Monopoly and 

OUTLINE OF TEXT MATERIAL 

I Introduction 
In  this  chapter  we  begin  to  explore  the  implications  of  relaxing  one  of  the  assumptions  made  in  earlier 
chapters,  that  a  large  number  of  firms  and  households  interact  in  each  output  market.  We  focus  on  the 
case of a single firm in an industry: a monopoly. 
II. Imperfect Competition and Market Power: Core Concepts 
A market or industry in which individual firms have some control over the price of their output is 
imperfectly competitive. All firms in such a market have market power, which is the ability to raise prices 
without losing all demand for their product. A firm must be able to limit competition by erecting barriers 
to entry. A. Defining Industry Boundaries: the existence of substitutes limits a firm’s market 
power. B. Barriers to Entry: what prevents new firms from entering and competing in 
imperfectly competitive industries. 1. Government Franchises: a monopoly by virtue of government 
directive. Justified by large economies of scale, equity, or the desire by the government for control. 2. 
Patents: a grant of exclusive use of the patented product or process to the inventor. Meant to provide an 
incentive for invention and innovation. 3. Economies of scale and other cost advantages 4. Ownership of 
a scarce factor of production C. Price: firms with market power have a fourth decision variable because 
they can 
decide what price to charge for their product. 
97 

Antitrust Policy 
12 
 
98 Principles of Microeconomics 
aaa  TEACHING  TIP:  When  discussing  the  rarity  of  pure  monopoly  in  the  United  States,  have  students  suggest  possible 
monopolists,  either  local  or  national.  You  will  be  able  to  cast  doubt  on  most  of  their  suggestions  by  pointing  out  a  reasonably 
close  substitute.  (Exceptions  may  still  be  the  local  utility,  phone,  and  cable companies, though this is changing in many places.) 
Take  this  opportunity  to  make  three  points:  (1)  pure  monopoly  is  almost  as  difficult  to  find  in  the  real  world  as  is  perfect 
competition;  (2)  monopolists  seldom  command  the  heights  of  industry;  and  (3)  many  candidates  for  monopoly  occupy  some 
“middle ground” between monopoly and perfect competition. 
Students  may  be  interested  to  learn  that  the  prevalence  of  monopolies  in  the  former  Soviet  Union  has  caused  major 
problems  for  economic  reformers.  After the Russian Revolution, new industries were usually created as single-plant monopolies. 
The  reason?  An  almost  religious  belief  by  Lenin  (and  later  Stalin)  that  duplication  of  operations  under  capitalism  was  always 
wasteful  (and,  in  effect,  that  economies  of  scale  are  unlimited).  In  addition,  the  fewer  the  number  of firms, the easier it was for 
central planners to command and monitor the economy.∫ 

III. Price and Output Decisions in Pure Monopoly Markets 

We assume that entry is blocked and that firms seek to maximize profits. 
aaa  TEACHING  TIP:  Point  out  that  the  imperfectly competitive firm makes a fourth decision that the perfectly competitive firm 
does  not:  what  price  to  charge.  Stress  that  price  and  quantity  are  chosen simultaneously as the firm is constrained by the market 
demand curve.∫ 

