Monopoly and Other Forms of Imperfect Competition Practice Test by zjt18914

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									                                Monopoly and Other                                  Imperfect Competition
                                Forms of Imperfect
                                   Competition                                   Perfectly Competitive Markets
                                                                                   Maximize economic surplus
                                                                                   Do not always exist
                                                                                 Imperfectly Competitive Markets
                                                                                   Reduce economic surplus to varying
                                                                                   degrees
                                                                                   Are very common



                                                                                         Chapter 9: Monopoly and Other Forms of Imperfect Competition   Slide 2




   Imperfect Competition                                                            Imperfect Competition

Imperfectly Competitive Firms                                                    Various Forms of Imperfect Competition
  Have some control over price                                                     Pure Monopoly (most inefficient)
  Price may be greater than the cost of                                              The only supplier of a unique product with no
  production                                                                         close substitutes

  Long-run economic profits are possible                                           Oligopoly (more efficient than a monopoly)
                                                                                     A firm that produces a product for which only a
                                                                                     few rival firms produce close substitutes




        Chapter 9: Monopoly and Other Forms of Imperfect Competition   Slide 3           Chapter 9: Monopoly and Other Forms of Imperfect Competition   Slide 4




   Imperfect Competition                                                            Imperfect Competition

Different Forms of Imperfect                                                     The Essential Difference Between
Competition                                                                      Perfectly and Imperfectly Competitive
  Monopolistic Competition (closest to                                           Firms
  perfect competition)                                                             The perfectly competitive firm faces a
    A large number of firms that produce slightly                                  perfectly elastic demand for its product
    differentiated products that are reasonably                                    (horizontal line at the market price).
    close substitutes for one another
                                                                                   The imperfectly competitive firm faces a
                                                                                   downward-sloping demand curve.


        Chapter 9: Monopoly and Other Forms of Imperfect Competition   Slide 5           Chapter 9: Monopoly and Other Forms of Imperfect Competition   Slide 6




                                                                                                                                                                  1
                                Imperfect Competition                                                                                                Imperfect Competition

                        In perfect competition                                                                                                 With imperfect competition
                              Supply and demand determine equilibrium                                                                              The firm has some control over price or
                              price. The firm has no market power.                                                                                 some market power.
                              At the equilibrium price, the firm sells all it                                                                      The firm faces a downward sloping
                              wishes.                                                                                                              demand curve.




                                      Chapter 9: Monopoly and Other Forms of Imperfect Competition    Slide 7                                               Chapter 9: Monopoly and Other Forms of Imperfect Competition               Slide 8




                                The Demand Curves Facing Perfectly
                                and Imperfectly Competitive Firms                                                                                    Five Sources of Market Power

                                                                                                                                               Exclusive control over inputs
                            Perfectly competitive firm                       Imperfectly competitive firm                                      Patents and copyrights
                                                                                                                                               Government licenses or franchises
$/unit of output




                                                            D                                                                                  Economies of scale (natural monopolies)
                                                                     Price




                   Market
                    price
                                                                                                                                               Network economies
                                                                                                                D

                                      Quantity                                            Quantity




                                      Chapter 9: Monopoly and Other Forms of Imperfect Competition    Slide 9                                               Chapter 9: Monopoly and Other Forms of Imperfect Competition              Slide 10




                                Economies of Scale and the                                                                                           Total and Average Total Costs for a
                                Importance of Fixed Costs                                                                                            Production Process with Economies of Scale


                        Firms with large fixed costs and low                                                                                                 TC = F + MQ
                        variable costs
                                                                                                                                                                                   Average cost ($/unit)




                              Have low marginal costs
                                                                                                                    Total cost ($/year)




                              Average total cost declines sharply as                                                                      F + Q0
                              output increases
                                                                                                                                                                                                                              ATC = F/Q + M
                              Economies of scale will exist                                                                                   F

                                                                                                                                                                                                           M
                                                                                                                                                      Q0           Quantity                                                            Quantity

                                                                                                                                               Total cost rises at a constant                                  Average costs decline and is
                                                                                                                                               rate as output rises                                            always higher than marginal cost

                                      Chapter 9: Monopoly and Other Forms of Imperfect Competition   Slide 11                                               Chapter 9: Monopoly and Other Forms of Imperfect Competition              Slide 12




                                                                                                                                                                                                                                                  2
             Costs for Two                                                                              Costs for Two
             Computer Game Producers (1)                                                                Computer Game Producers (2)



