Managerial Economics and Organizational Architecture James Brickley 6e - Test Bank

Managerial Economics and Organizational Architecture James Brickley 6e – Test Bank

 

Instant Download – Complete Test Bank With Answers

 

 

Sample Questions Are Posted Below

 

 

Chapter 05

Production and Cost

 

Essay Questions

1. Always Round Tire has a production function of Q = 300 L^.75 K^.5. In the short run, if L = 250 and K = 25, what is the quantity of tires supplied? What happens to the output of tires if L jumps to 300 and then 350? What law does this illustrate?

Answer: When L = 250 and K = 25, then Q = 94,307. When L increases to 300, Q increases to 108,127. When L increases to 350, Q increases to 121,379. This shows the effects of diminishing marginal returns to labor as a factor of production.

 

Difficulty: 03 Hard

Blooms: Analyze

AACSB: Analytic

Topic: Production Functions

 

 

2. Can a production function with two factors exhibit increasing returns to scale while at the same time have diminishing returns to each factor?

Answer: The answer is yes. Look at the following production function: Q = S^0.5 A^0.6. Here,  we have Q for the quantity of auto parts produced. S and A are the amounts of steel and aluminum used in production.
For checking if the production function exhibits increasing returns to scale, first set S = A = 1 unit. Then total auto parts produced are Q = (1)^0.5 (1)^0.6 = 1 unit.
Now double the inputs and set S = A = 2 units.
Now check for the new output: New Q = (2)^0.5 (2)^0.6 = (2)^1.1 > 2 units.
So here we see that doubling both inputs more than doubles the output. This reflects increasing returns to scale.
Now we want to see if each factor exhibits diminishing returns.
To see if S exhibits diminishing returns, set A = 1 unit. Increase S from 1 to 2 units and check the output level:
A = 1, S = 1 and so Q = (1)^0.5 (1)^0.6 = 1 unit.
A = 1. S = 2 and so Q = (2)^0.5 (1)^0.6 = 1.41 units.
As S increases by 1 unit, Q increases only by 0.41 units. So S exhibits decreasing returns. Do the same exercise for A and you will see a similar result:
S = 1, A = 1 and so Q = (1)^0.5 (1)^0.6 = 1 unit.
S = 1. A= 2 and so Q = (1)^0.5 (2)^0.6 = 1.51 units.
As A increases by 1 unit, Q increases only by 0.51 units. So A exhibits decreasing returns as well.

Difficulty: 03 Hard

Blooms: Analyze

AACSB: Analytic

Topic: Production Functions

 

 

3. The Springfield Bank received 1,500 inquiries following its latest advertisement describing its “establish a Certificate of Deposit (CD)—get a free CD (compact disk)” promotion in the Springfield Shopper, a local newspaper. The most recent similar ad in a similar advertising campaign was in the Brockman Business Newsletter. A local business publication generated 500 inquiries. Each ad in the Springfield Shopper costs $500. Each ad in the Brockman Business Newsletter costs $125. Inquiries from both publications have the same success rate in turning inquiries into sales.
   (a) Assuming that additional ads will generate similar response rates, is Springfield Bank running an optimal mix of ads in the Springfield Shopper and the Brockman Business Newsletter? Why or why not?
   (b) If you claim that the Springfield Bank is currently running an optimal mix of ads, clearly explain why they are using an optimal mix of ads. If you claim that the Springfield Bank is currently not running an optimal mix of ads, clearly explain how the Springfield Bank can better manage the ads.

Answer:

Profit maximization requires cost minimization. So the key question is whether Springfield Bank is minimizing the cost of generating inquirers into its financial products through its choice of advertising. We should compare the bang-for-buck ratios of advertising in the Springfield Shopper and advertising in the Brockman Business Newsletter. The bang-for-buck ratio is the ratio of marginal product to unit cost for each form of advertising. Since the bang-for-buck ratio is higher for the Brockman Business Newsletter than for the Springfield Shopper, the bank should reduce advertising in the Springfield Shopper and increase advertising in the Brockman Business Newsletter. At the optimal amount of advertising in each publication, the bang-for-buck ratios would be equal.

Difficulty: 03 Hard

Blooms: Apply

AACSB: Analytic

Topic: Choice of Inputs

 

 

 

 

4. Currently

   where “s” and “a” refer to steel and aluminum, and Ps and Pa refer to the prices of steel and aluminum, and MPs and MPa refer to the marginal products of steel and aluminum, respectively, for a firm. Has the firm come up with the right amounts of steel and aluminum, or should it reallocate its resources to make the maximum profit?

