Question

A company is considering building a bridge across a river. The bridge would cost $2 million to build and nothing to maintain. The following table shows the company¡¯s anticipated demand over the lifetime of the bridge:

Price per crossing ($) 8 7 6 5 4 3 2 1 0
Number of crossings (in Thousands) 0 100 200 300 400 500 600 700 800

a. If the company were to build the bridge, what would be its profit-maximizing price? Would that be the efficient level of output? Why or why not?
b. If the company is interested in maximizing profit, should it build the bridge? What would be its profit or loss?
c. If the government were to build the bridge, what price should it charge?
d. Should the government build the bridge? Explain your answer.

Answer 1

Total revenues (TR) are the amount of money earned by a firm by selling its entire output at the market equilibrium price. It is calculated by multiplying price with quantity of output sold. Marginal Revenue (MR) is the additional revenues earned in the production of one more unit of output. It is calculated as follows: ATR MR AQ Suppose a firm is planning to build a bridge over a river, which would cost $2 million to build (fixed cost) and nothing to maintain (zero marginal cost) The following table shows the total revenue generated and marginal revenue per trip: Number of cl'OSSIngs Marginal Revenue Price S8 $7 S6 $5 S4 $3 $2 $1 S0 100,000 200,000 300,000 400,000 500,000 600,000 700,000 800,000 Total Revenue S0 $700,000 $1,200,000 $1,500,000 $1,600,000 $1,500,000 $1,200,000 $700,000 S0 $7 S6 $5 S4 $3 $2 $1 S0

The profit maximizing price is S4, where the total revenue is at its maximum. The number of crossings at this price is 400,000, which is not efficient as total revenue is less than the total costs ($2 million) at this level The efficient level of production lies at the point, where the price equals marginal cost of production (which is zero). At the price of $4, the firm earns maximum revenue. The total loss is S400,000 (S2 million cost minus $1.6 million revenue) at this price level. As there is loss involved, the firm should not build the bridge If the government were to build the bridge, they should charge a price equal to the marginal cost of building the bridge. Hence, the price charged should be

If the government charges S0 per trip, then the consumer surplus resulting from the efficient level of production is: -x(800,000)x(S8- SO) - $3.2 million As the value of consumer surplus is greater than the total cost of building the bridge, the government should build the bridge.

Answer 2

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Answer 3

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