INTERNAL ASSIGNMENT PROJECT FOR MICROECONOMICS FOR MANAGERS (MEM) – FINANCE 1 (2019-2021)

ON

MONOPOLISTIC MARKET

Submitted in partial fulfilment of the Post Graduate Diploma in Management

(FINANCE)

UNDER THE GUIDANCE OF

PROF. AMIT K. GIRI

VARTIKA CHAUDHARY
ROLL NO- (07)

XAVIER INSTITUTE OF SOCIAL SERVICE

DR.CAMIL BULCKE PATH, RANCHI
Session-2019-21
QUESTION 1
Illustrate with an example, the process of profit maximization by a
monopolist?
ANSWER
The monopolist's profit maximizing level of output is found by
equating its marginal revenue with its marginal cost, which is the
same profit maximizing condition that a perfectly competitive firm
uses to determine its equilibrium level of output. Indeed, the condition
that marginal revenue equal marginal cost is used to determine the
profit maximizing level of output of every firm, regardless of the
market structure in which the firm is operating.

In order to determine the profit maximizing level of output, the

monopolist will need to supplement its information about market
demand and prices with data on its costs of production for different
levels of output. As an example of the costs that a monopolist might
face, consider the data in Table. The first two columns of
Table represent the market demand schedule that the monopolist
faces. As the price falls, the market's demand for output increases.
The third column reports the total revenue that the monopolist
receives from each different level of output. The fourth column
reports the monopolist's marginal revenue that is just the change in
total revenue per 1 unit change of output. The fifth column reports the
monopolist's total cost of providing 0 to 5 units of output. The sixth
and seventh columns report the monopolist's average total costs and
marginal costs per unit of output. The eighth column reports the
monopolist's profits, which is the difference between total revenue
and total cost at each level of output.

MONOPOLY OUTPUT, REVENUES, COST & PROFIT

OUTPUT PRICE TOTAL MARGINAL TOTAL AVERAGE MARGINAL MONOPOLY

REVENUE REVENUE COST TOTAL COST COST PROFITS
0 14 0 - 2 - - -2
1 12 12 12 6 6 4 6
 2 10 20 8 8 4 2 12
3 8 24 4 12 4 4 12
4 6 24 0 20 5 8 4
5 4 20 -4 35 7 15 -15

The monopolist will choose to produce 3 units of output because the

marginal revenue that it receives from the third unit of output, $4, is
equal to the marginal cost of producing the third unit of output, 4. The
monopolist will earn 12 in profits from producing 3 units of output, the
maximum possible.

Graphical illustration of monopoly profit maximization.

15 MARGINAL COST
14

13

12

11

10

9
a d
8 MONOPOLY PROFITS AVERAGE TOTAL COST
7

5
b
4
c DEMAND CURVE
3

1
UNIT OF OUTPUT
0

-1 1 2 3 4 5

-2

-3
-4
MARGINAL REVENUE

MONOPOLISTIC PROFIT MAXIMIZATION DECISION

The result of the monopolist's price searching is a price of 8 per unit.
This equilibrium price is determined by finding the profit maximizing
level of output—where marginal revenue equals marginal cost
(point c)—and then looking at the demand curve to find the price at
which the profit maximizing level of output will be demanded.

Monopoly profits and losses. The monopoly in the preceding example

made profits of 12. These profits are illustrated in Figure as the
shaded rectangle labeled abcd. While you usually think of
monopolists as earning positive economic profits, this is not always
the case. Monopolists, like perfectly competitive firms, can also incur
losses in the short‐run. Monopolists will experience short‐run losses
whenever average total costs exceed the price that the monopolist
can charge at the profit maximizing level of output.

Absence of a monopoly supply curve.  there is no representation of

the monopolist's supply curve. In fact, the monopolist's supply
schedule cannot be depicted as a supply curve that is independent of
the market demand curve. Whereas a perfectly competitive firm's
supply curve is equal to a portion of its marginal cost curve, the
monopolist's supply decisions do not depend on marginal cost alone.
The monopolist looks at both the marginal cost and the marginal
revenue that it receives at each price level. In order to determine
marginal revenue, the monopolist must know market demand.
Therefore, the monopolist's market supply will not be independent of
market demand.

QUESTION 2
Discuss the importance of price elasticity of demand for a monopolist?

