1 Warm Up Answer (orally) with your neighbor: 1.What are the characteristics of a perfectly...

Warm UpAnswer (orally) with your neighbor:

1. What are the characteristics of a perfectly competitive market?

2. Why is a perfectly competitive firm a “price taker”?3. Why do perfectly competitive firms tend to make zero

economic profit in the long run?4. How do ALL firms determine how much output to

produce?5. Under what circumstances would a perfectly

competitive firm continue to produce even despite making an economic loss? Why would it do this?

6. What’s the difference between a constant-cost and increasing cost industry?

7. What is productive efficiency?8. What is allocative efficiency?9. When are perfectly competitive firms productively

efficient?10. When are they allocatively efficient?

Review1. What are the characteristics of a perfectly

competitive market?2. Why is a perfectly competitive firm a “price taker”?3. Why do perfectly competitive firms tend to make

zero economic profit in the long run?4. How do ALL firms determine how much output to

produce?5. Under what circumstances would a perfectly

competitive firm continue to produce even despite making an economic loss? Why would it do this?

6. What’s the difference between a constant-cost and increasing cost industry?

7. What is productive efficiency?8. What is allocative efficiency?9. When are perfectly competitive firms productively

efficient?10. When are they allocatively efficient?

Monopoly

Characteristics of Monopolies

5 Characteristics of a Monopoly

1. Single Seller• One firm dominates the market• The firm IS the Industry 2. Unique good with no close substitutes3. “Price Maker”The firm can manipulate the price by

changing the quantity it produces (i.e. shifting the supply curve to the left)

Ex: de Beers

5. Some “Nonprice” Competition

4. High Barriers to Entry

• No immediate competitors

• Despite having no close competitors, monopolies still advertise their products in an effort to increase demand.

5 Characteristics of Monopoly

• New firms can’t easily enter market

• Firm CAN make profit in the long-run

Some Causes of Monopolies1. Geography is the Barrier to EntryEx: Nowhere gas stations, Restaurants in airports

and sports arenas-Location or control of resources limits competition and leads to one supplier.

2. The Government is the Barrier to EntryEx: Patents, Comcast cable

-Government allows monopoly for public benefits or to stimulate innovation.

-The government issues patents to protect inventors and forbids others from using their invention.

Graphing Monopolies

Good news…1.Only one graph because

the firm IS the industry.2.The cost curves are the

same3.The MR= MC rule still

applies9

The Main Difference• Monopolies (and all Imperfectly

competitive firms) face a downward sloping demand curve for their products.

• To sell more a firm must lower its price.

• This changes MR…

THE MARGINAL REVENUE DOESN’T EQUAL THE PRICE!

P Qd TR MR

$11 0 0 -Why is MR less than Demand?

P Qd TR MR

$11 0 0 -

$10 1 10 10

Why is MR less than Demand?

P Qd TR MR

$11 0 0 -

$10 1 10 10

$9 2 18 8

P Qd TR MR

$11 0 0 -

$10 1 10 10

$9 2 18 8

$8 3 24 6

$8 $8 $8

P Qd TR MR

$11 0 0 -

$10 1 10 10

$9 2 18 8

$8 3 24 6

$7 4 28 4

$8 $8 $8

$7 $7 $7 $7

P Qd TR MR

$11 0 0 -

$10 1 10 10

$9 2 18 8

$8 3 24 6

$7 4 28 4

$6 5 30 2

$8 $8 $8

$7 $7 $7

$6 $6 $6 $6

P Qd TR MR

$11 0 0 -

$10 1 10 10

$9 2 18 8

$8 3 24 6

$7 4 28 4

$6 5 30 2

$5 6 30 0

$8 $8 $8

$7 $7 $7

$6 $6 $6 $6

$5$5 $5 $5 $5 $5

P Qd TR MR

$11 0 0 -

$10 1 10 10

$9 2 18 8

$8 3 24 6

$7 4 28 4

$6 5 30 2

$5 6 30 0

$4 7 28 -2

$8 $8 $8

$7 $7 $7

$6 $6 $6 $6

$5$5 $5 $5 $5 $5

$4 $4 $4 $4 $4 $4 $418

P Qd TR MR

$11 0 - -

$10 1 10 10

$9 2 18 8

$8 3 24 6

$7 4 28 4

$6 5 30 2

$5 6 30 0

$4 7 28 -2

$8 $8 $8

$7 $7 $7

$6 $6 $6 $6

$5$5 $5 $5 $5 $5

$4 $4 $4 $4 $4 $4 $419

P Qd TR MR

$11 0 - -

$10 1 10 10

$9 2 18 8

$8 3 24 6

$7 4 28 4

$6 5 30 2

$5 6 30 0

$4 7 28 -2

$8 $8 $8

$7 $7 $7

$6 $6 $6 $6

$5$5 $5 $5 $5 $5

$4 $4 $4 $4 $4 $4 $4

MR IS LESS THAN PRICE

Calculating Marginal Revenue

To sell more a firm must lower its price. What happens to Marginal Revenue?