                                         Nintendo                  Playstation                                                      Nintendo                  Playstation


Annual production                      1,000,000                     1,200,000             Annual production                     1,000,000                      1,200,000
Fixed cost                              $200,000                      $200,000             Fixed cost                         $10,000,000                   $10,000,000
Variable cost                           $800,000                      $960,000             Variable cost                          $200,000                       $240,000
Total cost                           $1,000,000                    $1,160,000              Total cost                         $10,200,000                   $10,240,000
Average total cost per game               $1.00                        $0.97               Average total cost per game            $10.20                          $8.53

        Observations                                                                               Observations
        •Fixed costs are a relatively small share of total cost                                    •Fixed costs are a relatively large share of total cost
        •Cost/game is nearly the same                                                              •Playstation has a $1.67 average cost advantage
                                                                                                   •Playstation can lower prices, cover cost, and attract customers
                 Chapter 9: Monopoly and Other Forms of Imperfect Competition   Slide 13                    Chapter 9: Monopoly and Other Forms of Imperfect Competition   Slide 14




             Costs for Two                                                                              Economies of Scale and the
             Computer Game Producers (3)                                                                Importance of Fixed Costs

                                                                                                Fixed investment in research and
                                         Nintendo                  Playstation                  development has been increasing as a
                                                                                                share of production costs.
Annual production                        500,000                     1,700,000
Fixed cost                         $10,000,000                   $10,000,000                                          Cost of producing a computer
Variable cost                          $100,000                       $340,000                                           Fixed Cost                   Variable Cost
                                                                                                                          Software                     Hardware
Total cost                         $10,100,000                   $10,340,000
Average total cost per game              $20.20                        $6.08                        1984                     20%                               80%
        • Shift of 500,000 units to Playstation                                                     1990                     80%                               20%
        • 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
                 Chapter 9: Monopoly and Other Forms of Imperfect Competition   Slide 15                    Chapter 9: Monopoly and Other Forms of Imperfect Competition   Slide 16




             Economies of Scale and the                                                                 Profit Maximization for
             Importance of Fixed Costs                                                                  the Monopolist

     Economic Naturalist                                                                        A price taker (perfect competition) and a
         Why does Intel sell the overwhelming                                                   price setter (imperfect competition)
         majority of all microprocessors used in                                                share two economic goals. They want
         personal computers?                                                                        To maximize profits
                                                                                                    To select the output level that maximizes
                                                                                                    the difference between TR and TC, where
                                                                                                    MB = MC.



                 Chapter 9: Monopoly and Other Forms of Imperfect Competition   Slide 17                    Chapter 9: Monopoly and Other Forms of Imperfect Competition   Slide 18




                                                                                                                                                                                      3
                       Profit Maximization for                                                                                                       Profit Maximization for
                       the Monopolist                                                                                                                the Monopolist

    For a producer                                                                                                                            Marginal Revenue for the Monopolist
       MB = Marginal Revenue (MR) or a change                                                                                                   Perfect competition and monopolies
       in a firm’s total revenue that results from a                                                                                                  Both increase output when MR > MC.
       one-unit change in output                                                                                                                      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




                             Chapter 9: Monopoly and Other Forms of Imperfect Competition                          Slide 19                                 Chapter 9: Monopoly and Other Forms of Imperfect Competition   Slide 20




                       The Monopolist’s Benefit                                                                                                      Marginal Revenue in
                       from Selling an Additional Unit                                                                                               Graphical Form

                                                                                 • If P = $6, then TR = $6 x 2 = $12
                                                                                 • If P = $5, then TR = $5 x 3 = $15
                                                                                                                                                                                Observations
                        8                                                        • The MR of selling the 3rd unit = $3 (15-12)                                                        MR < P
                                                                                 • For the 3rd unit, MR = $3 < P = $5             P            Q       TR       MR
                                                                                                                                                                                      MR declines as quantity
      Price ($/unit)




                        6                                                                                                         6             2      12
                                                                                                                                                                 3                    increases
                        5
                                                                                                                                  5             3      15                             MR < P because price must
                                                                                                                                                                 1
                                                                                                                                  4             4      16                             be lowered to sell an
                                                                                                                                                                -1
                                                                                                      D                           3             5      15                             additional unit


                                         2                                       3                            8

                                                             Quantity (units/week)



