Chapter 1

BASIC PRINCIPALS OF ECONOMICS

Price Determination under Monopoly: Monopolist also have to consider demand and supply Advantage of not having close substitute Demand remains inelastic even charged at high price Have to select between large quantity sale (at low price) or small quantity sale (at high price) Ultimate aim is to maximize the profit Quantity produced depends upon price fixed Fix either of two: price and demand (output) Factors to be considered while fixing the price: Nature of demand (elasticity) for product Substitutes available Cost conditions It is not always practicable for monopolist to charge at high rate because: Has to consider----- Customers reaction (Boycotting the product)
1 Compiled by Prof. Prasad Parulekar

 Reaction of factory owner (demand for higher rewards) Reaction for the Government (control over price, nationalization) Reaction for rival (introduction of substitute) Marginal Cost (MC) and Marginal Revenue (MR) Monopolist has to produce quantity at which MR=MC Also consider Average revenue (AR) and Average Cost (AC) General Classification of Market: 1. Classification according to Size: based upon number of buyers and sellers and nature of commodities; Local, National and International; it is neither scientific nor rigid 2. Classification according to Time: time element affects particularly from supply side; longer the time period, greater is the supply elasticity; shorter the time period, more rigid is the supply. During longer period, demand structure may also
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change (based upon, change in population, habits, fashions etc.) 3. Classification according to Structure: based upon extent of competition; perfect and imperfect market; perfect competitive, monopoly, oligopoly and monopolistic competition Price Discrimination: (Discriminating monopoly) Practice of charging different prices from different groups of consumers for same product Practiced in different markets whenever possible and profitable Not practical in perfect competitive market To practice it, commodities or services have to be slightly differentiated e.g.-------------------? Forms of Price Discrimination: 1. Personal Discrimination: different charges from different consumers based on Income
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e.g.-------------? 2. Local Discrimination: different charges at different places for same service / product e.g.-------------? 3. Trade Discrimination: based upon use of product e.g.--------------? 4. Quality Discrimination: based upon qualitative discrimination of same product / service e.g.---------------? 5. Special Service Discrimination: based upon special services provided to consumers e.g.------------------? 6. Time Discrimination: different prices for same commodity or service charged at different time e.g.-----------------? When price Discrimination is Possible? Essential Conditions are: Transfer of commodity from cheaper to dearer market should be impossible
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 No possibility for consumers to transfer themselves to cheaper market Other important conditions are: Consumers peculiarities: Consumers ignorance about prices Consumers illusion (irrational feeling) Consumers let go attitude Customers divided into different groups due to legal sanctions e.g.-------------? Nature of commodity; direct service to consumer which cant be resold Markets situated at large distances; advantage of tariff barrier Some times price discrimination is not properly justified e.g. fare change for 1st and 2nd class railway travel Desirable to those who pay lower and vice a versa Increase welfare of some and reduces for other

Compiled by Prof. Prasad Parulekar

Causes of Creating Monopoly: Absence of competition Restrictions to entry of new firms Firm emerging as monopoly power has to retain for a long Control over raw material: acquiring ownership of raw material Natural monopolies: control over raw material whose supply depend upon natural forces e.g--------------? Legal barriers: legal provisions by Government like, patents, trade marks, copy right Business combinations: acquiring degree of monopoly by voluntary agreements with other business rivals; e.g. pools, trusts, cartels Existence of goodwill or reputation: long existing firms Technical economies of scale: giant firms operating on large scale and hence producing at lower cost
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Concept of Cost: Cost different than price Cost benefit analysis Price = Cost +/- x% Total Cost: Fixed Cost + variable Cost Marginal Cost: The rate at which total cost changes as the amount produced changes (marginal unit variable cost) Total Cost = Fixed cost + unit variable cost * amount

Compiled by Prof. Prasad Parulekar

Compiled by Prof. Prasad Parulekar