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Click on the button to go to the problem © 2013 Pearson.

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1 Click on the button to go to the problem © 2013 Pearson

2 Monopoly 16 CHECKPOINTS

3 Click on the button to go to the problem © 2013 Pearson Problem 1 Problem 2 Problem 1 Problem 2 Problem 3 Problem 4 Problem 1 Clicker version Clicker version Problem 4 Problem 1 Problem 2 Problem 1 Problem 2 Problem 3 Checkpoint 16.1Checkpoint 16.3 Checkpoint 16.5 Checkpoint 16.2 Checkpoint 16.4 In the News Problem 3 In the News

4 © 2013 Pearson Practice Problem 1 In which of the six cases might monopoly arise? a.Coca-Cola cuts its price below that of Pepsi-Cola in an attempt to increase its market share. b.A single firm, protected by a barrier to entry, produces a personal service that has no close substitutes. c.A barrier to entry exists, but the good has some close substitutes. d.A firm offers discounts to students and seniors. CHECKPOINT 16.1

5 © 2013 Pearson In which of the six cases might monopoly arise? e.A firm can sell any quantity it chooses at the going price. f.A firm experiences economies of scale even when it produces the quantity that meets the entire market demand. CHECKPOINT 16.1

6 © 2013 Pearson Solution Monopoly arises when a single firm produces a good or service that has no close substitutes and a barrier to entry exists. Monopoly arises in b and f. In a, there is more than one firm. In c, the good has some close substitutes. In d, a monopoly might be able to price discriminate, but other types of firms (for example, art museums and pizza producers) price discriminate and they are not monopolies. CHECKPOINT 16.1

7 © 2013 Pearson In e, the demand for the good that the firm produces is perfectly elastic and there is no limit to what the firm could sell if it wished. Such a firm is in perfect competition. CHECKPOINT 16.1

8 © 2013 Pearson Practice Problem 2 Of the six cases: Which are natural monopolies? Which are legal monopolies? Which can price discriminate? a.Coca-Cola cuts its price below that of Pepsi-Cola in an attempt to increase its market share. b.A single firm, protected by a barrier to entry, produces a personal service that has no close substitutes. c.A barrier to entry exists, but the good has some close substitutes. d.A firm offers discounts to students and seniors. CHECKPOINT 16.1

9 © 2013 Pearson Of the six cases: Which are natural monopolies? Which are legal monopolies? Which can price discriminate? e.A firm can sell any quantity it chooses at the going price. f.A firm experiences economies of scale even when it produces the quantity that meets the entire market demand. CHECKPOINT 16.1

10 © 2013 Pearson Solution Natural monopoly exists when one firm can meet the entire market demand at a lower price than two or more firms could. So f is a natural monopoly, but b could be also. Legal monopoly exists when the granting of a right creates barrier to entry. b might be a legal monopoly. Monopoly b could price discriminate because a personal service cannot be resold. CHECKPOINT 16.1

11 © 2013 Pearson Study Plan Problem A single firm, protected by a barrier to entry, produces a personal service that has no close substitutes is an example of ______. CHECKPOINT 16.1 A.either a natural monopoly or a legal monopoly that can price discriminate B.either a natural monopoly or a legal monopoly that cannot price discriminate C.a natural monopoly that can price discriminate D.a legal monopoly that can price discriminate E.a natural monopoly that cannot price discriminate

12 © 2013 Pearson Study Plan Problem The government issues Tiger Woods, Inc. an exclusive license to produce golf balls. Tiger Woods, Inc. is an example of ______. CHECKPOINT 16.1 A.a natural monopoly that can price discriminate B.either a natural monopoly or a legal monopoly that can price discriminate C.a natural monopoly that cannot price discriminate D.either a natural monopoly or a legal monopoly that can price discriminate E.a legal monopoly that cannot price discriminate

13 © 2013 Pearson Practice Problem 3 Deal raise monopoly concerns A deal between United Continental and Air Canada looks like an “effective merger” of all of their Canadian and U.S. operations. The deal would create a monopoly on 10 major high demand, transborder routes and substantially reduce competition on nine others. Prices would be higher and choice restricted. Source: CBC News, June 27, 2011 What type of monopoly would be created on the 10 major, high demand routes? With higher prices and restricted choice, what would be the barrier to entry? CHECKPOINT 16.1