                             Chapter 9: Monopoly and Other Forms of Imperfect Competition                          Slide 21                                 Chapter 9: Monopoly and Other Forms of Imperfect Competition   Slide 22




                       Marginal Revenue in                                                                                                          The Marginal Revenue Curve for a
                       Graphical Form                                                                                                               Monopolist with a Straight-Line Demand Curve


                                                                                                                                               a
                                             Price & marginal revenue ($/unit)




                                                                                 8
P    Q                  TR       MR

6    2                  12
                                                                                                                                      Price




                                  3                                                                                                           a/2
5    3                  15                                                       3
                                  1                                                                                D
4    4                  16                                                                                                                                                  MR                                         D
                                 -1                                              1
3    5                  15
                                                                                 -1          2    3       4   5               8
                                                                                                                                                                                        Q0/2                                    Q0
                                                                                                                  MR
                                                                                                                                                                                         Quantity
                                                                                              Quantity (units/week)                             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.
                             Chapter 9: Monopoly and Other Forms of Imperfect Competition                          Slide 23                                 Chapter 9: Monopoly and Other Forms of Imperfect Competition   Slide 24




                                                                                                                                                                                                                                      4
                                                       Profit Maximization for                                                                                                          The Monopolist’s Profit-
                                                       the Monopolist                                                                                                                   Maximizing Output Level


                      Profit Maximizing Decision Rule
                                                                                                                                                                                        6                              Marginal Cost
                            When MR > MC, output should be increased.                                                                                                                                                                       Observations




                                                                                                                                                             Price ($/unit of output)
                                                                                                                                                                                                                                            • If P = $3 & Q = 12, MR < MC
                            When MR < MC, output should be reduced.                                                                                                                                                                           and output should be
                                                                                                                                                                                        4                                                     reduced
                            Profits are maximized at the level of output                                                                                                                                                                    • Profits are maximized at Q =
                                                                                                                                                                                        3
                            for which MR = MC.                                                                                                                                                                                                8 units where MR = MC
                                                                                                                                                                                                                                            • P = $4 where quantity
                                                                                                                                                                                        2                                                     demanded = 8

                                                                                                                                                                                                                                             D
                                                                                                                                                                                                                   MR
                                                                                                                                                                                                        8        12                              24
                                                                                                                                                                                                              Quantity (units/week)


                                                             Chapter 9: Monopoly and Other Forms of Imperfect Competition              Slide 25                                               Chapter 9: Monopoly and Other Forms of Imperfect Competition   Slide 26




                                                       Even a Monopolist May                                                                                                            The Demand and Marginal Cost
                                                       Suffer an Economic Loss                                                                                                          Curves for a Monopolist
                          Being a monopolist doesn’t guarantee an economic profit                                                                                                       Why the Invisible Hand Breaks Down Under Monopoly

                                                              Economic loss                                                          Economic profit                                    6                                                   Marginal cost
                                                              = $400,000/day                                                         = $400,000/day
                                                                                                                                                             Price ($/unit of output)



                   0.12
                                                                                           Price ($/minute)
Price ($/minute)




                   0.10                                                                                       0.10
                                                                             ATC
                                                                                                              0.08                                                                                                                     The socially optimal
                                                                                                                                                  ATC                                   3                                              Amount occurs where
                   0.05                                                         MC                            0.05                                      MC                                                                             MC = MB @ 12 units

                                                                            D                                                                      D
                                                                                                                                                                                                                                             D
                                         20     MR                                                                     20     MR            24
                                       Minutes (millions/day)                                                        Minutes (millions/day)                                                                      12                              24
                                                                                                                                                                                                              Quantity (units/week)


                                                             Chapter 9: Monopoly and Other Forms of Imperfect Competition              Slide 27                                               Chapter 9: Monopoly and Other Forms of Imperfect Competition   Slide 28




                                                       The Demand and Marginal Cost                                                                                                     The Demand and Marginal Cost
                                                       Curves for a Monopolist                                                                                                          Curves for a Monopolist
                                                       Why the Invisible Hand Breaks Down Under Monopoly                                                                                Why the Invisible Hand Breaks Down Under Monopoly

                                                       6                                                             Marginal cost                                                      6                   Deadweight loss                 Marginal cost
                            Price ($/unit of output)




                                                                                                                                                             Price ($/unit of output)




