1. 10-1 Copyright  2007 McGraw-Hill Australia Pty Ltd PPTs t/a Principles of Microeconomics by Frank, Bernanke and Jennings Slides prepared by Nahid Khan Chapter 10 Monopoly and other forms of imperfect competition

2. 10-2 Copyright  2007 McGraw-Hill Australia Pty Ltd PPTs t/a Principles of Microeconomics by Frank, Bernanke and Jennings Slides prepared by Nahid Khan Imperfect competition Perfect competition –Firms have no control over price. –Firms produce homogenous products. –Price equal the marginal cost of production. –Long-run economic profits are not possible due to free entry and exit. –An ideal market that maximises economic surplus. –A situation that does not always exist.

3. 10-3 Copyright  2007 McGraw-Hill Australia Pty Ltd PPTs t/a Principles of Microeconomics by Frank, Bernanke and Jennings Slides prepared by Nahid Khan Imperfect competition Imperfectly competitive firms –Have some control over price. –Price may be greater than the cost of production. –Long-run economic profits are possible. –Face a downward-sloping demand curve. –Contribute to loss of efficiency. –Are very common in every economy. –Reduce economic surplus to varying degrees by restricting output.

4. 10-4 Copyright  2007 McGraw-Hill Australia Pty Ltd PPTs t/a Principles of Microeconomics by Frank, Bernanke and Jennings Slides prepared by Nahid Khan Imperfect competition Different forms of imperfect competition –Pure monopoly –Oligopoly –Monopolistic competition

5. 10-5 Copyright  2007 McGraw-Hill Australia Pty Ltd PPTs t/a Principles of Microeconomics by Frank, Bernanke and Jennings Slides prepared by Nahid Khan Imperfect competition Various forms of imperfect competition –Pure monopoly (most inefficient)  The only supplier of a unique product with no close substitutes, examples City power provider Only petrol station in a small town AFL football league

6. 10-6 Copyright  2007 McGraw-Hill Australia Pty Ltd PPTs t/a Principles of Microeconomics by Frank, Bernanke and Jennings Slides prepared by Nahid Khan Imperfect competition Various forms of imperfect competition –Oligopoly (more efficient than a monopoly)  A firm that produces a product for which only a few rival firms produce close substitutes, examples Major banks in Australia BP, Shell, Mobil Airlines

7. 10-7 Copyright  2007 McGraw-Hill Australia Pty Ltd PPTs t/a Principles of Microeconomics by Frank, Bernanke and Jennings Slides prepared by Nahid Khan Imperfect competition Different forms of imperfect competition –Monopolistic competition (closest to perfect competition)  A large number of firms that produce slightly differentiated products that are reasonably close substitutes for one another, examples Restaurants in Lygon Street Novels, films, CDs

8. 10-8 Copyright  2007 McGraw-Hill Australia Pty Ltd PPTs t/a Principles of Microeconomics by Frank, Bernanke and Jennings Slides prepared by Nahid Khan Imperfect competition The essential difference between perfectly and imperfectly competitive firms comes from possible substitutability of products –The perfectly competitive firm faces a perfectly elastic demand for its product. –The imperfectly competitive firm faces a downward- sloping demand curve.

9. 10-9 Copyright  2007 McGraw-Hill Australia Pty Ltd PPTs t/a Principles of Microeconomics by Frank, Bernanke and Jennings Slides prepared by Nahid Khan Imperfect competition In perfect competition –Supply and demand determine equilibrium price. The firm has no market power. –At the equilibrium price, the firm sells all it wishes.

10. 10-10 Copyright  2007 McGraw-Hill Australia Pty Ltd PPTs t/a Principles of Microeconomics by Frank, Bernanke and Jennings Slides prepared by Nahid Khan Imperfect competition With perfect competition –If the firm raises its price, sales will be zero. –If the firm lowers its price, sales will not increase. –The firm’s demand curve is the horizontal line at the market price.

