Transcript Monopoly and Other Forms of Imperfections

Monopoly and Other
Forms of Imperfect
Competition
MB
MC
MB MC
Imperfect Competition

Imperfectly Competitive Firms
Have some control over price
 Price may be greater than the cost of
production
 Long-run economic profits are possible

Copyright c 2007 by The McGraw-Hill
Companies, Inc. All rights reserved.
Chapter 10: Monopoly and Other
Forms of Imperfect Competition
Slide 2
MB MC
Imperfect Competition

Perfect Competition
An ideal market that maximizes economic
surplus
 A situation that does not always exist

Copyright c 2007 by The McGraw-Hill
Companies, Inc. All rights reserved.
Chapter 10: Monopoly and Other
Forms of Imperfect Competition
Slide 3
MB MC
Imperfect Competition

Imperfectly Competitive Markets
Reduce economic surplus to varying
degrees
 Are very common

Copyright c 2007 by The McGraw-Hill
Companies, Inc. All rights reserved.
Chapter 10: Monopoly and Other
Forms of Imperfect Competition
Slide 4
MB MC
Imperfect Competition

Different Forms of Imperfect
Competition

Pure Monopoly (most inefficient)
 The
only supplier of a unique product with no
close substitutes
Copyright c 2007 by The McGraw-Hill
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Chapter 10: Monopoly and Other
Forms of Imperfect Competition
Slide 5
MB MC
Imperfect Competition

Different Forms of Imperfect
Competition

Monopolistic Competition (closest to
perfect competition)
A
large number of firms that produce slightly
differentiated products that are reasonably
close substitutes for one another
 Long-run adjustment to zero economic profits
 Importance of differentiation
Copyright c 2007 by The McGraw-Hill
Companies, Inc. All rights reserved.
Chapter 10: Monopoly and Other
Forms of Imperfect Competition
Slide 6
MB MC
Imperfect Competition

Different Forms of Imperfect
Competition

Oligopoly (more efficient than a monopoly)
 Industry
structure in which a small number of
large firms produce products that are either
close or perfect substitutes
 Cost advantages from large size may prevent
the long-run adjustment to zero economic profit
 Undifferentiated and differentiated products
Copyright c 2007 by The McGraw-Hill
Companies, Inc. All rights reserved.
Chapter 10: Monopoly and Other
Forms of Imperfect Competition
Slide 7
MB MC
Imperfect Competition

The Essential Difference Between
Perfectly and Imperfectly Competitive
Firms
The perfectly competitive firm faces a
perfectly elastic demand for its product.
 The imperfectly competitive firm faces a
downward-sloping demand curve.

Copyright c 2007 by The McGraw-Hill
Companies, Inc. All rights reserved.
Chapter 10: Monopoly and Other
Forms of Imperfect Competition
Slide 8
MB MC
Imperfect Competition

In perfect competition:
Supply and demand determine equilibrium
price. The firm has no market power.
 At the equilibrium price, the firm sells all it
wishes.

Copyright c 2007 by The McGraw-Hill
Companies, Inc. All rights reserved.
Chapter 10: Monopoly and Other
Forms of Imperfect Competition
Slide 9
MB MC
Imperfect Competition

With perfect competition:
If the firm raises its price, sales will be
zero.
 If the firm lowers its price, sales will not
increase.
 The firm’s demand curve is the horizontal
line at the market price.

Copyright c 2007 by The McGraw-Hill
Companies, Inc. All rights reserved.
Chapter 10: Monopoly and Other
Forms of Imperfect Competition
Slide 10
MB MC
Imperfect Competition

With imperfect competition:
The firm has some control over price or
some market power.
 The firm faces a downward sloping
demand curve.

