer at most the first part of the question.
If you end up doing terribly complicated calculations taking up several
pages it is highly likely that you have misinterpreted the question or made
a mistake go back and check the question and your answer. The same
applies, of course, if you find negative prices or quantities, or probabilities
greater than one or less than zero.
1
Write down clearly what you are doing as the Examiners award marks for
correct logic and development even if there are numerical mistakes.
What are the Examiners looking for?

We are looking for evidence that you have truly understood the material
and can apply this knowledge. Memorising answers to past questions
will not get you very far. You should have the confidence to tackle
the questions from first principles. Of course, you will only have this
confidence if you have worked consistently throughout the year to
familiarise yourself with the way of thinking that this subject requires.
How to do well in the examination

A key success factor is obviously the time spent preparing and, as
mentioned before, an early start is definitely required. It is impossible
to acquire the thinking skills you need in the last few weeks before the
examination.
It is not good enough to simply repeat the material from the subject
guide. You must understand it! A good way to check whether you really
understand the material is to try to explain it to a friend.
You also have to spend a lot of time thinking about questions/problems/
exercises. Never look at answers or solutions until you have spent at least
an hour or two trying to figure out the solution yourself. Obviously during
the examination you will not have that much time, but the more time you
spend thinking about how to solve problems during the year, the easier
your revision and the examination will be.
Especially for the essay questions, do not write down everything you
know about a topic which is vaguely related to the question. Answer
the question! We do not expect polished essays with nicely constructed
sentences, and the use of bulleted lists is acceptable where appropriate.
The main thing is to show that you have understood the material. You can
give evidence of your understanding through clear exposition, including
models and numerical and verbal examples (preferably your own).
Diagrams should be clear. It is not important that the axes are drawn as
straight lines, etc. but diagrams have to be neat enough to illustrate the
point you are making.
Amazingly, we often find that candidates have not read the subject guide
properly. You do not need to read anything else to do well in this course,
so make sure you read and understand the subject guide.
Question spotting
Many candidates are disappointed to find that their examination
performance is poorer than they expected. This can be due to a number
of different reasons and the Examiners commentaries suggest ways
of addressing common problems and improving your performance.
We want to draw your attention to one particular failing question
spotting, that is, confining your examination preparation to a few
question topics which have come up in past papers for the course. This
can have very serious consequences.
We recognise that candidates may not cover all topics in the syllabus in
the same depth, but you need to be aware that Examiners are free to
set questions on any aspect of the syllabus. This means that you need
to study enough of the syllabus to enable you to answer the required
number of examination questions.
2
The syllabus can be found in the Course information sheet in the

section of the VLE dedicated to this course. You should read the
syllabus very carefully and ensure that you cover sufficient material in
preparation for the examination.
Examiners will vary the topics and questions from year to year and
may well set questions that have not appeared in past papers every
topic on the syllabus is a legitimate examination target. So although
past papers can be helpful in revision, you cannot assume that topics
or specific questions that have come up in past examinations will occur
again.
If you rely on a question spotting strategy, it is likely
you will find yourself in difficulties when you sit the
examination paper. We strongly advise you not to adopt
this strategy.

