Question

Consider an industry facing the market demand curve, p = 25 - 0.25 Q. Given the cost situation where average cost is equal to marginal cost which is equal to $10:              (Points 35)                                                                                                                                              

              (a) compute competitive price, quantity, profit and consumer surplus;

              (b) compute monopoly price, quantity, profit, consumer surplus and welfare loss ;     

              (c) show that if a monopolist can further sell its product in the secondary market, then the welfare loss can be diminished.;

              (d) compute the price elasticity of demand at the equilibrium price in both markets.

Answer 1

# a) ​​​​Competitive price = $10

Equilibrium Quantity=60 units

Profit= normal profit ( zero Economic Profit)

Consumer surplus = $450

Explanation-----

In Competitive market , optimum quantity can be determined where price =MC=AC

P= 25-•25Q,MC=$10

At Equilibrium------

25---•25Q=10

Q=60

Putting value of Q in demand equation----

P=25-•25(60)=10$

See graph-----

Equilibrium occurs at point E.

As AC =price, so firm earns normal profits

Consumers surplus ( CS)=1/2(60)(25--10)=$450

#b) Monopoly price = 17•5$

Quantity =30 units

profit =$225

Consumers surplus =$11•25

Welfare loss=$112•5

Explanation-----

A monopoly firm determines its Equilibrium point where MR=MC

See the graph------

We find , equlibrium point =e,where MR=MC, showing equlibrium quantity =30, equlibrium price =$17•5

Firm earns super profits as Ac<AR,see shaded area (abed)

Profit =30(17•5--10)=$225

Consumer surplus ( CS) =1/2(30)(25--17•5)=$11•25( see shaded area)

Welfare loss ( deadweight loss ) = 1/2(60-30)(17•5-10)=$112•5, see shaded area(bel)

#c) If monopolist further start selling its profuct in secondary market, the welfare loss can be diminished as the deadweight loss occurs only due to the teason that the firm doesnot utilise its full potential in order to maximize the profits.By selling in secondary market at low price it can meet out the additional demand of consumers also.

#d) Price Elasticity of demand at Equilibrium Price in both markets--------

price Ed in Competitive market =0•67(inelastic)

price Ed in monopoly market = 2•33(elastic)

Explanation-----

Price Ed= ∆Q/∆P ×P/Q

* Competitive market-----------

P. Q

10. 60

20. 20

Ed= 40/10. × 10/60= •67

* Monopoly market--------

P. Q

17•5. 30

10. 60

Ed = 30/7•5 ×. 17•5/30= 2•33