11. 10-11 Copyright  2007 McGraw-Hill Australia Pty Ltd PPTs t/a Principles of Microeconomics by Frank, Bernanke and Jennings Slides prepared by Nahid Khan Imperfect competition With imperfect competition –The firm has some control over price or some market power. –The firm faces a downward-sloping demand curve. –In the case of a monopoly, the firm’s demand curve is the market demand curve.

12. 10-12 Copyright  2007 McGraw-Hill Australia Pty Ltd PPTs t/a Principles of Microeconomics by Frank, Bernanke and Jennings Slides prepared by Nahid Khan The demand curves facing perfectly and imperfectly competitive firms Quantity $/unit of output D Market price Price Quantity D Perfectly competitive firmImperfectly competitive firm

13. 10-13 Copyright  2007 McGraw-Hill Australia Pty Ltd PPTs t/a Principles of Microeconomics by Frank, Bernanke and Jennings Slides prepared by Nahid Khan Five sources of market power Exclusive control over inputs  A singer with gifted talent Government-created monopolies  A new pharmaceutical drug  Taxi licenses Economies of scale (natural monopolies)  City water supply Network economies  Microsoft Windows

14. 10-14 Copyright  2007 McGraw-Hill Australia Pty Ltd PPTs t/a Principles of Microeconomics by Frank, Bernanke and Jennings Slides prepared by Nahid Khan Economies of scale and the importance of fixed costs Firms with large fixed costs and low variable costs –Have low marginal costs –Average total cost declines sharply as output increases –Have higher proportion of fixed cost than variable cost in average total cost –Economies of scale will exist

15. 10-15 Copyright  2007 McGraw-Hill Australia Pty Ltd PPTs t/a Principles of Microeconomics by Frank, Bernanke and Jennings Slides prepared by Nahid Khan Total and average total costs for a production process with economies of scale Quantity Total cost ($/year) F Q0Q0 F + Q 0 TC = F + MQ Total cost rises at a constant rate as output rises Average cost ($/unit) Quantity ATC = F/Q + M M Average costs decline and is always higher than marginal cost

16. 10-16 Copyright  2007 McGraw-Hill Australia Pty Ltd PPTs t/a Principles of Microeconomics by Frank, Bernanke and Jennings Slides prepared by Nahid Khan Costs for two computer game producers (1) Nintendo PlayStation Annual production1,000 000 1,200 000 Fixed cost$200 000 $200 000 Variable cost$800 000 $960 000 Total cost$1,000 000 $1,160 000 Average total cost per game $1.00 $0.97 Observations Fixed costs are a relatively small share of total cost. Cost/game is nearly the same.

17. 10-17 Copyright  2007 McGraw-Hill Australia Pty Ltd PPTs t/a Principles of Microeconomics by Frank, Bernanke and Jennings Slides prepared by Nahid Khan Costs for two computer game producers (2) Annual production1,000 000 1,200 000 Fixed cost$10,000 000 $10,000 000 Variable cost$200 000 $240 000 Total cost$10,200 000$10,240 000 Average total cost per game $10.20 $8.53 Nintendo PlayStation Observations Fixed costs are a relatively large share of total cost. PlayStation has a $1.67 average cost advantage. PlayStation can lower prices, cover cost and attract customers.

18. 10-18 Copyright  2007 McGraw-Hill Australia Pty Ltd PPTs t/a Principles of Microeconomics by Frank, Bernanke and Jennings Slides prepared by Nahid Khan Annual production500 000 1,700 000 Fixed cost$10,000 000 $10,000 000 Variable cost$100 000 $340 000 Total cost$10,100 000$10,340 000 Average total cost per game $20.20 $6.08 Costs for two computer game producers (3) Nintendo PlayStation Shift of 500,000 units to PlayStation. Nintendo’s average cost increases to $20.20/unit. PlayStation average cost falls to $6.08. A large number of firms cannot survive when the cost differential is high.

