Demand Curves (2.5 points) 1. Given the ability of a monopolist to price cost fl

Question

Demand Curves (2.5 points) 1. Given the ability of a monopolist to price cost fluctuations immediately, would he/she prefer high volatility or low volatility? Why? Would a pair of competing duopoly firms prefer symmetric or asymmetric volatility? Why? (Hint for Q1: model demand as linear, costs as linear, and cost fluctuation as cost being high with 50% probability and low with 50% probability. Model low volatility as costs being half-way between high and low costs with 100% probability Calculated expected profits and compare.) 2.

Explanation / Answer

A monopolist is not a price taker, because when it decides what quantity to produce, it also determine the market price. For a monopolist's total revenue is relatively low at low quantities of output, because not much is being sold. Total revenue is also relatively low at very high quantities of output, because a very high quantity will sell only at a low price. Thus, total revenue for a monopolist's will start low, rise, and then decline. The marginal revenue for a monopolist's from selling additional units will decline. Each additional units sold by monopolist will push down the overall market price, and as more units are sold, this lower price applies to more and more units.

The monopolist's will select the profit maximizing level of output where MR = MC, and then charge to price for the quantity of output as determined by the market demand curve. If that price is above average cost, the monopolist's earns positive profit s.

Monopolist's are not productively efficient, because they do not produce at the minimum of the average cost curve. Monopolist's are not allocatively efficient, because they do not produce at the quantity where P = MC. As a result, monopolist's produce less, at a higher average cost, and charge a higher price than would a combination of firms in a perfectly competitive industry. Monopolist's also may lack incentives for innovation, because they need not fear entry.

Profits for the monopolist's, like any firm, will be equal to total revenue minus total cost s. The pattern of costs for the Monopoly can be analyzed within the same framework as the cost of a perfectly competitive firm that is, by using total cost, fixed cost, variable cost, marginal cost, average cost, and average variable cost. However, because a monopoly faces no competition, it's situation and decision process will differ from that of perfectly competitive firm.

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