Copyright c 2007 by The McGraw-Hill
Companies, Inc. All rights reserved.
Chapter 10: Monopoly and Other
Forms of Imperfect Competition
Slide 11
MB MC
The Demand Curves Facing Perfectly
and Imperfectly Competitive Firms
D
Market
price
Imperfectly competitive firm
Price
$/unit of output
Perfectly competitive firm
D
Quantity
Copyright c 2007 by The McGraw-Hill
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Quantity
Chapter 10: Monopoly and Other
Forms of Imperfect Competition
Slide 12
MB MC
Five Sources of Market Power

Market Power

A firm’s ability to raise the price of a good
without losing al its sales
Copyright c 2007 by The McGraw-Hill
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Chapter 10: Monopoly and Other
Forms of Imperfect Competition
Slide 13
MB MC
Five Sources of Market Power





Exclusive control over inputs
Patents and Copyrights
Government Licenses or Franchises
Economies of Scale (Natural Monopolies)
Network Economies
Copyright c 2007 by The McGraw-Hill
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Chapter 10: Monopoly and Other
Forms of Imperfect Competition
Slide 14
MB MC

Economies of Scale and the
Importance of Start-Up Costs
Firms with large fixed costs and low
variable costs:
Have low marginal costs
 Average total cost declines sharply as
output increases
 Economies of scale will exist

Copyright c 2007 by The McGraw-Hill
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Chapter 10: Monopoly and Other
Forms of Imperfect Competition
Slide 15
MB MC

Economies of Scale and the
Importance of Start-Up Costs
Constant Returns to Scale

A production process is said to have
constant returns to scale if, when all inputs
are changed by a given proportion, output
changes by the same proportion.
Copyright c 2007 by The McGraw-Hill
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Chapter 10: Monopoly and Other
Forms of Imperfect Competition
Slide 16
MB MC

Economies of Scale and the
Importance of Start-Up Costs
Increasing Returns to Scale

A production process is said to have
increasing returns to scale if, when all
inputs are changed by a given proportion,
output changes by more than that
proportion; also called economies of scale.
Copyright c 2007 by The McGraw-Hill
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Chapter 10: Monopoly and Other
Forms of Imperfect Competition
Slide 17
MB MC
Total and Average Total Costs for a
Production Process with Economies of Scale
Average cost ($/unit)
Total cost ($/year)
TC = F + MQ
F + MQ0
F
ATC = F/Q + M
M
Q0
Quantity
Total cost rises at a constant
rate as output rises
Copyright c 2007 by The McGraw-Hill
Companies, Inc. All rights reserved.
Quantity
Average costs decline and is
always higher than marginal cost
Chapter 10: Monopoly and Other
Forms of Imperfect Competition
Slide 18
Costs for Two
Computer Game Producers (1)
MB MC
Nintendo
Playstation
Annual production
1,000,000
1,200,000
Fixed cost
$200,000
$200,000
Variable cost
$800,000
$960,000
$1,000,000
$1,160,000
$1.00
$0.97
Total cost
Average total cost per game
Observations
•Fixed costs are a relatively small share of total cost
•Cost/game is nearly the same
Copyright c 2007 by The McGraw-Hill
Companies, Inc. All rights reserved.
Chapter 10: Monopoly and Other
Forms of Imperfect Competition
Slide 19
Costs for Two
Computer Game Producers (2)
MB MC
Annual production
Fixed cost
Variable cost
Total cost
Average total cost per game
Nintendo
Playstation
1,000,000
1,200,000
$10,000,000
$10,000,000
$200,000
$240,000
$10,200,000
$10,240,000
$10.20
$8.53
Observations
•Fixed costs are a relatively large share of total cost
•Playstation has a $1.67 average cost advantage
•Playstation can lower prices, cover cost, and attract customers
Copyright c 2007 by The McGraw-Hill
Companies, Inc. All rights reserved.
Chapter 10: Monopoly and Other
Forms of Imperfect Competition
Slide 20
Costs for Two
Computer Game Producers (3)
MB MC
Annual production
Fixed cost
Variable cost
Total cost
Average total cost per game
Nintendo
Playstation
500,000
1,700,000
$10,000,000
$10,000,000
$100,000
$340,000
$10,100,000
$10,340,000
$20.20
$6.08
• Shift of 500,000 units to Playstation
• Nintendo’s average cost increases to $20.20/unit
• Playstation average cost falls to $6.08
• A large number of firms cannot survive when the
cost differential is high
Copyright c 2007 by The McGraw-Hill
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Chapter 10: Monopoly and Other
Forms of Imperfect Competition
Slide 21
MB MC

Economies of Scale and the
Importance of Fixed Costs
Fixed investment in research and
development has been increasing as a
share of production costs.
Cost of producing a computer
Fixed Cost
Software
1984
1990
Copyright c 2007 by The McGraw-Hill
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20%
80%
Chapter 10: Monopoly and Other
Forms of Imperfect Competition
Variable Cost
Hardware
80%
20%
Slide 22
MB MC

