Question

Are major-league baseball clubs profit-maximizing monopolies? Some observers of this market have contended that baseball club owners want to maximize attendance or revenue. Alexander (2001) says that one test of whether a firm is a profit-¬maximizing monopoly is to check whether the firm is operating in the elastic portion of its demand curve (which he finds is true). Why is that a relevant test? What would the elasticity be if a baseball club were maximizing revenue?

Answer 1

The elasticity of the firm will be a good test if the firm is maximizing profits or not if its demand is elastic.

This is true because if the firm is operating at the elastic level of the demand curve then it means that the firm can gain more profits by lowering the prices because the elastic portion of the demand curve will change the demand to more extent than the change in the price. If the firm will be at the inelastic portion then any change in the price will not or very less affect the demand.

The test is relevant to check if the firm does not lie at very low portion of the demand curve which will mean that it has lowered its price very much to increase the demand and exploiting the market. Or vice a versa charging very high prices at the upper portion of the demand curve and taking advantage of the monopoly position.The club will lie at the middle of the demand curve if it has to  maximize the profits.

For the maximization of the revenue the baseball club will have to lie between the demand curve i.e the elasticity of demand should be equal to 1. That means that the demand will change to the same extent as the change in the prices. At this point the firm will not have to incur the losses by lowering its prices to increase the demand.