14 © 2013 Pearson Solution This deal would create a legal monopoly on 10 major high demand transborder routes. With higher prices, the monopoly might make positive economic profits, which would be an incentive for other airlines to offer service on these routes. The barrier would be the granting of landing slots and boarding gates. CHECKPOINT 16.1

15 © 2013 Pearson Practice Problem 1 Minnie’s Mineral Springs is a single-price monopoly. The table shows the demand schedule for Minnie’s spring water (columns 1 and 2), and the firm’s total cost scheduled (columns 3 and 4). Calculate Minnie’s total revenue and marginal revenue schedules. CHECKPOINT 16.2

16 © 2013 Pearson Solution Total revenue equals price multiplied by quantity sold. Marginal revenue equals the change in total revenue when the quantity sold increases by one unit. CHECKPOINT 16.2

17 © 2013 Pearson Practice Problem 2 Minnie’s Mineral Springs is a single-price monopoly. The table shows the demand schedule for Minnie’s spring water and the firm’s total cost scheduled. Draw the demand curve and Minnie’s marginal revenue curve. CHECKPOINT 16.2

18 © 2013 Pearson Solution The figure shows the market demand curve for spring water and Minnie’s marginal revenue curve. CHECKPOINT 16.2

19 © 2013 Pearson Practice Problem 3 Minnie’s Mineral Springs is a single-price monopoly. The table shows the demand schedule for Minnie’s spring water and the firm’s total cost scheduled. Calculate Minnie’s profit- maximizing output, price, and economic profit. CHECKPOINT 16.2

20 © 2013 Pearson Solution A monopoly maximizes economic profit by producing the quantity at which MR = MC. Marginal cost, MC, is the change in total cost when the quantity produced increases by 1 bottle. See table. CHECKPOINT 16.2

21 © 2013 Pearson Minnie’s maximizes its economic profit by producing 3 bottles an hour at the intersection of the MR curve and the MC curve. The profit-maximizing price is $7 a bottle. Economic profit equals total revenue ($21) minus total cost ($7), which is $14 an hour. CHECKPOINT 16.2

22 © 2013 Pearson Practice Problem 4 Minnie’s Mineral Springs is a single-price monopoly. The figure illustrates the demand for Minnie’s spring water and Minnie’s marginal revenue and marginal cost. If Minnie’s is hit with a conservation tax of $14 an hour, what are Minnie’s new profit- maximizing output, price, and economic profit? CHECKPOINT 16.2

23 © 2013 Pearson Solution With a conservation tax of $14 an hour, Minnie’s fixed cost increases, but marginal cost doesn’t change. So Minnie’s profit-maximizing output remains at 3 bottles an hour and the price is unchanged at $7 a bottle. Economic profit is zero. CHECKPOINT 16.2

24 © 2013 Pearson Practice Problem 5 Comcast offers faster home broadband in some U.S. cities Comcast, the largest U.S. internet-service provider, introduced a new home-broadband package called Extreme 105, which can download files many times faster than most connections Source: CNN, April 14, 2011 How does Comcast determine the price of its broadband service? CHECKPOINT 16.2

25 © 2013 Pearson Solution Comcast is the only supplier of broadband service in many cities. Comcast undertakes a marketing survey to estimate the demand for its new faster service. Comcast knows its production costs, so to calculate its total costs it adds its marketing costs. Then Comcast calculates its profit-maximizing quantity of service. CHECKPOINT 16.2

26 © 2013 Pearson From its estimated demand for the service, Comcast calculates the highest price at which it expects it can sell the profit-maximizing quantity of the service. CHECKPOINT 16.2

27 © 2013 Pearson Practice Problem 1 The Township Gazette is the only source of news is a small isolated community. The figure shows the marginal cost of printing the Township Gazette and the market for it. If the Township Gazette is a single-price monopoly, how many copies are printed each day and what is the price? CHECKPOINT 16.3

28 © 2013 Pearson Solution The newspaper maximizes profit by producing 150 copies a day, where marginal revenue equals marginal cost. The profit-maximizing price is 70¢ a copy. CHECKPOINT 16.3

29 © 2013 Pearson Practice Problem 2 The Township Gazette is the only source of news is a small isolated community. The figure shows the marginal cost of printing the Township Gazette and the market for it. What is the efficient number of copies and what is the price at which the efficient number of copies could be sold? CHECKPOINT 16.3

