What is arbitrage? Explain why arbitrage drives the contract price of futures to the price of the underlying asset on the expiration date, for prices above and below the asset price
What will be an ideal response?
Arbitrage is the riskless elimination of profit opportunities in futures markets. If the contract price is 111, and the asset price is 110, contracts will be sold at $111,000 and the asset purchased for $110,000. The bonds will be purchased at the market price and delivered to fulfill the contract, for a profit of $1000. This will continue until the contract price falls to equal the asset price. Similarly, if the contract price is 109, and the asset price is 110, everyone will buy the contract, and sell the bond for $110,000 after buying it for $109,000 on the market, for a profit, again, of $1,000. This activity will drive up the bond price and drive down the asset price until they are equal.
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The above figure shows a perfectly competitive firm. If the market price is $15 per unit, the firm
A) will definitely shut down to minimize its losses. B) will stay open to produce and will make zero economic profit. C) will stay open to produce and will incur an economic loss. D) will stay open to produce and will make an economic profit. E) might shut down but more information is needed about the fixed cost.
Which of the following correctly identifies a problem with price regulation?
A) It minimizes social surplus. B) It minimizes consumer surplus. C) Sellers do not have an incentive to cut costs. D) Government intervention increases deadweight loss.