Economies of Scale and the
Importance of Fixed Costs
Economic Naturalist

How big will Playstation’s unit cost
advantage be if it sells 2,000,000 units per
year, while Nintendo sells only 200,000?
Copyright c 2007 by The McGraw-Hill
Companies, Inc. All rights reserved.
Chapter 10: Monopoly and Other
Forms of Imperfect Competition
Slide 23
MB MC

Economies of Scale and the
Importance of Fixed Costs
Economic Naturalist

Why does Intel sell the overwhelming
majority of all microprocessors used in
personal computers?
Copyright c 2007 by The McGraw-Hill
Companies, Inc. All rights reserved.
Chapter 10: Monopoly and Other
Forms of Imperfect Competition
Slide 24
MB MC

Profit Maximization for
the Monopolist
A price taker (perfect competition) and a
price setter (imperfect competition)
share two economic goals. They want:
To maximize profits
 To select the output level that maximizes
the difference between TR and TC, where
MB= MC.

Copyright c 2007 by The McGraw-Hill
Companies, Inc. All rights reserved.
Chapter 10: Monopoly and Other
Forms of Imperfect Competition
Slide 25
MB MC

Profit Maximization for
the Monopolist
For a producer

MB = Marginal Revenue (MR) or a change
in a firm’s total revenue that results from a
one-unit change in output
Copyright c 2007 by The McGraw-Hill
Companies, Inc. All rights reserved.
Chapter 10: Monopoly and Other
Forms of Imperfect Competition
Slide 26
MB MC

Profit Maximization for
the Monopolist
Marginal Revenue for the Monopolist

Perfect competition and monopolies
 Both
increase output when MR > MC.
 Calculate MC the same way.
 Do not have the same MR at a given price.
o In perfect competition: MR = P
o In monopoly: MR < P
Copyright c 2007 by The McGraw-Hill
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Chapter 10: Monopoly and Other
Forms of Imperfect Competition
Slide 27
The Monopolist’s Benefit
from Selling an Additional Unit
MB MC
• If P = $6, then TR = $6 x 2 = $12
• If P = $5, then TR = $5 x 3 = $15
• The MR of selling the 3rd unit = $3 (15-12)
• For the 3rd unit, MR = $3 < P = $5
Price ($/unit)
8
6
5
D
2
3
8
Quantity (units/week)
Copyright c 2007 by The McGraw-Hill
Companies, Inc. All rights reserved.
Chapter 10: Monopoly and Other
Forms of Imperfect Competition
Slide 28
Marginal Revenue in
Graphical Form
MB MC

P
Q
TR
6
2
12
5
3
15
4
4
16
3
5
15
Copyright c 2007 by The McGraw-Hill
Companies, Inc. All rights reserved.
MR
Observations


3
1
-1


MR < P
MR declines as quantity
increases
MR is the change between
two quantities
MR < P because price must
be lowered to sell an
additional unit
Chapter 10: Monopoly and Other
Forms of Imperfect Competition
Slide 29
P
Q
TR
6
2
12
5
3
15
4
4
16
3
5
15
MR
3
1
-1
Price & marginal revenue ($/unit)
Marginal Revenue in
Graphical Form
MB MC
8
3
D
1
-1
2
3
4
5
8
MR
Quantity (units/week)
Copyright c 2007 by The McGraw-Hill
Companies, Inc. All rights reserved.
Chapter 10: Monopoly and Other
Forms of Imperfect Competition
Slide 30
MB MC
The Marginal Revenue Curve for a
Monopolist with a Straight-Line Demand Curve
Price
a
a/2
D
MR
Q0/2
Q0
Quantity
Observations
• The vertical intercept, a, is the same for MR and D
• The horizontal intercept for MR, Q0/2, is one half the
demand intercept, Q0.
Copyright c 2007 by The McGraw-Hill
Companies, Inc. All rights reserved.
Chapter 10: Monopoly and Other
Forms of Imperfect Competition
Slide 31
MB MC

Profit Maximization for
the Monopolist
Profit Maximizing Decision Rule
When MR > MC, output should be increased.
 When MR < MC, output should be reduced.
 Profits are maximized at the level of output
for which MR = MC.

