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Unit

12

Multi-Product Firms

Multi-Product Monopolist

How much output should a monopolist produce and what price should they charge if the monopolist is selling more than one product in order for the firm to maximize it’s profits? Well let’s take the simplest case and look at a multi-product monopolist. Before we get started, let’s suppose that the monopolist is only producing two goods (although the results generalize for more than two products) and for now that the demand for these two goods are unrelated. By this I mean that changes in the price of one of the goods does not affect the quantity demanded for the other good. We will explore the related goods case later on. Also, let’s use our familiar linear inverse demand specification and let’s suppose that the monopolist sets the price of each good uniformly. Finally, let’s suppose there are no cost synergies (i.e. the cost of producing one good does not affect the cost of producing the other good) for now. Independent Goods with No Cost Synergies Given that the firm is a monopolist in each separate product market and that there are no cost synergies, the profit maximizing output and price are the same as under the uniform pricing monopolist. Thus the monopolist’s optimal decision is the same for each product as it was for only one product. Thus if the inverse demand is given by Pi ai bi Qi , where i={1,2} and the cost function is given by C ( qi ) ei qi f i , then the optimal amount of output for the monopolist to produce is q1 * maximizing price for each good of: P1 * Independent Goods with Cost Synergies With cost synergies where the firm’s costs differ by producing both goods together as opposed to producing each good separately, output and pricing decision are affected by the extent of the cost 2 synergies. So given: C (q1 , q 2 ) d1 q12 d 2 q 2 e1 q1 e2 q 2 f1 f 2 ec q1 q 2 , where ec <0 then the monopolist’s profit maximizing equation for independent goods and cost synergies looks 1

a1 e1 and q 2 * 2b1 a 2 e2 . The profit 2b2

a1 2

e1

and P2 *

a2 2

e2

.

like: Skipping the algebra. the more negative ec is). the profit maximizing outputs of q1 and q2 are: 2(b2 d 2 )( a1 e1 ) ec (a 2 e2 ) 2(b1 d1 )( a 2 e2 ) ec (a1 e1 ) * * q1 and q 2 .06E:141 INDUSTRY ANALYSIS: BROOK 2 (a1 b1 q1 )q1 (a 2 b2 q 2 )q 2 d1 q12 d 2 q 2 e1 q1 e2 q 2 f1 f 2 ec q1 q 2 . and third – an increase in the price of good i increases the demand for good j.2} has three effects: first – increases in the price of good i leads to increases in the firm’s profits due to greater additional revenue due to the higher price.e. Here notice that a new term is included in the demand equation. So in sum. that the equilibrium price increases. q 2 ) p1 [a1 b1 p1 g1 p 2 ] p 2 [a 2 b2 p 2 g 2 p1 ] e1 [a1 b1 p1 g 1 p 2 ] e 2 [a 2 b2 p 2 g 2 p1 ] and some tedious algebra the equilibrium price for good one is: b1 e1 e 2 g 2 ) ( g 1 g 2 )( a 2 b2 e 2 e1 g 1 ) * and the equilibrium price for good p1 4b1b2 ( g 1 g 2 ) 2 2b1 (a 2 b2 e 2 e1 g 1 ) ( g 1 g 2 )( a1 b1 e1 e 2 g 2 ) * two is: p 2 . a uniform pricing monopolist producing independent goods without cost synergies results in the optimal amount of output exactly like under the single product uniform pricing monopolist. Substitute Goods with no Cost Synergies Suppose the monopolist produces two goods and these two goods are economically related. think about how a Hollywood firm studio determines the price to sell to the movie theater for a movie viewed at the theater versus a DVD or think about a pharmaceutical producing both a brand name drug and a generic for the same illness. the greater the optimal amount of output for each good. The greater the amount of cost synergies (i. Notice as consumers view 4b1b2 ( g 1 g 2 ) 2 each substitute good as being more different (i.e. and the next sub-section will briefly look at the complement goods case. such as consumers view the two goods as substitutes or complements. Thus 2 4(b1 d1 )(b2 d 2 ) ec 4(b1 d1 )(b2 d 2 ) ec2 with cost synergies. 2b2 (a1 after We notice that changes in the price of good i={1. the optimal quantities for each good are more complex given the overlap in costs for each product. A substitute goods monopolist profit equation is: (q1 . the optimal amount of output is more complicated by the synergies and the greater the cost synergies in producing the two goods the greater the profit maximizing amount of output for each good. The parameter g is the degree that consumers view a change in the price of one product on the demand for the other product. second – an increase in the price of good i leads to decreases in profits from lower quantity of good j. 2 . let’s use the linear demand equation for each product: q1 a1 b1 p1 g1 p 2 and q 2 a 2 b2 p 2 g 2 p1 . Although not always a monopolist. less of a substitute). As g gets to zero the more consumers view each product as more differentiated. If the additional characteristic of cost synergies is included. Here I will go over the substitute good case. First.

or a satellite radio firm selling radio subscriptions and radio players. Again. using a the linear demand equation for each product: q1 a1 b1 p1 g1 p 2 and q 2 a 2 b2 p 2 g 2 p1 . and skipping the math. 3 . that the optimal response by the monopolist is to lower the equilibrium price as opposed to the substitute goods case.06E:141 INDUSTRY ANALYSIS: BROOK Complement Goods with no Cost Synergies If the uniform pricing multi-product monopolist produces complementary goods such as a sports team selling tickets (seats) and concessions. Here note that as consumers view the two 4b1b2 g1 g 2 complementary goods as being more differentiated from each other. the optimal prices 2b2 (a1 b1e1 ) g 1 (a 2 b2 e2 ) p1 * for both goods are: and 4b1b2 g 1 g 2 2b1 (a 2 b2 e2 ) g 2 ( a1 b1e1 ) p2 * . the firm must take into account the previous three effects when setting its optimal price.

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