1. Monopolistic Competition, Price Discrimination
Brandon Chang, Thomas Chang

2. 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

3. Monopolistic Competition in the Long Run
Firms in monopolistic competition cannot make economic profit in the long run.

4. Short Run Short run similar to monopoly market
Demand is downward sloping
Marginal Revenue is below demand curve
Slopes down twice as steeply

5. Long 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

6. Economic Loss
Once firms start facing economic losses, they can simply leave the market.
This increases the demand for other firms inside the market.

7. Efficiency 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

8. Definition Price Discrimination:
A business sells the same good to customers at different prices
The cost to manufacture the product is the same

9. Chang Airlines
Chang Airlines has two types of customers, business travelers willing to pay at most $550 per ticket and students willing to pay at most $150 per ticket. There are 2,000 of each kind of customer. Chang Airlines has constant marginal cost of $125 per seat. If Air Sunshine could charge these two types of customers different prices, it would maximize its profit by charging business travelers $550 and students $150 per ticket. It would capture all of the consumer surplus as profit.

10. Chang Airlines
Panel (a) shows a monopolist that charges two different prices; its profit is shown by the shaded area. Panel (b) shows a monopolist that charges three different prices; its profit, too, is shown by the shaded area. It is able to capture more of the consumer surplus and to increase its profit. That is, by increasing the number of different prices charged, the monopolist captures more of the consumer surplus and makes a larger profit.

11. Chang Airlines

12. 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

13. Effects of Price Discrimination
Two important effects of price discrimination:
It can increase the monopolist’s profits.
It can reduce deadweight loss.

14. Single-Price Monopolist
Copyright © South-Western
Profit
(a) Monopolist with Single Price
Price
Quantity
Deadweight
loss
Demand
Marginal
revenue
Consumer
surplus
Quantity sold
Monopoly
price
Marginal cost
A monopolist who charges everyone the same price

15. Deadweight Loss and Efficiency
Price
Marginal cost
Demand
(value to buyers)
Value to
buyers
Cost to
monopolist
Efficient
quantity
Cost to
monopolist
Value to
buyers
Quantity
Value to buyers
is greater than
cost to seller.
Value to buyers
is less than
cost to seller.
Copyright © South-Western

16. Deadweight Loss The Inefficiency of Monopoly
The monopolist produces less than the socially efficient quantity of output.

17. Deadweight Loss and Efficiency
Copyright © South-Western
Quantity
Price
Deadweight
loss
Demand
Marginal
revenue
Marginal cost
Efficient
quantity
Monopoly
price
Because a monopoly charges a price above marginal cost, not all consumers who value the good at more than its cost buy it. Thus, the quantity produced and sold by a monopoly is below the socially efficient level. The deadweight loss is represented by the area of the triangle between the demand curve (which reflects the value of the good to consumers) and the marginal-cost curve (which reflects the costs of the monopoly producer).

18. Deadweight 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.

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

20. Multiple Choice: Q. 1
1. Which of the following is a characteristic of a monopolistic competition?
A standardized product
Many sellers
Barrier to entry
Positive long-run profits
A perfectly elastic demand curve

21. Multiple Choice: Q. 1 B

22. Multiple Choice: Q. 2
Which of the following results is possible for a monopolistic competitor in the short run?
I. positive economic profit
II. Normal profit
III. Loss
I only
II only
III only
I and II only
I, II, III

23. Multiple Choice: Q. 2 E

24. Multiple Choice: Q. 3
Which of the following results is possible for a monopolistic competitor in the short run?
I. positive economic profit
II. Normal profit
III. Loss
I only
II only
III only
I and II only
I, II, III

25. Multiple Choice: Q. 3 B

26. Multiple Choice: Q. 4
The long-run outcome in a monopolistically competitive industry results in
Inefficiency because firms earn positive economic profits
Efficiency due to excess capacity
Inefficiency due to product diversity
Efficiency because price exceeds marginal cost
A trade-off between higher average total cost and more product diversity

27. Multiple Choice: Q. 4 E

28. Multiple Choice: Q. 5
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

29. Multiple Choice: Q. 5 D

30. Multiple Choice: Q. 6
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.

31. Multiple Choice: Q. 6 C

32. Multiple Choice: Q. 7
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.

33. Multiple Choice: Q. 7 B

34. Multiple Choice: Q. 8
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.

35. Multiple Choice: Q. 8 A

36. True 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.

37. True or False: Q. 1
FALSE
The opposite is true. A price-discriminating monopolist will sell to some customers that would not find the product affordable if purchasing from a single-price monopolist—namely, customers with a high price elasticity of demand who are willing to pay only a relatively low price for the good.

38. True or False: Q. 2
A price-discriminating monopolist creates more inefficiency than a single-price monopolist because it captures more of the consumer surplus.

39. True or False: Q. 2
FALSE
Although a price-discriminating monopolist does indeed capture more of the consumer surplus, less inefficiency is created: more mutually beneficial transactions occur because the monopolist makes more sales to customers with a low willingness to pay for the good.

40. True or False: Q. 3
Under price discrimination, a customer with highly elastic demand will pay a lower price than a customer with inelastic demand.

41. True or False: Q. 3
TRUE
Under price discrimination consumers are charged prices that depend on their price elasticity of demand. A consumer with highly elastic demand will pay a lower price than a consumer with inelastic demand.

42. Skill 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.
2.a.This is not a case of price discrimination because the product itself is different and all consumers, regardless of their price elasticities of demand, value the damaged merchandise less than undamaged merchandise. So the price must be lowered to sell the merchandise.
b.This is a case of price discrimination. Senior citizens have a higher price elasticity of demand for restaurant meals (their demand for restaurant meals is more responsive to price changes) than other patrons. Restaurants lower the price to high-elasticity consumers (senior citizens). Consumers with low price elasticity of demand will pay the full price.
c.This is a case of price discrimination. Consumers with a high price elasticity of demand will pay a lower price by collecting and using discount coupons. Consumers with a low price elasticity of demand will not use coupons.
d.This is not a case of price discrimination; it is simply a case of supply and demand.