Industrial Organization: Markets and Strategies
Paul Belle‡amme and Martin Peitz
published by Cambridge University Press
Part I. Getting started
Exercises
Exercise 1 Free trade and competitive markets [included in 2nd edition of the
book]
Consider the market for shoes in country A. Demand is assumed to be 100 p
where p is the …nal consumer price. Suppose that country A does not produce
shoes and that there are two importers B and C. The export prices for shoes
in both countries are pB = 59:99 and pC , respectively. Furthermore suppose
that country A is a small country so that its demand does not in‡uence export
prices. Suppose that, initially, country A levies a uniform import tari¤ of t = 10
on each pair of imported shoes.
1. Assume pC = 45. What is the e¤ect on demand and welfare in country A
if country A signs a free trade agreement with country B?
2. Assume pC = 50. What is now the e¤ect on demand and welfare in
country A if country A signs a free trade agreement with country B?
Solutions to Exercise 1 In the absence of a free-trade agreement with country
B, the consumers in country A always buy shoes from country C as pC + t < 59:99 + t
whether pC = 45 or pC = 50. If there is a free-trade agreement with country B, then
consumers in country A compare pC + t with pB = 59:99. As t = 10, we have that
consumers buy shoes from country C if pC = 45 but from country B if pC = 50.
Comparing the two situations, we see that the free-trade agreement with country B
has no e¤ect if pC = 45 (i.e., if country C is very inexpensive with respect to country
B), as consumers in country A continue to buy shoes from country C. However, if
pC = 50, the free-trade agreement makes consumers buy shoes from country B rather
than from country C; this allows them to pay a lower price, which increases their
surplus.
Exercise 2 Monopoly problem [included in 2nd edition of the book]
Consider a monopolist with a linear demand curve: q = a bp, where
a; b > 0. It produces at constant marginal cost c and has no …xed cost. Assume
that 0 < c < a=b.
1. Find the monopoly price, quantity, and pro…ts.
2. Derive the inverse demand curve P (q). Draw P (q), the MR-curve, and the
MC-curve in a diagram. Explain why we need the assumption c < a=b.
1
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