Final Exam

Due: 3 pm June 15, 2022

Name________________________________

Student ID__________________________________

VERSION E

Instructions:

 NO interactions and communications with anyone in any form—academic integrity

and honesty is important
 Answer all questions using a blue/black pen on A4 papers
 Upload your answers and the first page of the exam to WM5 by 3:20 pm (20 points off
if uploading after 3:20 pm, and any submission after 3:30 pm will not be accepted)
 Read and sign the statement below

By signing this, I declare that the submitted exam was produced independently by me,
without help from others.

Signature
_____________________________________________________________________
 Microeconomics Final Exam, Spring 2022

Name and Student ID:

Show all your work. You will have the entire class period to complete this exam. This
exam is “closed book” and “closed note”. Good luck.

1. [20 points] A crime has been committed and two suspects have been arrested. The
suspects are taken to the police station and the district attorney meets with each one
separately. To each she makes the following offer: “If you each confess, I’ll send you
both to jail for 5 years. If neither of you confesses, I can still get you on a lesser charge
and send you to jail for 2 years each. If your buddy confesses and you don’t, you’ll get
10 years and he’ll get 1. But if you are the only one to confess, you’ll get off with 1
year while I put him away for 10.

a. [9 points] Write down the normal-from game that specifies the players, possible
strategies, and payoffs.

Supeen 2

C NC

C ( -5 ,
-5 ) ( -1 ;-( o
)

Gpen 1

NC ( -10 ,
-1 ) ( -2 ,
-2 )

b. [6 points] Does either of the suspects have a dominant strategy? What is the Nash
Equilibrium of the game?

Yes.co Hesg

thedomhmtstrategyfnbnhotthemmeethepy.t
① D

anfenmgndagerregardlenotthere.hn
playeri strategy ,

② N E. 。
! ( C
,
C)
 c. [5 points] If the game is played infinitely, and both players play grim strategy, at
what values of δ would the two suspects cooperate?

8 >
i.Seeleetwrenree.fr denwawms ,

2. [10 points] Lucy and Ricky are making plans for Saturday night. They can go to either
a ballet or a boxing match. Each will make the choice independently, although as you
can see from the following table, there are some benefits if they end up doing the same
thing.

q tq
p
-_-
-

tp
Find the Nash equilibria of the game (including a mixed strategy Nash equilibrium).

Pme-fnnegyN.E.it Ballet ,
Ballee )
( R.mg ,
b.mg )
Gihen
9 ,

Enyl Balleujelooq -9 。 ( 1
-

q )

Euylboxmg ) -9 +3 (1
g)
=

oq
-

looq.to +9
oge -90g
+30
-30g 09
*

⼆号
 Gnen
p ,
Emyl Ballee ) :
hop -9 。 ( tpj
) -90
Emylbxng +3
oltp
⼆

Iop -9 。 +9
ope-9.pt?o-3op
2 4 0 lzo
p
=

eghoed-fnieepN-E.ilikintbmg.iB.nu ⼗点 Bng )
fi 0.5

3. [30 points] Suppose that there are two producers of prokrypton-B, a rare mineral
capable of incapacitating aliens from distant planets. Governments across the globe are
interested in purchasing defensive stores of the rare mineral. The market demand for
prokrypton-B is given by 𝑃 = 200 – 0.2𝑄 , where 𝑄 = 𝑞 + 𝑞 is the collective
output of the industry, in tons; 𝑞 is the output of Firm A; and 𝑞 is the output of Firm
B. Assume that each firm produces prokrypton-B at a marginal cost of $10 per ton, and
compete by quantity (Cournot).

a. [6 points] Derive each firm’s reaction function.

Written in terms of 𝒒𝑨 and 𝒒𝑩 , inverse demand is

𝑷 = 𝟐𝟎𝟎 − 𝟎. 𝟐(𝒒𝑨 + 𝒒𝑩 ) = 𝟐𝟎𝟎 − 𝟎. 𝟐𝒒𝑨 − 𝟎. 𝟐𝒒𝑩

Firm A:
𝑴𝑹𝑨 = 𝟐𝟎𝟎 − 𝟎. 𝟒𝒒𝑨 − 𝟎. 𝟐𝒒𝑩
𝑴𝑹𝑨 = 𝑴𝑪 → 𝟐𝟎𝟎 − 𝟎. 𝟒𝒒𝑨 − 𝟎. 𝟐𝒒𝑩 = 𝟏𝟎 ↔ 𝟏𝟗𝟎 − 𝟎. 𝟐𝒒𝑩 = 𝟎. 𝟒𝒒𝑨
𝟏𝟗𝟎 𝟎. 𝟐
↔ 𝒒𝑨 = − 𝒒
𝟎. 𝟒 𝟎. 𝟒 𝑩
↔ 𝒒𝑨 = 𝟒𝟕𝟓 − 𝟎. 𝟓𝒒𝑩

