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Chapter 10: Problem 17

A certain town in the Midwest obtains all of its electricity from one company, Northstar Electric. Although the company is a monopoly, it is owned by the citizens of the town, all of whom split the profits equally at the end of each year. The CEO of the company claims that because all of the profits will be given back to the citizens, it makes economic sense to charge a monopoly price for electricity. True or false? Explain.

Short Answer

Expert verified
False. Charging monopoly prices in this scenario doesn't necessarily make economic sense as it could lead to disparity among citizens depending on their usage of electricity.

Step by step solution

01

Understanding the situation

In this situation, Northstar Electric is a monopoly, owned by the residents of a particular town. At the end of the year, they distribute the profits equally among the citizens. The CEO opines that charging monopoly prices is economically beneficial since the proceeds are shared among the inhabitants.
02

Dictate the definition of a Monopoly

According to economics, a monopoly occurs when a company is the only supplier of a specific product or service in the market. The company can then dictate its prices, known as monopoly pricing, which is typically higher than if there were competition.
03

Evaluating the CEO’s claim

The CEO's argument is that since the profit returns to the citizens, the higher costs won't impact them. But what the CEO ignores is the fact that not all citizens consume the same amount of electricity. Some might use less, some more. The ones using less will pay more relative to their usage and receive the same share of profit, therefore effectively losing money. On the contrary, the ones who use more will benefit disproportionately. This creates a form of inequality amongst the citizens.
04

Conclusion

Consequently, it does not necessarily make economic sense to charge monopoly prices in this situation. An adjustment in prices to reflect the actual consumption would likely be more economically reasonable and fair to all citizens, maximizing social welfare.

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Most popular questions from this chapter

A monopolist faces the following demand curve: \\[ Q=144 / P^{2} \\] where \(Q\) is the quantity demanded and \(P\) is price. Its average variable cost is \\[ \mathrm{AVC}=Q^{1 / 2} \\] and its fixed cost is 5 a. What are its profit-maximizing price and quantity? What is the resulting profit? b. Suppose the government regulates the price to be no greater than \(\$ 4\) per unit. How much will the monopolist produce? What will its profit be? c. Suppose the government wants to set a ceiling price that induces the monopolist to produce the largest possible output. What price will accomplish this goal?

The employment of teaching assistants (TAs) by major universities can be characterized as a monopsony. Suppose the demand for TAs is \(W=30,000-125 n\) where \(W\) is the wage (as an annual salary) and \(n\) is the number of TAs hired. The supply of TAs is given by \(W\) \(=1000+75 n\) a. If the university takes advantage of its monopsonist position, how many TAs will it hire? What wage will it pay? b. If, instead, the university faced an infinite supply of TAs at the annual wage level of \(\$ 10,000,\) how many TAs would it hire?

Caterpillar Tractor, one of the largest producers of farm machinery in the world, has hired you to advise it on pricing policy. One of the things the company would like to know is how much a 5 -percent increase in price is likely to reduce sales. What would you need to know to help the company with this problem? Explain why these facts are important.

Will an increase in the demand for a monopolist's product always result in a higher price? Explain. Will an increase in the supply facing a monopsonist buyer always result in a lower price? Explain.

A drug company has a monopoly on a new patented medicine. The product can be made in either of two plants. The costs of production for the two plants \(\operatorname{arc} \mathrm{MC}_{1}=20+2 \mathrm{Q}_{1}\) and \(\mathrm{MC}_{2}=10+5 \mathrm{Q}_{2}\). The firm'sesti mate of demand for the product is \(P=20-3\left(Q_{1}+Q_{2}\right)\) How much should the firm plan to produce in each plant? At what price should it plan to sell the product?
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