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Question: What is worse for consumers than a Monopolist? Two monopolists. Vertical Markets: An analysis.

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Single Monopolist As usual, p=12-q and mc=4. Monopolist profits are (12-q)q-4q=(8-q)q Monopolist produces q=4 and the price is p=12- 4=8. Monopolist profit is 16. Another way of looking at it is Monopolys profits=revenue – costs. Choice should set marginal revenue=marginal costs

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Two Monopolists:Supplier and Retailer. Supplier has marginal costs of 4 and charges price p s to Retailer. Retailer buys q from the supplier at price p s and (charges consumers price p c that would clear the market). Retailer faces demand curve of q=12- p c. Profit of Retailer is (12- q- p s )q Profit of Supplier is q(p s - 4)

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Two monopolists Profit of Retailer is (12- q- p s )q –Retailer sets price q= (12- p s )/2 Profit of Supplier is (p s - 4)q Sub. in for q yields (p s - 4)(12- p s )/2 Supplier sets p s =8 Retailer sets q=2, so p c = (12-q)=10 Price to consumers is higher than a single monopolist (10 vs. 8)! Quantity is less as well (2 vs. 4)!

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Solutions. Allow the Supplier to buy the Retailer. Allow the Supplier to charge a franchise fee (as with McDonalds). –Supplier charges p s =mc=4. –Supplier charges franchise fee F=16 –What does retailer charge and what are his profits before paying F? –Same as monopolist: p c =8 (q=4), profits 16. –He must pay the franchise fee F. This leaves him w/ no profits. –Supplier gets all the profits. Retailer is barely in business.

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Homework A monopoly has marginal cost of 5 and faces a demand of q=20-p. What price should he charge to maximize profits? Let us say it is a vertical market of two firms: supplier and retailer. What would the price would the supplier charge the retailer? What would be the price charged to the end consumer? If the supplier charged a franchise fee in addition to wholesale price, what would they be? Extra: Solve the above problem for the general case of marginal cost of c facing demand of q=A-p where (A>c).

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