 

Answer: No, currently the firm is not in equilibrium. Since the firm cannot touch prices, it can only manipulate the marginal products to set

which is the necessary condition for maximum profits. From the given question, we note that MPs has to fall, and MPa has to rise. This can happen only if the firm hires more S and/or less A. So the current allocation of resources is not optimal.

Difficulty: 02 Medium

Blooms: Understand

AACSB: Reflective Thinking

Topic: Choice of Inputs

 

 

5. Currently,

   , where MPs and MPa are the marginal products of steel and aluminum for a company whose production function is Q = s^0.5 a^0.5. Ps = Pa = $1 are the prices of steel and aluminum, respectively, and the company has a total budget of $2 to spend on these inputs. If the market price of the output is $3 per unit, then how many units of s and a should the firm hire? What will be its output, revenue, costs, and profits?

 

Answer: We know that the budget line has to satisfy the following condition:
TC = Ps.s + Pa.a or for the given information,
2 = 1.s + 1.a, or 2 = s + a.
Now the equilibrium condition tells us that we have to satisfy

, which can be written as

, or from the given information this amounts to

, which when simplified gives us the condition
s = a. This can be substituted in the budget line equation above:
2 = s + a or
2 = s + s or
2 = 2 s or
s = a = 1 unit.
This tells us that output produced is Q = s^0.5 a^0.5 = (1)^0.5 (1)^0.5 = 1 unit.
Total Revenue = market price times quantity produced = $3 x 1 = $3.
Total Cost = $2 – the amount we have to spend.
Profits = Total Revenue – Total Cost = $3 – $2 = $1.

Difficulty: 03 Hard

Blooms: Apply

AACSB: Analytic

Topic: Choice of Inputs

 

6. Always Round Tire has a production function of Q = 300 L^.75 K^.5. If Always Round Tire doubles the size of its production facility—increasing L from 250 to 500 and K from 25 to 50 —what happens to the cost of production, even though we do not know the wages of labor or the price of capital?

Answer: This production exhibits increasing returns to scale. Doubling the scale of production will more than double the quantity of output. Costs per unit will decline because the firm takes advantage of the economies of scale.

Difficulty: 02 Medium

Blooms: Understand

AACSB: Reflective Thinking

Topic: Costs

 

 

7. Why do economies of scale and learning curve effects look similar when they are graphed? What different concepts do they represent?

Answer: A graph of economies of scale shows that average costs per unit of output fall when the quantity of output increases. However, this decrease in the average cost per unit of output occurs at a decreasing rate. Economies of scale show the cost advantages larger firms have in some industries, like basic metals, where costs per unit fall with the cumulative volume of output. A graph of a learning curve shows that average costs per unit of output fall when the cumulative quantity of output produced since inception increases. This decrease in the average cost per unit of output occurs at a decreasing rate. Learning curves show the cost advantages firms that have cumulatively produced greater amounts of output have in some industries such as semiconductors.

 

Difficulty: 02 Medium

Blooms: Understand

AACSB: Reflective Thinking

Topic: Costs

8. For many corporations, a major portion of the cost of production is fixed in the short run. Should these very large fixed costs be ignored when the executives are making output and pricing decisions? Why?

Answer: Yes, these fixed costs should be ignored when making short-run output and pricing decisions because they do not affect marginal costs or marginal benefits in the short run. In the long run, all costs are variable costs and there are no long-run fixed costs.

Difficulty: 02 Medium

Blooms: Understand

AACSB: Reflective Thinking

Topic: Costs

 

 

9. Wanda Weeks is tired of running her small machine tool company. She wishes to sell it in order to use her time and money elsewhere. She is currently earning a salary of $85,000 per year and a 10 percent return on her capital investment. She wants to take a job in a bank and invest her capital in a mutual fund. What issues should she look at before making the decision to change careers?

Answer: She should look at the opportunity cost of her time and capital. The total opportunity cost of running her machine tool business is the value of both her time and her capital. She should compare how much she could earn from both labor income and selling her capital investment in the machine tool business to her current labor income and capital return as the owner of this business.

 

Difficulty: 02 Medium

Blooms: Understand

AACSB: Reflective Thinking

Topic: Costs

 

 

10. Currently, the marginal cost equation for a shoe manufacturing company is given by MC = 10 + 2Q. The market price per pair is $60. How many units should the company produce?

Answer: The company should produce 25 units. We get this by setting MC = P and solving for Q: 10 + 2Q = 60 or
2Q = 50.
Q = 25 units.