30 © 2013 Pearson Solution The efficient quantity of copies is 250, where demand (marginal benefit) equals marginal cost. The efficient quantity would be could be sold for 50¢ a copy. CHECKPOINT 16.3

31 © 2013 Pearson Practice Problem 3 The Township Gazette is the only source of news is a small isolated community. The figure shows the marginal cost of printing the Township Gazette and the market for it. Is the number of copies printed the efficient quantity? Explain your answer. CHECKPOINT 16.3

32 © 2013 Pearson Solution The number of copies printed (150 a day) is not efficient because the marginal benefit of the 150 th copy (70¢ a copy) exceeds marginal cost of producing it (40¢ a copy). CHECKPOINT 16.3

33 © 2013 Pearson Practice Problem 4 The Township Gazette is the only source of news is a small isolated community. The figure shows the marginal cost of printing the Township Gazette and the market for it. Show the consumer surplus that is redistributed to the Township Gazette and the deadweight loss that arises from the monopoly. CHECKPOINT 16.3

34 © 2013 Pearson Solution In the figure, the blue rectangle  shows the consumer surplus transferred from the consumers to the Township Gazette. The gray triangle  shows the deadweight loss. CHECKPOINT 16.3

35 © 2013 Pearson Practice Problem 5 Ticketmaster’s near monopoly challenged as technology changes In the 1990s, to see Michael Jordan or Garth Brooks live you had to buy the ticket through Ticketmaster, or from a scalper. Today, Ticketmaster no longer controls the sale of tickets to sports and music events, and more changes are coming. Concert promoter Live Nation, Ticketmaster’s biggest client, will sell its own tickets. Also, sports and music events tickets are now sold through Internet auction markets. CHECKPOINT 16.3

36 © 2013 Pearson How will the increased competition in the sale of tickets affect the service fee component of the price and the efficiency of the market? Will scalpers survive? CHECKPOINT 16.3

37 © 2013 Pearson Solution The price you pay for a ticket to an event is made up of the price of the event plus a service fee. As a monopoly, Ticketmaster charged the profit- maximizing fee. As the monopoly weakens and competition increases, sellers will still charge the profit-maximizing fee, but the fee will be lower. The ticket-selling market will be more efficient. Scalpers will have to compete with resale auctions and might have a hard time surviving. CHECKPOINT 16.3

38 © 2013 Pearson Practice Problem 1 Village, a small isolated town, has one doctor. For a 30-minute consultation, the doctor charges a rich person twice as much as much as a poor person. Does the doctor practice price discrimination? Is the doctor using resources efficiently? Does the doctor’s pricing scheme redistribute consumer surplus? If so, explain how. CHECKPOINT 16.4

39 © 2013 Pearson Solution The doctor practices price discrimination because rich people and poor people play a different price for the same service: a 30-minute consultation. The doctor provides the profit-maximizing number of consultations and charges rich people more than poor people. As a monopoly, the total number of consultations is less than that at which marginal benefit equals the marginal cost of providing the medical service. CHECKPOINT 16.4

40 © 2013 Pearson Because marginal benefit does not equal marginal cost, the doctor is not using resources efficiently. With price discrimination, the doctor takes some of the consumer surplus. So some consumer surplus is redistributed to the doctor as profit. CHECKPOINT 16.4

41 © 2013 Pearson Practice Problem 2 Village, a small isolated town, has one doctor. For a 30-minute consultation, the doctor charges a rich person twice as much as much as a poor person. If the doctor decided to charge everyone the maximum price that he or she would be willing to pay, what would be the consumer surplus? Would the market for medical service in Village be efficient? CHECKPOINT 16.4

42 © 2013 Pearson Solution The doctor decides to practice perfect price discrimination. With perfect price discrimination, marginal revenue equals price. To maximize economic price, the doctor increases the number of consultations to make the lowest price charged equal to the marginal cost of providing the service. CHECKPOINT 16.4

43 © 2013 Pearson The doctor takes the entire consumer surplus, so consumer surplus is zero. Marginal benefit equals price so resources are being used efficiently. CHECKPOINT 16.4

44 © 2013 Pearson Practice Problem 3 Feast on these great dining deals Entrées at Patina in Los Angeles start at $40, but the four- course fixed menu is $59. And pair that with the waived corkage fee on Tuesdays. At Michael Mina, San Francisco, enjoy a three-course, prix-fixe lunch for $49 or pay up to $65 when ordering the same items individually at dinner. Source: USA Today, July 29, 2011 Are Patina and Michael Mina price discriminating? Explain your answer. CHECKPOINT 16.4

