Bud Owen operates Bud's Package Store in a small college town. Bud sells six packs of beer for off-premises consumption. Bud has very limited store space and has decided to limit his product line to one brand of beer, choosing to forego the snack food lines that normally accompany his business. Bud's is the only beer retailer physically located within the town limits. He faces considerable competition, however, from sellers located outside of town. Bud regards the market as highly competitive and considers the current $2.50 per six pack selling price to be beyond his control. Bud's total and marginal cost functions are:
TC = 2000 + 0.0005Q²
MC = 0.001Q,
where Q refers to six packs per week. Included in the fixed cost figure is a $750 per week salary for Bud, which he considers to be his opportunity cost.
a. Calculate the profit maximizing output for Bud. What is his profit? Is this an economic profit or an accounting profit?
b. The town council has voted to impose a tax of $.50 per six pack sold in the town, hoping to discourage beer consumption. What impact will the tax have on Bud? Should Bud continue to operate? What impact will the tax have on Bud's out-of-town competitors?

Question

Ganesh Bhure · Accepted Answer

Final Answer : a.Given the competitive nature of the market, Bud should equate P to Mc.2.50 = 0.001QQ = 2500TR = 2.5 × 2500 = 6250TC = 2000 + 0.0005  2  + 0.5Q MC becomes MC = 0.001Q + 0.5 setting P = MC $2.50 = 0.001Q + 0.5 2.00 = 0.001Q Q = 2000 TR = 2.50 × 2000 TR = 5000 TC = 2000 + 0.0005   + 0.5(2000) TC = 2000 + 2000 + 1000 TC = 5000 π = 5000 - 5000 π = 0 Given that this is zero economic profit, Bud should continue operating.The impact upon Bud's competitors will be favorable or neutral. As he curtails output, 500 six packs worth of business will either shift elsewhere or choose temperance. class=answers-bank-image d-inline rel=preload > TC = 2000 + 3125TC = 5125π = 6250 - 5125π = 1,125Since the cost function is an economic cost function, we can conclude that this is an economic profit.b.Tax shifts total cost curve to:TC = 2000 + 0.0005Q 2  + 0.5QMC becomesMC = 0.001Q + 0.5setting P = MC$2.50 = 0.001Q + 0.52.00 = 0.001QQ = 2000TR = 2.50 × 2000TR = 5000TC = 2000 + 0.0005  2  + 0.5Q MC becomes MC = 0.001Q + 0.5 setting P = MC $2.50 = 0.001Q + 0.5 2.00 = 0.001Q Q = 2000 TR = 2.50 × 2000 TR = 5000 TC = 2000 + 0.0005   + 0.5(2000) TC = 2000 + 2000 + 1000 TC = 5000 π = 5000 - 5000 π = 0 Given that this is zero economic profit, Bud should continue operating.The impact upon Bud's competitors will be favorable or neutral. As he curtails output, 500 six packs worth of business will either shift elsewhere or choose temperance. class=answers-bank-image d-inline rel=preload > + 0.5(2000)TC = 2000 + 2000 + 1000TC = 5000π = 5000 - 5000π = 0Given that this is zero economic profit, Bud should continue operating.The impact upon Bud's competitors will be favorable or neutral. As he curtails output, 500 six packs worth of business will either shift elsewhere or choose temperance.

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