Price QuantityDemanded

Total Revenue

Marginal Revenue

Does the Marginal Revenue equal the price?22

Total Revenue

Marginal Revenue

$6 0 0

$5 1 5

$4 2 8

$3 3 9

$2 4 8

$1 5 5

Does the Marginal Revenue equal the price?23

Total Revenue

Marginal Revenue

$6 0 0 -

$5 1 5 5

$4 2 8 3

$3 3 9 1

$2 4 8 -1

$1 5 5 -3

Draw Demand and Marginal Revenue Curves

MR DOESN’T EQUAL PRICE

Plot the Demand, Marginal Revenue, and Total Revenue Curves

1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18Q

1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18

D1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18

1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18

Demand and Marginal Revenue CurvesWhat happens to TR when MR hits zero?

Total Revenue is at it’s peak when

MR hits zero

Elastic vs. Inelastic Range of Demand

Elastic and Inelastic Range

D1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18

1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18

Total Revenue Test

If price falls and TR increases then demand is elastic.

Elastic

Total Revenue Test

If price falls and TR falls then demand is inelastic.

A monopoly will only

produce in the elastic

Inelastic

Maximizing Profit

30 1 2 3 4 5 6 7 8 9 10 Q

How much should this firm produce?MR = MC

How much is the TR, TC and Profit or Loss?

Profit =$6

Conclusion: A monopolist produces where MR=MC, buts charges the price consumer are willing to pay identified by the demand

curve.MC

0 4 6 8 9 10

326 7 8 9 10 Q

TR= $90TC= $100Loss=$10

What if costs are higher? How much is the TR, TC, and Profit or

TR=TC=

Profit/Loss=Profit/Loss per Unit=

Identify and Calculate: $70

$14$56

4 1 2 3 4 5 6 7 8 9 10 Q

Warm Up:Which of the following MUST be true of a monopolist’s

profit-maximizing level of output?

A) Marginal revenue is equal to marginal cost, but greater than price

B) Marginal revenue is equal to marginal cost, but less than price

C) Marginal revenue is equal to both marginal cost and price

D) Average total cost is minimizedE) Average variable cost is minimized

Conclusion: A monopolist produces where MR=MC, buts charges the price consumer are willing to pay identified by the demand

curve.MC

0 4 6 8 9 10

Warm Up:

Calculate Total Cost, Total Revenue, and Profit (or Loss) at the profit-maximizing quantity

Perfect Competition Quiz Answers!

5. Which of the following indicates that a perfectly competitive firm is in long-run equilibrium?

A)Price equals marginal cost, which equals average

variable cost.B)Price equals average revenue, which equals

marginal revenueC)Price equals marginal cost, which equals average

total cost.D)Price equals average revenue, which equals

marginal revenue.E)Price equals average fixed cost.

Price = MC = Minimum ATCFirm making a normal profit

Firm in Long-Run Equilibrium

There is no incentive to enter or leave the

industryTC = TR

marginal revenueC)Price equals marginal cost, which equals

average total cost.D)Price equals average revenue, which equals

7. Which of the following statements about a constant-cost perfectly competitive industry in long-run equilibrium must be true?

A)The long run supply curve is upward slopingB)The long run supply is curve is perfectly inelasticC)The total cost of production remains the same as

output increasesD)An increase in demand will cause no change in the

long run equilibrium priceE)An increase in demand will cause no change in the

long run equilibrium quantity

Constant Cost Industry • In the long run, an increase in demand for the product

won’t change the market price• Resources used to make the product are assumed to

be unlimited and won’t get depleted by new firms entering the industry

• Long run industry supply curve is horizontal

Increasing Cost Industry• In the long run, an increase in demand for the product

will increase the market price• Resources used to make the product are limited • More firms entering the industry drive up resource

prices – every firm’s long run average cost curve shifts upward

• Long run industry supply curve is upward sloping

Constant Cost vs. Increasing Cost Industries

Constant Cost Industry

S (Long Run)

Industry Firm

$15 $15

MR=DATC

Firms enter to earn profit so supply increases in the industry Price decreases and quantity increases

Industry Firm

$15 $15

MR=DATC

$10 $10 MR1=D1

Industry Firm 50

New Long Run Equilibrium at $10 Price

Zero Economic Profit

$10 $10 MR1=D1

output increasesD)An increase in demand will cause no change in the

long run equilibrium priceE)An increase in demand will cause no change in the

output increasesD)An increase in demand will cause no change in

the long run equilibrium priceE)An increase in demand will cause no change in the

6. For a perfectly competitive, increasing-cost industry, an increase in the industry’s demand will lead to which of the following in the long run?

