suppose that a manufacturer and its retailer both operate as a market monopoly.

Question

suppose that a manufacturer and its retailer both operate as a market monopoly. The retailer experiences no transacition cost for buying form the manufacturer, and the marginal cost of manufacturing is constant at 20. Market demand for the manufactured product is p=100-2Q

(a) How much would the manufacturer and the retailer charge if they operate separetely? Calculate their individual and joint profits.

(b) Based on your answers to (a), explain what Double Marginalization is.

(c) If the manufacturer and the retailer merge, how much would the vertically integrated firm charge the consumers? Calculate the profit and the Lerner Index of the integrated firm.

(d) Quantify the welfare improvement due to vertical integration. What is your intuition that welfare improves in this scenario?

Explanation / Answer

a. As they operate individually

p = 100- 2*20 = $60

So profit they get individually is $60

Now, they operate jointly

p= 100 - 2*0 = 100 - 0 = $100.

So they get the profit jointly is $100.

b. The double marginalization as per this is the phenomenon where bothe the supplier and the retailer in the same industry have their perspective for the market power but at the different vertical level in the supply chain.

c. The profit if they get merged is $100 and the lener index of the integreated firm is $60.

d. If the merger between the two vertical integration it will definitely help in the welfare and also it will improve the scenario that here we see that the retailer and the manufacturer case.

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