Chapter 9: Problem 6

Imagine a monopolist could charge a different price to every customer based on how much he or she were willing to pay. How would this affect monopoly profits?

Short Answer

Expert verified

In conclusion, if a monopolist could charge a different price to every customer based on their willingness to pay (perfect price discrimination), it would increase monopoly profits. This is because the monopolist could capture the entire consumer surplus and maximize revenue, leading to higher profits compared to charging a uniform price. However, perfect price discrimination is rare in practice due to the need for perfect information about each consumer's willingness to pay and the ability to prevent resale.

Step by step solution

Identify Monopoly Pricing with Uniform Price

The monopolist's goal is to maximize profit by selecting the optimal output level. To maximize profits, a monopolist will produce at the quantity where marginal revenue (MR) equals marginal cost (MC). With the help of the demand curve and the MR curve, we can identify the monopoly quantity and price.

Calculate Monopoly Profits with Uniform Price

Monopoly profits can be calculated by finding the difference between total revenue (TR) and total cost (TC) at the monopoly quantity. Graphically, it's represented as the area of the rectangle formed by monopoly price, demand curve, MC curve, and the monopoly quantity.

Introduce Perfect Price Discrimination

Perfect price discrimination, or first-degree price discrimination, occurs when a monopolist charges the highest price that each consumer is willing to pay for each unit. In this case, the monopolist captures the entire consumer surplus, and there is no deadweight loss. With perfect price discrimination, the MC curve becomes the new MR curve, as the monopolist extracts all possible revenue from each unit.

Calculate Monopoly Profits with Perfect Price Discrimination

Similar to the previous step, we can calculate the monopoly profits under perfect price discrimination by finding the difference between total revenue (TR) and total cost (TC) at the new output level. In this case, TR will be equal to the entire area under the demand curve up until the new quantity level. TC will still be calculated as before.

Compare Monopoly Profits: Uniform Price vs. Perfect Price Discrimination

Comparing the profits under uniform pricing versus perfect price discrimination, we can determine how price discrimination affects monopoly profits. Monopolists are able to extract more revenue and earn higher profits under perfect price discrimination, as they can capture the entire consumer surplus. In conclusion, perfect price discrimination would increase monopoly profits, as monopolists can extract more revenue and capture the entire consumer surplus. However, it's important to note that perfect price discrimination is rare in practice, as it requires perfect information about each consumer's willingness to pay and the ability to prevent resale.