ANSWER
Price Elasticity of Demand is useful as it enables the business in general and the monopolists in
particular to fix the price.

A monopolist while fixing the price for his product takes into consideration its elasticity of
demand. If the demand for his product is elastic, he will profit more by fixing a low price. In
case the demand is less elastic, he is in a position to fix a higher price. Similarly, a producer
under monopolistic competition has to study the degree of elasticity of demand in pricing his
product.
If the demand for his product is more elastic in relation to the other producers, he can attract
some additional customers by lowering the price of his product. On the other hand, a
relatively inelastic demand will not induce his customers to leave him if he raises the price of
his product.
Under monopoly discrimination the problem of pricing the same commodity in two different
markets also depends on the elasticity of demand in each market. In the market with elastic
demand for his commodity, the discriminating monopolist fixes a low price and in the market
with less elastic demand, he charges a high price.
Studying the nature of demand the monopolist fixes higher prices for those goods which have
inelastic demand and lower prices for goods which have elastic demand. In this way, this helps
him to maximize his profit. It is very useful to fix the price of jointly supplied goods. In the case
of joint products like paddy and straw, the cost of production of each is not known. The price
of each is then fixed by its elastic and inelastic demand. It helps the Finance Minister to levy
tax on goods. After levying taxes more and more on goods which have inelastic demand, the
Government collects more revenue from the people without causing inconvenience to the
people. Moreover, it is also useful for the planning. It guides the producers to fix wages for
labourers. They fix high or low wages according to the elastic or inelastic demand for the labor.
It is of greater significance in the sphere of international trade. It helps to calculate the terms
of trade and the consequent gain from foreign trade. If the demand for home product is
inelastic, the terms of trade will be profitable to the home country. The concept of elasticity of
demand is also useful is knowing the different market forms. If cross elasticity of demand is
infinite, in that case there is perfect competition in the market. If cross elasticity is zero (or Ec
= 0) it is a case of absolute or pure monopoly. If cross elasticity of demand is less than one (or
Ec < 1), in that case there is relative monopoly. And if cross elasticity of demand is greater than
one (or Ec >1), in that case, there is monopolistic competition or imperfect competition.
QUESTION 3
Define (a) consumer surplus, (b) producer surplus & (c) deadweight loss
in the context of a monopoly market?
ANSWER
Consumer surplus exists when the price paid by a consumer is less than what the consumer
would be willing to purchase the good for.  Consumer surplus is defined by the area below the
demand curve, above the price, and left of the quantity bought.
The yellow triangle in the above graph represents consumer surplus.
 

CS
P
 D
Q

Producer surplus exists when the price goods are sold for is greater than what it costs the
firms to manufacture those goods.  Producer surplus is defined by the area above the supply
curve, below the price, and left of the quantity sold. The red triangle in the above graph
represents producer surplus.

P S

PS

When a market does not produce at its efficient point there is a deadweight loss to society.  The
yellow triangle represents the lost consumer surplus and the red triangle represents the lost
producer surplus when the market operates at the monopolistic output instead of the competitive
output.  The lost consumer surplus plus the lost producer surplus is the total deadweight loss to
society. 
 
P

PM
PC

QM QM Q

QUESTION 4
What is price discrimination? Why a monopolist can practice price
discrimination?

ANSWER
Price discrimination is a selling strategy that charges customers different prices for the same
product or service based on what the seller thinks they can get the customer to agree to. In
pure price discrimination, the seller charges each customer the maximum price he or she
will pay. In more common forms of price discrimination, the seller places customers in groups
based on certain attributes and charges each group a different price.

Types of Price Discrimination:

Price discrimination is a common pricing strategy’ used by a monopolist having discretionary
pricing power. This strategy is practiced by the monopolist to gain market advantage or to
capture market position.
i. Personal:
Refers to price discrimination when different prices are charged from different individuals. The
different prices are charged according to the level of income of consumers as well as their
willingness to purchase a product. For example, a doctor charges different fees from poor and
rich patients.
ii. Geographical:
Refers to price discrimination when the monopolist charges different prices at different places
for the same product. This type of discrimination is also called dumping.
iii. On the basis of use:
Occurs when different prices are charged according to the use of a product. For instance, an
electricity supply board charges lower rates for domestic consumption of electricity and higher
rates for commercial consumption.

MR