Chapter 5.4 6 Monopoly Chapter 5.4 6 Monopoly. REVENUE Revenue curves when price varies with output...

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Chapter 5.4 &6Monopoly

REVENUEREVENUE

• Revenue curves when price varies with output (downward-sloping demand curve)

Revenues for a firm facing a downward sloping Revenues for a firm facing a downward sloping demand curvedemand curve

REVENUEREVENUE

• Revenue curves when price varies with output (downward-sloping demand curve)– average revenue (AR)

REVENUEREVENUE

– marginal revenue (MR)

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ARAR and and MRMR curves for a firm facing a downward-sloping curves for a firm facing a downward-sloping D D curvecurveQ

(units)1234567

P =AR(£)8765432

D= ARAR

Quantity

• TR at P=6, Q = 3 is 18TR at P=6, Q = 3 is 18• TR at P=5, Q = 4 is 20TR at P=5, Q = 4 is 20• So MR = 2So MR = 2

• Alternative Story:Alternative Story:• Gain from selling one more unit = 5Gain from selling one more unit = 5• But now have reduced price from 6 to 5 on the first But now have reduced price from 6 to 5 on the first

three units sold.three units sold.• So losing 3*£1=£3 as a resultSo losing 3*£1=£3 as a result• MR = price of extra unit (5) less price reduction on MR = price of extra unit (5) less price reduction on

all units sold previously (3) = 5 – 3 = 2all units sold previously (3) = 5 – 3 = 2

Revenues for a firm facing a downward sloping Revenues for a firm facing a downward sloping demand curvedemand curve

1 2 3 4 5 6 7

Q(units)

1234567

P =AR(£)8765432

TR(£)

8141820201814

MR(£)

Quantity

ARAR and and MRMR curves for a firm facing a downward-sloping curves for a firm facing a downward-sloping D D curvecurve

Why is the MR curve below the Demand Why is the MR curve below the Demand CurveCurve

dQdTRMR QPTRbut .

dQQPdMR ].[

Do differentiate P.Q we use the product rule. Let u=P and

dQdPQP

Why is the MR curve below the Demand Why is the MR curve below the Demand Curve?Curve?

dQdTRMR

dQdPQP

Why is the MR curve below the Demand Why is the MR curve below the Demand Curve?Curve?

•MR = price of extra unit (5) less price MR = price of extra unit (5) less price reduction on all units sold previously (3) reduction on all units sold previously (3)

•= 5 – 3 = 2= 5 – 3 = 2

dQdPQP

1 2 3 4 5 6 7

Q(units)

1234567

P =AR(£)8765432

TR(£)

8141820201814

MR(£)

Quantity

REVENUEREVENUE

– total revenue (TR)

0 1 2 3 4 5 6 7

TRTR curve for a firm facing a downward-sloping curve for a firm facing a downward-sloping DD curve curve

Quantity

TR (£

Quantity(units)

1234567

P = AR(£)

8765432

TR(£)

8141820201814

0 1 2 3 4 5 6 7

Quantity

TR (£

Quantity(units)

1234567

P = AR(£)

8765432

TR(£)

8141820201814

0 1 2 3 4 5 6 7

Quantity

TR (£

REVENUEREVENUE

– revenue curves and price elasticity of demand

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Elasticity = -1Elastic

Inelastic

Quantity

MONOPOLYMONOPOLY

• Essential Characteristics of the monopolist's demand curve– downward sloping– MR below AR

Profit maximising under monopolyProfit maximising under monopoly

MONOPOLYMONOPOLY

• The monopolist's demand curve– downward sloping– MR below AR

• Equilibrium price and output

Profit maximising under monopolyProfit maximising under monopoly£

MR=MC rule still applies

Determines Qm

Given MR=MC, we

then find Price at Qm

..and profits?

What is the supply curve for the monopolist?What is the supply curve for the monopolist?There isn’t

Why not?

Q O Qm

What is the supply curve for the monopolist?What is the supply curve for the monopolist?The Supply Curve is a unique relationship between Price and

Quantity

What is the supply curve for the monopolist?What is the supply curve for the monopolist?

But here not unique

What is the supply curve for the monopolist?What is the supply curve for the monopolist?

The Supply Curve is a unique relationship between Price and

Quantity

Here we found that monopolist will

supply the same amount at two different prices

So no Supply Curve

Q O Qm

What is the supply curve for the monopolist?What is the supply curve for the monopolist?The Supply Curve is a unique relationship between Price and

Quantity

Here we found that monopolist will

supply the same amount at two different prices

MONOPOLYMONOPOLY

• Defining monopoly• Barriers to entry• Natural monopoly

MONOPOLYMONOPOLY

• Defining monopoly• Barriers to entry

– economies of scale– product differentiation and brand loyalty– lower costs for an established firm– ownership or control over key factors– ownership or control over outlets– legal restrictions– mergers and takeovers– aggressive tactics– intimidation

• Natural monopoly

Natural MonopolyNatural Monopoly£

Long –Run average cost curve is downward sloping

When will this occur?

