Monopoly: Linear pricing - UCLA Economics
[Pages:30]Monopoly: Linear pricing
Econ 171
1
Marginal Revenue
? The only firm in the market
? market demand is the firm's demand ? output decisions affect market clearing price
$/unit
P1
L
P2
G
Demand
Q1 Q2
Quantity
Econ 171
2
Monopoly (cont.)
? Derivation of the monopolist's marginal revenue
Demand: P = A - B.Q Total Revenue: TR = P.Q = A.Q - B.Q2 Marginal Revenue: MR = dTR/dQ
MR = A - 2B.Q
$/unit A
With linear demand the marginal revenue curve is also linear with
the same price intercept but twice the slope of the demand
curve
Demand Quantity MR
Econ 171
3
Monopoly and Profit Maximization
? The monopolist maximizes profit by equating marginal revenue with marginal cost
$/unit
MC
PM
AC
Profit
ACM
Demand MR
QM QC
Quantity
Econ 171
4
Marginal Revenue and Demand Elasticity
Inverse demand: P(q)
Totalrevenue R(q) = P(q)q Marginalrevenue: R'(q) = p + (P / q)q
=
p1 +
(P
/ q)
q p
=
p1 -
1
d
? Max profits: MR = MC
p1-
1 d
=
MC
? higher elasticity ? lower price
Lerner Index:
L = p - MC = 1
p
d
Econ 171
Deadweight loss of Monopoly
Assume that the industry is monopolized The monopolist sets MR = MC to give output QM The market clearing price is PM
Consumer surplus is given by this area And producer surplus is given by this area
$/unit
PM PC
Competitive Supply
TThhisisisisththeeddeeaaddwweeigighhtt lolossssooffmmoonnooppoolyly
The monopolist produces less surplus than the competitive industry. There are mutually beneficial trades that do not take place: between QM and QC
Econ 171
QM QC MR
Demand Quantity
6
Deadweight loss of Monopoly (cont.)
? Why can the monopolist not appropriate the deadweight loss?
? Increasing output requires a reduction in price ? this assumes that the same price is charged to everyone.
? The monopolist creates surplus
? some goes to consumers ? some appears as profit
? The monopolist bases her decisions purely on the surplus she gets, not on consumer surplus
? The monopolist undersupplies relative to the competitive outcome ? The primary problem: the monopolist is large relative to the market
Econ 171
7
Price Discrimination and Monopoly: Linear Pricing
Econ 171
8
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