Difficulty: 03 Hard

Blooms: Apply

AACSB: Analytic

Topic: Costs

 

 

Multiple Choice Questions

 

 

11. Which of the following is true of a production function?
12. It specifies the maximum feasible output that can be produced for given amounts of inputs.
13. It specifies the maximum revenue that a firm can generate by selling its output.
14. It specifies the amount of goods that can be purchased in a market at a given price.
15. It specifies the expenses a firm can incur as a result of a production process.

 

Answer: A

Difficulty: 02 Medium

Blooms: Understand

AACSB: Reflective Thinking

Topic: Production Functions

 

 

12. Assume the generic production function Q = f (K, L) displays both decreasing returns to capital (K) and decreasing returns to labor (L). Then
    A. this production function will certainly display decreasing returns to scale.
    B. this production function will certainly display constant returns to scale.
    C. this production function will certainly display increasing returns to scale.
    D.this production function may display increasing returns to scale.

 

Answer: D

Difficulty: 02 Medium

Blooms: Understand

AACSB: Reflective Thinking

Topic: Production Functions

 

 

13. A production function of the form Q = 150L^.75 K^.50 exhibits ______ in the long run.
    A.increasing returns to scale
    B. decreasing returns to scale
    C. constant returns to scale
    D. diminishing returns to the variable input

Answer: A

Difficulty: 02 Medium

Blooms: Understand

AACSB: Reflective Thinking

Topic: Production Functions

 

14. A production function of the form Q = 40 L^.75 K^.20 exhibits ______ in the long run.
    A. increasing returns to scale
    B.decreasing returns to scale
    C. constant returns to scale
    D. diminishing returns to the variable input

Answer: B

Difficulty: 02 Medium

Blooms: Understand

AACSB: Reflective Thinking

Topic: Production Functions

 

 

15. Suppose the production function faced by the firm is Q = A^1/3 B^1/3. If the firm increases the use of both inputs by 1 percent, output will increase by
16. 2 percent.
17. more than 10 percent.
18. 0 percent.
19. less than 1 percent.

 

Answer: C

Difficulty: 03 Hard

Blooms: Apply

AACSB: Analytic

Topic: Production Functions

 

16. Diminishing marginal returns occur when
    A.one input is increased and the others are held constant.
    B. all inputs are increased.
    C. one input is decreased while the other is increased.
    D. all inputs are decreased.

Answer: A

Difficulty: 02 Medium

Blooms: Understand

AACSB: Reflective Thinking

Topic: Production Functions

 

 

17. Refer to Table 5.1 and determine which of the following answers is correct.
18. The missing values are MP_L (L = 2) = 45, MP_L (L = 3) = 29, AP_L (L = 2) = 35, and AP_L (L = 4) = 28.
    B. The missing values are MP_L (L = 2) = 35, MP_L (L = 3) = 33, AP_L (L = 2) = 35, and AP_L (L = 4) = 28.
    C. The missing values are MP_L (L = 2) = 45, MP_L (L = 3) = 29, AP_L (L = 2) = 45, and AP_L (L = 4) = 13.
    D. The missing values are MP_L (L = 2) = 45, MP_L (L = 3) = 29, AP_L (L = 2) = 35, and AP_L (L = 4) = 13.

 

Answer: A

Difficulty: 03 Hard

Blooms: Apply

AACSB: Analytic

Topic: Production Functions

 

18. The marginal product curve of input Y shows
    A. how the quantity of output produced changes for each amount of input Y, whether or not all other inputs are held constant.
    B.how the quantity of output produced changes for each amount of input Y, holding all other inputs constant.
    C. how the average quantity of output produced varies with input Y, whether or not all other inputs are held constant.
    D. how the average quantity of output produced varies with input Y, holding all other inputs constant.

Answer: B

Difficulty: 01 Easy

Blooms: Remember

AACSB: Reflective Thinking

Topic: Production Functions

 

19. Assume your company produces good X using only two inputs, capital (K) and labor (L). Also, assume L is measured on the vertical axis and K on the horizontal one. If the prices of inputs are P_K = $30 and P_L = 15, and your company is behaving efficiently, what is the slope of the isoquant at the current input mix?
    A.-2
    B. -1/2
    C. 2
    D. 1/2

Answer: A

Difficulty: 03 Hard

Blooms: Apply

AACSB: Analytic

Topic: Choice of Inputs

 

20. Assume SeatComfy Inc. manufactures table and chairs with the following total cost function, TC = 10,000 + 10Q + 0.1Q², where Q = quantity of chairs produced. If SeatComfy can sell as many chairs as it wishes at the current market price of $45, how many chairs should it produce to maximize its short-run profits?
    A. 350
    B. 700
    C.175
    D. 45

Answer: C

Difficulty: 03 Hard

Blooms: Apply

AACSB: Analytic

Topic: Choice of Inputs

 

 

21. Refer to Figure 5.1. Observe the three isoquants depicted and determine which of the following statements is true.
22. K and L are substitutes in each of the three cases.
    B. K and L are substitutes in cases (1) and (2).
    C. K and L are substitutes in cases (2) and (3).
    D.K and L are substitutes in cases (1) and (3).

