Download ECMC02H – Week One

ECMA04H – Week Nine
Test this Friday (November 11th) 3-5 p.m. in
various rooms.
Check www.utsc.utoronto.ca/~cleveland for
location
Material on test includes:
- tax incidence
- excess burden of taxation
- production, marginal product, average
product
- costs: fixed and variable; marginal, total
and average; short run and long run
- perfect competition: firm and industry;
short run and long run
- today’s lecture on monopoly
25 MC questions, mathematical and
theoretical
1
Objectives this week:
a.
The monopoly model. How does
monopolist behave? What are the
results?
b. Inefficiency and monopoly. Dynamic
efficiency vs. allocative efficiency.
c.
Where does monopoly come from; what
conditions are necessary; what are the
public policy responses?
d. Excise tax on a monopoly
2
The Monopoly Model
Only one supplier. Entry to market is blocked.
Single seller faces entire market demand curve
(price maker, not price taker)
Graphically:
Price
per unit
quantity
MC
AC
Demand
MR
0
3
Quantity
produced
per unit of
time
What about Marginal Revenue (MR)?
MR = dTR/dq or dTR/dQ
TR = P x Q. To PC firm, P was a constant
(price taker)
To monopolist, P is a choice variable, so we
must treat P as a function of Q
So, MR = [(dP/dQ) x Q] + [(dQ/dQ) x P]
Or MR = P + Q(dP/dQ)
For a linear demand curve P = a – bQ,
MR = (a – bQ) + (Q[-b]) = a – 2bQ
So MR has the same intercept and twice the
slope of the linear demand curve
4
Algebraic example of monopoly industry
Market Demand: P = 100 - .02Q
So, total revenue = TR = PxQ = 100Q - .02Q2
Marginal Revenue = dTR/dQ = 100 - .04Q
(the rate at which total revenue is changing
as output increases)
Assume total cost function of monopoly firm
is:
TC = .01q2 + 10q + 432 or .01Q2 + 10Q + 432
So, MC = .02Q + 10
(the rate at which total cost is changing as
output increases)
AC = .01Q + 10 + 432Q-1
5
We can solve by forming the profit function
and maximizing with respect to Q
Π = TR – TC = (100Q - .02Q2) – (.01Q2 + 10Q +
432) = 90Q - .03Q2 – 432
Therefore, dΠ/dQ = 90 - .06Q
Setting = 0, we have .06Q = 90 or Q* = 1500
Substituting into the demand function, we
have P* = 100 - .02(1500)= $70
6
Alternative solution method
We can set MC = MR and solve for Q
MC = .02Q + 10
MR = 100 - .04Q
.02Q + 10 = 100 - .04Q
.06Q = 90
Q* = 1500
Substituting into the demand function, we
have P* = 100 - .02(1500)= $70
7
How much is the profit of the monopolist?
Where is the monopolist’s supply curve?
What about the long run?
8
Is the monopolist efficient?
Several perspectives:
Does the monopolist minimize costs?
9
Is marginal benefit equal to marginal cost at
the monopolist’s equilibrium output?
10
Does the monopolist’s output maximize the
Gain to Society?
11
A distributional concern (not allocative
efficiency):
Does the monopolist transfer potential CS
into profit for the producer?
12
What about dynamic efficiency?
13
Classic view is that monopoly distorts
resource allocation and causes deadweight
efficiency loss. Monopolist produces too
little output (uses too few resources). In
practice, there are other considerations, to
judge on a case by case basis.
14
Where does monopoly come from?
(a) cost advantage – economies of scale
which are large relative to the size of
the market (known as “natural
monopoly”)
(b) government licence or restriction
(patent)
(c) ownership of scarce but essential
resource
(d) some other barrier to entry (e.g., huge
advertising costs, manipulation of
access to market)
(e) Cartel – Joint monopoly
15
An excise tax on a monopoly
Price
per unit
quantity
MC
AC
Demand
MR
0
Quantity
produced
per unit of
time
16