Important note

references
Comments on specific questions

Candidates should answer SIX of the following TEN questions: FOUR
from Section A (12.5 marks each) and TWO from Section B (25 marks
each).
Section A
Answer all four questions from this section (12.5 marks each).
Question 1
N players simultaneously decide whether to enter a market or stay out. Market
demand is d (<N). If d or fewer players enter, entrants get 1; if more than d enter,
entrants get zero. Staying out yields a payoff of 0.5. Find all pure strategy Nash
equilibria.
Reading for this question
Subject guide, Chapter 2.
Approaching the question
Each player has two strategies: enter and not enter. At a Nash equilibrium
it shouldnt be possible for a player to improve their payoff if others stick
to their equilibrium strategy. Clearly, there cannot be an equilibrium where
fewer than d players enter because then a non-entrant could get more by
entering. Similarly, there cannot be an equilibrium where more than d
players enter because then an entrant could get more by not entering. So,
any set of d players entering is a Nash equilibrium.
Few candidates in 2013 were able to demonstrate that they fully grasp the
concept of Nash equilibrium. Some simplified the game to a game with
two players but this does not answer the question.
4
Question 2
Firm A and Firm B are duopolists. Firm A has constant marginal cost of 5 and
annual fixed cost of 6. Firm B has constant marginal cost of 3 and annual fixed
cost of 6. Annual demand is given by Q = 15 p/2. Firm A is the leader and Firm
B is the follower. Find the Stackelberg equilibrium and the corresponding annual
profits.
We can rewrite the demand function as p = 30 2Q = 30 2(qA + qB).
Firm B is the follower and takes qA as given. So, firm B maximises
B = (30 2qA 2qB 3)qB 6
Which yields qB = (27 2qA)/4. (1)
Firm A is the leader and takes into account Bs response when setting its
output level, so Firm A maximises
27 2qA
A = 30 2qA
5 qA 6
2
which yields qA = 5.75. Substituting in (1) gives qB = 3.875 so that

p = 10.75.
Optimal profits are A = 27.1 and B = 24.
This is a rather straightforward question and quite a few candidates in
2013 got full marks here. However, to answer this question correctly it
is essential that you know what a Stackelberg equilibrium is. A common
mistake in 2013 was to present the Cournot equilibrium instead.
Question 3
A manufacturer has to decide which (if any) of two plants to operate. Plant 1 has
cost function C1(q1) = + q12 and Plant 2 has cost function C2(q2) = + q22/2.
Demand is given by p = 2 q/3.
a. If both plants are used, how should output be divided between them?
Calculate the corresponding profit.
If the manufacturer is using both plants then the marginal cost in both
should be the same and equal to marginal revenue.
Suppose the manufacturer produces q1 units in Plant 1 and q2 units in
Plant 2. Marginal revenue at this output level equals MR(q1+ q2) = 2
2(q1 + q2)/3.
Marginal costs at the two plants are given by MC1(q1) = 2q1 and MC2(q2)
= q2 respectively.
Equating MR and MC1 and MC2 and solving for q1 and q2 gives q1 = and
q2 = 1. At this point it is a good idea to check that at these output levels
marginal revenue is indeed equal to marginal costs in both plants.
Price at the optimal output levels equals p = 2 (3/2)/3 = 3/2 so that
profit is (3/2)(3/2) 1/4 (1/2)2 1/4 1/2 = 1.
b. Verify that it is better to use both plants than to just use Plant 2.
If the manufacturer only uses Plant 2, he would produce an output level q2
for which MR(q2) = MC2(q2) or 2 2q2/3 = q2 so that q2 = 6/5. Price
is then 2 2/5 = 8/5 and profit equals (8/5)(6/5) 1/4 (6/5)2/2 =
0.95 < 1.
Question 4
Consider the following infinitely repeated alternating offers bargaining game.
Player 1 offers the division of a cake of size 1 to Player 2. Player 2 can either
accept or reject. If he accepts, the proposed division is realised. If Player 2
rejects, he can then propose a division which Player 1 accepts or rejects. If Player
1 rejects, he again makes an offer and so on. Both players discount their payoffs
after each rejection by a factor (0 < < 1). Find the subgame perfect Nash
equilibrium.
Suppose Player 1 offers to keep a fraction x so that Player 2 receives 1 x.
If Player 2 rejects then he is in exactly the same position Player 1 was in at
the start of the game and if x is the optimal offer then Player 2 would offer
to keep x at this stage which, if accepted, would give him x. At a subgame
perfect equilibrium offers are made such that the other player is indifferent
between accepting and rejecting and therefore 1 x = x or x = 1/(1 + ).
Some candidates in 2013 did not know how to handle the infinite version
of the alternating bargaining game and did not realise one can exploit
the fact that the game is the same after one period. Many solved a finite
version assuming two or three rounds but of course that doesnt answer
the question.
Section B
Answer two questions from this section (25 marks each).
Question 5
Dingle Dongle is a profit maximising monopoly retailer of widgets in
Wonderland. Dingle Dongle has annual fixed costs of 100 and it pays the
wholesaler 1 for every widget it sells. The price charged by Dingle Dongle must
be a whole number of pounds. Annual demand for widgets in Wonderland, as a
function of the price, is given in the table below.
Price
1
2
3
4
5
6
7
8
9
Number of widgets sold

100
90
80
70
60
50
40
30
0
a. What price should Dingle Dongle charge? What are the corresponding annual
profits?

