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# Profit Maximization/Marginal Costs and Benefits

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Graw Mc.Swill, a well-known book publisher, has just bought the rights to publish Billy Blood's latest book "The Microeconomics Massacre." Analysts have estimated the demand for this book to be X = 50,000 - 2,000P, where P stands for per-unit price, and X stands for number of books. Graw Mc.Swill?s cost function to produce the books is TC = 50,000 + 2X, where X is the number of books. This cost function does not include any royalty of compensation to Billy. Also, assume Billy?s costs are zero, for simplicity. Answer the following concisely using graphs, analytics, and intuition.

a. Suppose Graw Mc.Swill offers Billy a royalty equal to 50% of the dollar value of the revenue. Accounting for the royalty payments, what is the profit maximizing condition for the publisher? Find the quantity and price that the publisher will choose to maximize its profits. Calculate the profits (for both the publisher and Billy) that result from this choice. Explain briefly.

b. Suppose now that Billy is in charge of deciding how many books the publisher should produce in (a). What is Billy's profit maximizing condition in this case? Find the quantity and price that Billy will choose to maximize his profits. Calculate the profits (for both Billy and the publisher) that result from this choice. Explain briefly.

c. Now suppose that instead of the above revenue sharing arrangement, the publisher offers Billy a fixed royalty of \$1 per book sold. Answer (a) and (b) under this modified agreement. Assume that Billy?s proposal in (c, b) has to be acceptable to the publisher, i.e., Billy cannot force the publisher to shut-down. Explain briefly.

Marginal Costs and Benefits(3270)

Moe and Larry share a room. Moe is a smoker and Larry is not. Each cigarette Moe smokes (i) has a constant marginal cost to Moe, (ii) provides Moe with a decreasing marginal benefit, and (iii) imposes an increasing marginal external cost on Larry.

Using graphs and intuition, evaluate the effects of each of the following solutions to the externality Moe imposes on Larry:

(a) Larry prohibits any smoking by Moe (assume for simplicity that Moe only smokes in their room and will smoke nowhere else).

(b) Moe and Larry engage in costless bargaining to try to come up with a mutually beneficial agreement so that Moe can smoke in the room. Outline a possible agreement.

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