Copyright c 2007 by The McGraw-Hill
Companies, Inc. All rights reserved.
Chapter 10: Monopoly and Other
Forms of Imperfect Competition
Slide 32
The Monopolist’s ProfitMaximizing Output Level
MB MC
Marginal Cost
Price ($/unit of output)
6
Observations
• If P = $3 & Q = 12 MR < MC
and output should be
reduced
• Profits are maximized at 8
units where MR = MC
• P = $4 where quantity
demanded = quantity
supplied
4
3
2
MR
8
12
D
24
Quantity (units/week)
Copyright c 2007 by The McGraw-Hill
Companies, Inc. All rights reserved.
Chapter 10: Monopoly and Other
Forms of Imperfect Competition
Slide 33
MB MC
Even a Monopolist May
Suffer an Economic Loss
Being a monopolist doesn’t guarantee an economic profit
0.12
0.10
ATC
MC
0.05
Economic profit
= $400,000/day
Price ($/minute)
Price ($/minute)
Economic loss
= $400,000/day
0.10
0.08
ATC
MC
0.05
D
20
MR
Minutes (millions/day)
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Chapter 10: Monopoly and Other
Forms of Imperfect Competition
D
20
24
MR
Minutes (millions/day)
Slide 34
The Demand and Marginal Cost
Curves for a Monopolist
MB MC
Why the Invisible Hand Breaks Down Under Monopoly
Price ($/unit of output)
6
Marginal cost
The socially optimal
amount occurs where
MC = D(MB) @ 12 units
3
D
12
24
Quantity (units/week)
Copyright c 2007 by The McGraw-Hill
Companies, Inc. All rights reserved.
Chapter 10: Monopoly and Other
Forms of Imperfect Competition
Slide 35
The Demand and Marginal Cost
Curves for a Monopolist
MB MC
Why the Invisible Hand Breaks Down Under Monopoly
Price ($/unit of output)
6
Marginal cost
• The profit maximizing level of
output of 8 units, where MR =
MC, is less than the socially
optimal output of 12
• Between 8 and 12, MB to
society > MC to society
• Cannot increase output
because MR to the firms is less
than MC
4
3
2
MR
8
12
D
24
Quantity (units/week)
Copyright c 2007 by The McGraw-Hill
Companies, Inc. All rights reserved.
Chapter 10: Monopoly and Other
Forms of Imperfect Competition
Slide 36
The Demand and Marginal Cost
Curves for a Monopolist
MB MC
Why the Invisible Hand Breaks Down Under Monopoly
Price ($/unit of output)
6
Marginal cost
Deadweight loss
• Because MR < P, the monopoly
produces less than the socially
optimal amount
• The deadweight loss of the
monopoly to society =
(1/2)($2/unit)(4units/wk) = $4/wk.
4
3
2
MR
8
12
D
24
Quantity (units/week)
Copyright c 2007 by The McGraw-Hill
Companies, Inc. All rights reserved.
Chapter 10: Monopoly and Other
Forms of Imperfect Competition
Slide 37
MB MC

Why the Invisible Hand Breaks
Down Under Monopoly
Monopoly





Profits are
maximized where
MR = MC.
P > MR
P > MC
Deadweight loss
Copyright c 2007 by The McGraw-Hill
Companies, Inc. All rights reserved.
Perfect Competition




Profits are
maximized where
MR = MC.
P = MR
P = MC
No deadweight loss
Chapter 10: Monopoly and Other
Forms of Imperfect Competition
Slide 38
MB MC

Why the Invisible Hand Breaks
Down Under Monopoly
Difficulties in Reducing the Deadweight
Loss of Monopolies
Enforcing antitrust laws
 Patents, copyrights, and innovation
 Natural monopolies

Copyright c 2007 by The McGraw-Hill
Companies, Inc. All rights reserved.
Chapter 10: Monopoly and Other
Forms of Imperfect Competition
Slide 39
MB MC

Using Discounts
to Expand the Market
Price Discrimination

The practice of charging different buyers
different prices for essentially the same
good or service
Copyright c 2007 by The McGraw-Hill
Companies, Inc. All rights reserved.
Chapter 10: Monopoly and Other
Forms of Imperfect Competition
Slide 40
MB MC

Using Discounts
to Expand the Market
Examples of Price Discrimination
Senior citizens and student discounts on
movie tickets
 Supersaver discounts on air travel
 Rebate coupons