The table below shows the profit corresponding to all possible prices.
(Ignore the rightmost column for now.) The optimal price is 6 and
corresponding profit is 150.
Price
Profit margin
Profit
Profit under 3 unit tax
100
<0
10
<0
60
<0
110
<0
140
<0
150
140
20
110
20
100
<0
b. A potential competitor, Gizmo Heaven, is considering opening a shop in

Wonderland. If it does, it will have the same cost structure as Dingle Dongle
(same fixed cost, same wholesale price). If there are two widget shops in
Wonderland, customers will buy from whichever is cheaper and if both
charge the same price, each gets 50% of the market. Suppose Dingle Dongle
can commit to a price. What is the (profit maximising) price it should set to
deter entry by Gizmo Heaven?
We dont have to consider p=1 as profit is negative at this price. For p=2, if
Gizmo Heaven (GH) were to enter, it would set p=2 also. Both firms would
then make profits of 1 45 100 < 0. So, GH will not enter if p=2. For
p = 3, if GH were to enter (and set p = 3), both firms would make profits
of 2 40 100 < 0. So, GH will not enter if p=3. For p=4, if GH were to
enter (and set p = 4), both firms would make a profit of 3 35 100 = 5.
It follows that, if Dingle Dongle (DD) wants to deter entry it should set p=3.
c. Now suppose the Gizmo Heaven entry threat has disappeared but
Wonderland is considering imposing a tax on widget sales. What is the effect
of the following taxes on the price Dingle Dongle will charge?
i. A tax of 3 per widget sold.
The profits corresponding to all possible prices under a 3 unit tax are
shown in the table in (a). DD would now set price equal to 7 or 8.
ii. An annual fixed tax of 100.
This tax would not affect the price DD charges (i.e. p = 6).
iii. An annual fixed tax of 200.
This tax would also not affect the price charged by DD. However, DD
cannot make a profit under this tax and therefore will go out of business.
This question was not popular and there were few correct answers.
Question 6
A seller has one object for sale. There are two bidders and their valuations are
independently and uniformly distributed on [0,1]. The seller holds an all-pay
auction: the bidders simultaneously submit a sealed bid each. The bidder with
the highest bid receives the object and each bidder has to pay his bid.
a. Show that it is not an equilibrium strategy for each bidder to bid half his
valuation.
Assume bidder 1 bids according to b1 = v1/2. The expected payoff for
bidder 2 then equals
2 = v2 Prob (b2 > b1) b2 = v2 Prob (b2 > v1/2) b2 = v2 (2b2) b2 = b2(2v2 1)
which is linear in b2. Clearly, the best response for bidder 2 is not to bid
half his valuation.
b. Assume that bidder 2 bids b2(v2) = fv22 (f > 0). Show that if bidder 1 bids b1,
his expected payoff is v1(b1/f)1/2 b1.
The expected payoff to bidder 1 equals
1=v1 Prob(b1 > b2) b1 = v1 Prob(b1 > fv22) b1 = v1 Prob(v2 < (b1/f)1/2) b1.
c. Show that the best response of bidder 1 to b2(v2) is b1 = v12/(4f). What is the
equilibrium of the all-pay auction?
Maximising 1 with respect to b1 immediately gives the result in the
question.
At equilibrium we have f = 1/(4f) or f = 1/2 (i.e. both bidders bid half of
the square of their valuation).
d. Would you advise a seller to use an all-pay auction rather than a first or
second price sealed bid auction?
Under the all pay auction, the seller receives both bids. His expected
payoff is therefore ((2/3)2 + 1/3)2) = 5/18.
Under a first or second price sealed bid auction the sellers expected payoff
is the expected value of the second highest valuation (i.e. 1/3 > 5/18).
Not many candidates attempted this rather challenging question in 2013.
The most common mistake was to just restate from memory the expected
payoff formula for a first price auction whereas this question is about an
all-pay auction.
Question 7
A customer buys a car from a used car dealer. The car may be sold with or
without a warranty. With a warranty, the dealer will pay for all repair expenses
over the next year. Without a warranty, the customer must pay for all repair
expenses. The dealer may sell a good car or a mediocre car. The buyer may treat
the car well or badly. For a given level of care, a good car will incur less repair
expense than a mediocre car. A car will also incur less repair expense if it is
treated well rather than badly. The customer cannot tell the quality of the car
when he buys it and the dealer does not know whether the customer will treat
the car well. The cost of first year repairs is given in the table below.
