Question

Scenario 2 The industry demand curve for a particular market is: Q = 1800 - 200P. The industry exhibits constant long-run average cost at all levels of output, regardless of the market structure. Long-run average cost is a constant $1.50 per unit of output. Calculate market output, price (if applicable), consumer surplus, and producer surplus (profit) for each of the scenarios below. Compare the economic efficiency of each possibility.

a. Perfect Competition

b. Pure Monopoly (Hint: MR = 9 - 0.01Q)

c. First Degree Price Discrimination

Answer 1

1.
a. Perfect Competition
Since the LAC is constant, MC is also constant L=LAC
A competitive firm maximizes profit where P =MC.
P = 9 – 0.005Q.
MC=1.50
1.50 = 9 – 0.005Q
Q = 1500
P = 1.50.
Consumer surplus is the area below the demand curve and above the equilibrium price.
CS=0.5*7.50*1500=5625.
Producer surplus is zero because MC is horizontal.

b. Pure Monopoly
TR=P*Q
TR=(9 – 0.005Q)Q
MR=dTR/dQ
MR = 9 – 0.01Q
A monopoly maximizes profit where MR = MC
9 – 0.01Q = 1.50
Q = 750
P=9-0.005*750=5.25.
The consumer surplus is the triangle above 5.25 and below the demand curve
from the output of zero to 750. This triangle as the height of 9 – 5.25 = 3.75 and width of 750, so its
CS=0.5*(9-5.25)*750=1406.25
PS= 3.75 *750 =2,812.50
Total surplus=CS+PS
= 1,406.25 +2,812.50
= 4,218.75

c. First-Degree Price Discrimination
Here the whole surplus is producer surplus
PS=5625(from competitive firms consumer surplus)

Perfect competition and first-degree price discrimination are efficient in the sense that no deadweight loss is created.However pure monopoly is inefficient.