19. 10-19 Copyright  2007 McGraw-Hill Australia Pty Ltd PPTs t/a Principles of Microeconomics by Frank, Bernanke and Jennings Slides prepared by Nahid Khan Economies of scale and the importance of fixed costs Fixed investment in research and development has been increasing as a share of production costs. 198420%80% 199080%20% Cost of producing a computer Fixed costVariable cost SoftwareHardware

20. 10-20 Copyright  2007 McGraw-Hill Australia Pty Ltd PPTs t/a Principles of Microeconomics by Frank, Bernanke and Jennings Slides prepared by Nahid Khan Economies of scale and the importance of fixed costs (cont.) Thinking as an economist –Why does Intel sell the overwhelming majority of microprocessors used in personal computers? As fixed costs become more important, the perfectly competitive pattern becomes less common.

21. 10-21 Copyright  2007 McGraw-Hill Australia Pty Ltd PPTs t/a Principles of Microeconomics by Frank, Bernanke and Jennings Slides prepared by Nahid Khan Profit maximisation for the monopolist A price taker (perfect competition) and a price setter (imperfect competition) share two economic goals. They want –to maximise profits –to select the output level that maximises the difference between TR and TC, where MR = MC.

22. 10-22 Copyright  2007 McGraw-Hill Australia Pty Ltd PPTs t/a Principles of Microeconomics by Frank, Bernanke and Jennings Slides prepared by Nahid Khan Profit maximisation for the monopolist Marginal revenue for the monopolist –Firms in perfect competition and monopoly firms (assuming a single price firm)  Both increase output when MR > MC.  Calculate MC the same way.  Do not have the same MR at a given price. In perfect competition: MR = P In monopoly: MR < P

23. 10-23 Copyright  2007 McGraw-Hill Australia Pty Ltd PPTs t/a Principles of Microeconomics by Frank, Bernanke and Jennings Slides prepared by Nahid Khan The monopolist’s benefit from selling an additional unit Price ($/unit) Quantity (units/week) D 8 8 2 6 3 5 If P = $6, then TR = $6 x 2 = $12 If P = $5, then TR = $5 x 3 = $15 The MR of selling the 3rd unit = $3 (15-12) For the 3rd unit, MR = $3 < P = $5

24. 10-24 Copyright  2007 McGraw-Hill Australia Pty Ltd PPTs t/a Principles of Microeconomics by Frank, Bernanke and Jennings Slides prepared by Nahid Khan Observations –MR declines as quantity increases. –MR is the change between two quantities. –MR < P because price must be lowered to sell an additional unit. PQTRMR 3 1 Marginal revenue in graphical form 6212 5315 4416 3515

25. 10-25 Copyright  2007 McGraw-Hill Australia Pty Ltd PPTs t/a Principles of Microeconomics by Frank, Bernanke and Jennings Slides prepared by Nahid Khan Price & marginal revenue ($/unit) Quantity (units/week) 8 8 D 432 3 5 1 MR Marginal revenue in graphical form PQTRMR 3 1 6212 5315 4416 3515

26. 10-26 Copyright  2007 McGraw-Hill Australia Pty Ltd PPTs t/a Principles of Microeconomics by Frank, Bernanke and Jennings Slides prepared by Nahid Khan The marginal revenue curve for a monopolist with a straight-line demand curve Price Quantity Observations The vertical intercept, a, is the same for MR and D. The horizontal intercept for MR, Q 0 /2, is one half the demand intercept, Q 0.. D Q0Q0 a Q 0 /2 a/2 MR

27. 10-27 Copyright  2007 McGraw-Hill Australia Pty Ltd PPTs t/a Principles of Microeconomics by Frank, Bernanke and Jennings Slides prepared by Nahid Khan Profit maximisation for the monopolist Profit maximising decision rule: –When MR > MC, output should be increased. –When MR < MC, output should be reduced. –Profits are maximised at the level of output for which MR = MC. –Set the price that consumers are willing to pay at that level of output.

