6.1a) A monopoly is facing the demand and marginal cost curves which is P = 12 - 0.002Q and MC = 3 + 0.001Q. When the demand curve is P = a- bQ, the marginal revenue curve will be MR = a- 2bQ , therefore, MR = 12 - 0.004Q.(Refer to figure1)
To maximize the profits, the company should produce at the output level where marginal revenue is equal to marginal cost. If the marginal revenue is higher than marginal cost, the firm can increase profit by producing more. If the marginal cost is higher than marginal cost, the firm can increase profit by producing less. When marginal is equal to marginal cost, the firm cannot increase profit further. Marginal revenue is equal to marginal cost, which is 3 + 0.001Q equal to 12 - 0.004Q, the profit maximizing output is 1800 at $4.8.( Refer to figure 2)
6.1aii) The allocative efficiency occurs when demand is equal to marginal cost. The value that consumers place on a good or service which reflected in the price they are willing and able to pay is equal to the cost of the resources used up in production. The market is maximizing its social surplus, which is 12 - 0.002Q equal to 3 + 0.001Q, the socially efficient output level is 3000.
6.1aiii) The price ceiling is the government requires that the market price cannot rise above certain level. Induce the monopoly to produce at socially efficient output level is 3000, so the price ceiling should be at $6.
6.1b) Suppose a monopoly produces and sells a product which incurs external costs during the production process. It is possible for this firm to reach allocative efficiency in the absence of government intervention. The monopoly will definitely produce at the quantity when marginal cost is equal to marginal revenue to maximize its profit. Refer to figure 3, in this case, the quantity is Q0 and the market price is P0. However, the marginal cost curve will move upward because there is an external costs. Assuming the...
Please join StudyMode to read the full document