101+Class+25+W2009 - Principles of Economics I Economics...

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Unformatted text preview: Principles of Economics I Economics 101 Announcements Readings: Chapter 11: Competitive Markets Chapter 14: Monopoly Discussion Sections this week Final Exam Tuesday, April 28, 10:30 12:30 P, MR ($) A/b Marginal Revenue Demand: Q = A b P Inverse demand: P = A/b Q/b Marg. Revenue: MR = A/b 2Q/b Demand A/2 A MR Q P, MR ($) A/b P1 P2 Marginal Revenue Demand: Q = A b P Area A = Q . P A B A Area B = P2 = Area A + Area C Area C = Area B Area A = P Q . P = MR Q P C Q Q+1 D A/2 MR A Q=1 Profit Maximization Marginal Revenue (MR) = Increase in revenue generated by selling an additional unit of output If MR > MC increase output If MR < MC decrease output Profits are maximized when MR = MC P, MR, MC, AC ($) Marginal Revenue Producer Surplus Profits MC P AC AC Demand Q* Q MR Inefficiencies of Monopoly P Gain in producer surplus/profits (transfer from consumers) Deadweight Loss Lost consumer surplus Pmon Pcomp Loss in producer surplus/profits Demand Qmon MC (Supply) Qeff MR Q Monopoly Monopolist restricts output below the efficient level Prices are higher than competitive market would produce Consumers are worse off Producers are better off Social surplus is lower (i.e. DWL) Antitrust Regulation The inefficiency of monopoly makes monopoly undesirable Regulations exist to protect the market from "failure" due to monopoly Administered by the Justice Department and the Federal trade Commission Barriers to Entry Some monopolies are tolerated, and some are even protected. How do monopolies persist in the face of antitrust regulation? Control of a key raw material Patents and copyright Public franchises Is Monopoly Always A Bad Thing? What if Average costs of production are lower when a single firm produced all output? Network externalities mean significant benefits from having only one supplier i.e "Economies of Scale" Natural Monopoly Situation where the most efficient allocation of resources involves only one producer Economies of Scale AC Economies of Scale Diseconomies of Scale LRAC Min LRAC Demand Q* Q Example: TC = F + cQ ATC, AVC, P ($) AFC AFC AFC AFC ATC AVC=MC=c Demand Q Natural Monopoly and Economies of Scale This type of natural monopoly usually associated with large fixed costs of operation Examples: This is what ensures AC decreases over a large range of outputs Efficient not to duplicate the large fixed cost Public Utilities Contrast electricity generation and electricity delivery The Natural Monopoly Problem With significant economies of scale, we wish to limit entry into the industry in order to reduce production costs By erecting barriers to entry, give the monopolist incentives to restrict output below the efficient level Argument for instituting a monopoly and regulating its behavior In many countries these industries have been nationalized Price Regulation of Natural Monopolist Institute a monopoly; and Impose price controls Which price do you want the monopolist to charge? Attempt to force the monopolist to act efficiently Set P = MC But if AC is decreasing, we know that MC < AC P = MC < AC monopolist makes a loss Regulating the Natural Monopolist MC,A C, P ($) Profit PM Deadweight Loss Loss AC MR QM Q* ACM ACreg Preg MC Q Demand Regulating the Monopolist MC pricing will force the firm to exit the industry Options Nationalize the industry Nationalized industry can sustain losses Regulate using a higher price AC pricing If P = AC, then firm breaks even If P = AC and AC > MC then outcome is inefficient Regulating the Natural Monopolist MC,A C, P ($) Deadweight Loss Preg AC MC Demand Qreg Q* Q Regulating Natural Monopoly Options Incentive Problems AC Pricing Nationalization Subsidies Little or no incentive to operate efficiently Cost padding How to measure costs accurately OVERVIEW How should resources be allocated? PARETO EFFICIENCY How well does the market allocate resources? MARKET SUCCESS PERFECTLY COMPETITIVE ENVIRONMENTS M FA AR IL KE UR T E BARRIERS TO ENTRY: Monopoly Natural Monopoly 21 MISSING MARKETS: Externalities and Public Goods ...
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This note was uploaded on 05/16/2010 for the course ECON Section 40 taught by Professor Hogan during the Winter '09 term at University of Michigan.

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