28. 10-28 Copyright  2007 McGraw-Hill Australia Pty Ltd PPTs t/a Principles of Microeconomics by Frank, Bernanke and Jennings Slides prepared by Nahid Khan The monopolist’s profit-maximising output level Price ($/unit of output) Quantity (units/week) 6 D 3 1224 Marginal cost 2 4 MR 8 Observations If P = $3 & Q = 12 MR < MC and output should be reduced. Profits are maximised at 8 units where MR = MC. The maximum single price at which 8 units can be sold is P=$4.

29. 10-29 Copyright  2007 McGraw-Hill Australia Pty Ltd PPTs t/a Principles of Microeconomics by Frank, Bernanke and Jennings Slides prepared by Nahid Khan Even a monopolist may suffer an economic loss Price ($/minute) Minutes (millions/day) Price ($/minute) Minutes (millions/day) 2420 0.12 0.10 ATC 20 0.08 0.10 ATC Economic loss = $400 000/day Economic profit = $400 000/day D 0.05 MC MR D 0.05 MC MR Being a monopolist doesn’t guarantee an economic profit

30. 10-30 Copyright  2007 McGraw-Hill Australia Pty Ltd PPTs t/a Principles of Microeconomics by Frank, Bernanke and Jennings Slides prepared by Nahid Khan D 3 12 6 24 Marginal cost The socially optimal amount occurs where MC = D(MR) at 12 units The demand and marginal cost curves for a monopolist Price ($/unit of output) Quantity (units/week) Why the invisible hand breaks down under monopoly

31. 10-31 Copyright  2007 McGraw-Hill Australia Pty Ltd PPTs t/a Principles of Microeconomics by Frank, Bernanke and Jennings Slides prepared by Nahid Khan 2 4 MR 8 The profit maximising level of output of 8 units, where MR = MC, is less than the socially optimal output of 12. Between 8 and 12, MB to society > MC to society. Single-price monopolist will not increase output because MR<MC. The demand and marginal cost curves for a monopolist (cont.) Price ($/unit of output) Quantity (units/week) D 12 6 24 Why the invisible hand breaks down under monopoly 3 Marginal cost

32. 10-32 Copyright  2007 McGraw-Hill Australia Pty Ltd PPTs t/a Principles of Microeconomics by Frank, Bernanke and Jennings Slides prepared by Nahid Khan 2 4 MR 8 Because MR < P, the monopoly produces less than the socially optimal amount The deadweight loss of the monopoly to society = (1/2)($2/unit)(4units/wk) = $4/wk. Deadweight loss The demand and marginal cost curves for a monopolist (cont.) Price ($/unit of output) Quantity (units/week) D 12 6 24 Why the invisible hand breaks down under monopoly 3 Marginal cost

33. 10-33 Copyright  2007 McGraw-Hill Australia Pty Ltd PPTs t/a Principles of Microeconomics by Frank, Bernanke and Jennings Slides prepared by Nahid Khan Why the invisible hand breaks down under monopoly Monopoly –Profits are maximised where MR = MC –P > MR –P > MC –Deadweight loss Perfect competition –Profits are maximised where MR = MC –P = MR –P = MC –No deadweight loss

34. 10-34 Copyright  2007 McGraw-Hill Australia Pty Ltd PPTs t/a Principles of Microeconomics by Frank, Bernanke and Jennings Slides prepared by Nahid Khan Why the invisible hand breaks down under monopoly (cont.) Difficulties in reducing the deadweight loss of monopolies –Enforcing competition and anti-monopoly laws –Patents, copyrights and innovation –Natural monopolies

35. 10-35 Copyright  2007 McGraw-Hill Australia Pty Ltd PPTs t/a Principles of Microeconomics by Frank, Bernanke and Jennings Slides prepared by Nahid Khan Price discrimination –The practice of charging different buyers different prices for essentially the same good or service, where differences do not simply reflect differences in costs of supplying different buyers. Examples of price discrimination –Senior citizens and student discounts on movie tickets –Supersaver discounts on air travel –Rebate coupons Using discounts to expand the market

36. 10-36 Copyright  2007 McGraw-Hill Australia Pty Ltd PPTs t/a Principles of Microeconomics by Frank, Bernanke and Jennings Slides prepared by Nahid Khan Using discounts to expand the market (cont.) Thinking as an economist –Why do many movie theatres offer discount tickets to students? –Why do most airlines have peak and off-peak rates? –Why do fitness clubs have a membership fee and per unit price?

