Tutorial 8 - Scheme

BEEB2013 MICROECONOMICS
SEMESTER A152
TUTORIAL 8
Dateline:(during tutorial)
Answer ALL the questions below.
1. What is a monopoly? What are some examples of monopoly in your state?

(4 marks)
The definition of monopoly is "an industry that produces a good or service for which
no close substitute exists and in which there is one supplier that is protected from
competition by a barrier preventing entry of new firms." Essentially, a monopoly is the
only firm in its industry. As examples, one could list regulated monopolies, such as the
electric, gas, or water company, the cable television company.
2. What are the different types of price discrimination? Explain briefly.

(9 marks)
First Degree Price Discrimination
In an ideal business world, companies would be able to eliminate all consumer surplus
through first degree price discrimination. This type of pricing strategy takes place
when businesses can accurately determine what each customer is willing to pay for a
specific product or service and selling that good or service for that exact price.
In some industries, such as used car or truck sales, an expectation to negotiate final
purchase price is part of the buying process. The company selling the used car can
gather information through data mining relating to each buyer's past purchase habits,
income, budget and maximum available output to determine what to charge for each
car sold. This pricing strategy is time-consuming and difficult to perfect for most
businesses, but it allows the seller to capture the highest amount of available profit for
each sale.
Second Degree Price Discrimination
In second degree price discrimination, the ability to gather information on every

potential buyer is not present. Instead, companies price products or services differently
based on the preferences of various groups of consumers. Most often, businesses apply
second-degree price discrimination through quantity discounts; customers who buy in
bulk receive special offers that are not granted to those who buy a single product. This
type of pricing strategy is used most often in warehouse retailers, such as Sam's Club
or Costco, but it can also be seen in companies that offer loyalty or rewards cards to
frequent customers.Second degree price discrimination does not altogether eliminate
consumer surplus, but it does allow a company to increase its profit margin on a subset
of its consumer base.
Third Degree Price Discrimination
Third degree price discrimination occurs when companies price products and services
differently based on the unique demographics of subsets of its consumer base, such as
students, military personnel or seniors.Companies can understand the broad characteristics
of consumers more easily than the buying preferences of individual buyers. Third degree
price discrimination provides a way to reduce consumer surplus by catering to the price
elasticity of demand of specific consumer subsets.This type of pricing strategy is often
seen in movie theater ticket sales, admission prices to amusement parks or restaurant
offers. Consumer groups that may otherwise not be able or willing to purchase a product
due to their lower income are captured by this pricing strategy, increasing company
profits.
3. Consider a monopolist where the market demand curve for the produce is given by P =
520 – 2Q. This monopolist has marginal costs that can be expressed as MC = 100 +
2Q and total costs that can be expressed as TC = 100Q + Q2 + 50.
(9 marks)
a. Given the above information, what is this monopolist’s profit maximizing price
and output if it charges a single price?
MR = 520 – 4Q
MC = 100 + 2Q
520 – 4Q = 100 + 2Q
Q = 70 units of output
P = 520 – 2Q = 520 – 2(70) = $380 per unit of output
b. Given the above information, calculate this single price monopolist’s profit.
Profit = TR – TC
TR = P*Q = ($380 per unit)(70 units) = $26,600
TC = 100Q + Q2 + 50 = 100(70) + (70)(70) + 50 = $11,950
Profit = $14650
c. At the profit maximizing quantity, what is this monopolist’s average total cost of
production (ATC)?
To answer this question we first need to write an expression for ATC.
ATC = TC/Q = 100 + Q + (50/Q)
Then replace Q with 70 to find the average total cost of producing 70 units of
output.
ATC= 100 + 70 + (50/70) = $170.71 per unit
4. Consider a monopoly that faces a market demand curve given as P = 100 – Q. The
marginal cost of production for this monopolist is MC = 10 and the monopolist has
fixed costs equal to zero. (12
marks)
a. What is the profit maximizing quantity and price for this monopolist?
To find the profit maximizing quantity and price we first need the MR curve for
the monopolist.
MR = 100 – 2Q
Then, set MR = MC to solve for Q:
100 – 2Q = 10 or Q = 45
When Q = 45, then P = 100 – Q = 100 – 45 or P = $55
b. What is total revenue (TR) equal to for this monopolist?

Answer:
TR = ($55 per unit)(45 units) = $2475
c. What is total cost (TC) equal to for this monopolist?

Answer:
TC = ($10 per unit)(45 units) = $450
d. What are the economic profits for this single-price monopolist?

Answer:
Profits = TR – TC = $2475 - $450 = $2025
e. What is the value of consumer surplus (CSm) for this monopolist?

Answer:
CSm = (1/2)($100 per unit - $55 per unit)(45 units) = $1012.50
f. What is the value of producer surplus (PSm) for this monopolist?

Answer:
PSm = ($55 per unit - $10 per unit)(45 units) = $2025
g. What is the deadweight loss (DWLm) equal to for this monopolist?