Answer: D

Difficulty: 02 Medium

Blooms: Understand

AACSB: Reflective Thinking

Topic: Choice of Inputs

 

 

22. Isoquants from fixed-proportion production functions are
23. downward sloping.
24. shaped as right angles.
25. upward sloping.
26. shaped as horizontal lines.

 

Answer: B

Difficulty: 01 Easy

Blooms: Remember

AACSB: Reflective Thinking

Topic: Choice of Inputs

 

23. The curve showing all the combinations of inputs that can be purchased with a given outlay of funds is called a(n)
    A. total cost curve.
    B.isocost.
    C. isoquant.
    D. production function.

Answer: B

Difficulty: 01 Easy

Blooms: Remember

AACSB: Reflective Thinking

Topic: Choice of Inputs

 

 

 

 

 

 

24. Bob owns an auto parts firm. He uses a combination of steel and aluminum to produce his auto parts. All of the following combinations will finish the task on time. Steel costs $15 per unit and the aluminum costs $50 per unit. What combination of steel and aluminum should he use?
    A. 10 units of steel and 10 units of aluminum
    B. 12 units of steel and 8 units of aluminum
    C.15 units of steel and 7 units of aluminum
    D. 20 units of steel and 6 units of aluminum

Answer: C

Difficulty: 03 Hard

Blooms: Apply

AACSB: Analytic

Topic: Choice of Inputs

 

25. In general, which of the following implies that a marginal cost curve will eventually increase as a firm produces more output?
    A. Profit maximizing behavior by the firm
    B. A production function displaying increasing returns to scale
    C.The law of diminishing returns
    D. The law of equimarginal returns

Answer: C

Difficulty: 02 Medium

Blooms: Understand

AACSB: Reflective Thinking

Topic: Costs

 

26. If the generic production function Q = f (K, L) displays increasing returns to scale, the value of K is fixed in the short run, and the prices of all inputs are held constant, then
    A. the short-run average cost curve must be strictly decreasing.
    B.the long-run average cost curve must be strictly decreasing.
    C. the short-run and the long-run average cost curves will coincide.
    D. the long-run average cost curve must be strictly increasing.

Answer: B

Difficulty: 02 Medium

Blooms: Understand

AACSB: Reflective Thinking

Topic: Costs

 

 

 

 

27. If the price of a variable input increases, then
    A.the total cost curve will shift up.
    B. the average total cost curve will shift down.
    C. the marginal cost curve will shift down.
    D. the fixed cost curve will shift up.

Answer: A

Difficulty: 01 Easy

Blooms: Remember

AACSB: Reflective Thinking

Topic: Costs 

 

28. If a company has significant economies of scale in the long run—assuming a large market —the company will tend to
    A.grow larger and have a declining average cost curve.
    B. become smaller and have a declining average cost curve.
    C. grow larger and have a rising average cost curve.
    D. become smaller and have a rising average cost curve.

Answer: A

Difficulty: 02 Medium

Blooms: Understand

AACSB: Reflective Thinking

Topic: Costs

29. If a company has a cost curve of TC = 300 + 2Q + Q² and it produces 300 units per day, then its marginal cost is
    A. $1.
    B. $600.
    C.$602.
    D. $2.02.

 

Answer: C

Difficulty: 03 Hard

Blooms: Apply

AACSB: Analytic

Topic: Costs

 

 

 

 

 

 

 

 

30. If a company has a cost curve of TC = 300 + 2Q + Q² and it produces 300 units per day, then its average (total) cost is
    A. $1.
    B.$303.
    C. $300.
    D. $602.

Answer: B

Difficulty: 03 Hard

Blooms: Apply

AACSB: Analytic

Topic: Costs

 

31. The opportunity cost of any business decision is
    A. accounting cost divided by the level of output.
    B. the cost per unit of output.
    C.the cost of the next best alternative.
    D. the cost of doing business in the future.

Answer: C

Difficulty: 01 Easy

Blooms: Remember

AACSB: Reflective Thinking

Topic: Costs

 

32. As output expands from 199 to 200 units, total costs rise from $2,985 to $3,000. At this stage, the marginal cost and average cost of production are
    A. $1 and $200.
    B.$15 and $15.
    C. $29.85 and $15.00
    D. $1.