37. 10-37 Copyright  2007 McGraw-Hill Australia Pty Ltd PPTs t/a Principles of Microeconomics by Frank, Bernanke and Jennings Slides prepared by Nahid Khan Example –Rosie can edit term papers for eight students each with a different reservation price. If Rosie’s opportunity cost of her time to edit each paper is $29 and she must charge a single price to each student, how many term papers should Rosie edit? How much economic profit would she make? Using discounts to expand the market (cont.)

38. 10-38 Copyright  2007 McGraw-Hill Australia Pty Ltd PPTs t/a Principles of Microeconomics by Frank, Bernanke and Jennings Slides prepared by Nahid Khan Total and marginal revenue from editing Reservation priceTotal revenueMarginal revenue Student($ per paper)($ per week)($ per paper) A4040 B3876 C36108 D34136 E32160 F30180 G28196 H26208 40 36 32 28 24 20 16 12

39. 10-39 Copyright  2007 McGraw-Hill Australia Pty Ltd PPTs t/a Principles of Microeconomics by Frank, Bernanke and Jennings Slides prepared by Nahid Khan Using discounts to expand the market Example –How many manuscripts should Rosie edit when she must charge all buyers the same amount?  Opportunity cost = $29  TR = P x Q, or for 4 papers, 4 x $34 = $136/wk  MR is the difference in TR from adding another student  If MR > MC: increase output

40. 10-40 Copyright  2007 McGraw-Hill Australia Pty Ltd PPTs t/a Principles of Microeconomics by Frank, Bernanke and Jennings Slides prepared by Nahid Khan Why the invisible hand breaks down under monopoly Example –How many manuscripts should Rosie edit?  Rosie edits 3 papers TC = 3 x $29 = $87 TR = $108 Economic profit = $108 - $87 = $21/wk Accounting profit = $108

41. 10-41 Copyright  2007 McGraw-Hill Australia Pty Ltd PPTs t/a Principles of Microeconomics by Frank, Bernanke and Jennings Slides prepared by Nahid Khan Why the invisible hand breaks down under monopoly Example –How many manuscripts should Rosie edit?  Opportunity cost = $29  Must charge the same price  Reservation price > opportunity cost for student A to F  Socially efficient number is 6 TR = 6 x $30 = $180 TC = 6 x $29 = $174 Economic profit = $180- $174 = $6 Accounting profit = $180

42. 10-42 Copyright  2007 McGraw-Hill Australia Pty Ltd PPTs t/a Principles of Microeconomics by Frank, Bernanke and Jennings Slides prepared by Nahid Khan Why the invisible hand breaks down under monopoly Example –If Rosie can price discriminate, how many papers should she edit?  Assume Rosie can charge each student their reservation price.

43. 10-43 Copyright  2007 McGraw-Hill Australia Pty Ltd PPTs t/a Principles of Microeconomics by Frank, Bernanke and Jennings Slides prepared by Nahid Khan Example Reservation Studentprice A40 B38 C36 D34 E32 F30 G28 H26 Rosie would edit A to F TR = $40 + $38… = $210 TC = 6 x $29 = $174 Economic Profit = $210 - $174 = $36/wk Economic profit is $30 more than when she had to charge a single price.

44. 10-44 Copyright  2007 McGraw-Hill Australia Pty Ltd PPTs t/a Principles of Microeconomics by Frank, Bernanke and Jennings Slides prepared by Nahid Khan Using discounts to expand the market Perfectly discriminating monopolist –Charging each buyer exactly their reservation price  Economic surplus is maximised  Consumer surplus is zero  Economic surplus = producer surplus  No deadweight loss

45. 10-45 Copyright  2007 McGraw-Hill Australia Pty Ltd PPTs t/a Principles of Microeconomics by Frank, Bernanke and Jennings Slides prepared by Nahid Khan Using discounts to expand the market (cont.) Limitations to perfect price discrimination –Seller will not know each buyer’s reservation price. –Low price buyers could resell to other buyers at a higher price.

