Understanding Monopoly Pricing and Cost Curves

Key Concepts

• Price and Quantity
  • Price is on the vertical axis
  • Quantity is on the horizontal axis
• Marginal Costs (MC)
  • Cost of producing each additional unit
• Marginal Revenue (MR)
  • Revenue earned by selling one additional unit

Profit Maximization

• Firms maximize profits where marginal cost (MC) equals marginal revenue (MR).
• Competitive Market
  • Marginal revenue is flat; price is constant regardless of quantity.
  • Firms are price takers; they cannot influence market price.
  • Demand facing firm is perfectly elastic.
• Monopoly
  • Sole producer; faces entire market demand curve.
  • The monopolist does not face a perfectly elastic demand curve; faces actual demand curve.

Demand and Revenue Example

• Demand Equation: QD = 100 - P
• Price vs. Quantity Sold
  • $100: 0 units
  • $99: 1 unit
  • $98: 2 units, etc.
• Revenue Calculation
  • R = Price × Quantity
• Marginal Revenue Calculation
  • MR for 1st unit: $99
  • MR for 2nd unit: $97 due to price reduction for all units

Graph Analysis

• Demand Curve: Dark blue
• Marginal Revenue Curve: Light blue
• Monopoly requires lowering the price for all units when increasing production.

Monopolist Pricing Strategy

• Profit maximization not at demand = MC but rather where MC = MR.
• Reduction in production allows monopolists to raise prices.
• Consumer Behavior:
  • Customers wait for price to drop and try to buy at the lowest possible price.

Deadweight Loss

• Consumers willing to pay more than production costs are denied products.
• Example: Apple's iPhone pricing
  • Costs $500 to make but sells for $799.99.
  • Consumers willing to pay $699 denied to maintain high prices.

Efficiency vs. Monopoly

• Efficient Price (PE): Where MC intersects Demand.
• Monopolist's Price (PM): Higher, due to restricted production.
• Monopolist Markup: Difference between PE and PM due to lack of competition.
• Monopolists trade fewer sales for higher prices and lower costs.

Conclusion

• Monopolists restrict production for higher profit margins, resulting in deadweight loss and unsatisfied mutually beneficial trades.
• The law of one price restricts offering varied prices to different consumers, leading to inefficiency in monopoly settings.