Copyright c 2007 by The McGraw-Hill
Companies, Inc. All rights reserved.
Chapter 10: Monopoly and Other
Forms of Imperfect Competition
Slide 41
MB MC

Using Discounts
to Expand the Market
Economic Naturalist

Why do many movie theaters offer discount
tickets to students?
Copyright c 2007 by The McGraw-Hill
Companies, Inc. All rights reserved.
Chapter 10: Monopoly and Other
Forms of Imperfect Competition
Slide 42
MB MC

Using Discounts
to Expand the Market
Example

How many manuscripts should Carla edit?
Copyright c 2007 by The McGraw-Hill
Companies, Inc. All rights reserved.
Chapter 10: Monopoly and Other
Forms of Imperfect Competition
Slide 43
Total and Marginal
Revenue from Editing
MB MC
Student
Reservation Price
($ per paper)
Total Revenue
($ per week)
Marginal revenue
($ per paper)
40
A
40
40
B
38
76
C
36
108
D
34
136
E
32
160
F
30
180
G
28
196
H
26
208
Copyright c 2007 by The McGraw-Hill
Companies, Inc. All rights reserved.
Chapter 10: Monopoly and Other
Forms of Imperfect Competition
36
32
28
24
20
16
12
Slide 44
MB MC

Using Discounts
to Expand the Market
Example

How many manuscripts should Carla edit?
 Opportunity
cost = $29
 TR = P x Q, or for 4 papers, 4 x $34 = $136/wk
 MR is the difference in TR from adding another
student
 If MR > MC: increase output
Copyright c 2007 by The McGraw-Hill
Companies, Inc. All rights reserved.
Chapter 10: Monopoly and Other
Forms of Imperfect Competition
Slide 45
MB MC

Using Discounts
to Expand the Market
Example

How many manuscripts should Carla edit?
 Carla
o
o
o
o
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edits 3 papers
TC = 3 x $29 = $87
TR = $108
Economic profit = $108 - $87 = $21/wk
Accounting profit = $108
Chapter 10: Monopoly and Other
Forms of Imperfect Competition
Slide 46
MB MC

Using Discounts
to Expand the Market
Example

How many manuscripts should Carla edit?
 Opportunity
cost = $29
 Must charge the same price
 Reservation price > opportunity cost for student
A to F
 Socially efficient number is 6
o
o
o
o
Copyright c 2007 by The McGraw-Hill
Companies, Inc. All rights reserved.
TR = 6 x $30 = $180
TC = 6 x $29 = $174
Economic profit = $180- $174 = $6
Accounting profit = $180
Chapter 10: Monopoly and Other
Forms of Imperfect Competition
Slide 47
MB MC

Using Discounts
to Expand the Market
Example

If Carla can price discriminate, how many
papers should she edit?
 Assume
Carla can charge each student the
reservation price.
Copyright c 2007 by The McGraw-Hill
Companies, Inc. All rights reserved.
Chapter 10: Monopoly and Other
Forms of Imperfect Competition
Slide 48
MB MC
Using Discounts
to Expand the Market
Reservation
Student
Copyright c 2007 by The McGraw-Hill
Companies, Inc. All rights reserved.
A
40
B
38
C
36
D
34
E
32
F
30
G
28
H
26
price
• Carla would edit A to F
• TR = $40 + $38… = $210
• TC = 6 x $29 = $174
• Economic Profit =
$210 - $174 = $36/wk
• Economic Profit is $30
more
Chapter 10: Monopoly and Other
Forms of Imperfect Competition
Slide 49
MB MC

Using Discounts
to Expand the Market
Perfectly Discriminating Monopolist

Charging each buyer exactly their
reservation price
 Economic
surplus is maximized
 Consumer surplus is zero
 Economic surplus = producer surplus
Copyright c 2007 by The McGraw-Hill
Companies, Inc. All rights reserved.
Chapter 10: Monopoly and Other
Forms of Imperfect Competition
Slide 50
MB MC

Using Discounts
to Expand the Market
Limitations to Perfect Price
Discrimination
Seller will not know each buyer’s
reservation price.
 Low price buyers could resell to other
buyers at a higher price.

