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Monopoly

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Maximize Profit Condition A Monopolistic maximizes profit by producing quantity Q * where marginal revenue equals marginal cost MR ( Q * ) = MC ( Q * )

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Marginal Revenue D P Q D P QQ1Q1 Q 1 +1Q1Q1 P1P1 1 2

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Marginal Revenue

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Average Revenue

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MR < P, when output is positive AR, P Q D = AR = P MR

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Exercise Suppose that the equation of the market demand curve is P = a – bP What are the expressions for the average and marginal revenues Suppose that the equation of the market demand curve is P = a – bP What are the expressions for the average and marginal revenues

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Profit Maximization Profit Maximization Condition

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TC TR Q TR,TC Q Profit MC MR = P 0 0 MC > MRMC = MRMC < MRMC > MR Competitive Market

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Monopoly TC TR Q TR,TC Q Profit MC 0 0 MC < MRMC = MRMC > MR D MR

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AR, AC, P Q D = AR MC MR Q*Q* M AC P1 C1 F

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Q*Q* AR, AC, P Q D = AR MC MR M AC P1 Cost Changes

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AR, AC, P Q D = AR MC MR Q*Q* M AC P1

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Equilibrium in Long Run Less than optimal Scale of Plant Optimal Scale of Plant Greater than optimal Scale of Plant

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Exercise The equation of monopolist’s demand curve is P = 12 – Q While the equation of marginal cost is MC = Q Where Q is expressed in millions of ounces What is the profit maximizing quantity and price for the monopolist ? The equation of monopolist’s demand curve is P = 12 – Q While the equation of marginal cost is MC = Q Where Q is expressed in millions of ounces What is the profit maximizing quantity and price for the monopolist ?

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Exercise The equation of monopolist’s short run cost curve is C(Q) = 12 + Q 2 While the equation of marginal revenue is MR = 24 - 2Q Where Q is expressed in millions of ounces What is the profit maximizing quantity and price for the monopolist ? The equation of monopolist’s short run cost curve is C(Q) = 12 + Q 2 While the equation of marginal revenue is MR = 24 - 2Q Where Q is expressed in millions of ounces What is the profit maximizing quantity and price for the monopolist ?

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AR, AC, P Q D = AR MC MR Q*Q* M AC P* P1 F Firm Produce at MC < MR

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AR, AC, P Q D = AR MC MR Q*Q* M AC P* P1 F Firm Produce at MC > MR

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Monopolist & Supply Curve AR, P Q D1D1 MR 1 MR 2 D2D2 MC Q1Q1

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Elasticity and Profit Maximized AR, P Q D1D1 MR 1 MC Q1Q1 AR, P Q D1D1 MC P1P1 P2P2 Q2Q2 Q1Q1

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Marginal Revenue and Elasticity

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AR, AC, P Q D MR Inelastic Unitary elastic Elastic MR > 0 MR = 0 MR < 0

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Rule of thumb for Pricing

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Exercise Market demand curve given by Q = 100P -2 While the equation of marginal cost is MC = 50 A ) What is the Monopolist’s optimal price? B ) Suppose that the market demand curve is given by the equation Q = 100P - 5 What is the monopolist’s optimal price? Market demand curve given by Q = 100P -2 While the equation of marginal cost is MC = 50 A ) What is the Monopolist’s optimal price? B ) Suppose that the market demand curve is given by the equation Q = 100P - 5 What is the monopolist’s optimal price?

