Paolo's Fire Engines is the sole seller of fire engines in the fictional country of Pyromania. Initially, Paolo produced eight fire engines, but he has decided to increase production to nine fire engines. The following graph shows the demand curve Paolo faces. As you can see, to sell the additional engine, Paolo must lower his price from $80,000 to $60,000 per fire engine. Note that while Paolo gains revenue from the additional engine he sells, he also loses revenue from the initial eight engines because he sells them all at the lower price.
Use the purple rectangle (diamond symbols) to shade the area representing the revenue lost from the initial eight engines by selling at $60,000 rather than $80,000. Then use the green rectangle (triangle symbols) to shade the area representing the revenue gained from selling an additional engine at $60,000.

1. Paolo (should or should not) increase production from 8 to 9 fire engines because the (output effect/price effect) dominates in this scenario
2. True or False: If Paolo's Fire Engines were a competitive firm instead and $80,000 was the market price for an engine, increasing its production would not affect the price at which he can sell engines.
a. True
b. False

Transcribed Image Text:

100 90 Demand Revenue Lost 80 70 Revenue Gained 60 50 40 30 20 10 10 9. 7. 3 4 QUANTITY (Fire engines) PRICE (Thousands of dollars per fire engine)