Deck 10: Pricing Strategies for the Firm

Question 1

The suggestion that a seller will try to set price based on "what the market will bear" is explicit recognition of the constraint imposed by:

A) the firm's marginal cost of production.
B) the price elasticity of demand for that item.
C) the firm's competitors.
D) the need for most firms to earn positive economic profits over time if they are to remain in business.

Answer 1

B

Question 2

The practice of charging different prices to various groups of customers that are not based on differences in the costs of production is referred to as:

A) predatory pricing.
B) markup pricing.
C) discretionary pricing.
D) price discrimination.

Answer 2

D

Question 3

Assume there is a decrease in the number of substitutes for a good produced by a profit-maximizing price-setting firm. All else constant, this would cause the firm's ability to markup price above average cost to:

A) decrease.
B) stay the same.
C) increase.
D) cannot be determined with the information given.

Answer 3

C

Question 4

When demand is elastic, the marginal revenue resulting from a decrease in price is:

A) positive.
B) zero.
C) negative.
D) cannot be determined without more information.

Question 5

At the profit-maximizing level of output, the amount by which the firm can mark up price is:

A) inversely related to the price elasticity of demand for item in question.
B) directly related to the price elasticity of demand for item in question.
C) totally unrelated to the price elasticity of demand for item in question.
D) equal to the ratio of the marginal and average costs of production.

Question 6

Assume the inverse demand function for a good can be written as: P = 30 - 2Q. Assuming P = $10, the resulting consumer surplus would be equal to:

A) $50.
B) $100.
C) $200.
D) $225.

Question 7

When the marginal revenue resulting from a decrease in price is negative, demand for the product is:

A) elastic.
B) unit elastic.
C) inelastic.
D) cannot be determined without more information.

Question 8

Which of the following statements is correct?

A) The markup pricing rule that is derived from the rule for profit maximization can be used as a substitute for determining the profit-maximizing level of output by equating marginal revenue and marginal cost.
B) It is reasonable to assume that a profit-maximizing firm will never operate in the inelastic portion of its demand curve.
C) The ability of a profit-maximizing firm to mark up price above average cost is unaffected by the price elasticity of demand for the firm's output.
D) The markup factor and the price elasticity of demand are positively related, i.e., as the price elasticity of demand increases, the markup factor that the profit-maximizing firm can apply to its marginal cost in setting price increases as well.

Question 9

Which of the following statements is correct?

A) To maximize profit, a firm should apply a uniform markup to each product it sells.
B) The profit-maximizing firm's ability to mark up price over average cost is limited by the price elasticity of demand for the product in question.
C) It is not possible to maximize profits by using a markup pricing strategy.
D) Using markup pricing is more complicated than simply setting price equal to marginal cost.

Question 10

The situation in which a firm charges different prices for different blocks of output is referred to as:

A) first-degree price discrimination.
B) second-degree price discrimination.
C) third-degree price discrimination.
D) fourth-degree price discrimination.

Question 11

Assume the price elasticity of demand for a product is -4. In this case, the firm's optimal markup is approximately):

A) 400 percent.
B) 100 percent.
C) 33 percent.
D) 25 percent.

Question 12

Assume a change in price causes the price elasticity of demand for a good in absolute value) and marginal revenue to decrease. In this case we can conclude that the price of the good was:

A) increased.
B) held constant.
C) decreased.
D) cannot be determined.

Question 13

Which of the following is considered a necessary condition for successful price discrimination?

A) A firm's customers must all have the same price elasticity of demand.
B) Firms are able to prevent resale among different groups of customers.
C) Firms must be able to determine each customer's maximum willingness to pay for the product in question.
D) Firms must operate in a perfectly competitive market.

Question 14

By and large, the price of each item on a restaurant menu is:

A) an accurate reflection of the item's marginal cost.
B) based strictly on consumer demand.
C) a function of cost and the price elasticity of demand for the item.
D) a fixed multiple of the item's total cost.

Question 15

The difference between the total willingness to pay for a good and the amount actually spent measures:

A) the total benefits from consuming the good.
B) the net gain from the production and consumption of the good.
C) the amount by which producers are better off, i.e., producers' surplus.
D) the amount by which consumers are better off, i.e., consumers' surplus.

Question 16

Assuming the demand curve is downward sloping, as price increases, the price elasticity of demand for a good in absolute value) and marginal revenue:

A) increase.
B) stay the same.
C) decrease.
D) cannot be determined.

Question 17

It is frequently observed that when a city is located next to a major highway, gas stations located close to the highway charge higher prices than gas stations located farther away. This is an example of:

A) first-degree price discrimination.
B) second-degree price discrimination.
C) third-degree price discrimination.
D) illegal price discrimination.

Question 18

Third-degree price discrimination refers to situation in which:

A) a firm charges different prices for different blocks of output.
B) a firm separates markets according to the price elasticity of demand.
C) a firm is able to charge the maximum price consumers are willing to pay for each unit of output.
D) a firm divides a market into thirds and charges each segment a different price.