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Exercise Market demand curve given by Q = 200 - P While the equation of marginal cost is Mc = 50 A ) Find the profit maximizing price and quantity for the monopolist using the Inverse Elasticity Price Rule ( IEPR ) B ) Find the profit maximizing price and quantity for the monopolist by equating MC = MR Market demand curve given by Q = 200 - P While the equation of marginal cost is Mc = 50 A ) Find the profit maximizing price and quantity for the monopolist using the Inverse Elasticity Price Rule ( IEPR ) B ) Find the profit maximizing price and quantity for the monopolist by equating MC = MR

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AR, AC, P Q D MR A B 1 2 Produce on Elastic Region

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AR, AC, P Q D2D2 MR 2 MC MR 1 D1D1 Q1Q1 Q2Q2 P1P1 P2P2 Shift in Market Demand

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MR 2 AR, AC, P Q D2D2 MC MR 1 D1D1 Q1Q1 Q2Q2 P1P1 P2P2 Shift in Market Demand

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AR, AC, P Q D MR MC 1 Q1Q1 Q2Q2 P1P1 P2P2 Shift in MC MC 2 Increase in MC must decrease TR

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Regulated Monopoly Price Regulation Average Cost Pricing Marginal Cost Pricing Tax Regulation Specific Tax Lump Sum Tax

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Q Average Cost Pricing AR, AC, P D = AR MC MR QMQM M AC P1 AR = AC QFQF PFPF F

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Q Marginal Cost Pricing AR, AC, P D = AR MC MR QMQM M AC P1 AR = MC QIQI PIPI I

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Q Specific Tax AR, AC, P D = AR MC t MR Q1Q1 AC + t PtPt MR = MC + t QtQt P1P1 I AC MC

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Q Lump Sum Tax AR, AC, P D = AR MR Q1Q1 AC + t CtCt MR = MC P1P1 I AC MC C1C1

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Multiplant Monopoly AR, AC, P D = AR MC 1 MR Q2Q2 M MC T PTPT QTQT MC 2 Q1Q1

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Exercise Market demand curve for monopolist given by P = 120 – 3Q The monopolist has 2 plants, the first plant has a marginal cost function given by MC 1 = 10 + 20Q 1 The second plant’s marginal cost curve is given by MC 2 = 60 + 5Q 2 Find the monopolist’s optimal total quantity and price. Also find the optimal division of the monopolist’s quantity between its two plants Market demand curve for monopolist given by P = 120 – 3Q The monopolist has 2 plants, the first plant has a marginal cost function given by MC 1 = 10 + 20Q 1 The second plant’s marginal cost curve is given by MC 2 = 60 + 5Q 2 Find the monopolist’s optimal total quantity and price. Also find the optimal division of the monopolist’s quantity between its two plants

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Monopoly Power AR, P Q Market Demand Q1Q1 AR, P Q D1D1 MC P QfQf

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Measuring Monopoly Power

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AR, P Q Q1Q1 Q D1D1 MC P Q1Q1 AR MR P-MC

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Source of Monopoly Power The Elasticity of Market Demand The Number of Firm The Interaction among the Firm

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The Welfare Economics of Monopoly AR, AC, P D = AR MC 1 MR M PMPM QMQM C O

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AR, AC, P D = AR MC 1 MR M PMPM QMQM C O D A B C E Monopoly Deadweight Loss

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Natural Monopoly MR AR AC MC Q P, AC, MC 0 QMQM QRQR QCQC PMPM PRPR PCPC

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Monopsony Monopsony is a market consisting of single buyer that can purchase from many sellers. Some buyers may have monopsony power : a buyer’s ability to affect the price of a good. Monopsony power enables the buyer to purchase the good for less than the price that would prevail in the competitive market

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Competitive Buyer & Competitive Seller AR, P Q D = MV MC AR, P Q ME = AE P*P* Q*Q* Q*Q* AR = MR

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Monopsonist Buyer AR, AC, P MV ME QMQM PMPM QCQC S = AE PCPC

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AR, AC, P MV ME QMQM PMPM QCQC S = AE PCPC AR, AC, P AR MR QMQM PMPM QCQC MC PCPC Monopoly and Monopsony

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AR, AC, P MV ME Q* P* S = AE MV ME Q* MV – P* S = AE P* MV – P*

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Source of Monopsony Power The Elasticity of Market Supply The Number of Buyer The Interaction among Buyers

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AR, AC, P MV ME QMQM PMPM QCQC S = AE PCPC A B C Deadweight Loss

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