Transcript Executive MPA Foundation Week II Economics I-IV

Chapters 12: Product Pricing with Monopoly Power
1
Price Discrimination
• Price discrimination is the practice
of charging different prices in
different markets for the same basic
product
• Price discrimination is practiced as a
method to maximizing total profit
by charging prices that are closest to
the highest that each customer
(market) are willing to pay
• Perfect price discrimination (first
degree price discrimination) occurs
if monopolist is able to charge
exactly what each consumer is
willing to pay
P1
P2
P3
Economic
Profit
SMC
ATC
D
Q1 Q2 Q3
2
Three Necessary Conditions for Price
Discrimination
1. Some degree of market power
2. Seller must have some means of approximating what
different buyers are willing (the maximum) to pay for
each unit of output
3. Seller must be able to prevent resale (or arbitrage) of
the product
3
Algebra of Monopoly Optimums with
Perfect Price Discrimination
• A monopolist faces the following demand and marginal
cost curves
D
Q  1000  5P, MC  40
• If the firm
 can perfectly price discriminate, what is the
price it will charge the person with the lowest
willingness to pay? What is the total profit?
Profit Condition: Demand = MR = MC
200-Q/5 = 40, Q = 800, P = $40
Profit = 1/2 *(160*800) = $64,000
4
Algebra of Monopoly Optimums with
Segmented Markets
A firm sells its product in two distinct markets with two distinct demand curves. Total output is
currently 1500 units, with 1000 sold in Market 1 and 500 sold in Market 2.
P1=12.00 - 1/500Q1 = 12.00 - (1/500) * 1000 = $10.00
P2=16.00 - 3/250Q2 = 16.00 - (3/250) * 500 = $10.00
Total Revenue = 10.00 * 1000 + 10.00 * 500 = $15,000
MR1=12.00 - (1/250)Q1
MR2=16.00 - (3/125)Q2
1500 = Q1 + Q2
Q2 = 1500 - Q1
MR1 = MR2
12.00 - (1/250)Q1 = 16.00 - (3/125)(1500 - Q1)
32 = (7/250)Q1
Q1 = 1143 Q2 = 357
P1 = 12.00 - (1/500) * 1143 = $9.71
P2 = 16.00 - (3/250) * 357 = $11.72
Total Revenue = 9.71 * 1143 + 11.72 * 357 = $15,283
5
Intertemporal Price Discrimination &
Peak-Load Pricing
Dollars
per unit
SMC
P1
A
P
P2
D1
D2
Q2
Q’2
Q’1
Q1
Output
6
Intertemporal Price Discrimination &
Peak-Load Pricing
A utility changes its pricing scheme for electricity:
• Was: 6.7 cents/kWh at all hours
– 7,000 kWh/day during off-peak hours and 20,000 kWh/day during peak hours
– Total Cost: (20,000 + 7,000) * 6.7 = $1,809
• Now: 7.3 cents/kWh peak and 4.8 cents/kWh off-peak
–
–
–
–
5,000 kWh/day shift from peak to off-peak use
Peak hours cost: 15,000 * 7.3 = $1,095
Off-peak hours cost: 12,000 * 4.8 = $576
Total Cost: 1,095 + 576 = $1,671
7