10.01.08

10.01.08 - ECONOMICS 1 Professor Kenneth Train Lecture 10...

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ECONOMICS 1 Professor Kenneth Train 10/01/08 Lecture 10 ASUC Lecture Notes Online is the only authorized note-taking service at UC Berkeley. Do not share, copy or illegally distribute (electronically or otherwise) these notes. Our student-run program depends on your individual subscription for its continued existence. These notes are copyrighted by the University of California and are for your personal use only. D O N O T C O P Y Sharing or copying these notes is illegal and could end note taking for this course. ANNOUNCEMENTS Midterm Monday. 2 nd problem set answers on website List of review sessions on the website LECTURE Hope you know we’re having a midterm on Monday. Anyone can go to any of the review sessions. You’ve seen what kind of exam it is going to be. You don’t need a blue book. Questions? This week’s lectures are not covered on the midterm, so there won’t be oligopoly or natural monopoly on it. REGULATION OF NATURAL MONOPOLY Today we will talk about the regulation of a natural monopoly. We have desirable aspects of competition and undesirable aspects of monopoly behavior. However, in some situations it’s cheaper to have a monopoly, but you don’t want it to act in a way the monopoly would act. So the solution is to regulate it; that’s what I want to talk about today. THREE PERTINENT QUESTIONS 1. How do you know when you have a natural monopoly? 2. What is the optimal price for a natural monopoly? 3. How do you regulate it to attain the optimal price? Let’s go through them one at a time. 1. Is there a natural monopoly? You want to compare the min of AC curve with the demand curve. If the min of AC is large compared to demand, you want to have only one firm: For example, the min of AC is towards the middle here. If you broke the firm up into two, the demand curve would shift over and over to a higher AC. One firm is best for the structure of this industry. You have both curves determined independently, by technology (AC) and by consumers (D). Therefore, either of these could change from a natural monopoly to another market form. One firm is best here. Now here you would want to have five or six firms and that’s probably enough:

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ECONOMICS 1 ASUC Lecture Notes Online: Approved by the UC Board of Regents 10/1/08 D O N O T C O P Y Sharing or copying these notes is illegal and could end note taking for this course. 2 Let’s look at two important examples, telecommunications and electricity. EXAMPLE: Telecommunications You want to look at the technology behind the cost. Telecommunications actually exists as three different parts. For landline phones, the call goes from your house, the origin, to the central office, to another central office, to the destination: In the early days, they recognized that this entire system was a natural monopoly. If the central offices are on different companies, then there would be some cities that you could not call. This technology is a natural monopoly. Having more firms (and more lines) would just add to the cost. Having each person served by the same carrier is
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10.01.08 - ECONOMICS 1 Professor Kenneth Train Lecture 10...

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