A)An increase in each firm’s profitB)A decrease in the price of an input and a decrease in

total industry profitsC)A decrease in total industry salesD)A decrease in total producer surplus and an increase

in total consumer surplusE)An upward shift in each firm’s long-run average cost

54Quantity

0 1 100 1,000 100,000 1,000,0000

Long Run Average Cost Curve

Individual Firm In Increasing Cost Industry

Industry Firm

$15 $15

MR=DATC

Industry Firm

$15 $15

MR=DATC

$12 MR1=D1

Industry Firm

$15 $15

MR=DATC

$12 MR1=D1

Industry Firm

$15 $15

$12 MR1=D1

Industry Firm 59

New Long Run Equilibrium at $12 Price

Zero Economic Profit

Increasing Cost Industry

S (Long Run)

in total consumer surplusE)An upward shift in each firm’s long-run average cost

in total consumer surplusE)An upward shift in each firm’s long-run average

cost curve

8. Which of the following statements is true about perfectly competitive firms?

A)They are always productively efficient in both the short

run and the long runB)They are always allocatively efficient in both the short

run and the long runC)They are only allocatively efficient in the long run, and

only productively efficient in the short runD)They are neither productively nor allocatively efficient

in the long runE)None of the above statements is true

Quantity

ceShort-Run

Profit

Quantity

ceLong-Run Equilibrium

run and the long runB)They are always allocatively efficient in both the short

run and the long runC)They are only allocatively efficient in the long run, and

run and the long runB)They are always allocatively efficient in both the

short run and the long runC)They are only allocatively efficient in the long run, and

Are Monopolies Efficient?

S = MC

In perfect competition, CS and PS are maximized.

Monopolies vs. Perfect Competition

At MR=MC,A monopolist willproduce less and charge a higher

S = MC

Where is CS and PS for a monopoly?

S = MC

Total surplus falls. Now there is

DEADWEIGHT LOSS

Monopolies underproduce and overcharge, decreasing CS and

increasing PS.

Are Monopolies Productively Efficient?

Does Q = Min ATC?No. They are not producing at the

lowest cost (min ATC)

1 2 3 4 5 6 7 8 9 10 Q

Are Monopolies Allocatively Efficient?

Does Price = MC? No. Price is greater. The monopoly is underproducing.

1 2 3 4 5 6 7 8 9 10 Q

Monopolies are NOT efficient!

Monopolies are inefficient because they…1.Charge a higher price2.Don’t produce enough

• Not allocatively efficient3.Produce at higher costs

• Not productively efficient4.Have little incentive to innovate

Why?Because there is little external

pressure to be efficient 74

Natural Monopoly

75Qsocially optimal

One firm can produce the socially optimal quantity at the lowest cost due to economies of scale.

Theoretically, it’s better to have only one firm because of very high

fixed costs

Regulating Monopolies

How do they regulate?•Use Price controls: Price Ceilings•Why don’t taxes work?•Taxes reduce supply and that’s the problem

Why Regulate?Why would the government regulate

an monopoly? 1. To keep prices low 2. To make monopolies efficient

1.Socially Optimal PriceP = MC (Allocative Efficiency)

Where should the government place the price ceiling?

2. Fair-Return Price (Break–Even)

P = ATC (Normal Profit)

Regulating MonopoliesWhere does the firm produce if it is

unregulated?

Regulating MonopoliesPrice Ceiling at Socially Optimal

Socially Optimal = Allocative Efficiency

Regulating MonopoliesPrice Ceiling at Fair Return

Fair Return means no economic profit

Regulating Monopolies

Unregulated

Socially Optimal

Fair Return

Regulating a Natural Monopoly

83Qsocially optimal

What happens if the government sets a price ceiling to get the socially optimal quantity?

The firm would make a loss and would require a subsidy

Price Discrimination

Price DiscriminationDefinition:Practice of selling the same products to different buyers at different prices

•Movie Theaters (student vs. reguar) •All Coupons (spenders vs. savers) •Ladies’ Night at bars

Examples:

PRICE DISCRIMINATION•Price discrimination seeks to charge each consumer what they are willing to pay in an effort to increase profits.

