AP® Microeconomics · Free response

Rolled oats: a yearly inspection fee for every mill, losses, exit and a higher long-run price

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Long free-response question · four-function calculator · 10 points · about 25 minutes

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The question

Name: ______________________   Date: ____________   Rolled oats: a yearly inspection fee for every mill, losses, exit and a higher long-run price (10 points)

The market for rolled oats is perfectly competitive and is a constant-cost industry. It is in long-run equilibrium. The government then requires every mill to pay a yearly inspection fee, the same amount whatever the number of bags the mill produces. The mills and the numbers are invented, for practice.

  1. (A) Draw correctly labeled side-by-side graphs for the rolled oats market and a typical mill in long-run equilibrium. On the market graph, label the market price PM. On the mill's graph, show the mill's demand curve and label its profit-maximizing quantity qF. [3 points]

  2. (B(i)) Show the effect of the inspection fee on the mill's graph in part A by shifting the curve or curves that change. [1 point]

  3. (B(ii)) Explain why the fee does not change the mill's marginal cost. [1 point]

  4. (C) Shade the mill's economic loss at the market price, after the fee. [1 point]

  5. (D) At the market price of $8 a bag, the mill sells 500 bags a day, and with the fee its average total cost at that output is $9. Calculate the mill's daily economic profit or loss. Show your work. [1 point]

  6. (E(i)) Identify what happens to the number of mills in the rolled oats market in the long run, and explain why. [1 point]

  7. (E(ii)) Explain what happens to the long-run market price of rolled oats compared with its level before the fee. [1 point]

  8. (F) Identify whether the price elasticity of supply of rolled oats is greater in the short run or in the long run, and explain. [1 point]