Critically evaluate and explain each statement: LO12.5 a. Because they can control product price,
Critically evaluate and explain each statement: LO12.5 a. Because they can control product price, monopolists can guarantee profitable production by simply charging the highest price consumers will pay. b. The pure monopolist seeks the output that will yield the greatest per-unit profit. c. An excess of price over marginal cost is the market’s way of signaling the need for more production of a good. d. The more profitable a firm, the greater its monopoly power. e. The monopolist has a pricing policy; the competitive producer does not. f. With respect to resource allocation, the interests of the seller and of society coincide in a purely competitive market but conflict in a monopolized market.
A monopoly is a form of market where a single firm has the entire control over the market. It can control the market price and quantity and is said to be a price maker. Monopolists generally produce fewer units of a commodity and charges a higher price to maximize profit. For this reason, to sell an additional unit of a commodity, monopolists have to reduce its price.
Although the monopolist can control the price, it cannot be said that it is always profitable. When a monopolist charges the highest price, fewer units are sold at this price such as one unit or a little more than that. It is very unlikely that a monopolist would be able to recover its high fixed cost (set up cost and other expenses) by selling such few units and is likely to face losses. A monopolist may even incur a loss while producing at MR = MC condition (which is the profit-maximizing condition for a monopolist). It incurs losses if it cannot recover its average total cost. Consequently, the statement is false.
The statement is not true, because, at the highest price, the monopolist can sell very few units and would not be able to cover its high fixed cost and would have to bear the losses.
A pure monopoly is a form of market where a single firm exists, controlling the entire market, with no close substitutes available for that product.
The monopolist looks to maximize its total profit and not just per-unit profit.
The profit equation is given by Q×(P−ATC) that is the difference of price and quantity is multiplied by the quantity, which gives the total profit. The per unit profit given by (P−ATC) gives no idea about the total profit of the firm.
For instance, if a monopolist sells a commodity for $100 with an ATC of $60, the profit for 1 unit would be $40.
But if the monopolist sells 1000 units, each at $40 with an ATC of $39, the per-unit profit would be:
40−39=1, but the total profit for 1000 units would be 1000(40−39)=1000. Consequently, calculating the total profit on 1000 units is better than calculating the profit of one unit. This also gives a complete picture of the profit of the monopolist. As a result, the statement is false.
The statement is false since a profit-maximizing monopolist tries to maximize profits and not per-unit profit. The per-unit profit gives a vague idea of the firm's profitability and serves no purpose.
The price of a commodity is the value of a commodity or a service, set by society according to the last item produced. The marginal cost is the cost to society. It is the cost incurred by the firm to produce an extra unit of output. When the price is greater than the marginal cost, it implies that the society is ready to pay more for the commodity than the opportunity cost of producing the last unit of the commodity. Consequently, the firm can increase its production till the price equals the marginal cost. As a result, the statement is true.
The statement is true in the sense that when the price is greater than marginal cost, the firm can continue its production further. This is because the good is valued more by society than the opportunity cost of producing the last unit.
In case of a monopoly, there is a single seller that controls the entire market. It controls the market output as well as the market price. And thus monopolists produce the level of output at which its profit gets maximized.
In the case of a natural monopoly, which exercises economies of scale, there is a large profit. This is because a large amount of output can be produced most cost-effectively. Other small rival firms entering the industry cannot compete, as neither it can produce cost-effectively, nor can it raise its profit to a great extent. Large profits also result in a price war, as firms often charge a price below its cost.
In the short run, large profits made by a monopolist are due to its monopoly power, but in the long run, a monopolist can only earn an economic profit. In other competitive firms, the entry of new firms drives away the profit in the long run. Consequently, the statement is true in a lot of cases.
The statement is true in a lot of cases because greater monopoly power implies no other firm can compete with the monopolist. Consequently, the monopolist takes control over the market to maximize its profit. In the short run, it is due to the monopoly power firms make large profits, but in the long run, the firm can earn economic profits as well.
A monopolist is a price maker, that is, it can control the market price and quantity. To increase the quantity the monopolist has to reduce its price, whereas a competitive market is a price taker, that is, it cannot control the market price and can sell all that has been produced at the price determined by the equilibrium of demand and supply.
A monopolist sets its quantity at the intersection of the marginal cost and marginal revenue. The price differs for each level of quantity because of the downward-sloping demand curve of the monopolist.
The pure competitor takes the price as given. With this given price, a firm equates the marginal cost to determine the quantity to be produced.
Consequently, the statement is true.
The statement is true in the sense that a monopolist has to determine the quantity by equating the marginal cost and marginal revenue. The price differs for each level of output according to the demand curve. In a purely competitive market, the price is already predetermined, and the firm sets its equilibrium quantity by equating the price and the marginal cost.
Under pure competition, there is complete utilization of resources, and the market price gets determined by the equilibrium of demand and supply, whereas under monopoly, there is underutilization of resources and a lot of resources remain unallocated.
In pure competition, the price is equal to the marginal cost, implying that the society values the last unit (price) of output as equal to the cost of producing an extra unit of output (Marginal cost). However, under monopoly, the price is greater than the marginal cost, that is, society values the commodity more than the cost required to produce an extra unit. Consequently, the statement is true.
The given statement is true in the sense that under pure competition, the value set by the society for the last unit of production is equivalent to its marginal cost, and so there are no unallocated resources. But in the case of monopoly, there remain unallocated resources, and so price exceeds marginal cost. The value set by the society on the last unit of production is more than the cost of production of the last unit. And so the interest of the seller and society coincides under pure competition, but there is a conflict of interest under monopoly.
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