A. Demand in Monopoly Markets 

In a monopoly market the demand curve facing the firm is the market demand curve. We assume that the 
firm does not engage in price discrimination and that the demand curve is known. 1. Marginal revenue 
and market demand: in order to sell more the monopolist 
must lower the price, so marginal revenue will not be the same as demand. 2. The monopolist’s 
profit maximizing price and output will be the one at which 
MR MC = . Price will be above MC and the firm will earn economic profits. 
aaa  TEACHING  TIP:  Students  will  not  easily  grasp  why  producing  at  the  quantity  where MR MC = leads to maximum profits. 
For  those  who  have  had  calculus,  explaining  that  MR  MC  −  =  marginal  profits  and therefore total profits are maximized where 
marginal  profit  is  zero  may  help.  Here’s  another  approach  that  may  be  helpful:  Use  a  numerical  example  with  columns  of MR 
and  MC  data.  Draw  a  building  to  represent  a  bank  (or  a  piggy  bank!)  and  show  students  that as long as MR MC > the firm can 
“deposit”  its  profits  in  “the  bank.”  At  the  point  where  MR  MC  =  there  is  no deposit to be made and the “bank account” is at its 
maximum.∫ 
aaa  TEACHING  TIP:  Your  students  have  already  derived  the  cost  curves  for  perfectly  competitive  firms.  Stress  that  the  cost 
curves  used  in  this  and  subsequent  chapters  are  the same. The only differences will occur on the revenue side, where the firm no 
longer takes the market price as given.∫ 
aaa  TEACHING  TIP:  Break  down  the  monopoly  diagram  into  student  “digestible  chunks.”  When  drawing  the  monopoly 
diagram,  students  have  no  trouble  identifying  the  point  where  MR  and  MC  cross  as  profit  maximization.  They  then  quite 
naturally  drop  down  to  the  horizontal  axis  to  find  the profit-maximizing quantity. But two mistakes are common: (1) identifying 
the  profit-  maximizing price as the vertical height where MR and MC cross; and (2) finding the correct price, but then identifying 
profit per unit as the distance between price and marginal cost. 
To help students avoid these errors, you can go through the following exercise (after they have seen the entire 
diagram). Begin by drawing the diagram below: 
 
Chapter 12: Monopoly and Antitrust Policy 99 
aaa TEACHING TIP: (continued) 
$ MC 
3 
MR 
0 20 
Quantity 
Stress that the quantity variable is already determined as 20. The next question is: What price can be charged by a 
monopoly that will enable it to sell the 20 units? ($5.) 
Now  ask:  How  much  profit  is  the  firm  making?  The  correct  response  is: We don’t know until we see the average cost 
curve.  Finally, draw in the average cost curve and (1) identify profit (or loss) per unit as the distance between P and ATC; and (2) 
shade in the rectangle for total profit or loss.∫ 

3. The absence of a supply curve in monopoly is due to the fact that the monopolist sets both price and 
quantity, so output depends on not just the marginal cost curve but also on the demand curve. 4. 
Monopoly in the Long and Short Runs: the distinction is not very important. B. Perfect Competition and 
Monopoly Compared 
Relative to a competitively organized industry, a monopolist restricts output, charges higher prices, and 
earns economic profits. C. Collusion and Monopoly Compared 
Collusion  is  the  act  of  working  with  other  producers  in  an  effort  to  limit  competition  and  increase  joint 
profits. The outcome is exactly the same as the outcome of a monopoly in the industry. 
aaa TEACHING TIP: Collusion is discussed in more detail in the next chapter.∫ 
Ask: Where on the diagram will the firm maximize profits (or minimize losses)? (Where MR = MC .) Be sure the reason for this 
result is understood. Now ask what the price is. The response should be that it is unknown because there is no demand curve, but 
be prepared for the obvious “$3” as the answer. Draw in the demand curve, as in the diagram below, and ask again. 

$ MC 
5 
3 
D 
MR 
0 20 
Quantity 
 
100 Principles of Microeconomics 
TOPIC FOR CLASS DISCUSSION: Have students research and discuss OPEC.æ 

IV. The Social Costs of Monopoly 

aaa TEACHING TIP: Review the concept of consumer surplus before starting this section, as it is very 
important in helping students to understand why monopoly is inefficient.∫ 