Firm B:
𝑴𝑹𝑩 = 𝟐𝟎𝟎 − 𝟎. 𝟐𝒒𝑨 − 𝟎. 𝟒𝒒𝑩
𝑴𝑹𝑩 = 𝑴𝑪 → 𝟐𝟎𝟎 − 𝟎. 𝟐𝒒𝑨 − 𝟎. 𝟒𝒒𝑩 = 𝟏𝟎 ↔ 𝟏𝟗𝟎 − 𝟎. 𝟐𝒒𝑨 = 𝟎. 𝟒𝒒𝑩
𝟏𝟗𝟎 𝟎. 𝟐
↔ 𝒒𝑩 = − 𝒒
𝟎. 𝟒 𝟎. 𝟒 𝑨
↔ 𝒒𝑩 = 𝟒𝟕𝟓 − 𝟎. 𝟓𝒒𝑨

You can also just argue that since costs are the same, the problem for the Firm
B is symmetric and then just write down B’s reaction function accordingly. Be
careful when doing this on other problems, though.
b. [6 points] Solve for the equilibrium quantity of each firm, as well as industry output
(Q).

Substituting B’s reaction function into A’s,

𝒒𝑨 = 𝟒𝟕𝟓 − 𝟎. 𝟓(𝟒𝟕𝟓 − 𝟎. 𝟓𝒒𝑨 )
↔ 𝒒𝑨 = 𝟒𝟕𝟓 − 𝟐𝟑𝟕. 𝟓 + 𝟎. 𝟐𝟓𝒒𝑨
↔ 𝟎. 𝟕𝟓𝒒𝑨 = 𝟐𝟑𝟕. 𝟓
↔ 𝒒𝑨 = 𝟑𝟏𝟔. 𝟔𝟔𝟕 → 𝒒𝑩 = 𝟒𝟕𝟓 − 𝟎. 𝟓(𝟑𝟏𝟔. 𝟔𝟔𝟕) = 𝟑𝟏𝟔. 𝟔𝟔𝟕
→ 𝑸 = 𝒒𝑨 + 𝒒𝑩 = 𝟑𝟏𝟔. 𝟔𝟔𝟕 + 𝟑𝟏𝟔. 𝟔𝟔𝟕 = 𝟔𝟑𝟑. 𝟑𝟑

c. [6 points] Solve for the market price of prokrypton-B, as well as the profit earned
by each firm.

𝑷 = 𝟐𝟎𝟎 − 𝟎. 𝟐𝑸 = 𝟐𝟎𝟎 − 𝟎. 𝟐(𝟔𝟑𝟑. 𝟑𝟑) = $𝟕𝟑. 𝟑𝟑

Using the formula 𝝅𝒋 = 𝑷 − 𝑴𝑪𝒋 × 𝒒𝒋 , and recognizing each firm produces
the same quantity and has the same costs, we get
→ 𝝅𝑨 = 𝝅𝑩 = ($𝟕𝟑. 𝟑𝟑 − 𝟏𝟎) × 𝟑𝟏𝟔. 𝟔𝟔𝟕 = $𝟐𝟎, 𝟎𝟓𝟒. 𝟓𝟐

d. [12 points] Suppose that a labor dispute drives Firm B’s cost to $12 per ton.

i. What happens to the output of each firm as a result? (Solve for the new
output)

The reaction curve for Firm A stays the same: 𝒒𝑨 = 𝟒𝟕𝟓 − 𝟎. 𝟓𝒒𝑩
But Firm B has a new reaction curve.

𝑴𝑹𝑩 = 𝑴𝑪 → 𝟐𝟎𝟎 − 𝟎. 𝟐𝒒𝑨 − 𝟎. 𝟒𝒒𝑩 = 𝟏𝟐 ↔ 𝟏𝟖𝟖 − 𝟎. 𝟐𝒒𝑨 = 𝟎. 𝟒𝒒𝑩

𝟏𝟖𝟖 𝟎. 𝟐
↔ 𝒒𝑩 = − 𝒒
𝟎. 𝟒 𝟎. 𝟒 𝑨
↔ 𝒒𝑩 = 𝟒𝟕𝟎 − 𝟎. 𝟓𝒒𝑨

Plugging B’s reaction curve into A’s, the new quantity produced by A
is given by
𝒒𝑨 = 𝟒𝟕𝟓 − 𝟎. 𝟓(𝟒𝟕𝟎 − 𝟎. 𝟓𝒒𝑨 )
↔ 𝒒𝑨 = 𝟒𝟕𝟓 − 𝟐𝟑𝟓 + 𝟎. 𝟐𝟓𝒒𝑨
↔ 𝟎. 𝟕𝟓𝒒𝑨 = 𝟐𝟒𝟎
↔ 𝒒𝑨 = 𝟑𝟐𝟎 → 𝒒𝑩 = 𝟒𝟕𝟎 − 𝟎. 𝟓(𝟑𝟐𝟎) = 𝟑𝟏𝟎

ii. What is the new market price of prokrypton-B, and what is the new profit
for each firm?