Copyright c 2007 by The McGraw-Hill
Companies, Inc. All rights reserved.
Chapter 10: Monopoly and Other
Forms of Imperfect Competition
Slide 51
MB MC

Using Discounts
to Expand the Market
The Hurdle Method of Price
Discrimination

Profit-maximizing seller’s goal is to charge
each buyer his/her reservation price.
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Companies, Inc. All rights reserved.
Chapter 10: Monopoly and Other
Forms of Imperfect Competition
Slide 52
MB MC

Using Discounts
to Expand the Market
The Hurdle Method of Price
Discrimination

There are two problems to implementing
this pricing strategy.
 Seller
does not know the reservation prices
 Seller must separate high and low price buyers

The hurdle method of price discrimination
is used to solve these problems.
Copyright c 2007 by The McGraw-Hill
Companies, Inc. All rights reserved.
Chapter 10: Monopoly and Other
Forms of Imperfect Competition
Slide 53
MB MC

Using Discounts
to Expand the Market
The Hurdle Method of Price
Discrimination
The practice of offering a discount to all
buyers who overcome some obstacle.
 Example

 Offering
Copyright c 2007 by The McGraw-Hill
Companies, Inc. All rights reserved.
a rebate to those who mail in a coupon
Chapter 10: Monopoly and Other
Forms of Imperfect Competition
Slide 54
MB MC

A Perfect Hurdle


Using Discounts
to Expand the Market
Separates buyers precisely according to
their reservation prices
What do you think?

Is a perfect hurdle possible?
Copyright c 2007 by The McGraw-Hill
Companies, Inc. All rights reserved.
Chapter 10: Monopoly and Other
Forms of Imperfect Competition
Slide 55
MB MC

Using Discounts
to Expand the Market
Question

How much should Carla charge for editing
if she uses a perfect hurdle?
Copyright c 2007 by The McGraw-Hill
Companies, Inc. All rights reserved.
Chapter 10: Monopoly and Other
Forms of Imperfect Competition
Slide 56
MB MC

Using Discounts
to Expand the Market
Assume
Carla offers a mail in rebate coupon
 Students with at least a $36 reservation
price never use the coupon
 Students with a reservation price below
$36 use the coupon
 Opportunity cost = $29
 Discount coupon = $4

Copyright c 2007 by The McGraw-Hill
Companies, Inc. All rights reserved.
Chapter 10: Monopoly and Other
Forms of Imperfect Competition
Slide 57
Price Discrimination
with a Perfect Hurdle
MB MC
Student
Reservation Price
($ per paper)
Total Revenue
($ per week)
Marginal revenue
($ per paper)
List Price Submarket
A
40
40
40
B
38
76
36
C
36
108
32
Discount Price Submarket
D
34
34
E
32
64
F
30
90
G
28
112
H
26
130
Copyright c 2007 by The McGraw-Hill
Companies, Inc. All rights reserved.
Chapter 10: Monopoly and Other
Forms of Imperfect Competition
34
30
26
22
18
Slide 58
MB MC

Using Discounts
to Expand the Market
Solution
TR = (3)(36) + (2)(32) = $172
 MC = ($5)($29) = $145
 Economic Profit = $27/wk

Copyright c 2007 by The McGraw-Hill
Companies, Inc. All rights reserved.
Chapter 10: Monopoly and Other
Forms of Imperfect Competition
Slide 59
MB MC

Using Discounts
to Expand the Market
Question

Is price discrimination a bad thing?
 The
Copyright c 2007 by The McGraw-Hill
Companies, Inc. All rights reserved.
hurdle method raised economic surplus.
Chapter 10: Monopoly and Other
Forms of Imperfect Competition
Slide 60
Using Discounts
to Expand the Market
MB MC
Calculating Economic Surplus
Consumer Surplus
Both
Single price
& discount
Reservation Price
A
B
C
Actual Price
$40
$38
$36
$36
$36
$36
$4
$2
$0
$6
Without Discount
D
$34
$22
$2
$8
With Discount

Consumer Surplus
Producer Surplus


Single price = 3(36 - 29) = $21/wk
Discount price = 3(36 - 29) = $21/wk
2(32 - 29) = $6/wk
$27/wk
Copyright c 2007 by The McGraw-Hill
Companies, Inc. All rights reserved.
Chapter 10: Monopoly and Other
Forms of Imperfect Competition
Slide 61
Using Discounts
to Expand the Market
MB MC
Calculating Economic Surplus
Consumer Surplus
Both
Single price
& discount
Reservation Price
A
B
C
Actual Price
$40
$38
$36
$36
$36
$36
$4
$2
$0
$6
Without Discount
D
$34
$22
$2
$8
With Discount