A.  Inefficiency  and  Consumer  Loss:  monopoly  leads  to  an  inefficient  mix  of  output,  higher  prices  to 
consumers,  and  other  social  costs  that  may  not  be  as  obvious  (e.g.,  lack  of  an  incentive  to  cut  costs  and 
innovate, also impacts on the distribution of income). 
aaa  TEACHING  TIP:  Discuss  the  welfare  effects  of  monopoly  by  starting  with  the  competitive  ideal.  Show  that  as  the  market 
structure  changes  from  competitive  to  monopolistic,  the  area  of  consumer  surplus  is diminished into two parts: (1) it is a wealth 
transfer from consumers to the monopolist and (2) it is the “deadweight loss,” so-called because no one receives it. 
A  good  way  to  illustrate  the  difference  between  the  part  of  the  loss  in  consumer  surplus  that  is  realized  as  increased 
profits  by the monopolist and that part that is “net loss in social welfare” is to liken it to the following: If a person steals $10 from 
another  person,  one  person  gains  at  the  other’s  expense.  If  a  person  has  a  $10 bill that is destroyed by a fire, the person has lost 
$10 but no one gained it (use ceteris paribus to eliminate the possibility of insurance!).∫ 

B.  Rent-Seeking  Behavior:  a  monopolist  might  try  to  protect  its  positive  profits  by  lobbying  politicians, 
which  consumes  resources  and  which  may  lead  the  government  to  become  a  tool  of  the  rent  seeker 
(government  failure).  This  idea  is  at  the  heart  of  public  choice  theory,  which  holds  that  governments, 
made up of people, can be expected to act in their own self-interest. 
aaa TEACHING TIP: Note that bribes have another cost, which is that they may lead a purchaser to 
select a supplier that is not the low-cost producer of a product.∫ 

C. Remedies for monopoly include restructuring of the industry by the government or 
allowing the monopoly to exist but under government regulation. 
V. Remedies for Monopoly: Antitrust Policy 
Historically, governments have assumed two contradictory roles with respect to markets; they promote 
competition and restrict market power through antitrust laws, and they restrict competition by regulating 
industries. A. Historical Background: by the late 1800s pressure was building to limit the power of 
big business. B. Landmark Antitrust Legislation: in response, Congress created the Interstate 
Commerce Commission in 1887 to oversee and correct abuses in the railroad industry and passed the 
Sherman Act of 1890, which declared monopoly and trade restraints illegal. 1. The Sherman Act of 1890 
posed a problem of interpretation; the language seems to declare the structure of monopoly illegal, but it 
was unclear what specific acts were to be considered “restraints of trade.” In interpreting the law the 
Supreme Court put forth a “rule of reason,” indicating that the criteria included not just structure but also 
the nature of the tactics used. This 
 
Chapter 12: Monopoly and Antitrust Policy 101 

still  left  the  question  of  what  was  or  was  not  “unreasonable,”  prompting  Congress  in  1914  to  pass  the 
Clayton Act and the Federal Trade Commission Act. 
aaa  TEACHING  TIP:  This  is  a  good  time to remind students that much of the U.S. legal system is based on common law, where 
courtroom  precedent  may  be  as  important  as  the  statutes  themselves.  This  also  helps  to explain why so much time is devoted to 
the study of individual court cases.∫ 

2.  The  Clayton  Act  and  the  Federal  Trade  Commission,  1914.  The  Clayton  Act  was  designed  to 
strengthen  the  Sherman  Act  and clarify the rule of reason; as such it outlawed specific practices like tying 
contracts  and  price  discrimination.  It  also  limited  mergers  that  would  substantially  lessen  competition or 
tend  to  create  a  monopoly.  The  FTC  was  established  to  investigate  the  organization,  business  conduct, 
practices,  and  management  of  companies  engaged  in  interstate commerce. With both, the focus remained 
on conduct. 
aaa  TEACHING  TIP:  Students  may  point  out  that  mergers  occur  all  the  time.  Stress  that  a  merger  must  substantially  lessen 
competition  for  it  to  be  in  violation  of  antitrust  law.  Situations  in  which  the  firm  will  go  bankrupt  if  not  taken  over  are 
particularly problematic. This is explained in more detail further on.∫ 