Question 19

The situation in which a firm is able to charge the maximum price consumers are willing to pay for each unit of output the firm sells is referred to as:

A) first-degree price discrimination.
B) second-degree price discrimination.
C) third-degree price discrimination.
D) fourth-degree price discrimination.

Question 20

The practice of setting price by increasing the average costs of production by some percentage is referred to as:

A) average cost pricing.
B) percentage pricing.
C) rate-of-return pricing.
D) markup pricing.

Question 21

The managerial technique of markup pricing is consistent with the economic theory of profit maximization when the markup is positively related to the price elasticity of demand.

Question 22

Applying a uniform markup to each of a firm's products is less profitable than varying the markup based on the elasticity of demand because the latter is able to exploit the sensitivity of quantity demanded to a change price.

Question 23

All else constant, as the price elasticity of demand decreases, so does the marginal revenue resulting from a decrease in price.

Question 24

Which of the following statements is not correct?

A) First-degree and third-degree price discrimination work to increase a firm's profits by converting consumer surplus into revenue for the firm.
B) First-degree and third-degree price discrimination work to increase a firm's profits by more accurately matching willingness to pay to the marginal costs of production.
C) First-degree price discrimination works to increase a firm's profits by converting consumer surplus into revenue for the firm, while third-degree price discrimination increases a firm's profits by more accurately assessing the willingness to pay of different groups of consumers.
D) Because it focuses on more accurately assessing the willingness to pay of different groups of consumers, third-degree price discrimination will increase a firm's profits more than will first-degree price discrimination.

Question 25

A firm's profits will be greatest when it practices:

A) first-degree price discrimination.
B) second-degree price discrimination.
C) third-degree price discrimination.
D) no price discrimination.

Question 26

"Personalized pricing" and "group pricing" are examples of:

A) first-degree and second-degree price discrimination, respectively.
B) second-degree and third-degree price discrimination, respectively.
C) first-degree price discrimination.
D) first-degree and third-degree price discrimination, respectively.

Question 27

As macroeconomic conditions improve and consumers' incomes and wealth increase, their demand for many products tends to become price inelastic. As such, the ability of firms to mark up price above cost will .

A) more; increase
B) more; decrease
C) less; increase
D) less; decrease

Question 28

The markups restaurants apply to various items are heavily influenced by the price elasticity of the demand for each item.

Question 29

All else constant, there is an inverse relationship between the price elasticity of demand and the marginal revenue resulting from a decrease in price.

Question 30

As the price elasticity of demand for an item increases, so does the firm's ability to mark up the price of the item above average cost.

Question 31

Which of the following is an example of price discrimination?

A) Increasing the price of a product when demand for the product increases.
B) Charging different prices for a product in different regions of the country due to differences in transportation costs.
C) Bundling complementary products to attract additional sales.
D) Reducing the price of a product to reduce excess inventory.

Question 32

Assume an automobile manufacturer can sell its sport utility vehicle SUV) with or without a trailer towing package. One group of customers, group A, is willing to pay a maximum of $30,000 for the SUV and $1,100 for the towing package. A second group, B, is willing to pay $29,000 for the SUV and $1,000 for the towing package. Assuming the manufacturer cannot price discriminate, to maximize its revenues the manufacturer should:

A) sell the components separately, charging $30,000 for the SUV and $1,000 for the towing package.
B) sell the components separately, charging $29,000 for the SUV and $1,100 for the towing package.
C) sell the components separately, charging $29,000 for the SUV and $1,000 for the towing package.
D) sell the components as a bundle for $30,500.

Question 33

In the case of a perfectly competitive firm, the optimal markup over marginal cost is 0 percent.

Question 34

Assume the price elasticity of demand for a good is -3. In this case, a decrease in price would result in marginal revenue of 2/3)P.

Question 35

Which of the following would not be categorized as a form of third-degree price discrimination?

A) Group pricing.
B) Promotional pricing.
C) Versioning.
D) Personalized pricing.

Question 36

Applying a uniform markup to set the price of the various products sold by a firm is more profitable than varying the markup based on differences in the price elasticity of demand for the firm's products.

Question 37

Which of the following is not an example of a two-part pricing scheme in the context of price discrimination?

A) A customer pays full price for the first 10 copies of a software program and then receives a 10 percent discount on each additional copy it buys.
B) A firm, e.g., Sam's Club or Costco, charges a membership fee that is separate from the price paid for items purchased from the firm.
C) A customer pays a $10 cover charge to enter a bar and then pays $5 for each beverage.
D) An amusement park charges an admission fee and then charges a per unit price for each of the rides offered by the park.

Question 38

Which of the following is not cited as a reason for a firm to pursue a group pricing strategy?

A) To minimize its total costs of production.
B) To increase its total profit.
C) To attract and lock in additional customers.
D) To create network externalities.

Question 39

If a firm is successful in its efforts to reduce the price elasticity of demand for its product, all else constant, the optimal markup that can be used in setting price will increase.

