# Managerial Economics Exercise: Scenario

| February 25, 2017

Question
Managerial Economics
Exercise: Scenario

Resources
Read/review the following resources for this activity:

Textbook: Chapter 6, 7
Introduction
These scenarios will give you practice applying concepts from the readings to models of real-world situations.

Activity Instructions
Read the following scenarios and complete the corresponding questions. Please remember to answer in complete and grammatically correct sentences. I am looking for your thought process in the answers to the questions, so be complete in your answers and use the opportunity to clearly demonstrate your newly acquired knowledge.

Scenario 1 (length: as needed)
A cupcake store is located in a mall and is the only cupcake store in that mall. The demand schedule for cupcakes (per dozen) is given in the table below. If the marginal cost to produce a dozen cupcakes is \$4 per unit, how many units should the firm produce?

Price

Quantity Purchased

(Dozen per day)

\$12

3

\$11

7

\$10

12

\$9

20

\$8

35

\$7

60

\$6

100

\$5

160

\$4

250

What price should the cupcake store charge?
If the fixed cost for the firm is \$100 per day, how much profit will the firm make in one day?
What is the price elasticity of demand at the optimal price/quantity combination (use the next lower price level as the second point in your calculation)?
Is the formula for finding the correct level of output in the middle of page 74 in your text satisfied? (Note there is a typo in the text; the equation should read (P-MC)/P > 1/|e|. )
Scenario 2 (length: as needed)
A restaurant/bar is analyzing its pricing of beer. It has determined that the price elasticity of demand for beer is -0.8; the cross-price elasticity for wine with respect to the price of beer is 0.9; the cross-price elasticity for appetizers is -1.4; and the cross-price elasticity for entrees is -2.2. The current average price of a beer at this bar is \$4.50, and the restaurant sells 250 pints of beer a night. The price of wine averages \$8 a glass, and on a typical night 40 glasses of wine are purchased. An appetizer is priced at an average price of \$6, and an entree costs \$12 on average. The average number of appetizers and entrees sold per night is 70 and 25, respectively. The marginal cost of a pint of beer is \$2; an additional glass of wine sold increases costs by \$5; an appetizer increases costs by \$4; and an entree has a marginal cost of \$7. The restaurant is considering lowering the price of beer to \$4.

What is the restaurant’s profit (prior to the price change)?
Using the midpoint formula (described at the top of page 73–use the midpoint instead of the initial point in calculating the percent change), by what percent would the price of beer change? Using the price elasticity of demand, the approximation for the percent change in the price of beer you just calculated, and the equation at the start of section 6.5, how many pints of beer would the restaurant sell after the price change?
Using the price change of beer and the cross-price elasticities, how many glasses of wine, appetizers, and entrees would the restaurant sell after the price change of beer?
What would the profit of the restaurant be after the price change?
Should the restaurant lower the price of beer to \$4 based on your analysis?
Scenario 3 (length: as needed)
In “Kitchen Nightmares,” Chef Gordon Ramsay visits struggling restaurants and gives the owners of the restaurant a number of recommendations intended to reverse the restaurant’s prospects. One suggestion Chef Ramsay commonly makes is to reduce the size of the restaurant’s menu and concentrate on a smaller number of offerings. Our textbook has several theories that can be used to explain how that recommendation can reduce costs.

Explain how the recommendation is an application of Economies and Diseconomies of Scope.
Explain how the Learning Curve concept also would suggest a smaller menu would lead to a cost reduction.
Writing Requirements

Length: as needed (Show your calculations where appropriate.)
1-inch margins
Double spaced
12-point Times New Roman font

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