3. The Alcoa Case in 1945 was significant because the dissolution of Alcoa was 
ordered not based on its conduct but because of its structure. 
VI. The Enforcement of Antitrust Law 
A. Initiating Antitrust Actions: can be done by the government or by private citizens. 
1. Government Actions: the Antitrust Division of the Justice Department and 
the FTC can initiate antitrust actions against those who violate antitrust laws. 2. Private Actions: private 
persons or private companies can initiate actions. B. Sanctions and Remedies: the courts are empowered 
to impose a number of 
sanctions and remedies if they find that antitrust law has been violated. 1. Consent Decrees: formal 
agreements between the prosecuting government 
and the defendants that must be approved by the courts. 2. Criminal Actions 3. Treble Damages 
aaa  TEACHING  TIP:  The  Robinson-Patman  Act  (1936)  or  “Chain  Store  Law,”  perhaps  a  legitimate  attempt  to  enhance 
competition,  is a near-classic example of good intentions that may go wrong. To support small retailers, the Act found it illegal to 
give  quantity  discounts  or  extra  service  to  large  retail  buyers  such  as  Sears.  Ask students whether they support the intent of this 
law.  Then  ask  whether  inefficient  (in  this case, small) firms should be guaranteed a place in the market and if such a law, in fact, 
protects “competition” or “competitors.”∫ 
aaa  TEACHING  TIP:  Students  always  find  baseball’s  exemption  from  antitrust  legislation  of  interest.  Some  may  have  heard 
about when the United States Football League was established (and failed).∫ 
 
102 Principles of Microeconomics 

VII. Natural Monopoly 

A.  In  some  industries  there  are  technological  economies  of  scale  that  are  so  large  that  it  makes  sense  to 
have just one firm. Examples are rare, but most public utility firms are among them. 
aaa  TEACHING  TIP:  Point  out  that  the  industry  will  “naturally”  end  up  as  a  monopoly.  Using the LRAC curve, show that any 
firm  that  is  larger  than  the  others  will  be  able  to  underprice  them and gain market share until it is the only firm remaining in the 
industry. (This assumes that long-run ATC declines over the relevant range of output.)∫ 

B. Today the trend is away from regulated monopolies and towards competition. 
VIII. Imperfect Markets: A Review and a Look Ahead 
We  will  next  consider  the  more  commonly  encountered  market  models  of  monopolistic  competition and 
oligopoly  to  further  examine  how  imperfect  competition  results  in  a  less-  than-efficient  allocation  of 
resources. 
aaa  TEACHING  TIP:  Remind  students  that  we  have  now  analyzed  the  two  “extreme”  market  structures.  The  next  chapter 
continues  the  discussion  of  imperfect  market  structures  that  occur  more  frequently  in  the  real  world  and  combine  the 
characteristics of both monopoly and perfect competition.∫ 

OTHER RESOURCES 

• 
ABC News/Prentice Hall Video Library Video clip that can be used for this chapter is: 
Clip 10: Microsoft Antitrust Suit Please see the Video Guide included at the end of this manual 
for more details. 

• 
Mastering Economics, episode entitled “Imperfect Competition” Mastering Economics, developed by 
Active Learning Technologies, is an integrated series of 12 video-enhanced interactive exercises that 
follow the people and issues of CanGo, an eBusiness start-up. Students use economic concepts to solve 
key business decisions including how to launch the start-up company’s initial public offering (IPO), enter 
new markets for existing products, develop new products, determine prices, attract new employees, and 
anticipate competition from rivals. 
The  videos  illustrate the importance of an economic way of thinking to make real- world business 
decisions.  Every  episode  includes  three  separate  video  segments:  the  first  video  clip  introduces  the 
episode  topics  by  way  of  a  current  problem  or  issue  at  CanGo.  After  viewing  the first clip, students read 
more about the theory or concept and then work through a series of multilayered exercises. 
The  exercises  are  composed  of  multiple-choice,  true/false,  fill-in,  matching,  ranking  choices, 
comparisons,  and  one-  or  two-sentence  answers.  After  completing  the  exercises,  students  watch  another 
video  clip.  This  resolution  video  illustrates  one  of  the  possible  resolutions  to  the  problem  or  decision 
faced by management team. 
In  the  episode entitled “Imperfect Competition,” imperfect competition and market power are key 
topics.  This  episode  tries  to  answer  the  question  of whether to set high prices or not. Andrew has found a 
way  to  put  characters  from  one  game  into  another.  This  design  puts  CanGo  ahead  of  any  of  its 
competitors  in  the  on-line  gaming  industry.  Now  CanGo  must  decide  at  what  price  it  should sell its new 
product. 
 