Answer:
DWLm = (1/2)($55 per unit - $10 per unit)(90 units – 45 units) = $1012.50
h. Provide a graph of this single-price monopolist indicating CSm, PSm, DWLm, the
profit maximizing quantity, and the profit maximizing price.
Answer:
5. What are the characteristic of monopolistic Competitive market
(4 marks)\
The two primary characteristics of a monopolistically competitive market are that (1)
firms compete by selling differentiated products that are highly, but not perfectly,
substitutable and (2) there is free entry and exit from the market. When a new firm enters
a monopolistically competitive market or one firm introduces an improved product, the
demand curve for each of the other firms shifts inward, reducing the price and quantity
received by those incumbents.
6. With the help of two diagrams, compare the long run equilibrium of a monopolistic
competitive market to the long-run equilibrium of a perfect competitive market.
(7 marks)
Find answer at Figure 12.1 in our text book Pindyck.
Exercise During Classes
1. Consider two identical firms (no. 1 and no. 2) that face a linear market demand curve.
Each firm has a constan marginal cost of RM50 . The two firms together face
demand:
P = 950 - Q, where Q = Q1 + Q2.
a. Find the Cournot equilibrium Q and P for each firm.

Q=300; P=RM350
b. Find the equilibrium Q and P for each firm assuming that the firms collude and
share the profit equally.
Q=450; so If profit is share equally, then Q1=Q2 = 225 ,
The collusive price is P=RM500
# Try to draw Cournot Equilibrium and Collusive Equilibrium. Refer Figure

12.5 Pindyck
2. Consider two identical firms (no. 1 and no. 2) that face a linear market demand curve.
Each firm has a marginal cost of zero and the two firms together face demand:
P = 50 - 0.5Q, where Q = Q1 + Q2.
a. Find the Cournot equilibrium Q and P for each firm.
Determine the reaction curve for firm no. 1. Equate MR1 to MC1.
R1 = P1Q1 = (50 - 0.5Q)Q1 = 50Q1- 0.5QQ1
= 50Q1 - 0.5(Q1 + Q2)Q1 = 50Q1 - 0.5Q12 - 0.5Q1Q2
MR1 = 50 - 1Q1 - 0.5Q2.
Since MC1 = 0, then
50 - 1Q1 - 0.5Q2 = 0
Q1 = 50 - 0.5Q2
The reaction curve for firm no. 2 is calculated in the same way as that for firm no. 1.
Q2 = 50 - 0.5Q1
At the intersection of two reaction curves, we find the equilibrium Q1 and Q2. By
substitution:
Q2 = 50 - 0.5(50 - 0.5Q2)
Q2 = 50 - 25 + 0.25Q2
0.75Q2 = 25
Q2 = 33.33
Now solve for Q1:

Q1 = 50 - 0.5Q2 = 50 - 0.5(33.33) = 33.33
The total quantity produced Q = Q1 + Q2 = 66.67
The market equilibrium price is: P = 50 - 5Q = 50 - 0.5(66.67) = $16.67/unit.
Each firm is maximizing its own profit, given its competitor's production rate.
b. The total revenue for the two firms is:

R = PQ - (50 - 0.5Q)Q = 50Q - 0.5Q2, and thus
MR = 50 - Q
Set MR equal to MC = 0 to find Q that maximizes profit.
50 - Q = 0
Q = 50
If profit is shared equally, then Q1 = Q2 = 25.

The collusive price is P = 50 - 0.5(50) = 25.
# Try to draw Cournot Equilibrium and Collusive Equilibrium. Refer Figure 12.5
Pindyck
3. Suppose that two identical firms produce widgets and that they are the only firms in the
market. Their costs are given by C = 60Q and C = 60Q , where Q is the output of
1 1 2 2 1
Firm 1 and Q the output of Firm 2. Price is determined by the following demand
2
curve:
P = 300 – Q where Q = Q + Q .
1 2
Find the Cournot-Nash equilibrium. Calculate the profit of each firm at this equilibrium.
Profit for Firm 1, TR1  TC1, is equal to
Therefore,
Setting this equal to zero and solving for Q1 in terms of Q2:

Q1  120  0.5Q2.
This is Firm 1’s reaction function. Because Firm 2 has the same cost structure, Firm 2’s
reaction function is
Q2  120  0.5Q1.
Substituting for Q2 in the reaction function for Firm 1, and solving for Q1, we find
Q1  120  (0.5)(120  0.5Q1), or Q1  80.
By symmetry, Q2  80. Substituting Q1 and Q2 into the demand equation to determine the
equilibrium price:
P  300  80  80  $140.
Substituting the values for price and quantity into the profit functions,
1  (140)(80)  (60)(80)  $6400, and
2  (140)(80)  (60)(80)  $6400.
Therefore, profit is $6400 for both firms in the Cournot-Nash equilibrium.

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BEEB2013 MICROECONOMICS

Answer ALL the questions below.

1. What is a monopoly? What are some examples of monopoly in your state?

2. What are the different types of price discrimination? Explain briefly.

First Degree Price Discrimination

Second Degree Price Discrimination

In second degree price discrimination, the ability to gather information on every

b. What is total revenue (TR) equal to for this monopolist?

c. What is total cost (TC) equal to for this monopolist?

d. What are the economic profits for this single-price monopolist?

e. What is the value of consumer surplus (CSm) for this monopolist?

f. What is the value of producer surplus (PSm) for this monopolist?

g. What is the deadweight loss (DWLm) equal to for this monopolist?

P = 950 - Q, where Q = Q1 + Q2.

a. Find the Cournot equilibrium Q and P for each firm.

# Try to draw Cournot Equilibrium and Collusive Equilibrium. Refer Figure

P = 50 - 0.5Q, where Q = Q1 + Q2.

a. Find the Cournot equilibrium Q and P for each firm.

Now solve for Q1:

b. The total revenue for the two firms is:

If profit is shared equally, then Q1 = Q2 = 25.

Profit for Firm 1, TR1  TC1, is equal to

Setting this equal to zero and solving for Q1 in terms of Q2:

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