ECON 308 Week 06 Monopoly & Monopoly Pricing (Chapter 7)

Market structure What is a market? All firms and individuals willing and able to buy or sell a particular product What is market structure? Defined by attributes of the market environment

Demand Facing the Firm $P Q QQQ D1D1 D2D2 D3D3 D4D4  Increasing degrees of Competition   Increasing degrees of Market Power 

Market structure the archetypes Monopoly Oligopoly Monopolistic competition Perfect competition

Perfect competition characteristics Many buyers and sellers Product homogeneity Low cost and accurate information Free entry and exit Best regarded as a benchmark

Price Taker Firm Demand Curve $P Q/T Pe Qe $P Q/T Pe Market Firm D=MR D D S S Qe

Firm supply Short run –Marginal cost curve above average variable cost –P* = SRMC Long run –Long-run marginal cost curve above long-run average cost

Long-Run Industry Equilibrium $P Q/T Pe Qe $P Q/T Pe Market Firm D D D S S MC ATC Qe

Monopoly Strong barriers to entry  single supplier Profit maximization –faces market demand and sets MR=MC Unexploited gains from trade

Sources of Market Power: Barriers to entry Incumbent reactions Specific assets Economies of scale Excess capacity Reputation effects Incumbent advantages Precommitment contracts Licenses and patents Learning-curve effects Pioneering brand advantages

Demand Facing the Firm $Price Qty/T Demand D $

Total Revenue $Price Qty/T Demand D $

Marginal Revenue =Additional Revenue $Price Qty/T Demand D $

Derivation of Marginal Revenue PriceQuantityTotal Revenue Marginal Revenue $ $ 9.002$ 18.00$ $ 24.00$ 6.00 $ 7.004$ 28.00$ 4.00 $ 6.005$ 30.00$ 2.00 $ 5.006$ 30.00$ 0 $ 4.007$ $ 2.00 $ 3.008$ $ 4.00 $ 2.009$ $ 6.00

Marginal Revenue $Price Qty/T Demand MR D

Marginal Revenue & Elasticity $Price Qty/T Demand MR Ed > 1 Ed < 1 Ed = 1

Monopoly Output $Price Qty/T Demand MR MC D Qm Pm Mc

Market Power: No Close Substitutes $Price Qty/T Demand MR MC D Qm Pm Mc

Market Power: Few Close Substitutes $Price Qty/T Demand MR MC D Qm Pm Mc

Market Power: Many Close Substitutes $Price Qty/T Demand MR MC D Qm Pm Mc

No Market Power: Many Identical Substitutes $Price Qty/T Demand MC P = MR Qm P = Mc

Monopoly Profit? Qty/T Demand MR MC D Qm Pm AC Profit

Monopoly After Entry of Competition Qty/T Demand MR MC D Qm Pm AC $ Price

Efficiency Loss ? Qty/T Demand MR MC D Qm Pm Mc

Sources of Monopoly Power Barriers to Entry Absolute Cost Advantage: Unique access to production technique or an essential input. Natural Monopoly: Economies of Scale Product differentiation Regulatory Barriers: Patents, copyrights, franchise, license.

Price Discrimination Charging different prices for different units sold. Allows firms to increase sales and capture more of consumer surplus.

Monopoly Pricing: Single Price $ Price Qty/T Demand Marginal Cost MR Pm Qm Potential Efficiency loss

First Degree: Charging different customers different prices. First Degree: Charging different customers different prices. Auction College scholarships

First Degree First Degree: Different Prices for different buyers $ Price Qty/T Demand Marginal Cost MR Tuition Qm Scholarship Amount

First Degree: Charging different customers different prices. First Degree: Charging different customers different prices. Auction College scholarships IBM Punch Cards Polariod Camera, Film Ink Jet Printers, Cartridges Swiffer, pads Glllette Razor, Blades

Second Degree: Second Degree: (Quantity Forcing) Offering a schedule of prices to all buyers, which successively lowers the price for additional units, purchased (Moving down each buyers individual demand) Tires: Buy 3, get 4th free. Soft Drinks:Product prices, – medium16 oz. $ 1.09,.07/oz. – large: 22 oz. $ 1.19, extra 6 – extra large:32 oz. $1.29, extra 10 oz. Two Part Tariff: Entry Fee plus per unit –Costco: Membership & Price

Third Degree: Third Degree: Charging different prices to different groups according to different elasticity of Demand. Grocery coupons Prescription drugs in different countries. Doctors medical services Newly released unique products Movies: Children, Seniors, Middle; Matinee Mail Order Catalogues: Old vs. New Customer Freeway Adjacent Restaurant Brand name mixers on Holiday Sale Mattresses: Match any advertised price Menu

Necessary Conditions for Successful Price Discrimination Ability to identify and separate buyers by elasticity of demand. Collect different prices from the different buyers Prevent Resale