Chapter 12: Monopoly and Antitrust Policy 103 

• 
Economic Experiments Now in its second edition, Using Economic Experiments, Cases and Activities in 
the Classroom by Dirk Yandell of the University of San Diego is a compendium of more than 15 
classroom experiments illustrating various topics in micro- and macroeconomics. Each experiment 
contains an overview, learning objectives, instructional materials, and classroom activities (including 
demonstrations and experiential exercises). 

• 
ActiveEcon CD-ROM 
Students  may  have  purchased  the  ActiveEcon  CD-ROM  bundled  with  their  textbook.  If  not,  it  can  be 
ordered separately through your bookstore using the following ISBNs: 
Macroeconomics CD: 0-13-041172-8 Microeconomics CD: 0-13-041130-2 Economics CD: 
0-13-041183-3 The CD allows students to experience Active Graphs, dynamic graphs that allow students 
to manipulate certain variables and see the changes and effects (a full list of these graphs is included at the 
end of this Manual). The CD also provides an outline of each chapter, complete with links to figures and 
tables from the text. Students can also complete “Test Your Knowledge” exercises as they work through 
the outlines and complete end-of- chapter self-assessment quizzes. Other features of the CD include an 
expanded glossary for each chapter (students can see both the definition of the term that appears in the 
text and a further explanation or illustration of the concept) and short essay questions on topics from the 
News Analysis Box sections of the text, as well as some “Fast Facts” that provide interesting tidbits of 
data on selected chapter topics. 

• 
myPHLIP Web Site Go to http://www.prenhall.com/casefair to access myPHLIP, a Web site with current 
event news articles, discussion questions, critical thinking exercises, and Internet exercises to supplement 
the material in the text. The on-line study guide will help students sharpen their problem-solving skills 
and assess their understanding of key concepts. 

EXTENDED APPLICATIONS 
Application 1: Three Myths about Monopoly Myth #1: “Monopolies charge as high a price as they can 
get away with.” It is a commonly held belief that only “public outrage” prevents monopolies from 
charging even more than they do currently. The myth is popular because, after all, a monopoly is the only 
firm producing in its market. Why not increase price without limit? 
The  answer:  Because  a  monopoly  is  constrained  by  the  market  demand  for  its  product  and  will 
charge  the  profit-maximizing  price.  Raising  the  price  further  would  not  be  profitable,  whether  public 
outrage would follow or not. In the diagram, we see a monopoly where MC = MR at output level Q 
1 

and price P 
1 

. What prevents the monopoly from raising price further? If it were to do 
so—say, to P 
2 

—it would only sell Q 

2 

units of output. On all the units between Q 

2 

and Q 
1 

, 
marginal revenue is greater than marginal cost. Therefore, raising its price—even if it could do so—would 
decrease  the  monopoly’s  profits.  Every  monopoly  has  a  maximum  price  that  it  wishes  to  charge,  and no 
more.  We  may  be  unhappy  with  that  price,  and  efficiency  may  require  a  lower  price,  but  this  is  not  the 
same as saying a monopoly would like to raise its price without limit. 
 