If there are large Fixed Costs and small MC

MONOPOLYMONOPOLY

• Disadvantages of monopoly– high prices / low output: short run

AR = D

Equilibrium of industry under perfect competition and monopoly:Equilibrium of industry under perfect competition and monopoly: with the same with the same MCMC curve curve

AR = D

MC ( = supply under perfect competition)

Equilibrium of industry under perfect competition and monopoly:Equilibrium of industry under perfect competition and monopoly: with the same with the same MCMC curve curve

AR = D

MONOPOLYMONOPOLY

• Disadvantages of monopoly– high prices / low output: short run– high prices / low output: long run (Profits not

eliminated)

MONOPOLYMONOPOLY

• Disadvantages of monopoly– high prices / low output: short run– high prices / low output: long run– lack of incentive to innovate

MONOPOLYMONOPOLY

• Disadvantages of monopoly– high prices / low output: short run– high prices / low output: long run– lack of incentive to innovate– X-inefficiency

MONOPOLYMONOPOLY

• Advantages of monopoly

MONOPOLYMONOPOLY

• Advantages of monopoly– economies of scale

Industry Demand CurveIndustry Demand Curve£

If two firms in the industry (A Duopoly) the demand curve for

each is D1

At prices above Pmax competitor gets all the

businessDD

This industry is uncompetitive with two

And no production occurs

With one firm, however, equilibrium occurs at Qm

An alternative version of the story is to examine an An alternative version of the story is to examine an industry where the cost curve an individual firm industry where the cost curve an individual firm

faces falls as the scale of production rises.faces falls as the scale of production rises.

SO now we are going to examine the Equilibrium of SO now we are going to examine the Equilibrium of industry under perfect competition and monopoly:industry under perfect competition and monopoly:

with with different different MCMC curvescurves

MC ( = supply)perfect competition

P2=MR. =MC

AR = D

Equilibrium of industry under perfect competition and monopoly:Equilibrium of industry under perfect competition and monopoly:with different with different MCMC curves curves

MCmonopoly

AR = D

P2=MR. =MC

MCmonopoly

AR = D

P2=MR. =MC

MCmonopoly

AR = D

P2=MR. =MC

MCmonopoly

AR = D

Note Monopoly is better as long as the new MC curve lies below Note Monopoly is better as long as the new MC curve lies below point xpoint x

P2=MR. =MC

MCmonopoly

AR = D

Suppose a regulator set the price at PSuppose a regulator set the price at P3 3 (Average Cost Pricing). How (Average Cost Pricing). How would this effect the behaviour of the monopolists?would this effect the behaviour of the monopolists?

MCmonopoly

AR = D

Suppose a regulator set the price at PSuppose a regulator set the price at P3 3 (Average Cost Pricing). How (Average Cost Pricing). How would this effect the behaviour of the monopolists?would this effect the behaviour of the monopolists?

MONOPOLYMONOPOLY

• Advantages of monopoly– economies of scale– profits can be used for investment (Dodgy)

MONOPOLYMONOPOLY

• Advantages of monopoly– economies of scale– profits can be used for investment (dodgy!!)– promise of high profits encourages risk taking (Still a bit

dodgy – what is appropriate risk taking?)

MONOPOLYMONOPOLY

• The monopolist's demand curve– downward sloping– MR below AR

• Equilibrium price and output• Limit pricing

Limit pricingLimit pricing

AC monopolist

AC new entrant

AC monopolist

AC new entrant

AC monopolist

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Elasticity = -1

Elastic

Inelastic

Quantity

TR (£

REVENUEREVENUE

– revenue curves and price elasticity of demand

• Shifts in revenue curves

PROFIT MAXIMISATIONPROFIT MAXIMISATION

• Using total curves– maximising the difference between TR and TC

Finding maximum profit using total curvesFinding maximum profit using total curvesTR

Quantity

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• Using total curves– maximising the difference between TR and TC– the total profit curve

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Quantity

Finding maximum profit using total curvesFinding maximum profit using total curves

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Quantity

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1012141618202224

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Quantity

• Using marginal and average curves

• Using marginal and average curves– stage 1:

profit maximised where MR = MC

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Quantity

)Finding the profit-maximising output using marginal curvesFinding the profit-maximising output using marginal curves

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Finding the profit-maximising output using marginal curvesFinding the profit-maximising output using marginal curvesMC

Quantity

Profit-maximising outpute

• Using marginal and average curves– stage 1:

profit maximised where MR = MC– stage 2:

using AR and AC curves to measure maximum profit

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Quantity

Profit-maximising outpute

MCFinding the profit-maximising output using marginal curvesFinding the profit-maximising output using marginal curves

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Measuring the maximum profit using average curvesMeasuring the maximum profit using average curves

Quantity

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Quantity

6.004.50

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Quantity

6.004.50 TOTAL PROFITTOTAL PROFIT

• Some qualifications– long-run profit maximisation– the meaning of profit

• What if a loss is made?– loss minimising:

still produce where MR = MC

Loss-minimising outputLoss-minimising output

Quantity

LOSSLOSS

still produce where MR = MC– short-run shut-down point:

P = AVC

The short-run shut-down pointThe short-run shut-down point

Quantity

)The short-run shut-down pointThe short-run shut-down point

Quantity

AVCACP =

The short-run shut-down pointThe short-run shut-down point

still produce where MR = MC– short-run shut-down point:

P = AVC– long-run shut-down point:

P = LRAC

Chapter 5.4 6 Monopoly Chapter 5.4 6 Monopoly. REVENUE Revenue curves when price varies with output...

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