Understanding Perfectly Competitive Market The case of Sub-Zero*

Sub-zero produces liquid nitrogen. The customers are pharmacists in the region, who use
liquid nitrogen as a freezer. There are 300 pharmacists in the region. Each pharmacist spends Rs.
9000 / day on freezers. The only other freezer that the pharmacists use is dry ice. The utility
function of each of the pharmacists is given as: U = x1/3y2/3, where x is the quantity of liquid
nitrogen (in liters), and y is the quantity of dry ice (in kilograms).
The market for liquid nitrogen is perfectly competitive and there are 99 other firms operating in
the market. All the firms are price takers, and all are profit maximizing firms.
The production of liquid nitrogen requires a unit of machines system that distills nitrogen from
air, compresses and expands the gas, and refrigerates it. A machines system is a unit of
complementary machines. The machines system required for production of liquid nitrogen is
composed of a distiller, an expander-compressor and a heat exchanger. Apart from the machines
system, production of liquid nitrogen requires labor, atmospheric air (raw material) and
electricity. Given the technology, the production process of Sub-zero can be represented by a
production function, x = 3K1/2L1/2 , where x is liters of liquid nitrogen produced per day, K is the
number of units of machines systems put in use for production, and L is the number of workers
employed per day. To run the plant, it requires 410 units (1 unit = 1 kilowatt-hour) of electricity
per day. Note that here K is the number of machines systems used in the production process, and
a system cannot be used in the production process without electricity. That is why we are not
taking electricity as a different factor of production. All the other 99 firms use the same
production process and hence their production functions and electricity requirements are same as
that of Sub-zero.
All the firms that produce liquid nitrogen, including Sub-zero, are small firms, and each of them
rent in 1 unit of the machines system at Rs. 2000 / day from an agency that owns the systems.
The maintenance of the machines units are done by the agency, but electricity bills are paid by
the producing firms. Price of electricity is Rs. 5 / unit. Market wage rate for workers working in
the liquid nitrogen industry is Rs. 180 / day.
Determine the values of the following variables
1.
2.
3.
4.
5.
6.

The market demand of liquid nitrogen

Market price for liquid nitrogen
If Sub-zero wants to maximize profit, its output of liquid nitrogen per day
The average variable cost of producing the profit maximizing output of Sub-zero
The average fixed cost of producing the profit maximizing output of Sub-zero
If Sub-zero wants to maximize profit, the number of workers employed (per day) by the
firm

*Case developed by Dr. Sumit Sarkar for the purpose of class discussion in the Managerial
Economics course at XLRI