104 Principles of Microeconomics 
P 
P 
2 
Q 
2 
Q 
1 
MC P 
1 
Q 
Myth #2: “Monopolies cause inflation.” This myth is related to the first. If monopolies always charge “as 
high a price as they can get away with,” then perhaps the most they can get away with in any given year is 
a moderate price increase. In this view, monopolies are slowly and insidiously raising their prices each 
year, without limit, to avoid public outrage. As already demonstrated, however, given the costs of its 
inputs, the technology, and the demand for its product, a monopoly has a single profit-maximizing price. 
Unless its costs are rising (in which case the inflation is coming from elsewhere), the monopoly has no 
incentive to raise its price further. 
It  is  true  that  monopolies  usually  set  a  higher  price  than  would  be  charged  in  a  competitive 
industry,  and  therefore  the  existence  of  monopolies  causes  the  price  level  to  be  higher  than  it  otherwise 
would  be.  But  for  monopolies  to  be  causing  inflation—a  continual  rise  in  the  price  level—the  economy 
must be becoming increasingly monopolized through time, which does not appear to be the case. 
Myth # 3: “Monopolies simply pass on any cost increase to their customers. This myth is also related to 
the first myth. If a monopoly can charge whatever price it wants, then when its costs go up, what’s to stop 
the monopoly from simply raising its prices by the same amount, so as not to lose profits? 
In  truth,  a  monopoly  will  usually  not  be  able  to  protect  itself  in  this  way  from  cost  increases 
because  to  do  so  would  mean  sacrificing  profits.  We  can  see  this  by  examining  two  types  of  cost 
increases.  First,  suppose  there  is  an  increase  in  a fixed cost. As the following diagram shows, an increase 
in fixed costs will shift the ATC curve (from ATC 
1 
D 
MR 
to ATC 
2 

),  but  not  the  MC  curve.  The 

monopoly’s  profits  will  be  reduced,  but there is nothing it can do about it in the short run (while the fixed 
input remains fixed), because MR and MC continue to intersect at the output Q 
1 

, and this 
requires price P 
1 

. Intuitively, the monopoly would like to pass on the cost increase to its customers, but 
to do so would mean losing sales and losing profits. 
P 
Q 
1 
MC 
ATC 
2 
P 
1 
ATC 
1 
D 
0 
MR 
Q 
 
Chapter 12: Monopoly and Antitrust Policy 105 

Consider  the  case  of  a  rise  in  the  cost  of  a  variable  input.  This  will  cause  an  upward  shift  in the 
marginal  cost  curve,  as  shown  in  the  diagram  following.  (The  ATC  curve  will  shift  up  too,  but  it’s  not 
important  in  this  case.)  If  the  monopoly  raised  its  price  by  the  full  amount  of  the  MC  shift,  it  would 
charge P 
3 