Question 40

Promotional pricing would best be categorized as a form of:

A) first-degree price discrimination.
B) second-degree price discrimination.
C) third-degree price discrimination.
D) no price discrimination.

Question 41

Certain vendors that market their goods via mail order have been known to send out catalogues to different regions of the country with items priced differently across regions. Assuming prices are matched to regions on a random basis, this practice would be considered an example of group pricing, or third-degree price discrimination.

Question 42

In many areas of the country, electricity customers pay a set per unit price for each of the first X kilowatts and a lower per unit price for any additional kilowatts of electricity consumed in a month. This is an illustration of second-degree price discrimination.

Question 43

Promotional pricing is designed to take advantage of differences in the price elasticity of demand among customers. As such, it is an application of first-degree price discrimination.

Question 44

Because it is more extensive, first-degree price discrimination is more profitable for the firm than is third-degree price discrimination.

Question 45

To the extent that customers can resell products to each other, the effectiveness of a price discrimination strategy will be undermined.

Question 46

An analysis of the behavior of several large corporations over the past 50 years strongly suggests that reliance on "administered" prices is an effective profit-maximizing strategy over time.

Question 47

Price discrimination strategies that cause considerable consumer resentment or a negative reaction from competitors can reduce or eliminate the effectiveness of such strategies.

Question 48

Effective price discrimination will enable a perfectly competitive firm to earn positive economic profits in both the short run and the long run.

Question 49

So long as the absolute value of the price elasticity of demand for a firm's output is greater than 0, the firm's optimal markup factor will be positive as well.

Question 50

Certain hotels offer promotional strategies in which kids under 12 eat free at the hotel's restaurant. This is an example of second-degree price discrimination.

Question 51

Unlike markup pricing, the strategy of price discrimination is totally independent of the price elasticity of demand for the good in question.

Question 52

As practiced by book publishers, versioning involves first selling the hardcover edition of a book and then switching to a paperback edition to sell additional copies. As such, this is an application of second-degree price discrimination.

Question 53

The total willingness to pay for a given number of units of a good or service is determined by multiplying the equilibrium price of the good by the number of units purchased.

Question 54

When the macroeconomy is doing poorly as it was in 2009), profits of existing firms decrease, creating an incentive for existing firms to exit unprofitable markets. This in turn makes it more difficult for the remaining firms to mark up price over average or marginal cost.

Question 55

Because it is based on differences in the price elasticity of demand among different groups of consumers, third-degree price discrimination is a more profitable price discrimination strategy than is first-degree price discrimination.

Question 56

The goal of "personalized pricing" is to determine how much each individual customer is willing to pay for a product. As such, it is an application of first-degree price discrimination.

Question 57

The fixed fee a firm is able to charge as part of a two-part pricing strategy is inversely related to the amount of consumer surplus the customer realizes at the profit-maximizing level of output.

Question 58

Assume a firm sells two complementary products. Bundling is more likely to be a successful price discrimination strategy when one group of customers is willing to pay a higher price for one of the items in the bundle and another group is willing to pay a higher price for the other item.

Question 59

All else constant, as the price elasticity of demand for a good at the equilibrium price decreases, the amount of consumer surplus derived from purchasing the equilibrium quantity of the good increases.

Question 60

BOGOs, i.e., buy-one, get-one-free offers, are an example of third-degree price discrimination.

Question 61

Many restaurants offer "early-bird specials " to dinner customers. These specials consist of a significant price reduction on selected menu items purchased before some pre-determined time, e.g., 6 p.m. Is such a practice a form of price discrimination? If so, what type?

Question 62

What role does the price elasticity of demand play in markup pricing, i.e., how does it affect the firm's ability to mark up price over marginal cost?

Question 63

Is the profit-maximizing price-taking firm able to mark up price above the marginal costs of production at the profit-maximizing level of output? Why or why not?

Question 64

Automobile manufacturers often use incentive programs, including special financing rates and cash rebates, to increase sales. However, a customer is usually restricted to choosing either the low financing rate or the rebate, but not both. Is this an example of price discrimination? If so, what type? Explain your reasoning.

Question 65

Assume the economy is headed into a recession. Considering this, and recognizing that firms are slow to change the prices they charge for their products, are firms more or less likely to be able to pursue an effective markup pricing strategy in their pursuit of positive economic profit? Why?

Question 66

The text describes three different "degrees" of price discrimination. Of these, which one is theoretically capable of generating the greatest amount of economic profit for the firm? Why? In contrast, which one do you think has the greatest applicability to the range of goods and services consumers typically purchase?

Question 67

Assume you have been hired to advise two different firms, A and B, regarding the price each firm should charge for its product, focusing on the amount each firm should mark up price over marginal cost. While both firms are price setters, the product produced by firm A is extremely unique and enjoys widespread appeal. In contrast, firm B sells a fairly standard product for which there are are several good, but not perfect, substitutes. How would your advice to each firm differ? How does the price elasticity of demand influence your recommendations?