Good car
Mediocre car
Treated well
100
900
Treated badly
800
1600
The customer incurs an additional cost of 100 if he treats the car well.
A good car costs the dealer 300 more than a mediocre car. Assume that the
customer can sell a good car for 300 more than a mediocre car after one year.
Both the customer and the dealer are risk neutral.
a. If the car is sold without warranty, which type of car will the dealer sell? Will
the customer treat it well or badly?
Without a warranty, the dealer does not bear any of the repair costs and
therefore will sell a mediocre car (since the good car is more expensive).
The customer bears all repair expenses and the difference in repair
expenses by treating the car well as opposed to treating it badly is larger
than 100. So, the customer will treat the car well.
b. If the car is sold with a warranty, which type of car will the dealer sell? Will
the customer treat it well or badly?
With a warranty, the dealer bears all repair expenses and the difference in
expenses between a good and a mediocre car is more than 300. So, the
dealer will sell a good car. Since the customer does not bear any of the
repair expenses, he will treat the car badly.
c. What is the maximum additional amount the customer should be prepared to
pay for a warranty?
With a warranty, the customer will get a good car and will treat it badly.
Without a warrantly the customer will get a mediocre car and will treat it
well. The difference in total cost is (300 + 800) (900 + 100) =
500. So, the customer should be prepared to pay 500 for the warranty.
d. What is the minimum amount the dealer would charge for a warranty?
Without a warranty, the dealer sells a mediocre car and doesnt pay for
repairs. With a warranty, the dealer has an extra 300 cost to provide a
good car which the customer will treat badly so that the dealer incurs
800 repair costs. This means the dealer would need to charge at least
1,100.
9
e. Now suppose that there is a partial warranty: the dealer will pay a fraction p
of the repair costs (and the customer pays a fraction 1 p). For which values
of p will the dealer sell a good car that is treated well by the customer?
If the customer pays a fraction 1 p of the repair costs he will treat the car
well (assuming its a good car) if 100 + 100(1 p) < 800(1 p) or
p < 6/7.
If the dealer pays a fraction p of the repair costs then he will provide a
good car (assuming the customer will treat it well) if p 900 > 300 +
p 100 or p > 3/8.
There were few attempts at this question and not many candidates gave
a complete answer. Candidates should read the questions in their entirety
before deciding which questions to attempt.
Question 8
a. Explain the intertemporal choice model.
b. Show how an increase in interest rate affects period 1 consumption if
consumption is a normal good.
c. Show that the amount an individual saves can decrease if the interest rate
rises.
If consumption is a normal good then period 1 consumption will increase
with an increase in the interest rate. Although a rise in the interest rate
makes saving more attractive, saving can decrease when the income effect
is larger than the substitution effect.
Good answers in 2013 gave clear and full explanations and contained
clear diagrams.
Question 9
Explain what is meant by transfer pricing. Show how optimal transfer prices are
calculated. Give worked out examples.
Very good answers in 2013 gave a complete exposition.
Question 10
a. Explain what is meant by certainty equivalent and how we can use this
concept to indicate whether a decision maker is risk averse.
The certainty equivalent for a lottery is the amount of money, x, such that
the decision maker is indifferent between the lottery and x.
If x exceeds (is equal to, is less than) the lotterys expected value, the
decision maker is risk loving (neutral, averse).
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b. Reducing all payoffs in a lottery by x reduces expected utility by x. True or

false? Explain your answer.
False.
c. Reducing all payoffs in a lottery by x reduces certainty equivalent by x.
True or false? Explain your answer.
True.
d. Explain the concept of expected value of perfect information.
See the subject guide, Chapter 1.
A good answer shows evidence of understanding the concept and contains
an example as illustration. The problem with most answers in 2013 was
that they were not precise enough and not enough explanation was given.
11

