Assignment Questions (Semester 1, 2012)Microeconomics – Worth 20% of total assessment:Answer all five (5) of the following questions. Each question is worth 10 marks.Question 1:Explain and illustrate...

Answer1:
The economic theory says that According to the law of the diminishing Marginal return as the amount of
any one input is increased, holding all other input constant, the amount that output increases for each
additional unit of the expanding input will generally decrease .Diminishing return occur in the short run
when one factor is fixed (for e.g. Capital).If variable factor of Production is increased there comes a point
where it will become less productive and therefore will eventually be a diminishing marginal and
Average product as shown in the diagram.
The law of diminishing marginal return occurs because the problem of congestion emerges as the
organization grows. This shows that as more and more labor is employed, total output (panel A) initially
ises at an increasing rate because of gains from specialization In this range marginal and average
product of labor both grow (As shown in panel B).As congestion began to emerge, total output
continues to grow but at a falling rate. In this range, average product continues to rise, but marginal
productivity decreases. And once the marginal product falls below the average product, average product
egan to fall.
The causes of diminishing marginal return:
 Capacity of the organization is limited
 Increase in one factor for example - Increase in Labor Input holding capital input constant
 Fixed production capacity of the firm
Decreasing Economies of scale-If all the Inputs Increases by the same proportion but the output
increases by less than the proportional change then we can say there is decreasing economies of scale.
For example-If all the Inputs get doubled but output get less than doubled then we say there are
decreasing economies of scale. If Y (K, L) is the output of the firm as a function of K and L.
If K=2K, L=2L
If Y (2K, 2L) > 2 Y (K, L)
Then there are decreasing economies of scale.
The cause of the decreasing economies of scale is the Inefficiencies within the firm or industries
esulting in rising average cost .Diseconomies of scale are the result of the decreasing return to scale.
The diagram above shows that diseconomies of scale which result in rising portion of the LRAC are the
esult of the decreasing return to scale.
The difference between diminishing marginal return and decreasing return to scale is that while
diminishing marginal return relates to the short run (higher SRAC).On the other hand decreasing
economies of scale relates to the long run (higher LRAC).
Answer2:
An oligopolist faces a downward sloping demand curve but elasticity depends on reaction of rivals to
changes in price and output. Since the firms are attempting to maintain a high level of profit and their
market share, so
 Rival will not follow price increase by one firm
 Rival are more likely to follow a price fall by one firm to avoid loss of market share

The kink in the demand curve at price P and output Q means that there is discontinuity in the
firms marginal revenue curve .If we assume that the marginal cost curve is cutting the MR curve
then the firm is maximizing profit at this point.

Here in the diagram below An Increase in the input prices will cause an upward shift in the
Firm’s MC curve .With kinked demand curve and discontinuity in the MR curve there may be no
change in the profit maximizing price and output.

This diagram Indicates that rise in MC will not necessarily lead to higher prices. The Kinked
demand theory suggest that there will be price stickiness in these markets and that firms will
ely more on non price competition to boost sales revenue and profit .so the firm in the jeans
Industry will compete but not in terms of price i.e. There is non price competition among...