3 Micro (Fach) / 2. Pricing in Monopoly Markets (Lektion)
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- 2-1 Profit Max in Monopoly markets Profit maximizing quantity exceeds the MC of last unit supplied. Profit maximization condition [ P > MR = MC ] Rationale: If the firm produces a Q at which MR > MC, the firm cannot be maximizing its profit because it could increase its output and its profit would go up. The only situation at which a monopolist cannot improve profit by increasing / decreasing Q is where MR = MC
- 2.1 Price Elasticity of Demand 1- Price Elasticity of Demand Price Elasticity of Demand determines extent to which a monopolist can raise P above MC Monopolist always produces on Elastic Region of the Market Demand Curve => Many available Substitutes lead to Relatively more price sensitive consumers, can be reason why monopolist cannot set very high prices Top - Elastic Demand Flatter curve Higher Q, lower Price TC are lower Here he will produce Lower = Inelastic Demand Steep curve Lower Q, higher Price Monopolist always produces on Elastic Region of the Market Demand Curve Too many units to produce required product differentiation
- 2-0 What is Market Power? The ability to choose its price. A firm has market power if it can choose its price. In a perfectly competitive market firms do not have market power. They are price takers. They respond to the price by choosing the optimal quantity to produce Most firms have some amount of market power. Sources of Market Power: Barriers to entry: Patents, Regulations, Economies of Scale Exclusive access to an important input (Diamond mines) Technological innovation (temporary market power)
- 2-0 Monopoly Markets Price is endogenous, set by monopolist, and determined both quantity and price For A Monopolist P > MR = MC. Thus, monopolist prices above marginal cost. Profit maximizing quantity exceeds the MC of last unit supplied. Depending on Demand, Monopolist might sell the same quantity at different prices There is no Supply Curve Monopolist chooses its price and quantity simultaneously & uses market demand curve to set its price
- 2-1 Dilution Monopolist faces a volume-margin trade-off: To sell more, monopolist needs to lower price, and give up revenue from customers who could have paid a higher price As a result, revenue from the last unit sold, MR(Q), is always below its price P. => Contrast to a firm in a perfectly competitive market: firm is a price-taker. It acts as if it can sell any quantity at the equilibrium price. Its marginal revenue is simply price (MR = P) Analytical Solution: Trust the MR Curve! MC =MR is exactly the same as maximizing the area below the demand curve, representing profit for the firm (or producer surplus). At this price, the firm has 2 opportunities: it could either set a lower price and sell more units, or it could raise the price and sell less units. However, the profit-maximizing price, i.e. the point at which MR=MC is exactly the point in which the firm cannot increase its profit by either charging a higher low lower price