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Chapter 25 Monopoly Behavior. 25.1 Price Discrimination. Price discrimination: selling different units of output at different prices. First-degree price discrimination Different units of output for different prices. Price schedules differ from person to person. - PowerPoint PPT Presentation
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Chapter 25 Monopoly Behavior
25.1 Price Discrimination
Price discrimination: selling different units of output at different prices.
First-degree price discriminationDifferent units of output for different prices.Price schedules differ from person to person.Prices differ across quantities as well as
consumers.
25.1 Price Discrimination Second-degree price discrimination
Different units of output for different prices.Same price for the same quantity.Prices differ across quantities, but not across
consumers. Third-degree price discrimination
Different prices for different consumers.Same price for the same consumer.Prices differ across consumers, but not across
quantities.
25.2 First-degree Price Discrimination Discrete good Reservation prices
r1=v(1)-v(0)
r2=v(2)-v(1)
r3=v(3)-v(2) Gross Consumer’s
surplus
r1+ r2+ r3=v(3)-v(0)
25.2 First-degree Price Discrimination Price of the 1st unit: r1
ΔCS: zero ΔPS: r1-MC
Price of the 2nd unit: r2 ΔCS: zero ΔPS: r2-MC
Price of the 3rd unit: r3 ΔCS: zero ΔPS: r3-MC
Can charge v(3) for the first three units ΔCS: zero ΔPS: v(3)-3*MC
25.2 First-degree Price Discrimination
To consumer 1 Sell 8 units Charge v1(8)
To consumer 2 Sell 3 units Charge v2(3)
25.2 First-degree Price Discrimination
Each unit of the good is sold at the reservation price.
No consumer’s surplus generated. The output is Pareto efficient.
25.2 First-degree Price Discrimination
To consumer 1 Sell x1
0 units Charge v1(x1
0)
To consumer 2 Sell x2
0 units
Charge v2(x20)
25.3 Second-degree Price Discrimination Two consumers: high demand and low demand. The firm cannot identify the consumers. Zero marginal cost assumed for simplicity. Screening: price-quantity packages that give the
consumers an incentive to choose the right package meant for them.Two contracts: (xH, pH), (xL, pL).The high demand selects (xH, pH).The low demand selects (xL, pL).
25.3 Second-degree Price Discrimination Full information
case Low demand
xL=x10, pL=A
High demandxH=x2
0, pH=A+B+C
25.3 Second-degree Price Discrimination Self-selection High demand
will choose (xL, pL) and get B.
xH=x20, pH=A+C
25.3 Second-degree Price Discrimination Adjustment Low demand
xL=x1m, pL=A
High demandxH=x2
0, pH=A+C+D+E
New profit: E-D
25.3 Second-degree Price Discrimination Optimum Low demand
xL=x1m, pL=A
High demandxH=x2
0, pH=A+C+D
EXAMPLE: Price Discrimination in Airfares High demand and low demand: business and
non-business travelers. Restricted fare
Advanced purchase, inconvenient hours, but cheap.
Designed for low demand. Unrestricted fare
Fully flexible but expensive.Designed for high demand.
25.4 Third-degree Price Discrimination
Two groups of consumers. The firm is able to identify the consumers. Constant unit price for each market. The good cannot be resold. Firm’s problem
1 21 1 1 2 2 2 1 2
,max ( ) ( ) ( )y y
p y y p y y c y y
25.4 Third-degree Price Discrimination F.O.C.:
MR1(y1)=MC(y1+y2)
MR2(y2)=MC(y1+y2)
or
1 1 1 21 1
1( ) 1 ( )
( )p y MC y y
y
2 2 1 22 2
1( ) 1 ( )
( )p y MC y y
y
25.4 Third-degree Price Discrimination
|2(y2)| > |1(y1)|: p1>p2
The market with the higher price must have the lower elasticity of demand.
25.5 Bundling Bundles: packages of related goods offered for sale
together.
Willingness to pay for software components
Type of consumer Word processor Spreadsheet
Type A consumers 120 100Type B consumers 100 120
25.5 Bundling Selling software separately
Charge $100 for each software. Total revenue: $400.
Bundling Charge $220 for the software suite. Total revenue: $440.
Diversity in consumers’ willingness to pay lowers the price one can charge.
Bundling reduces this diversity.
25.6 Two-Part Tariffs People go to
Disneyland for rides. Two prices
Admission ticket: t Price of rides: p*
Given p*, t=CS Profits from rides:
(p*-MC)x* Optimal price:
p*=MC
25.7 Monopolistic Competition
Product differentiationProducts are similar, but not identical.Coca-Cola and Pepsi-Cola.
Monopolistic competitionEach firm faces a downward-sloping demand
curve for its product.Free entry into the industry.Monopolists with zero profits.
25.7 Monopolistic Competition
Monopolistic competition The demand curve and
the average cost curve must be tangent with each other.