•Those with inelastic demand are charged more than those with elastic

Requires the following conditions:1. Must have monopoly power2. Must be able to segregate the market 3. Consumers must NOT be able to

resell product86

P Qd TR MR

$11 0 0 -

P Qd TR MR

$11 0 0 -

$10 1 10 10

Results of Price Discrimination

P Qd TR MR

$11 0 0 -

$10 1 10 10

$9 2 19 9

$10 $9

P Qd TR MR

$11 0 0 -

$10 1 10 10

$9 2 19 9

$8 3 27 8$10 $9

$10 $9 $8

P Qd TR MR

$11 0 0 -

$10 1 10 10

$9 2 19 9

$8 3 27 8

$7 4 34 7

$10 $9

$10 $9 $8

$10 $9 $8 $7

P Qd TR MR

$11 0 0 -

$10 1 10 10

$9 2 19 $9

$8 3 27 $8

$7 4 34 $7

$6 5 40 $6

$5 6 45 $5

$4 7 49 $4

$10 $9

$10 $9 $8

$10 $9 $8 $7

$5$10 $9 $8 $7 $6

$10 $9 $8 $7 $6 $5 $492

P Qd TR MR

$11 0 0 -

$10 1 10 10

$9 2 19 $9

$8 3 27 $8

$7 4 34 $7

$6 5 40 $6

$5 6 45 $5

$4 7 49 $4

$10 $9

$10 $9 $8

$10 $9 $8 $7

$5$10 $9 $8 $7 $6

$10 $9 $8 $7 $6 $5 $4

WHEN PRICE DISCIMINATING

MR = D

Regular Monopoly vs. Price Discriminating Monopoly

A perfectly discriminating monopolist can charge each person differently =>

Marginal Revenue = Demand

Identify the Price, Profit, CS, and DWL

A perfectly discriminating can charge each person differently so the Marginal Revenue = Demand

Identify the Price, Profit, CS, and DWL

A perfectly discriminating can charge each person differently so the Marginal Revenue = Demand

Price Discrimination results in several prices, more profit, no CS, and a higher socially optimal quantity

How a Price Ceiling Affects MRSuppose the Gov’t Imposes a Price Ceiling at the Socially

Optimal Price

How a Price Ceiling Affects MRHow will this price ceiling

affect the marginal revenue curve?

How a Price Ceiling Affects Marginal Revenue

AHHH IT SNAPPED IN HALF!!!!

What price should this firm charge to maximize profit? $8

(c) Assume that the monopolist is maximizing profit. Is allocative efficiency achieved? Explain. NO!

(d) Between the prices of $16 and $18, is the monopolist in the elastic, inelastic, or unit elastic portionof its demand curve? Explain. inelastic

(e) Assume that regulators set an output of 11 units. (i) Is the monopolist earning positive economic profit? Explain. (ii) Is the monopolist earning positive accounting profit?

i. No!; ATC=P

ii. Yes!; 0 Economic Profit means positive accounting profit

Assume instead that regulators impose a price ceiling of $22. (i) What is the marginal revenue for the eighth unit? (ii) What quantity will be produced?

(g) Assume instead that the monopolist practices perfect price discrimination (also called first-degree pricediscrimination). (i) What quantity will be produced? (ii) What will be the value of the consumer surplus?

(a) Using the numbers given in the graph, identify each of the following for the profit-maximizing monopolist.

(i) The quantity produced

(ii) the price

(iii) the allocatively efficient quantity

(b) At the profit-maximizing quantity from part (a)(i), is the monopolist experiencing economies of scale? Explain.

(b) At the profit-maximizing quantity from part (a)(i), is the monopolist experiencing economies of scale? Explain. No; Economies of Scale occurs when ATC declines as output increases – here, ATC is constant

(c) Now assume that the monopolist produces 10 units. Using the numbers given in the graph, calculate each of the following. Show your work.

(i) The monopolist’s economic profit

(i) The monopolist’s economic profitLoss of $100

(ii) The consumer surplus

(ii) The consumer surplus$250

(iii) The deadweight loss

(iii) The deadweight lossNone; the firm is producing more than the

allocatively efficient quantity

(d) At what quantity is demand unit elastic?

(e) Suppose the monopolist perfectly price discriminates and chooses the quantity that maximizes profit. Determine the dollar value of each of the following.

(i) The monopolist’s profit

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