economics 111.3 winter 14 march 28 th, 2014 lecture 28 ch. 12: perfect competition ch. 13: pure...

Economics 111.3 Winter 14

March 28th, 2014Lecture 28

Ch. 12: Perfect competitionCh. 13: Pure monopoly

FINAL EXAM is based on chapters 3, 4, 5 (up to p. 116), 6 (up to p. 138), 8, 9, 10 (up to p. 230, 11, 12, 13, and 14Its format: 100 Multiple-Choice Questions When and Where: April 21, from 7:00 p.m. to 10:00 p.m; STM 140Extra Office Hours: April 19, from1:00 p.m. to 3:00 p.m.

Final Exam:

Note:

• For questions take all companies (firms) are identical in the market.

Long-run Supply• It shows how the quantity supplied in a

market varies as the market price varies after all possible adjustments have been made, including changes in each firm’s plant and the number of firms in the market

• NB! Crucial factor is whether the number of firms in the industry affects the costs of individual firms

• CONSTANT-COST INDUSTRY means that industry expansion or contraction will not affect resource prices and therefore production costs. Increase in demand causes an expansion in industry output, but no alterations in price. Decrease in demand causes a contraction of output, but no change in price. This means that the long-run industry supply curve is HORIZONTAL.

LR Supply curve

ANSWER SHOWN BELOW:

• INCREASING-COST INDUSTRY means that the entry of firms in response to increases in demand will bid up resource prices and thereby increase unit costs. The long-run industry supply curve therefore SLOPES UPWARD.

• DECREASING-COST INDUSTRY means that firms may experience lower costs as the industry expands. That is why the long-run supply curve of a decreasing cost industry is DOWNSLOPING.

Long-Run Changes in Price and Quantity

Constant-cost industry

Increasing-cost industry

Decreasing-cost industry

Quantity

Pri

ce

P0

Q0

S0

Quantity

Pri

ce

P0

Q0

D0

S0

Quantity

Pri

ce

P0

Q0

D0

D1 D1 D1

S0Ps Ps Ps

Qs Qs Qs

LSA LSC

S1

Q1

S3

P3

Q3

S2

P2

Q2

LSB

D0

STUDY QUESTION:

Suppose an increase in product demand occurs in a decreasing-cost industry. As a result:

a) The new long-run equilibrium price will be lower than the original long-run price.

b) Equilibrium quantity will decline.c) Firms will eventually leave the industry.d) The new long-run equilibrium price will

be higher than the original price.

STUDY QUESTION:

Suppose an increase in product demand occurs in a decreasing-cost industry. As a result:

a) The new long-run equilibrium price will be lower than the original long-run price.

b) Equilibrium quantity will decline.c) Firms will eventually leave the

industry.d) The new long-run equilibrium

price will be higher than the original price.

ANSWER SHOWN BELOW:

Ch. 13: Pure Monopoly

Introduction• Monopoly is a market structure in which a

single firm makes up the entire supply side of the market.

• Monopoly is the polar opposite of perfect competition.

Characteristics:• Single seller• No close substitutes• Price-maker• Blocked entry

Barriers to Entry include• Legal barriers that create a legal monopoly

A legal monopoly is a market in which competition and entry are restricted by the granting of a

Public franchise (like the Canada Post, a public franchise to deliver first-class mail)

Government license (like a license to practice law or medicine)

Patent or copyright• Ownership Barriers (if one firm owns a significant portion of a

key resource. For example, during the last century, De Beers owner 90 percent of the world’s diamonds)

• Natural barriers such as the technology and size of the market that can support only one firm.

Quantity (millions)

$20

15

10

0 50 100 200

ATC

DEconomies of Scale

Monopoly Demand

Three basic assumptions:• Monopoly status is

secured• Firm is not

governmentally regulated

• Firm charges the same price for all units

• Monopolist as the only supplier faces the entire market demand curve.

• As a result, monopoly demand is downward sloping, and to increase output the firm must decrease its price.

• When a monopoly increases production by one unit, it must reduce the price it charges for every unit it sells, and this cut in price reduces revenue on the units it was already selling.

P

Q

D

revenue will increase by $132

with the extra unit sold

132

When price decreases from $142 to $132, onemore unit is sold….

Gain = $132

$142

1 2 3 4 5 6

1 2 3 4 5 6

P

Q

D

but revenue loss= $10 X 3 unitsLoss = $30

When price decreases from $142 to $132, onemore unit is sold….

Gain = $132Marginal revenue = $132-30= $102 < $132 (price)

Marginal revenue = $132-30= $102 < $132 (price)

132$142

The Key Difference Between a Monopolist and a Perfect Competitor

Marginal revenue is not equal to its price – it takes into account that in order to sell more it has to decrease the price of its product.

Q P TR0 $172

1 162

2 152

3 142

4 132

5 122

6 112

7 102

8 92

9 82

10 72

Q P TR0 $172 $ 0

1 162 162

2 152 304

3 142 426

4 132 528

5 122 610

6 112 672

7 102 714

8 92 736

9 82 738

10 72 720

MR

Q P TR0 $172 $ 0

1 162 162

2 152 304

3 142 426

4 132 528

5 122 610

6 112 672

7 102 714

8 92 736

9 82 738

10 72 720

MR

$162]

Q P TR0 $172 $ 0

1 162 162

2 152 304

3 142 426

4 132 528

5 122 610

6 112 672

7 102 714

8 92 736

9 82 738

10 72 720

MR

$162

142

122

102

82

62

42

22

2

-18

Notice that MR < pNotice that MR < p

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Monopoly Demand: a summary

1. Marginal revenue is less than price2. The monopolist is a price-maker3. The monopolist sets prices in the

elastic region of demand

The Monopolist’s Price and Output Graphically

• To determine the profit-maximizing price and quantity: – one first finds output (where MC = MR), and then – extends a vertical line for that output,

up to the demand curve to find the price (Pm).