Monopoly2003

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Monpoly


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Monopoly : Monopoly “One is the Loneliest Number”

Monopoly---Defining Characteristics : Single Seller in the Market No close substitutes Price MAKER Blocked Entry Non-Price Competition Monopoly---Defining Characteristics

Monopoly---Examples of Monopoly : PURE Monopolies are RARE… Local water suppliers—whether Government owned or privately owned Cable TV DeBeers Diamond Intel ---computer chips Microsoft---basic operating software Monopoly---Examples of Monopoly

Monopoly : IMPORTANT: A Monopoly DOES NOT have a SUPPLY CURVE !!! Its MARKET DEMAND CURVE is going to determine the QUANTITY that the Monopolist is going to supply Monopoly

PowerPoint Presentation : Monopoly Price Of ___ Quantity of _______ D M * 1 2 3 4 5 6 7 8 11 10 9 8 7 6 5 4 3 2 1 0 -1 -2 -3 -4 0 $11 $10 $9 $8 $7 $6 $5 $4 $3 x x x x x x x x x Price Quantity This data determines our Demand Curve for the Monopolist The Monopolist faces a Downward sloping Demand Curve because if it wants to Sell more output it must Lower its price.

PowerPoint Presentation : Monopoly Price Of ___ Quantity of _______ D M * 1 2 3 4 5 6 7 8 11 10 9 8 7 6 5 4 3 2 1 0 -1 -2 -3 -4 Total Revenue (P X Q) 0 $11 $0 $0 $10 $10 $10 $9 $18 $9 $8 $24 $8 $7 $28 $7 $6 $30 $6 $5 $30 $5 $4 $28 $4 $3 $24 $3 x x x x x x x x x Price Quantity Average Revenue TR/Q = AVERAGE REVENUE NOTE: PRICE =AVERAGE REVENUE DEMAND CURE = AVERAGE REVENUE CURVE

PowerPoint Presentation : Monopoly Price Of ___ Quantity of _______ MR D*= Average Revenue 1 2 3 4 5 6 7 8 11 10 9 8 7 6 5 4 3 2 1 0 -1 -2 -3 -4 Total Revenue (P X Q) Marginal Revenue ( Δ TR/ Δ Q ) 0 $11 $0 $0 $0 $10 $10 $10 $10 $9 $18 $9 $8 $8 $24 $8 $6 $7 $28 $7 $4 $6 $30 $6 $2 $5 $30 $5 $0 $4 $28 $4 $-2 $3 $24 $3 $-4 x x x x x x x x x Price Quantity x x x x x x x x Average Revenue TR/Q When MR is plotted, remember Marginal means “each additional.” The MR (determined by looking at the “ Price” axis) is going to fall in Between the numbers because you Are moving from one to the other.

PowerPoint Presentation : Monopoly Total Revenue (P X Q) 0 $11 $0 $0 $0 $10 $10 $10 $10 $9 $18 $9 $8 $8 $24 $8 $6 $7 $28 $7 $4 $6 $30 $6 $2 $5 $30 $5 $0 $4 $28 $4 $-2 $3 $24 $3 $-4 Price Quantity Average Revenue TR/Q Marginal Revenue ( Δ TR/ Δ Q ) · A monopolist faces a downward sloping Demand curve. The firm D curve is the market D curve! · A monopolist can sell additional output only by lowering its price (due to the law of demand). · A monopolist must lower the price of all of its output, not just the marginal units, since it is a single-price seller. · As a result, as output increases, the firm's marginal revenue falls faster than the price.

PowerPoint Presentation : Monopoly Total Revenue (P X Q) 0 $11 $0 $0 $0 $10 $10 $10 $10 $9 $18 $9 $8 $8 $24 $8 $6 $7 $28 $7 $4 $6 $30 $6 $2 $5 $30 $5 $0 $4 $28 $4 $-2 $3 $24 $3 $-4 Price Quantity Average Revenue TR/Q Marginal Revenue ( Δ TR/ Δ Q ) Look at the “PRICE” column and the “Marginal Revenue “column