                                                                                                                     • The profit maximizing level of
                                                                                                                       output of 8 units, where MR =                                                                                    • Because MR < P, the monopoly
                                                                                                                       MC, is less than the socially                                                                                      produces less than the socially
                                                       4                                                                                                                                4
                                                                                                                       optimal output of 12                                                                                               optimal amount
                                                                                                                     • Between 8 and 12, MB to
                                                       3                                                                                                                                3                                               • The deadweight loss of the
                                                                                                                       society > MC to society
                                                                                                                     • Cannot increase output                                                                                             monopoly to society =
                                                       2                                                               because MR to the firms is less                                  2                                                 (1/2)($2/unit)(4units/wk) = $4/wk.
                                                                                                                       than MC

                                                                                                                      D                                                                                                                      D
                                                                                  MR                                                                                                                               MR
                                                                       8        12                                        24                                                                            8        12                              24
                                                                             Quantity (units/week)                                                                                                            Quantity (units/week)


                                                             Chapter 9: Monopoly and Other Forms of Imperfect Competition              Slide 29                                               Chapter 9: Monopoly and Other Forms of Imperfect Competition   Slide 30




                                                                                                                                                                                                                                                                               5
   Why the Invisible Hand Breaks                                                     Why the Invisible Hand Breaks
   Down Under Monopoly                                                               Down Under Monopoly

Monopoly                                Perfect Competition                       Difficulties in Reducing the Deadweight
  Profits are                                 Profits are                         Loss of Monopolies
  maximized where                             maximized where
  MR = MC.                                    MR = MC.                              Enforcing antitrust laws
  P > MR                                      P = MR                                Patents, copyrights, and innovation
  P > MC                                      P = MC                                Natural monopolies
  Deadweight loss                             No deadweight loss




        Chapter 9: Monopoly and Other Forms of Imperfect Competition   Slide 31           Chapter 9: Monopoly and Other Forms of Imperfect Competition   Slide 32




   Why the Invisible Hand Breaks                                                     Why the Invisible Hand Breaks
   Down Under Monopoly                                                               Down Under Monopoly

Price Discrimination                                                              Examples of Price Discrimination
  The practice of charging different buyers                                         Senior citizens and student discounts on
  different prices for essentially the same                                         movie tickets
  good or service                                                                   Supersaver discounts on air travel
                                                                                    Rebate coupons




        Chapter 9: Monopoly and Other Forms of Imperfect Competition   Slide 33           Chapter 9: Monopoly and Other Forms of Imperfect Competition   Slide 34




   Why the Invisible Hand Breaks                                                     Why the Invisible Hand Breaks
   Down Under Monopoly                                                               Down Under Monopoly

Economic Naturalist                                                               How many manuscripts will Carla edit?
  Why do many movie theaters offer                                                  Opportunity cost = $29
  discount tickets to students?                                                     Must charge the same price
                                                                                    TR = P x Q
                                                                                    MR is the difference in TR from adding
                                                                                    another student




        Chapter 9: Monopoly and Other Forms of Imperfect Competition   Slide 35           Chapter 9: Monopoly and Other Forms of Imperfect Competition   Slide 36




                                                                                                                                                                    6
      Total and Marginal                                                                Why the Invisible Hand Breaks
      Revenue from Editing                                                              Down Under Monopoly

          Reservation Price           Total Revenue            Marginal revenue
Student     ($ per paper)              ($ per week)             ($ per paper)        How many manuscripts will Carla edit?
                                                                         40            Carla edits 3 papers, charges P = 36
  A                 40                          40
                                                                         36              TC = 3 x $29 = $87
  B                 38                          76                                       TR = 3 x $36 = $108
                                                                         32
  C                 36                        108                                        Economic profit = $108 - $87 = $21/wk
                                                                         28
  D                 34                        136
                                                                         24
  E                 32                        160
                                                                         20
  F                 30                        180
                                                                         16
  G                 28                        196
                                                                         12
  H                 26                        208

          Chapter 9: Monopoly and Other Forms of Imperfect Competition    Slide 37           Chapter 9: Monopoly and Other Forms of Imperfect Competition   Slide 38




      Why the Invisible Hand Breaks                                                     Why the Invisible Hand Breaks
      Down Under Monopoly                                                               Down Under Monopoly

How many manuscripts should Carla                                                    If Carla can price discriminate, how
edit?                                                                                many papers will she edit?
  Reservation price > opportunity cost for                                             Assume Carla can charge each student the
  student A to F                                                                       reservation price.
  Socially efficient number is 6
      TR = 6 x $30 = $180
      TC = 6 x $29 = $174
      Economic profit = $180- $174 = $6



