Transcript Slide 1

1.
3.
4.
5.
One Seller 2. One Product
Blocked Entry (and exit?)
Non-Price competition
LR profits/losses
6. Price Maker (to maximize profits)
Barriers to Entry
1. economies of scale
2. government licensing
3. Patents
4. control over an essential resource
Price and Output
• A profit-maximizing firm will expand output as
long as marginal revenue exceeds marginal
cost.
• Price will be lowered and output expanded until
MR = MC
• The price charged will be greater than its
marginal cost.
A Natural Monopoly Graph
Average
Cost
• One firm producing Q1 has average cost C1
• If two firms share the market, each
produces Q0.5 and has average cost C0.5
• If three firms share the market, each
produces Q0.33 has average cost C0.33
C0.33
C0.5
C1
Q0.3
3
Q0.5
Q1
ATC
Q
Marginal Revenue of a Monopolist
• Initial price P1 & output q1.
Total revenue (TR) = P1 * q1.
Price
1. As price falls from P1 to P2,
output increases from q1 to q2,
Reduction in
Total Revenue
two conflicting influences on TR.
1. TR will rise because of an
increase in the number of
units sold (q2 - q1) * P2.
Increase in
Total Revenue
P1
P2
2. TR will decline [(P1 - P2) * q1]
as q1 units once sold at the
higher price (P1) are now sold at
the lower price (P2).
• Depending on the size of the
shaded regions, total revenue
may increase or decrease.
d
MR
q1
q2
Quantity/ti
me
Total
Output
CostATC
0
1
2
3
4
5
6
7
8
9
10
50
80
90
110
140
180
230
290
360
440
530
Price
Marginal
Total Marginal
Quantity
(AR)
Cost
Revenue Revenue
0___
0
120
110
30
___
___
___
110
1
110
80
___
90
10
___
___
___
200
2
100
45
___
70
20
___
___
___
270
3
90
37
___
50
30
___
320
4
80
35
___
___ 40
30
___
___
350
5
70
36
___
___ 50
10
___
___
360
6
60
38
___
___ 60
-10
___
___
350
7
50
41
___
___ 70
-30
___
___
320
8
40
45
___
___ 80
-50
___
___
___
___
270
9
30
49
___
-70
90
___
200
10
20
53
___
___
ATC
80
45
37
35
36
38
41
45
49
53
Marginal
Cost
30
10
20
30
40
50
60
70
80
90
Quantity Marginal
Revenue
0
110
1
90
2
70
3
50
4
30
5
10
6
-10
7
-30
8
-50
9
-70
10
Price
(AR)
120
110
100
90
80
70
60
50
40
30
20
120
110
Cost
100
90
80
70
60
50
40
30
20
10
0
1
2
3
4
5
6
7
8
9
10
Output
Monopolistic Profit
Maximization Graph
P
Marginal revenue is not constant
as Q increases because:
• revenue increases as the
monopolist sells more
• revenue decreases because
the monopolist must lower the
price to sell more
MC
D at Qprofit max
$24
Find output where
MC = MR, this is the
profit maximizing Q
MC = MR
MR
4 = Qprofit max
D
Q
Find how much consumers
will pay where the profit
max Q intersects demand,
this is the monopolist
price
Monopoly Compared to Perfect Competition Graph
P
• In a monopoly, P>MR,
• In perfect competition,
P=MR=D
• MR=MC is the profit max rule
for both
MC
First find the
monopoly Q and P
PM
PPC
DPC= MRPC
DM
QM QPC
MRM
Q
Then find the
perfectly competitive
Q and P
Outcome: Monopoly output
is lower and price is higher
than perfect competition
The Welfare Loss from a
Monopoly
P
PM
PPC
MC
C
• The rectangle C is a transfer
of surplus from the consumer
to the monopolist
D
B
A
QMQPC
• The welfare loss from a
monopoly is represented by
the triangles B and D
MR
• The area A represents the
opportunity cost of diverted
resources, which is not a loss
D
to society
Q
The diagram shows demand and long-run cost conditions in an industry
a.