45 © 2013 Pearson Solution A restaurant meal cannot be resold, so price discrimination is possible. Offering a four-course fixed menu at a lower price than the sum of the prices of the individual items is price discrimination. Diners who want fewer than four courses and want to be more selective about what they eat pay more. CHECKPOINT 16.4

46 © 2013 Pearson Waiving the corkage fee on Tuesdays is not price discrimination. Demand is lower on Tuesdays, so the profit-maximizing price is lower. Waiving the corkage fee is a way of price cutting without reprinting the menu. CHECKPOINT 16.4

47 © 2013 Pearson Practice Problem 1 An unregulated natural monopoly bottles Elixir. The monopoly’s total fixed cost is $150,000, and its marginal cost is 10 cents a bottle. The figure illustrates the demand for Elixir. How many bottles of Elixir does the monopoly sell and what is the price of a bottle of Elixir? Is the monopoly’s use of resources efficient? CHECKPOINT 16.5

48 © 2013 Pearson Solution The monopoly will produce 1 million bottles a year—the quantity at which marginal revenue equals marginal cost. The price is 30 cents a bottle— the highest price at which the monopoly can sell the 1 million bottles a year. CHECKPOINT 16.5

49 © 2013 Pearson The monopoly’s use of resources is inefficient. If resource use were efficient, the monopoly would produce the quantity at which marginal benefit (price) equals marginal cost: 2 million bottles a year. CHECKPOINT 16.5

50 © 2013 Pearson Practice Problem 2 An unregulated natural monopoly bottles Elixir. The monopoly’s total fixed cost is $150,000, and its marginal cost is 10 cents a bottle. If the government introduces a marginal cost pricing rule. What is the price of Elixir, the quantity sold, and the monopoly’s economic profit? CHECKPOINT 16.5

51 © 2013 Pearson Solution With a marginal cost pricing rule, the price is set equal to marginal cost (10 cents a bottle) and 2 million bottles a year are sold. The monopoly incurs an economic loss equal to its total fixed costs of $150,000 a year. The monopoly would need a subsidy to keep it in business. CHECKPOINT 16.5

52 © 2013 Pearson Practice Problem 3 An unregulated natural monopoly bottles Elixir. The monopoly’s total fixed cost is $150,000, and its marginal cost is 10 cents a bottle. If the government introduces an average cost pricing rule. What is the price of Elixir, the quantity sold, and the monopoly’s economic profit? CHECKPOINT 16.5

53 © 2013 Pearson Solution With an average cost pricing rule, the firm produces the quantity at which price equals average total cost. ATC = AFC + AVC. AVC equals marginal cost and is 10 cents a bottles. AFC equals $150,000 divided by the quantity produced. CHECKPOINT 16.5

54 © 2013 Pearson With an average cost pricing rule, the firm produces the quantity at which price equals average total cost. ATC = AFC + AVC. AVC equals marginal cost and is 10 cents a bottles. AFC equals $150,000 divided by the quantity produced. For example, at 1 million bottles, AFC is 15 cents. CHECKPOINT 16.5

55 © 2013 Pearson If 1.5 million bottles are produced, AFC is 10 cents a bottle. That is, 1.5 million bottles are produced: ATC = 10 cents + 10 cents = 20 cents The monopoly can sell 1.5 million bottles at 20 cents a bottle. So the monopoly produces 1.5 million bottles a year and makes zero economic profit. CHECKPOINT 16.5

56 © 2013 Pearson Practice Problem 4 Mexicans protest the plan to end the state oil monopoly Thousands of protesters have demonstrated to fight the plan to open Mexico’s state oil monopoly to private investment. In Mexico, the government sets the price, currently $2.48 a gallon, while the U.S. average is $3.37 a gallon. The government taxes the state monopoly’s profit 90 percent. Source: USA Today, April 13, 2008 Describe how the Mexican government regulates the domestic oil market. CHECKPOINT 16.5

57 © 2013 Pearson Solution The price is not set equal to marginal cost (marginal cost pricing) because the oil company does not receive a subsidy. The price is not set equal to average total cost (average cost pricing) because the oil company does not break even. The government operates a price cap regulation and the company pays a profit tax of 90 percent. CHECKPOINT 16.5


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