PowerPoint Presentation : Monopoly Total Revenue (P X Q) 0 $11 $0 $0 $0 $10 $10 $10 $10 $9 $18 $9 $8 $8 $24 $8 $6 $7 $28 $7 $4 $6 $30 $6 $2 $5 $30 $5 $0 $4 $28 $4 $-2 $3 $24 $3 $-4 Price Quantity Average Revenue TR/Q Marginal Revenue ( Δ TR/ Δ Q ) As we move from the production of the 1st unit to the 2 nd unit, the price (and AVG Revenue) drops from $10 to $9 but the MR drops to $8. Why??? If we sell the 2 nd unit for $9.00 then we get $9.00 in revenue for that unit. BUT if we sell that unit for $9.00 THEN we must sell the 1 st Unit for $9.00 as well and we will “LOSE “$1.00 on that unit. So the $9.00 we get for unit 2 minus the $1.00 we lose for unit one gives us a change in revenue (MR) of $8.00…

PowerPoint Presentation : Monopoly Total Revenue (P X Q) 0 $11 $0 $0 $0 $10 $10 $10 $10 $9 $18 $9 $8 $8 $24 $8 $6 $7 $28 $7 $4 $6 $30 $6 $2 $5 $30 $5 $0 $4 $28 $4 $-2 $3 $24 $3 $-4 Price Quantity Average Revenue TR/Q Marginal Revenue ( Δ TR/ Δ Q ) As we move from the production of the 3rd unit to the 4th unit, the price (and AVG Revenue) drops from $8 to $7 but the MR drops to $4. Why??? If we sell the 4th unit for $7.00 then we get $7.00 in revenue for that unit. BUT if we sell that unit for $7.00 THEN we must sell Units 1,2,3 Unit for $7.00 as well and we will “LOSE “$1.00 on each of those units. So the $7.00 we get for unit 4 minus the $3.00 we lose for units 3,2,1 gives us a change in revenue (MR) of $4.00…

PowerPoint Presentation : Monopoly Total Revenue (P X Q) 0 $11 $0 $0 $0 $10 $10 $10 $10 $9 $18 $9 $8 $8 $24 $8 $6 $7 $28 $7 $4 $6 $30 $6 $2 $5 $30 $5 $0 $4 $28 $4 $-2 $3 $24 $3 $-4 Price Quantity Average Revenue TR/Q Marginal Revenue ( Δ TR/ Δ Q ) As we move from the production of the 7th unit to the 8th unit, the price (and AVG Revenue) drops from $4 to $3 but the MR drops to $-4. Why??? If we sell the 8th unit for $3.00 then we get $3.00 in revenue for that unit. BUT if we sell that unit for $3.00 THEN we must sell Units 7,6,5,4,3,2,1 Units for $3.00 as well and we will “LOSE “$1.00 on each of those units. So the $3.00 we get for unit 8 minus the $7.00 we lose for units 7,6,5,4, 3,2,1 gives us a change in revenue (MR) of $-4.00 ($3.00 minus $7.00) BOTTOM LINE: Marginal Revenue Will ALWAYS be less than the price Because the price of the previous Units has to decrease as the price Of the last (or marginal) unit Decreases…Marginal Revenue Curve is going to ALWAYS lie INSIDE Of the Demand Curve….

PowerPoint Presentation : 1 2 3 4 5 6 7 8 Total Revenue 30 25 20 15 10 5 0 x x x x x x x x The Total Revenue Curve reaches It’s peak when Total Revenue is at It’s maximum. NOTE: Total Revenue Is MAXIMIZED when MR=0 , REPEAT, Total Revenue is MAXIMIZED when MR=0!!!!!!!

PowerPoint Presentation : Monopoly Price Of ___ Quantity of _______ MR D* ATC MC Insert the MC and ATC Curves. NOTE : MC intersects ATC at the LOWEST POINT OF THE ATC CURVE!!!!

PowerPoint Presentation : Monopoly Price Of ___ Quantity of _______ MR D* ATC MC Q e A Monopolist is going to follow The PROFIT MAXIMIZING QUANTITY RULE: MR=MC

PowerPoint Presentation : Monopoly Price Of ___ Quantity of _______ MR D* ATC MC Q m At the PROFIT MAXIMIZING QUANTITY the Monopolist Is going to charge a PRICE Dictated by its DEMAND CURVE P M Price as determined by Demand Curve

PowerPoint Presentation : Monopoly Price Of ___ Quantity of _______ MR D* ATC MC P m Q m ATC* The Price the Monopolist gets for ALL The units of this good they produce ( Qm ) is Pm but the ATC of producing ALL units of the good is LESS than the Price they get For the good. To find the ATC we look Where the vertical line indicating the Profit Maximizing Quantity CROSSES the ATC Curve

PowerPoint Presentation : Monopoly Price Of ___ Quantity of _______ MR D* ATC MC P m Q m ATC* Economic Profit The difference between Pm And ATC is ECONOMIC PROFIT on Each unit produced.