Explain why the industry is likely to be
monopolized.
Price
b.
Indicate the monopolist’s output level, and
label it Q.
c.
Indicate the price that a profit-maximizing
monopolist would charge, and label it P
d.
Indicate the maximum profits of the
monopolist.
e.
Will the profits attract competitors to the
industry? Yes ___
No ____
Explain why or why not
MC
LRATC
d
MR
Quantity/time
Name: ____________________
Price and Output Under Monopoly
• Expand output as long
as MR > MC. (P goes
Price
MC
down)
• Output level q will result …
with price determined by the
height of the demand curve
at that level of output, P.
• At q the average total
cost per unit for that scale
of output is C.
• As P > C (price > ATC) the
firm is making economic
profits equal to the area
PABC.
Economic
profits
ATC
A
P
B
C
d
MR < MC
MR > MC
MR
q
Quantity/time
Price and Output Under Monopoly
• A monopolist will reduce price and expand output as long
as MR > MC.
• As the monopolist reduces price and expands output,
profits increase …
until the point where MC > MR.
• Here an output of 8 a day will maximize profits.
Output
Price
(per day)
(per unit)
(1)
(2)
0
----
1
2
3
4
5
6
7
8
9
10
$25.00
$24.00
$23.00
$22.00
$21.00
$19.75
$18.50
$17.25
$16.00
$14.75
Total
revenue
= (1)*(2)
(3)
-----
Total
costs
(per day)
(4)
$50.00
$60.00
$25.00
$69.00
$48.00
$77.00
$69.00
$84.00
$88.00
$90.50
$105.00
$96.75
$118.50
$102.75
$129.50
$108.50
$138.00
$114.75
Maximum
$144.00
$121.25
$147.50profits
Profit
= (3) - (4)
(5)
-$50.00
-$35.00
-$21.00
-$8.00
$4.00
$14.50
$21.75
$26.75
$29.50
$29.25
$26.25
Marginal
cost
(6)
---$10.00
$9.00
$8.00
$7.00
$6.50
$6.25
$6.00
$5.75
$6.25
$6.50
Marginal
revenue
(7)
----
<
<
<
<
<
<
<
<
$25.00
$23.00
$21.00
$19.00
$17.00
$13.50
$11.00
$8.50
$6.00
$3.50
Profits Under Monopoly
• High entry barriers protect monopolists
from competitive pressures.
– Monopolists can earn long-run profits.
• However even a monopolist will not
always be able to earn profit.
– When ATC is always above the demand
curve, the monopolist will be unable to
cover costs (unable to earn a profit).
When a Monopolist Incurs Losses
Price
• A monopolist will set output
equal to q, where MR = MC
• At this level of output, the
price that the monopolist
C
charges does not cover the
average total cost of
P
producing the output ( P < C ).
• Whenever the ATC curve
lies always above the demand Short-run
losses
curve, the monopolist will
incur short-run losses.
• In this diagram the firm is
making economic losses
equal to the shaded area,
CABP.
MC
ATC
A
B
d
MR
q
Quantity/time
Regulation of a Monopolist
• An unregulated monopolist
produces where MR = MC
(Q0) and charge price P0.
Price
• From an efficiency
viewpoint, this output is too
small and the price is too high.
1. average cost pricing
The monopolist is forced to
reduce its price to P1 the
expand output to Q1.
2. marginal cost pricing
-Force output to be expanded
to Q2 where P = MC
- P = cost to produce
-Forces LR losses.
Average cost
pricing
Marginal cost
pricing
P0
LRATC
P1
MC
P2
D
MR
Q0
Q1
Q2
Quantity/time
Allocative Efficiency
• Allocative efficiency is achieved when the most
desired goods are produced at the lowest
possible cost.
• The Minimum point on the ATC curve:
• ATC > marginal cost at the minimum point
• No allocative efficiency in a Monopoly.
