P&R10 - Pindyck and Rubinfeld Microeconomics Sixth...

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Pindyck and Rubinfeld, Microeconomics, Sixth Edition Chapter 10 : Market Power: Monopoly and Monopsony Page 1 I. Introduction A. This is one of the best discussions of market power in any microeconomics text book. 1. Seldom is pure monopoly an issue as most significant ones are regulated. 2. Of greater interest is industries with only a limited number of firms each of which has some discretion over its price. 3. We will address when sellers have market power (monopoly) and when buyers have market power (monopsony). 4. Market power is the ability of a seller or buyer to affect the price of a good. II. Monopoly A. The book only slowly gets to the basis for monopoly power. 1. Remember that it is the ability to keep people out in the face on economic profits. a. Economies of scale, b. Legal restrictions on entry, c. Lack of knowledge about the profitability and d. Potentially control over a unique resource. B. A monopoly is a market with one seller and many buyers. 1. The author uses this textbook as an example 2. It is rare. C. Average Revenue and Marginal Revenue 1. Marginal revenue is the change in revenue resulting form a one unit increase in output. 2. Table 10.1: Total, Marginal, and Average Revenue, p. 341. 3. Figure 10.1: Average and Marginal Revenue, p. 341. a. Remember: AR = P = a - bQ b. TR = P*Q = aQ - bQ 2 c. MR = dTR/dQ = a - 2bQ (1) AR and MR have the same intercept with MR having a slope that is twice the value of AR. D. The Monopolist’s Output Decision 1. A monopolist does not have a supply curve. 2. Profit is maximized when marginal revenue equals marginal cost a. Figure 10.2: Profit is Maximized When Marginal Revenue Equals Marginal Cost, p. 342. b. Figure 10.3: Example of Profit Maximization, p. 344. E. A Rule of Thumb for Pricing 1. The smaller the absolute value of the price elasticity, the larger the markup. 2. (P - MC) / P = - 1/E d (10.1) 3. P = MC/(1 + (1/E d )) (10.2) 4. Since you would seldom know your elasticity, this means that if you think that your markup does up as your elasticity does down.
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