PowerPoint Presentation : Monopoly Price Of ___ Quantity of _______ MR D* ATC MC P m = Q m ATC* A Monopoly can “break-even”.

PowerPoint Presentation : Monopoly Price Of ___ Quantity of _______ MR D* ATC MC P m Q m A Monopoly can have Economic Losses. ATC* Economic Loss

Social Cost of Monopoly : What is the Social Cost of Monopoly Is Price higher than it “should” be? Is Quantity lower than it “should”? Social Cost of Monopoly

PowerPoint Presentation : Monopoly Price Of ___ Quantity of _______ MR D* ATC MC P m Q m ATC* Economic Profit P 1 Q s.o. Monopolies create DEAD-WEIGHT LOSS. The DWL. The Dead-Weight Loss Is the TRIANGLE A+B. A B

Social Cost of Monopoly : We can get an idea of the social cost of monopoly if we were to look at the Monopoly Graph. We know in Prefect Competition Price (MR,AR, D)= MC at the lowest point of the ATC (this is LONG RUN situation f or a Perfect Competitor) Lets Assume THREE things: Govt now regulates this Monopoly They want to achieve ALLOCATIVE EFFICIENCY They want to achieve PRODUCTIVE EFFICIENCY Social Cost of Monopoly

PowerPoint Presentation : Monopoly Price Of ___ Quantity of _______ MR D* ATC MC P m Q m ATC* Economic Profit Notice the FIRM is STILL Making Economic Profits, Even though P=MR=AR=D P 1 Q s.o. If Price = MC then the Market is achieving ALLOCATIVE EFFICIENCY. This means consumers are Paying for and producers are Producing the Quantity Society desires. The Monopolist Does NOT do this on its own! Notice: The MONOPLY STILL Earns ECONOMIC PROFITS!!

PowerPoint Presentation : Monopoly Price Of ___ Quantity of _______ MR D* ATC MC P m Q m ATC* Economic Profit Now lets assume the Regulators Want to ACHIEVE PRODUCTIVE EFFICIENCY…The monopolist Would be required to produce Where P=ATC = MR=D P 1 Q s.o. If Price = lowest point on ATC then the Market is achieving PRODUCTIVE EFFICIENCY. This means consumers are Paying for and producers are Producing the Quantity At the LOWEST POSSIBLE PRICE. The Monopolist would NOT do this On its own P= Qs.o .1

PowerPoint Presentation : Monopoly Price Of ___ Quantity of _______ MR D* ATC MC P m Q m ATC* Q s.o. NOTE: At P=ATC = MR=D the firm Making ONLY NORMAL PROFITS! It No longer making economic profits (which include Opportunity Costs). It IS making ACCOUNTING PROFITS P= Qs.o .1

PowerPoint Presentation : Economic losses by a monopolist: P, costs Q D=AR=P MR ATC MC P 1 ATC 1 Loss Q 1 Monopolist experiencing losses AVC Monopoly P rofit maximization The Shut-down Rule: If the price at the profit-maximizing level of output is lower than the firm's average variable cost, then the firm would minimize its losses by shutting down. When P

PowerPoint Presentation : Monopoly P rofit maximization P, costs Q D=AR=P MR ATC MC AVC P 1 = ATC 1 Q 1 Monopolist breaking even A monopolist breaking even: The firm is producing at the profit-maximizing level of output, where MR=MC At Q 1 the firm's ATC equals its average revenue. The firm is covering all its explicit costs and earning a normal profit, but there are no economic profits. If demand increases or if the firm lowers its costs, economic profits will be restored.

PowerPoint Presentation : D Q ATC / P (Million $) Nuclear Power Plants ATC lr 70 40 1 4 8 150 If Demand intersects long-run average total cost while it is still downward sloping, then economies of scale present a barrier to entry. So ciety is better off (more productively efficient) with only one firm producing this product. Th is situation is known as a Natural Monopoly Suppose total demand for nuclear power plants is 8 units. · It would cost one firm a total of $320m [8x40] to build eight plants · It would cost two firms a total of $560m [2(4x70)] to build eight plants · It would cost 8 small firms firms a total of $1,200m [8(150)] to build eight plants Th e most efficient (least cost) production is achieved when only one firm produces all eight power plants. Building power plants requires large economies of scale. Total cost is minimized when one large firm builds all the plants. Monopoly N atural Monopoly Natural Monopoly:

