L5 Profit Maximization

# L5 Profit Maximization - Chapter 9 Monopoly Oligopoly and...

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1 Chapter 9: Monopoly, Oligopoly, and Monopolistic Competition A. Total revenue and marginal revenue B. Total cost, marginal cost and fixed cost C. Profit maximization Proposition: any firm maximizes profit by setting marginal revenue equal to marginal cost First method of proof: calculus TR ± total revenue TC ± total cost TR " TC ± profit Firm maximizes profit by finding derivative of profit with respect to Q and setting it to zero d ± TR " TC   dQ ± 0 requires d ± TR   dQ ± d ± TC   dQ or marginal revenue ± marginal cost Second method of proof: intuition Suppose the firm wasn’t following our advice, and operated at a level where MR > MC

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2 Then if it produced one more unit: • its revenues would go up by MR • its costs would go up by MC • if MR > MC, its revenues would go up by more than its costs if it produced one more unit • Conclusion: if MR > MC, firm can increase profits by producing one more unit Or, suppose instead the firm wasn’t following our advice, and operated at a level where MR < MC Then if it produced one less unit: • its revenues would go down by MR (bad) • its costs would go down by MC (good) • if MR < MC, its cost savings more than make up for lost revenue • Conclusion: if MR < MC, firm can increase profits by producing one less unit
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L5 Profit Maximization - Chapter 9 Monopoly Oligopoly and...

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