Price Discrimination
• Sellers may gain from price discrimination by
charging:
• higher prices to groups of customers with more
inelastic demand
• lower prices to groups of customers with
more elastic demand
• Price discrimination generally leads to more
output and additional gains from trade.
The Economics of Price Discrimination
• Consider a hypothetical market for airline travel where the
Marginal Cost per traveler is $100.
• If the airline charges all customers the same price, profits
will be maximized where MC = MR. Here the airline charges
everyone $400 and sells 100 seats.
• This generates Net Operating Revenue of $30,000 or
(total revenues) $40,000 – (operating costs) $10,000.
Pric
e
$70
0
$60
Net operating revenue
($300*100) = $30,000
0
$50
0
$40
0
$30
0
$20
0
$10
0
Single price
MC
100
MR
D
Quantity/tim
e
The Economics of Price Discrimination
• By charging higher prices to consumers with less elastic
demand and lower prices to those with more elastic
demand it will increase net operating revenue.
• If the airline charges $600 to business travelers (who
have a highly inelastic demand) and $300 to other
travelers (who have a more elastic demand), it can increase
its Net Operating Revenue to $42,000.
Price
Price
$700
Net operating revenue
($300*100) = $30,000
$700
$600
$600
$500
$500
$400
$400
$300
$300
$200
$200
MC
$100
Single price
MR
100
D
Quantity/time
$100
60
Price Discrim.
Net operating revenue
from business travelers
($500*60) = $30,000
Net operating revenue
from all others
($200*60) = $12,000
MC
D
120 Quantity/time
When economies of scale are important and an industry tends toward natural
monopoly, splitting the industry into small, rival firms will
a. lead to lower prices in the short run.
b. cause prices to rise when demand is inelastic but fall when it is elastic.
c. cause prices to fall because of the decline in producer profits.
d. increase per-unit costs of production.
A monopolist will maximize profits by
a. setting his price as high as possible.
b. setting his price at the level that will maximize per-unit profit.
c. producing the output where marginal revenue equals marginal cost and
charging the price on the demand curve at that quantity.
d. producing the output where price equals marginal cost.
Which of the following is the most accurate description of a monopolist?
a. a firm that produces a single product
b. a firm that is the sole producer of a narrowly defined product class, such
as yellow, grade-A butter produced in Jackson County, Wisconsin
c. a firm that is the sole producer of a product for which there are no good
substitutes in a market with high barriers to entry
d. a firm that is large relative to its competitors
Oligopolistic agreements on price tend to be unstable because
a. although the monopoly price is the best price for all firms, oligopolists are
unaware of this.
b. although the monopoly price maximizes the joint profits of the firms, a secret
price cut by any individual firm will increase the profits of that firm; hence,
collusive agreements tend to break down.
c. the demand for the products of oligopolistic industries is inherently unstable
relative to the demand for the products of non-oligopolistic industries.
d. firms in oligopolistic industries have more concern for consumers than do firms
in competitive industries.
When firms use resources in an attempt to secure and maintain grants of
market protection from the government, it is called
a. rent seeking
b. franchising.
c. collusion.
d. resource investment
The incentive for the managers of a government-operated firm (for example, a state
university) to promote internal efficiency and keep costs low will be
a. weak because it will be difficult for voters and their representatives to monitor
and eliminate the inefficiency of such firms.
b. strong because public officials will have little concern for personal gain.
c. strong because voters can easily recognize inefficiency and penalize the publicsector managers who are responsible.
d. weak because government employees are less competent than those who work in
the private sector.
What price and output in the graph
would an unregulated profitmaximizing monopolist choose?
a. price C and output R
b. price B and output R
c. price B and output S
d. price A and output T
Would they be making a profit?
a. yes
b. no
c. normal but not economic
d. can’t tell
If a regulatory agency were using the “normal return” (zero economic
profit) criteria to impose a price on a monopolist with the cost and
demand conditions depicted, what price would the regulators set, and
what output would the monopolist produce?
a. price A and output T
b. price C and output R
c. price B and output R
d. price B and output S