PowerPoint Presentation : Quantity Costs / Price Natural Monopoly Q m Q fr D=AR=P MR ATC MC P m Q so P so P fr P m /Q m - the price/output combination of the unregulated monopolist P so /Q so - the socially optimal price/output combination P fr /Q fr - the "fair-return" or break-even price set by the government Who? - · Natural monopolistic industries ·Product is considered a necessity to consumers i.e. electric utilities, natural gas, etc... Wh y? · Because of economies of scale, only one firm is likely to produce ·When firm produces at the profit-maximizing level of output, P>MC, meaning there is an under-allocation of resources in this market. ·Not enough is produced and the price is higher than socially optimal. Monopoly N atural Monopoly - Regulated by Government Sometimes the government regulates a firm's price or output decisions in order to achieve a more equitable or efficient allocation of resources towards certain goods or services. How can the government regulate? T he government may set a price ceiling equal to the socially optimal price (P=MC). OR equal to the firm's ATC, so that the firm can earn a normal profit. This is called fair return price Blog Post: "To regulate or not to regulate"

PowerPoint Presentation : Monopoly P rice discrimination Price discrimination: The charging of different prices to different consumers for the same product. Pe rfect price discrimination: When every consumer pays exactly what he or she is willing to pay. The consumer has NO consumer surplus. Conditions that must exist for price discrimination to occur: · Monopoly Power: possible only when a firm has market power · Market segregation: firm must be able to segregate buyers based on their willingness to pay for the product, or their elasticities of demand · No resale: the original buyer cannot be able to resell the product, or else they could undermine the the monopolist's market power Blog posts: "Price Discrimination"

PowerPoint Presentation : Airline ticket pricing: Prices based on when ticket is bought, whether the traveller stays over a weekend, length of stay, etc... Mo vie theaters: Matinee prices, senior and teen discounts, concession stands get more money from those whose willingness to pay for the movie experience is higher. Go lf courses and ski resorts: Weekend vs. mid-week rates, age discounts Gr ocery stores: use coupons to attract consumers with more elastic demand for particular groceries, whose willingness to pay is lower. Co mputer hardware and software: Microsoft and Apple offer student and educator discounts, since they know such consumers' willingness to pay is less than some. Discussion Question: If you were the manager of a monopolistic firm, why would you LOVE to be able to practice perfect price discrimination? Answer: By charging each consumer exactly what he or she is willing to pay, a firm maximizes the difference between its marginal revenue and its marginal cost. For each unit of output, the firm sells it to whoever is willing to pay the most. Thereby total profits are maximized and consumers experience ZERO surplus. Welfare is thereby transferred from consumers to the monopolist. Monopoly P rice discrimination Examples of price discrimination: Blog Post: "Price Discrimination 101"

PowerPoint Presentation : P, costs Q D=AR=P MR ATC MC P 1 ATC 1 Economic Profit Q m Single price monopolist P, costs Q MR=D=AR=P ATC MC ATC 1 Economic Profit Q pd Price discriminating monopolist P=MC P=MC at the last unit sold ~ Allocative Efficiency! Monopoly C onsequences of price discrimination · More profit for the firm: green triangle bigger than the green rectangle · More output: Q pd is greater than Q m · Zero consumer surplus: only in perfect price discrimination · Greater allocative efficiency: the last price paid equal MC When a firm can perfectly price discriminate, it will charge each customer exactly what he is willing to pay. Therefore, MR = Price, since the firm does not have to lower the price of all previous units to sell additional output. P=MC=MR

PowerPoint Presentation : Monopoly P ractice Free Response Question ATC MC D MR P 5 P 4 P 3 P 2 P 1 Q 1 Q 2 Q 3 Q 4 Q 5 P/C Q The diagram to the right shows the cost and revenue curves for a monopoly. (a) How does a monopolist determine its profit-maximizing level of output and price? (b) Using the information in the graph, identify each of the following for the monopolist. (i) The profit maximizing level of output and price (ii) The line segment of the demand curve that is elastic (c) Suppose that the industry depicted in the graph became perfectly competitive without changing the demand or cost curves. Identify the equilibrium price and output that would prevail in the perfectly competitive market. (d ) Using the information in the graph, identify the area of consumer surplus for each of the following. (i) The profit-maximizing monopoly (ii) The perfectly competitive industry (e) Define allocative efficiency (f) To be allocatively efficient, what level of output should the monopolist produce? (g) Should the government use a per-unit tax or a per-unit subsidy to lead the monopolist to produce the allocatively efficient level of output? Explain how this tax or subsidy would achieve the allocatively efficient level of output?

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