𝑷 = 𝟐𝟎𝟎 − 𝟎. 𝟐(𝒒𝑨 + 𝒒𝑩 ) = 𝟐𝟎𝟎 − 𝟎. 𝟐(𝟔𝟑𝟎) = $𝟕𝟒. 𝟎𝟎

The profits are no longer the same since costs and quantities differ.
 For Firm A: 𝝅𝑨 = ($𝟕𝟒 − 𝟏𝟎) × 𝟑𝟐𝟎 = $𝟐𝟎, 𝟒𝟖𝟎
For Firm B: 𝝅𝑩 = ($𝟕𝟒 − 𝟏𝟐) × 𝟑𝟏𝟎 = $𝟏𝟗, 𝟐𝟐𝟎

4. [20 points] Consider a two-firm industry producing two differentiated products indexed
by i = 1,2. For simplicity, we assume that production is costless. Suppose that the
demand functions for the two products are given by q1 = 168 − 2p1 + p2 and q2 = 168
− 2p2 + p1.

a. [10 points] Suppose that the two firms set their price independently and
simultaneously. Find the Bertrand-Nash equilibrium.

Erfrm 1
Cp ] 168 -4
pztp 0
⼆
。
, ,

maoa
ep , ( 1 6 8-zp.tk ) 。 pvz 42 +0.25
pi-RRzlpil68-4p.tpz.co
,

BR 代入 ,

e)
p 1:42 +0.25

For firm 2
pz-BKizsp.io 2:56
,

maxhzipz.CI
pztp.JP 2
68 -2

b. [10 points] Suppose that the two firms move sequentially rather than
simultaneously. In particular, suppose that firm 1 sets its price first. After observing
firm 1’ selection, firm 2 chooses its price. Find the Subgame Perfect Nash
Equilibrium.

Fn frm 2
,

maxhepzll68-zpztp.jp
Ipd 168 -4
pztp 0
⼆
,

o.zspi-BRForfvrwlimaxh-p.li
p 2:42 ⼗

p ,
68 -2
pitpzlpn )
:P ( 1 6 8
1
-

Zp , +42 +0.25
p i)
7
Cp ,
21
o-s.5p.io p ,
e 6 o

代入 B
Rzap 2:57
5. [24 points] Suppose that two firms are competing for a government contract, and each
firm has a 50 percent chance of winning. The stock of the firm that wins the contract
will be worth $40, while the stock of the loser will be worth $10. Calculate the expected
value and variance of the two shares for the following three cases.

a. [8 points] If only one firm can win, what are the expected value and variance of
buying one share of each firm.

EUEÍ (40+10) tzl 4 。 +1 o

) -50

hmanee i É
2 2
⼆
(50-50) +
(50-50) -0

b. [8 points] If the government awards contracts only to both firms or to neither

firm, what are the expected value and variance of buying one share of each firm?

EV ⼆
txfotzx 2:50
Daimeeizlfn Ì (n_n)
2 2
九) +

zq.ro
 c. [8 points] Redo part a and b for the expected value and variance of buying two
shares of one firm.

a.
Eyizxfotzx 20:50
Etxlfo Èlzo -50 ) 三
2
Pm

qo b.FI/:ixfotzx2e50Dm.:zx(fo-T)2+zx(r5o)2=qo -Rnk
-50 ) +

6. [16 points, 8 each] Answer the following two questions on risk and uncertainty.

a. You have a utility function given by u(I)=10lnI, where I represents the

monetary payoff from an investment. You are considering making an
investment which, if it pays off, will give you a payoff of $100,000, but if it
fails, it will give you a payoff of $20,000. Each outcome is equally likely. What
is the risk premium for this lottery?

EN-CEEIN-o.5.longwoto.5.zo.ro
:

pnemnm

i. 6 v) wo

ln CE i 0.5 lnloo.oooto.5lnzo.co
5
CE-loo.oroa5xzo.no
"
≈ 44721

M Rnk ⼆ Gwo -94,721

pnemnm
E
15,279
 b. Consider a market of risk-averse decision makers, each with a utility function
u(I)=√I, where I is income. Each decision maker has an income of $90,000,
but faces the possibility of a catastrophic loss of $50,000 in income. Each
decision maker can purchase an insurance policy that fully compensates her for
her loss. This insurance policy has a cost of $5,900. Suppose each decision
maker potentially has a different probability q of experiencing the loss. What is
the smallest value of q so that a decision maker purchases insurance?

qfI.m-eimo-iltp.fi/9o,wo-5h-eaq.zo -il g).3o ez9oaq:o.l