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# slides7 - Monopoly ECG 507 Professor Allen Fall 2005 1....

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Monopoly ECG 507 Professor Allen Fall 2005

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1. Setting the stage Review of Perfect Competition P = LMC = LRAC Normal profits or zero economic profits in the long run Large number of buyers and sellers Homogenous product Perfect information Firm is a price taker
2. Monopoly Key features 1) One seller 2) One product (no good substitutes) 3) Barriers to entry

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3. Question for class What are some examples of industries dominated by a single seller?
4. Strategies for wannabe monopolists “You might be a monopolist if” You control scarce inputs You have huge economies of scale You have the right patents You have friends in government

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5. Output decision Goal: maximize Π = P(Q)Q – C(Q) This happens when d Π /dQ = P(Q) + (dP/dQ)Q – dC/dQ = 0 P(Q) + (dP/dQ)Q = dC/dQ MR = MC
6. Pricing decision Rewrite P(Q) + (dP/dQ)Q – dC/dQ = 0 as P + (dP/dQ)Q = MC Multiply/divide second term on LHS by P P + P(dP/dQ)(Q/P) = MC

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7. Pricing decision Recall E d = (dQ/dP)/(P/Q) P+ P(1/ E d ) = MC P(1 + (1/ E d )) = MC P = MC/(1 + (1/ E d ))
8. Key results on pricing P = MC/(1 + (1/ E d )) P > MC always Output always in elastic segment of demand Markup of P over MC smallest for goods with most elastic demand

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9. Elasticity of Demand and Price Markup \$/ Q \$/ Q Quantity Quantity D MR MR D MC MC Q* Q* P* P* P*-MC P*-MC The more elastic is demand, the less the markup.
10. Example using linear demand Demand: P = a – bQ Total revenue: TR = Q(a-bQ) = aQ – bQ 2 Marginal revenue: MR = dTR/dQ = a –2bQ MR has same vertical intercept as demand Slope of MR twice as steep as demand

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11. Demand and Marginal Revenue Output 0 1 2 3 \$ per unit of output 1 2 3 4 5 6 7 4 5 a= 6 7 Demand Marginal Revenue
12. Simple example Demand: P = 80 - 2Q; TR = 80Q - 2Q 2 Cost: TC = 100 + 2Q 2 Set MR = MC where 80 - 4Q = 4Q; Q =10 P = 80 - 2Q = 60 Π = 600 – 300 = 300

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13. Profit Maximized When Marginal Revenue = MC Quantity \$ per unit of output D MR MC P* Q* AC
14. Profit Maximized When

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## This note was uploaded on 08/01/2008 for the course ECG 507 taught by Professor Allen during the Fall '05 term at N.C. State.

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slides7 - Monopoly ECG 507 Professor Allen Fall 2005 1....

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