1 / 14

Lecture 1: Review of Monopoly

Lecture 1: Review of Monopoly. Pricing by a Firm with Market Power Total Revenue (TR) = PQ. Average Revenue (AR) = TR/Q=P. Marginal Revenue = Revenue from an additional unit = D TR/ D Q = d(TR)/dQ. Marginal Revenue is lower than Average Revenue (price). Why?.

kimn
Download Presentation

Lecture 1: Review of Monopoly

An Image/Link below is provided (as is) to download presentation Download Policy: Content on the Website is provided to you AS IS for your information and personal use and may not be sold / licensed / shared on other websites without getting consent from its author. Content is provided to you AS IS for your information and personal use only. Download presentation by click this link. While downloading, if for some reason you are not able to download a presentation, the publisher may have deleted the file from their server. During download, if you can't get a presentation, the file might be deleted by the publisher.

E N D

Presentation Transcript

  1. Lecture 1: Review of Monopoly Pricing by a Firm with Market Power Total Revenue (TR) = PQ Average Revenue (AR) = TR/Q=P Marginal Revenue = Revenue from an additional unit = DTR/DQ = d(TR)/dQ Marginal Revenue is lower than Average Revenue (price). Why? MR = d(TR)/dQ = P + Q dP/dQ < P

  2. $ $ Q Q Increase Q if MR > MC Decrease Q if MR < MC Optimum: MR = MC MR=MC p* P* D MR MC Q* Q*

  3. Example: Automobile Industry Pricing Toyotas. Suppose that the demand for Toyotas is given by P =12000-Q, and MC =$3000. Assume than unit costs are $3000 per vehicle and fixed costs=$7,500,000 TR=PQ= (12000-Q)Q = 12000Q-Q2 MR=12000-2Q TC= 7,500,000 + 3000Q MC=3000 MR=MC implies that Q*=4500

  4. Price (from demand curve) = 12000-4500=7500 Profits = PQ - VC - FC Profits = 7500*4500-3000*4500-$7,500,000 Profits = 20,250,000 –7,500,000=$12,750,000 • Another way to solve problem • = TR - TC = 12000Q- Q2 - (3000Q + 7,500,000) • = 9000Q - Q2 -7,500,000. d /dQ = 9000 – 2Q=0 which implies Q*=4500 as before. F Note that the fixed costs only affect the decision whether to produce or not and not how much to produce.

  5. Optimal Pricing, margins and the elasticity of demand It can be shown that MR = p + Q dp/dQ = p (1-1/e) From the above equation MR=MC can be rewritten in two ways: marginº (p-MC)/p = 1 / e p = MC / (1-1/e) P P D D MR MR MC MC Q Q + low e, high m + high e, low m

  6. Example: Automobile Industry Pricing Toyotas in Two Different Markets Market 1 (US) P1 =12000-Q1, MC1 =3000 Market 2 (Japan) P2=14000-2Q2, MC2=2000 Optimal Prices: P(US)=$7500, P(JAPAN)= $8000 Is this dumping? How can the price in the U.S. exceed the price in Japan? e1 = 1.66, -(dQ1 /dP1) P1/Q1 e2 = 1.33, -(dQ2 /dP2) P2/Q2

  7. Monopolist with multiple plants Example Demand: P=100-Q Plant 1: TC1=2Q12 Plant 2: TC2=Q22. Optimal MR=MC1=MC2 MC1= 4Q1, MC2=2Q2. MC1=MC2 implies that Q2=2Q1. Q= Q1+Q2 = 3Q1. TR=100Q-Q2. Thus, MR=100-2Q=100-6Q1.

  8. MR=MC implies that 100-6Q1=4Q1or Q1=10. Since Q2=2Q1, Q2=20 and Q=30. Check: When Q=30, MR=40, MC1= 4Q1=40 , MC2= 2Q2=40.

  9. Bundling Suppose there are two goods (A,B): There are three possible pricing strategies (options:) separate pricing – pA and pB only Pure bundling –pAB only Mixed bundling – pA , pB , and pAB Examples: ‘Hot Triple’ and restaurant pricing

  10. Value of A Buys A only Buys both Individual Pricing pA Buys B only Buys nothing pB Value of B

  11. Pure Bundling pAB = x Buys bundle Value of A Buys nothing pAB = x Value of B

  12. Mixed BundlingI,II,III, IV – buys both; V,VI buys B; VII,VIII buys A VIII pAB=12 IV I VII pA=8 II III 4 VI V pAB=12 4 pB=8

  13. Profitability of Mixed Bundling • For a monopoly, mixed bundling always (weakly) better than pure bundling • Trade off between mixed bundling and separate pricing • In mixed bundling, price of bundle less than the price of individual goods • Optimal strategy depends on distribution of consumers and costs

  14. Example • Cost of entrée (A) = $6, cost of desert (B) =$2 • Three types of consumers with following reservation values: (10,1) (8,4) (5,4) • Individual pricing: pA=8, pB=4, π=2(8-6)+2(4-2)=8 (could also charge pA=10, pB=4, π=(10-6)+2(4-2)=8) • Pure bundling pricing: pAB=11, π=2(11-8)=6 • Mixed bundling pricing: pA=10, pB=4, pAB=11.99, π=(10-6)+(4-2)+(11.99-8)=9.99 • What about pricing bundle at 10.99? π=2(10.99-8)+(4-2) =7.98

More Related