Monopolistic Competition, Price Discrimination Brandon Chang, Thomas Chang.

Monopolistic Competition, Price DiscriminationMonopolistic Competition, Price DiscriminationBrandon Chang, Thomas ChangBrandon Chang, Thomas Chang

Monopolistic Competition Monopolistic Competition

• Characteristics• Market structure where there are large

number of sellers.• Sells slightly differentiated products.• Has some price setting power• Very low entry barrier to market • Allocatively and productively inefficient

Monopolistic Competition in the Long Run

Monopolistic Competition in the Long Run

• Firms in monopolistic competition cannot make economic profit in the long run.

Short RunShort Run

• Short run similar to monopoly market

• Demand is downward sloping

• Marginal Revenue is below demand curve– Slopes down twice as

steeply

Long RunLong Run

• Caused by low entry barrier to market

• When firms make economic profit other firms join– The demand and marginal

revenue decreases and flattens out

• No economic profit• New Demand is tangent to

the ATC curve

Economic LossEconomic Loss

• Once firms start facing economic losses, they can simply leave the market.

• This increases the demand for other firms inside the market.

EfficiencyEfficiency

• Productively inefficient• - Not producing at a quantity where average

total cost is lowest• Firms are not using their resources in the least

cost manner.• Allocatively inefficient• - The demand curve (marginal benefit) is not

equal to marginal cost• Firms are restricting their output to make profit• Producing at less than socially optimal quantity

DefinitionDefinition

Price Discrimination: A business sells the same good to

customers at different prices The cost to manufacture the

product is the same

Chang AirlinesChang Airlines

Requirements for Price Discrimination

Requirements for Price Discrimination

• Price discrimination is not possible when a good is sold in a competitive market since there are many firms all selling at the market price. In order to price discriminate, the firm must have some market power.

• For a firm to price discriminate, it must have some market power

• Monopoly, Oligopoly, Monopolistic Competition (not Perfect Competition)

• For a firm to price discriminate, it must know the consumers’ willingness to pay

Effects of Price DiscriminationEffects of Price Discrimination

• Two important effects of price discrimination:• It can increase the monopolist’s profits.

• It can reduce deadweight loss.

Profit

(a) Monopolist with Single Price

Price

0 Quantity

Deadweightloss

DemandMarginalrevenue

Consumersurplus

Quantity sold

Monopolyprice

Marginal cost

Single-Price MonopolistSingle-Price Monopolist

A monopolist who charges everyone the same price

Deadweight Loss and Efficiency


Quantity0

Price

Demand(value to buyers)

Marginal cost

Value to buyersis greater thancost to seller.

Value to buyersis less thancost to seller.

Costto

monopolist

Costto

monopolist

Valueto

buyers

Valueto

buyers

Efficientquantity

Deadweight LossDeadweight Loss

• The Inefficiency of Monopoly– The monopolist produces less than the socially

efficient quantity of output.



Quantity0

Price

Deadweightloss

DemandMarginalrevenue

Marginal cost

Efficientquantity

Monopolyprice

Monopolyquantity

Deadweight LossDeadweight Loss

• Because a monopoly sets its price above marginal cost, it places a wedge between the consumer’s willingness to pay and the producer’s cost.

• This wedge causes the quantity sold to fall short of the social optimum.

ExamplesExamples

Examples of Price Discrimination• Movie tickets• Airline prices• Discount coupons• Financial aid• Quantity discounts

Multiple Choice: Q. 1Multiple Choice: Q. 1

1. Which of the following is a characteristic of a monopolistic competition?

a. A standardized product

b. Many sellers

c. Barrier to entry

d. Positive long-run profits

e. A perfectly elastic demand curve


B


Which of the following results is possible for a monopolistic competitor in the short run?

I. positive economic profit

II. Normal profit

III. Loss

a. I only

b. II only

c. III only

d. I and II only

e. I, II, III


E


Which of the following results is possible for a monopolistic competitor in the short run?

I. positive economic profit

II. Normal profit

III. Loss

a. I only

b. II only

c. III only

d. I and II only

e. I, II, III


B


The long-run outcome in a monopolistically competitive industry results in

a. Inefficiency because firms earn positive economic profits

b. Efficiency due to excess capacity

c. Inefficiency due to product diversity

d. Efficiency because price exceeds marginal cost

e. A trade-off between higher average total cost and more product diversity

EMultiple Choice: Q. 4Multiple Choice: Q. 4


1. Which of the following characteristics is necessary in order for a firm to price discriminate?

a. free entry and exit

b. differentiated product

c. many sellers

d. some control over price

e. horizontal demand curve


D


2. Price discrimination

a. is the opposite of volume discounts.

b. is a practice limited to movie theaters and the airline industry.

c. can lead to increased efficiency in the market.

d. rarely occurs in the real world.

e. helps to increase the profits of perfect competitors.


C


3. With perfect price discrimination, consumer surplus

a. is maximized.

b. equals zero.

c. is increased.

d. cannot be determined.

e. is the area below the demand curve above MC.


B


4. A price discriminating monopolist will charge a higher price to consumers with

a. a more inelastic demand.

b. a less inelastic demand.

c. higher income.

d. lower willingness to pay.

e. less experience in the market.


A

True or False: Q. 1True or False: Q. 1

• A single-price monopolist sells to some customers that would not find the product affordable if purchasing from a price-discriminating monopolist.


FALSE


• A price-discriminating monopolist creates more inefficiency than a single-price monopolist because it captures more of the consumer surplus.


FALSE


• Under price discrimination, a customer with highly elastic demand will pay a lower price than a customer with inelastic demand.


TRUE

Skill Testing QuestionSkill Testing Question

Which of the following are cases of price discrimination and which are not? In the cases of price discrimination, identify the consumers with high price elasticity of demand and those with low price elasticity of demand.

a. Damaged merchandise is marked down.

b. Restaurants have senior citizen discounts.

c. Food manufacturers place discount coupons for their merchandise in newspapers.

d. Airline tickets cost more during the summer peak flying season.

Monopolistic Competition, Price Discrimination Brandon Chang, Thomas Chang.

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