Answer: B

Difficulty: 03 Hard

Blooms: Apply

AACSB: Analytic

Topic: Costs

 

 

 

 

 

 

33. An independent trucker has to choose one of the four possible combinations of inputs listed below. The two inputs are drivers and machinery. If he buys expensive machinery, then he can hire fewer drivers to deliver the same output. The input combinations are

 

Method 1: 20 drivers, 10 machines;
Method 2: 50 drivers, 2 machines;
Method 3: 100 drivers, 0 machines;

Method 4: 10 drivers, 12 machines.

Hiring a driver costs $10. Each machine costs $100. Which method should he use?
A. Method 1
B. Method 2
C. Method 3
D. Method 4

Answer: B

Difficulty: 03 Hard

Blooms: Apply

AACSB: Analytic

Topic: Costs

 

 

34. Refer to Table 5.2, which gives cost information for the production of widgets. Some values are missing, however. Which of the following is true?
35. A = 45, E = 40
    B.A = 45, E = 10
    C. A = 75, E = 40
    D. A = 75, E = 10

Answer: B

Difficulty: 03 Hard

Blooms: Apply

AACSB: Analytic

Topic: Costs

35. A firm that produces widgets must pay a fixed cost of $150. It costs an additional $30 for every widget that they produce. If the market price is $40, how many widgets does the firm have to sell so that it does not incur a loss?
    A. 1
    B. 5
    C. 10
    D.15

 

Answer: D

Difficulty: 03 Hard

Blooms: Apply

AACSB: Analytic

Topic: Costs

 

 

36. A firm produces 10 widgets that they sell for $15 each. The average variable cost for the production of 10 widgets is $13/unit. The fixed cost for this firm equals $20. What is the value of this firm’s profits?
    A. – $20
    B. – $2
    C.0
    D. $20

 

Answer: C

Difficulty: 03 Hard

Blooms: Apply

AACSB: Analytic

Topic: Costs

37. A firm’s average total cost is minimized at <<AU: Change / to “per”?>>$5/unit when it produces 10 units. What is the marginal cost when the firm produces 10 units?
    A. Less than $5/unit
    B. Greater than $5/unit
    C.$5/unit
    D. $10/unit

Answer: C

Difficulty: 03 Hard

Blooms: Apply

AACSB: Analytic

Topic: Costs

38. Which of the following statements about the average total cost curve is false?
    A. It is initially downward sloping because increases in quantity make the average fixed cost smaller.
    B. It eventually becomes upward sloping because the law of diminishing returns sets in.
    C.It is always downward sloping because the average fixed costs will always decrease as quantity increases.
    D. The marginal cost curve crosses the average total cost curve at the point at which average total cost is minimized.

Answer: C

Difficulty: 02 Medium

Blooms: Understand

AACSB: Reflective Thinking

Topic: Costs

 

 

39. 
    Refer to Figure 5.2. On the graph that shows total costs, what is the level of variable costs when 6 units are produced?
40. $50
    B. $100
    C.$400
    D. $500

 

Answer: C

Difficulty: 03 Hard

Blooms: Apply

AACSB: Analytic

Topic: Costs

 

40. Economies of scale arise when
    A. all inputs increase by the same amount.
    B. one input increases and the others are held constant.
    C. one input increases and the others decrease.
    D.all inputs increase at the same rate.

Answer: D

Difficulty: 01 Easy

Blooms: Remember

AACSB: Reflective Thinking

Topic: Costs

 

41. The general rule for profit maximization in a firm is to
    A. set average cost at its minimum.
    B. reduce fixed costs by expanding output.
    C. maximize sales revenue.
    D.set marginal revenue equal to marginal cost.

Answer: D

Difficulty: 01 Easy

Blooms: Remember

AACSB: Reflective Thinking

Topic: Profit Maximization

 

 

42. The ______ represents the additional revenue that comes from using one more unit of input.
43. marginal revenue product
44. economic profit
45. learning curve
46. average revenue product

 

Answer: A

Difficulty: 01 Easy

Blooms: Remember

AACSB: Reflective Thinking

Topic: Factor Demand Curves

 

 

43. Which of the following is a possible limitation in cost estimation?
44. A. It is difficult to obtain data on relevant costs from accounting reports that record historical data.
45. It is difficult to get qualified people who can obtain data on costs and can interpret the data.
46. Critics argue that the method used for estimating cost is outdated and does not provide accurate cost estimates.
47. Critics argue that cost estimates do not help managers make efficient decisions.

 

Answer: A

Difficulty: 02 Medium

Blooms: Remember

AACSB: Reflective Thinking

Topic: Cost Estimates