Important note

references
Comments on specific questions

Candidates should answer SIX of the following TEN questions: FOUR
from Section A (12.5 marks each) and TWO from Section B (25 marks
each).
Section A
Answer all four questions from this section (12.5 marks each).
Question 1
Consider the following variation of the trust game: Player A decides whether to
choose IN (trust) or OUT (dont trust). If A chooses OUT, the game ends and each
player receives $5. If A chooses IN then Player B can decide whether to roll a
die or not (not rolling is defecting). If A chooses IN and B chooses DONT ROLL,
A receives $0 and B receives $14. If A chooses IN and B chooses ROLL, B receives
$10 and the payoff to A is decided by chance: with probability 5/6, A receives
$12, and with probability 1/6, A receives $0.
a. Draw the game tree.
12

Dont roll
IN
(0,14)
5/6
(12,10)
A
Roll
OUT
(5,5)
1/16
(0,10)
b. Find the subgame perfect equilibrium assuming the players are risk neutral.
We proceed by backward induction. Clearly, Player B will decide not to roll
the die (since 14 > 10) and therefore Player A chooses Out (since 5 > 0).
Hence the subgame perfect equilibrium is (OUT, dont roll).
This is an easy question and many candidates got full marks. To get full
marks it is essential that you dont just say that at the subgame perfect
equilibrium A chooses OUT. You must also say that B chooses dont roll.
Some candidates decided to write the game in normal form (why?) and
then stumbled on the wrong answer.
Question 2
Firm A and Firm B are duopolists. Firm A has constant marginal cost of 5 and
annual fixed cost of 6. Firm B has constant marginal cost of 3 and annual fixed
cost of 6. Annual demand is given by Q = 15 p/2. Find the Cournot-Nash
equilibrium and the corresponding annual profits.
The demand function can be rewritten as p = 30 2Q.
Firm As profits are given by
A = (30 2(qA + qB) 5)qA 6
Optimising with respect to qA gives
25 2qB
qA =
4
Firm Bs profits are given by
B = (30 2(qA + qB) 3)qB 6
Optimising with respect to qB gives
27 2qA
qB =
4
Solving for qA and qB gives the Cournot-Nash output levels of 3.83 and
4.83 respectively.
Price at equilibrium equals 30 2(3.83 + 4.83) = 12.67 and hence profits
are (12.67 5)3.83 6 = 23.38 and (12.67 3)4.83 6 = 40.71 for Firm
A and Firm B respectively.
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This question is rather easy and was answered well. There were however a
surprising number of calculation errors. Check your answers!
Many candidates wrongly applied the symmetry shortcut which you
cannot do here as the firms are not identical.
Question 3
Prey Ltd. is worth v to its current owners who will sell if they get an offer of at
least v. Predator Ltd. does not know v but it knows that v can be $2m, $3m, $4m
or $6m and considers these four outcomes equally likely. Whatever the value of
v, everyone knows that Prey Ltd. is worth v + $3m to Predator Ltd. What is the
expected profit maximising take-it-or-leave-it offer Predator Ltd. should make?
Predator Ltd. should make an offer of $2m or $3m or $4m or $6m. (For
any other offer, if the offer is accepted, a lower offer would also have been
accepted.) So, lets calculate the expected payoff to Predator Ltd. for each
of these possible offers:
Offer $2m: $3m(1/4) = $(3/4)m
Offer $3m: $2m(1/4) + $3m(1/4) = $(5/4)m
Offer $4m: $1m(1/4) + $2m(1/4) + $3m(1/4) = $1.5m