          Chapter 9: Monopoly and Other Forms of Imperfect Competition    Slide 39           Chapter 9: Monopoly and Other Forms of Imperfect Competition   Slide 40




                                                                                        Using Discounts
      Example
                                                                                        to Expand the Market
                                    Reservation
               Student                 price                                         Perfectly Discriminating Monopolist
                                                                                       Charging each buyer exactly their
                    A                      40        • Carla would edit A to F         reservation price
                                                     • TR = $40 + $38… = $210
                    B                      38        • TC = 6 x $29 = $174               Economic surplus is maximized
                                                     • Economic Profit =
                    C                      36
                                                       $210 - $174 = $36/wk
                                                                                         Consumer surplus is zero
                    D                      34        • Economic Profit is $30            Economic surplus = producer surplus
                                                       more
                    E                      32
                    F                      30
                    G                      28
                    H                      26
          Chapter 9: Monopoly and Other Forms of Imperfect Competition    Slide 41           Chapter 9: Monopoly and Other Forms of Imperfect Competition   Slide 42




                                                                                                                                                                       7
   Using Discounts                                                                   Using Discounts
   to Expand the Market                                                              to Expand the Market

Profit-maximizing seller’s goal is to                                             The Hurdle Method of Price
charge each buyer his/her reservation                                             Discrimination
price.                                                                              The practice of offering a discount to all
Limitations to price discrimination                                                 buyers who overcome some obstacle.
  Seller will not know each buyer’s
  reservation price.
  Low price buyers could resell to other
  buyers at a higher price.


        Chapter 9: Monopoly and Other Forms of Imperfect Competition   Slide 43           Chapter 9: Monopoly and Other Forms of Imperfect Competition   Slide 44




   Using Discounts                                                                   Using Discounts
   to Expand the Market                                                              to Expand the Market

Examples of Price Discrimination                                                  Is price discrimination bad?
  Mail-in rebates
  Temporary Sales
  Book publishers and paperback books
  Automobile producers offer various models
  Commercial air carriers
  Movie producers



        Chapter 9: Monopoly and Other Forms of Imperfect Competition   Slide 45           Chapter 9: Monopoly and Other Forms of Imperfect Competition   Slide 46




   Using Discounts                                                                   Using Discounts
   to Expand the Market                                                              to Expand the Market

Economic Naturalist                                                               Summary
  Why might an appliance retailer instruct its                                      Single price monopolies are inefficient
  clerks to hammer dents into the sides of its                                      because P > MR.
  stoves and refrigerators?                                                         Price discrimination reduces the
                                                                                    inefficiency.
                                                                                    The more finely the seller can discriminate,
                                                                                    the smaller the efficiency loss.
                                                                                    Some inefficiency likely to remain.


        Chapter 9: Monopoly and Other Forms of Imperfect Competition   Slide 47           Chapter 9: Monopoly and Other Forms of Imperfect Competition   Slide 48




                                                                                                                                                                    8
   Public Policy Toward                                                              Public Policy Toward
   Natural Monopoly                                                                  Natural Monopoly

Should we regulate natural monopolies?                                            Methods of Controlling Natural
How?                                                                              Monopolies
Methods of Controlling Natural                                                      State regulation of private monopolies
Monopolies                                                                            Cost-plus regulation
                                                                                       o High administrative cost
  State ownership and management                                                       o Less incentive for innovation
    Marginal cost pricing                                                              o P does not equate to MC
    Less incentive for innovation




        Chapter 9: Monopoly and Other Forms of Imperfect Competition   Slide 49           Chapter 9: Monopoly and Other Forms of Imperfect Competition   Slide 50




   Public Policy Toward                                                              Public Policy Toward
   Natural Monopoly                                                                  Natural Monopoly

Methods of Controlling Natural                                                    Methods of Controlling Natural
Monopolies                                                                        Monopolies
  Exclusive contracting for natural monopoly                                        Vigorous enforcement of anti-trust laws
    Competition for the contract sets P = MC                                          Helps prevent cartels
    Difficulty when fixed costs are high such as                                      May prevent economies of scale
    electric utilities




        Chapter 9: Monopoly and Other Forms of Imperfect Competition   Slide 51           Chapter 9: Monopoly and Other Forms of Imperfect Competition   Slide 52




                                                                                                                                                                    9

								
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