Consumer Surplus
Economic Surplus


Single price =
$6 + $21 = $27/wk
Discount price = $8 + $27 = $35/wk
Copyright c 2007 by The McGraw-Hill
Companies, Inc. All rights reserved.
Chapter 10: Monopoly and Other
Forms of Imperfect Competition
Slide 62
MB MC

Using Discounts
to Expand the Market
Question

Is Carla’s discount rebate completely
efficient?
Copyright c 2007 by The McGraw-Hill
Companies, Inc. All rights reserved.
Chapter 10: Monopoly and Other
Forms of Imperfect Competition
Slide 63
MB MC

Using Discounts
to Expand the Market
Examples of Price Discrimination
Temporary Sales
 Book publishers and paperback books
 Automobile producers offer various models
 Commercial air carriers
 Movie producers

Copyright c 2007 by The McGraw-Hill
Companies, Inc. All rights reserved.
Chapter 10: Monopoly and Other
Forms of Imperfect Competition
Slide 64
MB MC

Using Discounts
to Expand the Market
Economic Naturalist

Why might an appliance retailer instruct its
clerks to hammer dents into the sides of its
stoves and refrigerators?
Copyright c 2007 by The McGraw-Hill
Companies, Inc. All rights reserved.
Chapter 10: Monopoly and Other
Forms of Imperfect Competition
Slide 65
MB MC

Using Discounts
to Expand the Market
Summary
Single price monopolies are inefficient
because P > MR.
 The hurdle method of price discrimination
reduces the inefficiency.

Copyright c 2007 by The McGraw-Hill
Companies, Inc. All rights reserved.
Chapter 10: Monopoly and Other
Forms of Imperfect Competition
Slide 66
MB MC

Using Discounts
to Expand the Market
Summary
The more finely the seller can discriminate,
the smaller the efficiency loss.
 Hurdles are not perfect, therefore, there
will be some efficiency loss.

Copyright c 2007 by The McGraw-Hill
Companies, Inc. All rights reserved.
Chapter 10: Monopoly and Other
Forms of Imperfect Competition
Slide 67
MB MC

Public Policy Toward
Natural Monopoly
Methods of Controlling Natural
Monopolies

State ownership and management
 Weighing
the benefit of marginal cost pricing
versus the cost of less incentive for innovation
Copyright c 2007 by The McGraw-Hill
Companies, Inc. All rights reserved.
Chapter 10: Monopoly and Other
Forms of Imperfect Competition
Slide 68
MB MC

Public Policy Toward
Natural Monopoly
Methods of Controlling Natural
Monopolies

State regulation of private monopolies
 Cost-plus
regulation
o High administrative cost
o Less incentive for innovation
o P does not equate to MC
Copyright c 2007 by The McGraw-Hill
Companies, Inc. All rights reserved.
Chapter 10: Monopoly and Other
Forms of Imperfect Competition
Slide 69
MB MC

Public Policy Toward
Natural Monopoly
Methods of Controlling Natural
Monopolies

Exclusive contracting for natural monopoly
 Competition
for the contract sets P = MC
 Difficulty when fixed costs are high such as
electric utilities
Copyright c 2007 by The McGraw-Hill
Companies, Inc. All rights reserved.
Chapter 10: Monopoly and Other
Forms of Imperfect Competition
Slide 70
MB MC

Public Policy Toward
Natural Monopoly
Methods of Controlling Natural
Monopolies

Vigorous enforcement of anti-trust laws
 Helps
prevent cartels
 May prevent economies of scale
Copyright c 2007 by The McGraw-Hill
Companies, Inc. All rights reserved.
Chapter 10: Monopoly and Other
Forms of Imperfect Competition
Slide 71
MB MC

Public Policy Toward
Natural Monopoly
What do you think?

Should we regulate natural monopolies?
Copyright c 2007 by The McGraw-Hill
Companies, Inc. All rights reserved.
Chapter 10: Monopoly and Other
Forms of Imperfect Competition
Slide 72
End of
Chapter
MB
MC