Econ 4001.01 1st Edition Lecture 16Outline of Last Lecture II. Price Floor Applicationa. Minimum wageIII. Example: Government Support for AgricultureIV. Impact of Taxes and SubsidiariesV. SubsidiesOutline of Current Lecture VI. Market Power and Monopolya. Market Power definitionVII. Characteristics of a MonpolyVIII.Example Ford MotorsIX. Information on Patent and TrademarksX. Simple Revenue for a MonopolistXI. Profit Maximization for a MonopolistXII. Learner Impacts on PricingCurrent Lecture- Market Power and Monopolyo Market Power: Alters relationship between buyers and sellers Allows for gap between seller’s costs and buyer’s willing to pay- Characteristics of Monopolyo Monopolist- only seller in a market faces the entire demand curve by itself- Types of Entry Barrierso Statutory- government restricts entryo Patent, trademark or copyright protection- one firm established exclusive right tosell a product, use a processo Natural- high fixed costs lead to downward sloping ATCo Cost advantage- one firm has much lower costso Marketing advantage- buyers have preference for one firm’s goods or services- Example: Ford Motoro A low cost firm that became a monopolyThese notes represent a detailed interpretation of the professor’s lecture. GradeBuddy is best used as a supplement to your own notes, not as a substitute.o Initially the market was in equilibrium with cars crafted by hand and sold as luxury itemso Prices for cars were around $1,000 (close to $21,000 adjusted for inflation)o Ford’s methods created much lower costs than it’s competitors ($300-$400 vs. $800-$900)o Ford could have sold cars at the market price and pocketed the profit, but insteadFord kept dropping priceso Ford produced 40% of all cars sold in US during the teens and twentieso Since Ford had control of his prices, it was no longer engaged in perfect competition; it had market power (near monopolist)- Information on Patents, Trademarkso Patents are a form of Intellectual Property, they give the owner exclusive right to sell a product/use a process Copyright- exclusive right to a creative work Trademark- exclusive right to words or designo US constitution- Article 1 Section 8: “To promote the progress of science and useful arts, by securing for a limited times, authors and inventors the exclusive right to their respectivewritings and discoveries”o If someone gets a patent for an object, but does not produce it then they can lose their patent- Digression on the Constitutiono We the people wanted our government to… Provide for the common defense Maintain civil authority and keep us safe (police/justice/jails) Provide infrastructure- roads, bridges, dams, etc.o Separation of Powerso Federal government gained the obligation of promoting growth of the economy and reducing downturns in ito The Congress has the right to be involved in commerce and therefore monopolies- Simple Revenue for Monopolisto Price is always found on the demand curveo MR curve is always below the demand curve- Profit Maximization for Monopolisto We showed (with competitive firms) that profits are maximized at quantity where MR=MCo With competitive firms, the price they receive is independent of their quantity, so P=AR=MR=MCo For monopolists, their quantity affects market price, so P=AR>MR=MCo Monopolists in general will make a profit at the market equilibrium in the long run and the short run- Understanding Marginal Revenueo When a monopolist lowers price, there are two effects Quantity effect: results in additional sale to the marginal buyer; value of this sale is $P Price Effect: results in lower revenue for buyers already in the market; cost of this impact is (∆$P/∆Q)*Qo Monopolists choose a quantity where MR=MC, so  P+(∆$P/∆Q)*Q= MCo Rearranging gives us: (P-MC/P)= -1/EDo And this is called the Learner Index (price markup formula) This formulation has many uses in understanding the monopoly behavior and impact -1/ED =L (learner index)- Learner Impacts on Pricing  (P-MC/P)= Lo Note that the expression on the left hand side is bounded by 0 and 1o So, if elasticity is infinite, profit maximization requires P=MCo If demand elasticity is low- below 1 in absolute value, equality cannot be satisfied; implication: monopoly will never allow demand to become inelastico Result: when demand elasticity is close to -1, markup as percentage of price is highest possibleo As long as elasticity is decreasing, the monopoly is gaining more and more powero When P is close to MC, then L is smallo When P is much larger than MC, L is large (close to