46. 10-46 Copyright  2007 McGraw-Hill Australia Pty Ltd PPTs t/a Principles of Microeconomics by Frank, Bernanke and Jennings Slides prepared by Nahid Khan Using discounts to expand the market (cont.) Group pricing –A form of price discrimination where different discounts are offered in different submarkets, while members of particular submarket all receive the same discount. –Group pricing essentially allows a firm to divide its market into two submarkets in which it can charge two different prices. –In each market the firm can charge the same price to every buyer like an ordinary monopolist. –Therefore the firm should keep expanding output in each submarket as long as MR in that submarket exceeds MC.

47. 10-47 Copyright  2007 McGraw-Hill Australia Pty Ltd PPTs t/a Principles of Microeconomics by Frank, Bernanke and Jennings Slides prepared by Nahid Khan Using discounts to expand the market (cont.) Group pricing –Question: Suppose Rosie knows that students whose reservation prices are at least $34 are science students, while those whose reservation prices are below $34 are commerce students. How much should Rosie charge for editing if she uses group pricing?

48. 10-48 Copyright  2007 McGraw-Hill Australia Pty Ltd PPTs t/a Principles of Microeconomics by Frank, Bernanke and Jennings Slides prepared by Nahid Khan Using discounts to expand the market (cont.) The hurdle method of price discrimination –The practice by which a seller offers a discount to all buyers who overcome some obstacle. –Examples:  Rebate coupon  Bundling of goods  Foregoing extras that come with a higher price

49. 10-49 Copyright  2007 McGraw-Hill Australia Pty Ltd PPTs t/a Principles of Microeconomics by Frank, Bernanke and Jennings Slides prepared by Nahid Khan Using discounts to expand the market (cont.) The hurdle method of price discrimination is used to solve two problems: –Seller does not know the reservation prices. –Seller must separate high and low price buyers.

50. 10-50 Copyright  2007 McGraw-Hill Australia Pty Ltd PPTs t/a Principles of Microeconomics by Frank, Bernanke and Jennings Slides prepared by Nahid Khan Using discounts to expand the market (cont.) A perfect hurdle –Completely segregates buyers whose reservation prices lie above it from others whose reservation prices lie below it, imposing no cost on those who jump the hurdle. What do you think? –Is a perfect hurdle possible?

51. 10-51 Copyright  2007 McGraw-Hill Australia Pty Ltd PPTs t/a Principles of Microeconomics by Frank, Bernanke and Jennings Slides prepared by Nahid Khan Using discounts to expand the market (cont.) Question –How much should Rosie charge for editing if she uses a perfect hurdle? Assume –Rosie offers a mail in rebate coupon. –Students with at least a $36 reservation price never use the coupon. –Students with a reservation price below $36 use the coupon. –Opportunity cost = $29. –Discount coupon = $4.

52. 10-52 Copyright  2007 McGraw-Hill Australia Pty Ltd PPTs t/a Principles of Microeconomics by Frank, Bernanke and Jennings Slides prepared by Nahid Khan Price discrimination with a perfect hurdle Reservation priceTotal revenueMarginal revenue Student($ per paper)($ per week)($ per paper) A4040 B3876 C36108 D3434 E3264 F3090 G28112 H26130 40 36 32 List price submarket Discount price submarket 34 30 26 22 18

53. 10-53 Copyright  2007 McGraw-Hill Australia Pty Ltd PPTs t/a Principles of Microeconomics by Frank, Bernanke and Jennings Slides prepared by Nahid Khan Using discounts to expand the market (cont.) Solution –TR = (3)(36) + (2)(32) = $172 –MC = ($5)($29) = $145 –Economic profit = $27/wk Question –Is price discrimination a desirable thing?  The hurdle method raised economic surplus.

