Problem Set One (Monopoly)

1. The inverse demand curve that a monopoly faces is p = 100

Q. The rms cost

curve is C(Q) = 10 + 5Q. What is the rms prot-maximizing quantity and price? How
does your answer change if C(Q) = 100 + 5Q?
2 The inverse demand curve that a monopoly faces is p = 10Q

0:5.

The rms cost curve

is C(Q) = 5Q. What is the prot-maximizing quantity and price?

3. Show why a monopoly may operate in the upward- or downward-sloping section of
its long-run average cost curve but a competitive rm operates only in the upward-sloping
portion.
4. A monopoly drug company produces a lifesaving medicine at a constant cost of $10
per dose. The demand for this medicine is perfectly inelastic at prices less than or equal
to $100 (per day) income of the 100 patients who need to take this drug daily. At a higher
price, nothing is bought. Show the equilibrium price and quantity and the consumer and
producer surplus in a graph. Now the government imposes a price ceiling of $30. Show how
the equilibrium, consumer surplus, and producer surplus change. What is the deadweight
loss, if any, from this price control?
5. Consider a monopolist with a cost function T C(Q) = Q2 + 10Q. The inverse demand
is p = 100

Q=2.

a) What are the monopolists optimal price and quantity?

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b) What is the prot and CS?

Now, a regulator forces this monopolist to price at marginal cost.
c) What are the new price and quantity?
d) What happened to the prot, CS, total welfare?
6. The demand elasticity is constant and is equal to

2. The marginal cost of a

monopolist is also constant. If the marginal cost increases by 25 percent, will the price also
increase by 25 percent?
7. Take a prot-maximizing monopolist who is producing 160 units of output and is
facing a constant marginal cost of $20 per unit. If you also know that the elasticity of
demand is

2 and the xed cost is $2; 000, what is the rms prot?

8. A monopolist faces the following demand: p = 700

5Q. It has two factories to

produce output Q. So, Q = Q1 + Q2 , where Q1 is the production in the rst factory and
Q2 is the production in the second factory. The costs of production in these factories are
given by T C1 (Q1 ) = 10Q21 and T C2 (Q2 ) = 20Q22 . What are the prot-maximizing levels of
Q1 and Q2 , prices and prot?
9. There are 10 households, each with a demand for electricity of q = 50

p. A utility

company (a natural monopoly) produces electricity at a cost of T C = 500 + Q.

a) If a regulator wants to eliminate the DWL, what price will it set? What will happen?
b) If a regulator wants to ensure that the DWL is minimized, but at the same time, the
utility company does not lose money, what is the price it will set. What will be the DWL?
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c) Suppose that the regulator comes up with another plan each households pays a
xed fee just to receive any electricity service, and the per-unit price is set in accordance
to a). What will be the xed fee each household will have to pay. Will all households agree
to pay this extra fee instead of going without electricity?
10. Will an increase in the demand for a monopolists product (i.e., more units are
consumed for any given price) always result in a higher price?