Offer $6m: $1m(1/4) + 0 + $1m(1/4) + $3m(1/4) = $(3/4)m
So, Predator Ltd. should offer $4m.
More than 90 per cent of candidates who attempted this question in 2013
got zero marks! Most just calculated the expected v and said that should
be the offer. The Examiners could only ask why?!
Question 4
A monopoly has constant marginal cost, c, and zero fixed cost. Demand is given
by Q = a p.
a. Find the optimal output level.
The demand function is p = a Q and therefore marginal revenue equals
MR = a 2Q. Setting MR equal to marginal cost gives the optimal output
level Q = (a c)/2. Price equals (a + c)/2 and optimal profit is [(a
c)/2]2.
b. Now suppose the marginal cost can be reduced to c d by making an
investment. What is the maximum the monopoly should be willing to pay for
this cost reduction?
After the investment, the optimal output level is (a c + d)/2. Price equals
(a + c d)/2. Hence optimal profit is now [(a c + d)/2]2.
The monopoly should be willing to pay the difference in profit levels:
[(a c + d)/2]2 [(a c)/2]2 = d(2(a c) + d)/4.
A majority of candidates in 2013 answered part (a) correctly but very few
managed part (b) without calculation mistakes.
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Section B
Answer two questions from this section (25 marks each).
Question 5
Your utility of money function is given by U(x) = x1/2 for x 0 and U(x) = x for x < 0.
a. You roll a die and if you get a 6 you receive $100. Calculate your expected
utility.
EU = U(100)/6 = 10/6
b. If you pay $x, you can give up the opportunity in (a) and instead receive $100
if the die roll is 5 or 6. Show that the maximum x you are prepared to pay
is about $2.40.
Now the possible outcomes are $100 $x (for a 5 or a 6) and $x (for a 1,
2, 3 or 4).
EU = U(100 x)/3 + U(x)(2/3) = (100 x)1/2 2x/3.
The maximum x you should be prepared to pay is therefore such that the
EU above equals the EU in (a), so the x we are looking for satisfies (1/3)
(100 x)1/2 2x/3 =10/6.
c. Now suppose that you roll a die and you get $100 as long as the die roll is
not 1. Calculate your expected utility.
EU =(5/6)U(100) = 50/6
d. If you pay $y, you can give up the opportunity in (c) and instead receive $100
for sure. What is the maximum y you are prepared to pay?
U(100 y) = 50/6 or (100 y)1/2 = 50/6 so that y = $30.56.
Most candidates in 2013 could calculate expected utility in (a) and (c) but
very few demonstrated they understood expected utility theory sufficiently
to answer the more challenging questions in (b) and (d) correctly.
Question 6
Dilnic, a labour managed monopoly, has production function Q = KL. Unit prices
of capital and labour are r and w respectively.
a. Find Dilnics conditional input demands.
To find the conditional input demands we want to equate the ratio of
marginal products to the input price ratio, that is L/K = r/w. Rewrite
this as L = K(r/w) (1) and substitute into the production function: Q =
K2(r/w). Then rewrite as K (Q) = [Q(w/r)]1/2 which is the conditional
demand for capital. Using (1) we find the conditional demand for labour:
L(Q) = [Q(r/w)]1/2.
15
b. Find Dilnics cost function.

The cost function is simply C(Q) = r [Q(w/r)]1/2 + w[Q(r/w)]1/2 =
2Q1/2(rw)1/2.
c. Demand for Dilnics product is given by Q = 100 p. Assuming Dilnic wants to
maximise profit per worker, find the optimal output level.
Dilnics objective function is given by
(100 Q)Q 2Q1/2 (rw)1/2
Q1/2 (r / w)1/2
(100 Q)Q1/2 2 (rw)1/2