54. 10-54 Copyright  2007 McGraw-Hill Australia Pty Ltd PPTs t/a Principles of Microeconomics by Frank, Bernanke and Jennings Slides prepared by Nahid Khan Producer surplus –Single price = 3(36 - 29) = $21/wk –Discount price = 3(36 - 29) = $21/wk 2(32 - 29) = $6/wk $27/wk Calculating economic surplus Consumer surplusReservation priceActual priceConsumer surplus A$40$36$4 B$38$36$2 C$36$36$0 Both Single price & discount Without discount $6 D$34$22$2 With discount $8 Using discounts to expand the market (cont.)

55. 10-55 Copyright  2007 McGraw-Hill Australia Pty Ltd PPTs t/a Principles of Microeconomics by Frank, Bernanke and Jennings Slides prepared by Nahid Khan Using discounts to expand the market (cont.) Question –Is Rosie’s discount rebate socially efficient?

56. 10-56 Copyright  2007 McGraw-Hill Australia Pty Ltd PPTs t/a Principles of Microeconomics by Frank, Bernanke and Jennings Slides prepared by Nahid Khan Using discounts to expand the market (cont.) Examples of price discrimination –Temporary sales –Book publishers and paperback books –Automobile producers offer various models –Commercial air carriers –Movie producers

57. 10-57 Copyright  2007 McGraw-Hill Australia Pty Ltd PPTs t/a Principles of Microeconomics by Frank, Bernanke and Jennings Slides prepared by Nahid Khan Using discounts to expand the market (cont.) Thinking as an economist –Why might an appliance retailer instruct its salespeople to hammer dents into the sides of its stoves and refrigerators?

58. 10-58 Copyright  2007 McGraw-Hill Australia Pty Ltd PPTs t/a Principles of Microeconomics by Frank, Bernanke and Jennings Slides prepared by Nahid Khan Using discounts to expand the market (cont.) Summary –Single price monopolies are inefficient because P > MR. –The hurdle method of price discrimination reduces the inefficiency. –Hurdles are not perfect, therefore, there will be some efficiency loss. –The more finely the seller can discriminate, the smaller the efficiency loss.

59. 10-59 Copyright  2007 McGraw-Hill Australia Pty Ltd PPTs t/a Principles of Microeconomics by Frank, Bernanke and Jennings Slides prepared by Nahid Khan Public policy towards competition National competition policy –Competitive markets will generally serve the interests of consumers. –Wider community can provide strong incentives for suppliers. –Promote efficiency and innovation.

60. 10-60 Copyright  2007 McGraw-Hill Australia Pty Ltd PPTs t/a Principles of Microeconomics by Frank, Bernanke and Jennings Slides prepared by Nahid Khan The Trade Practices Act and the ACCC –Promotion of competition and fair trading –Provision of consumer protection Thinking as an economist –How does the ACCC use cost-benefit thinking in applying the Act’s authorisation and notification processes? Public policy towards competition (cont.)

61. 10-61 Copyright  2007 McGraw-Hill Australia Pty Ltd PPTs t/a Principles of Microeconomics by Frank, Bernanke and Jennings Slides prepared by Nahid Khan Regulating natural monopolies –State ownership, marginal cost pricing versus the cost of less incentive for innovation –Exclusive contracting for natural monopoly  Competition for the contract sets P = MC  Difficulty when fixed costs are high such as electric utilities Public policy towards competition (cont.)

62. 10-62 Copyright  2007 McGraw-Hill Australia Pty Ltd PPTs t/a Principles of Microeconomics by Frank, Bernanke and Jennings Slides prepared by Nahid Khan Public policy toward natural monopoly Regulating natural monopolies in Australia Abandoned direct regulation Incentive compatible regulatory regimes such as price caps

63. 10-63 Copyright  2007 McGraw-Hill Australia Pty Ltd PPTs t/a Principles of Microeconomics by Frank, Bernanke and Jennings Slides prepared by Nahid Khan What do you think? –Should we regulate natural monopolies? Public policy toward natural monopoly (cont.)