. The monopoly would gladly do this if it could continue to sell output Q 

1 

at price 
P 
3 

. But it can’t. Raising price reduces output, and to raise the price to P 
3 

would mean reducing 

output below the new profit-maximizing output Q 
2 

. In the diagram, the new profit-maximizing price is 

P 
2 

, where only part of the cost increase has been passed along to customers. 
P 
Q 
2 
MC P 
3 
2 
P P 
2 
1 
MC 
1 
MR 
D 
Q 
1 
Q 
Application 2: Concerning Bank Mergers A study (Noulas, Ray, and Miller, Journal of Money, Credit and 
Banking, February 1990) has shown that banks have the characteristic U-shape LRATC curve. In 
particular, economies of scale seem to be exhausted at between $3 and $6 billion in assets. 
This  can  be worked into a nice classroom example to illustrate mergers that make sense and those 
that  might  not.  Draw  a  U-shape  LRATC  curve,  with  a  flat  section  where  the  curve  bottoms  out between 
$3  and  $6  billion.  Ask  students:  Why  does  the  LRATC  curve  slope  down  until  that  level  of  assets? 
(Spreading  the  costs  of research, advertising, and computer services over greater loan volume.) Ask: Why 
does  the  LRATC  slope  up  beyond  that  range?  (More  complex  bureaucracy,  slower  decision  making, 
rigidity in policies.) 
Now,  suppose two banks—each with $1 billion in assets—decide to merge. Assuming the interest 
rate  on  loans  is  unchanged,  compare  the  profits  of  the  new  joint bank with the two separate banks. (Joint 
profits  should  be  greater  than  the  sum  of  the separate banks’ profits because average revenue will remain 
the  same  but  average  costs  will  shrink.)  What  can  be  said  about  the  merger  of  two  banks,  each  with  $6 
billion in assets? (Costs will rise, so joint profits will be smaller than the sum of the two banks’ profits.) 
Application 3: Price Discrimination and the Parable of the Small-Town Doctor Price 
discrimination—although discussed in this chapter—is not given extensive treatment in the text. The 
following application can help students to overcome their natural inclination to view all price 
discrimination as “bad.” It also provides yet another opportunity to present the basic imperfect 
competition graph. 
Consider  the  case  of  a  doctor  who  wants  to  open  a  practice  in  a small town that currently has no 
medical  care,  and  currently  where  people  must  travel  long  distances  to  another  town  when  they  are  ill. 
The  problem  is,  setting  up  an  office  with  the  right  equipment  is  costly, and the doctor is worried that she 
won’t  be  able  to  treat  enough  patients  each  month  to  cover  her  setup  costs.  Suppose  the  doctor  faces 
demand and cost curves for her output—“office visits”—as follows: 
 
106 Principles of Microeconomics 
P 
1 
D 0 
q 
2 

The problem is that even when charging the profit-maximizing price P 

1 

the doctor loses 

money—an amount equal to the shaded area P 1 P 2 
BA 
in the diagram. At q 
1 

visits, the doctor would 

have to charge P 
2 

to break even, but at this price fewer than q 

1 

patients would come to see her. 

Thus, the doctor will be unable to open up her office, and the town will not have a doctor. 
Next  suppose  that  the  doctor  can  price  discriminate.  In particular, suppose that she can somehow 
distinguish—perhaps based on her patience income level—which of them would see her at the price P 
1 

and which would not. She then offers a “sliding scale” to all patients who need a price 
below P 
1 

, charging each one the highest price he or she is truly willing to pay, while continuing to 
charge the others P 
1 

. What will happen now? The old marginal revenue curve is no longer relevant beyond q 
1 

, because expanding 
beyond q 
1 

no longer requires a price decrease for all previous patients. The new MR curve beyond P 
1 

is the demand curve itself because each new patient brings in additional revenue equal to the most he 
or she can pay. Profit-maximizing output moves to q 
2 

, where the demand curve (which doubles now as the MR curve) crosses the MC curve. Profits rise as 
well—by the shaded area AFG. If shaded area AFG (additional profits due to price discrimination) is 
larger than shaded area P 1 P 2 
BA 
(original  loss  without  price  discrimination),  the  doctor  can  now  earn  a  profit.  Thus,  price 
discrimination  allows  a  service  to  exist  that  otherwise  would  not.  Moreover,  everyone  who  values  the 
service  more  than  its  marginal  cost  will  be  able  to  purchase  it.  It is hard to argue that this is anything but 
“good.” 
Students may argue that the additional patients earn no consumer surplus, so why are they really 
better off? The point is well taken. But in the example above, it is still true that the first q 
1 
patients  receive  consumer  surplus.  And  if  profits  provide  a  sufficient  cushion,  and  the  doctor  is  so 
inclined, she can charge the patients beyond q 
1 

less than they are willing to pay, so that these 

patients, too, receive some consumer surplus. 
B P 
2 
A 
MC 
G 
ATC 
F 
q 
1 
MR Number of office visits