(r / w)1/2
Setting the first order derivative with respect to Q equal to zero (and
checking the second order derivative is negative) gives the optimal output
level, Q = 100/3.
This question is rather straightforward and parts (a) and (b) were
anwered competently. For part (c), however, a vast majority of candidates
made calculation errors.
Question 7
Amos owns a very large hotel which has enough rooms to meet all potential
demand. He provides rooms for business travellers and candidates. The marginal
cost of providing a room is 10. Demand from business travellers is given by
qb = 210 p and demand from candidates is given by qs = 360 4p.
a. Suppose Amos can charge different room prices to business travellers and
candidates. What are the profit maximising prices?
Amos will want to set marginal revenue from both groups equal to
marginal cost, so
210 2qb = 90 qs/2 = 10
Hence, qb = 100 and qs = 160. The profit maximising prices are 110 for
business travellers and 50 for candidates.
b. Now suppose Amos has to charge the same price to both groups of
customers. What is the profit maximizing price?
Assuming Amos will sell to both groups, the demand function is now
Q = qb + qs = 570 5p (for p 90).
Marginal revenue equals 114 2Q/5. Setting this equal to marginal cost
gives Q = 260. The profit maximising price is 62.
c. Amos decides that he wants to offer his guests breakfast. The room price
is pr and the price for breakfast is pm. Assume that the cost of breakfast is
zero. The proportion s of guests who buy breakfast is given by s = 1 0.1pm.
Guests do not take into account the price of breakfast when booking a room.
Assuming Amos has to charge the same prices to both groups of customers,
find the profit maximizing pm and pr.
Amos profit function, given the demand in (b) and the fraction of guests
buying breakfast, is now
16
= (pr 10 + pm (1 0.1pm))(570 5pr)

Setting the derivatives with respect to pr and pm equal to zero and solving
for pr and pm gives
pm = 5 and pr = 60.75.
Parts (a) and (b) are very easy and were answered well. In part (c),
however, very few candidates set up the profit function correctly.
Question 8
a. Explain what is meant by the winners curse.
b. Prove that the dominant strategy in a second price sealed bid auction with
private valuations is to bid your true valuation.
c. Derive a Nash equilibrium in bidding strategies for a private valuation first
price sealed bid auction where n bidders have independently uniformly
distributed valuations.
Candidates who answered this question in 2013 generally did well. The
explanation of winners curse was not always accurate. Many candidates
could explain the dominant strategy in second price auction but a common
mistake here was to claim that bidding above your valuation always leads
to a loss. For the derivation of the equilibrium in part (c) marks were
deducted if the explanation was incomplete. In a question like this it is
important that you demonstrate you understand the derivations and have
not just memorised them.
Question 9
Explain the labour supply model. Explain why the labour supply curve can
be backward bending. Use diagrams to illustrate your arguments.
Some candidates lost marks because they did not focus on the question
and didnt provide enough explanation.
Question 10
Explain why within firms there is more variability in productivity than in wages.
Some candidates lose marks because they dont read the question properly
and dont answer the question but give a summary of the subject guide
chapter instead. In 2013 some even gave an exposition of the efficiency
wage model which is totally irrelevant here. A good answer would focus
on explanations for why wages are less variable than productivity.
17

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Examiners commentaries 2013

Examiners commentaries 2013

Information about the subject guide and the Essential reading

Format of the examination

Planning your time in the examination

MN3028 Managerial economics

What are the Examiners looking for?

How to do well in the examination

Examiners commentaries 2013

The syllabus can be found in the Course information sheet in the

MN3028 Managerial economics

Examiners commentaries 2013

Information about the subject guide and the Essential reading

Comments on specific questions

Examiners commentaries 2013

which yields qA = 5.75. Substituting in (1) gives qB = 3.875 so that

MN3028 Managerial economics

Number of widgets sold

Examiners commentaries 2013

Reading for this question

Profit under 3 unit tax

b. A potential competitor, Gizmo Heaven, is considering opening a shop in

MN3028 Managerial economics

Examiners commentaries 2013

MN3028 Managerial economics

Examiners commentaries 2013

b. Reducing all payoffs in a lottery by x reduces expected utility by x. True or

MN3028 Managerial economics

Examiners commentaries 2013

Information about the subject guide and the Essential reading

Comments on specific questions

Examiners commentaries 2013

Approaching the question

MN3028 Managerial economics

Examiners commentaries 2013

MN3028 Managerial economics

b. Find Dilnics cost function.

(100 Q)Q1/2 2 (rw)1/2

Examiners commentaries 2013

= (pr 10 + pm (1 0.1pm))(570 5pr)

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