Essentials of Economics 9th Edition

Schiller Solutions Manual

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Chapter 07 - Monopoly

ANSWERS TO QUESTIONS FOR DISCUSSION AND

PROBLEMS

QUESTIONS FOR DISCUSSION

1. If you owned the only bookstore on or near campus, what would you charge for this
textbook? How much would you pay students for their used textbooks?

LO: 3 AACSB: Analytic BT: Create

If you wanted to maximize profits, you would charge the highest price you could at
the quantity where MC = MR. You would want to pay students the minimum price
they will accept but still sell you the used books.

2. Why don’t competitive industries produce at the rate of output that maximizes
industry profits, as a monopolist does?

LO: 4 AACSB: Analytic BT: Create

In a competitive industry, each firm acts independently to maximize its own profits.
It would require some type of group action to behave like a monopolist, and since
there are so many firms in the industry that this is impossible. Comparing a
perfectly competitive industry to a monopoly, we see that the industry quantity in
the former is where demand intersects marginal cost (supply) while in the latter it
is where marginal revenue intersects marginal cost.

Furthermore, it should be noted that while a monopolist may make excess profits in
the long run and a perfectly competitive firm makes only normal profits, the
industry total revenue under perfect competition is greater than it is under
monopoly.

3. Is single ownership of a whole industry necessary to exercise monopoly power? How

might an industry with many firms achieve the same result? Can you think of any
examples?

LO: 1 AACSB: Analytic BT: Evaluate

No, single ownership is not necessary. In an industry with many firms, some firms
might achieve market power through their ability to segment the market for their
product through advertising that creates brand loyalty. Examples of such
industries are airlines and over-the-counter pain medication. Finally, if firms act
in concert, via collusion, they can exercise monopoly power. Examples are oil and
coffee cartels as well as professional sports.

4. Despite its re-affirmed monopoly position (page 143-144) Polaroid went bankrupt in
2001 and stopped making instant-development cameras in 2007. What happened?

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Education.
Chapter 07 - Monopoly

LO: 4 AACSB: Analytic BT: Evaluate

Polaroid indeed had a patent protecting its instant development cameras yet
Eastman Kodak entered this market despite the barrier. Moreover, Polaroid won
the 14-year legal patent protection battle. In fact, the judge determined that
Polaroid’s profits would have been twice as much ($909.5 million higher) had
Kodak never entered the market. The judge forced Kodak to repay these lost profits
to Polaroid.

Yet, during the ensuing years, computer technologies and digital capabilities
developed quickly and steadily. Digital cameras replaced instant development
cameras and in-home picture printing became the norm. Digital cameras
(including those contained within phones!) have replaced Instant-development
cameras.

5. Why don't monopolists try to establish "the highest price possible," as many people
allege? What would happen to sales? To profits?

LO: 3 AACSB: Analytic BT: Create

The monopolist's goal is to maximize profits, not revenue. To maximize profits, the
monopolist needs to produce the quantity at which MC = MR and then see what the
price is from the demand curve. Monopolists have the ability to charge higher
prices, but if MC is greater than MR, that would lower their profits

6. What circumstances might cause a monopolist to charge less than the profit-
maximizing price?

LO: 3 AACSB: Reflective Thinking BT: Create

The monopolist might be trying to build future consumer loyalty and/or drive a
producer of a similar product out of business. Also, it might be trying to deter
potential competition or avert government intervention. It could accomplish any of
these by charging less than its monopoly power allowed.

7. How could free Media Player software (either bundled or downloaded with
Windows) possibly harm consumers?

LO: 4 AACSB: Reflective Thinking BT: Create

Bundling the Media Player software or making it available for free makes it
difficult for competitors to sell their products profitably. Consumers might enjoy
better products if the market for computer operating systems were more
competitive.

8. What entry barriers exist in (a) the fast-food industry; (b) cable TV; (c) the auto
industry, (d) illegal drug trade?

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Education.
Chapter 07 - Monopoly

LO: 1 AACSB: Analytic BT: Analyze

a) Fast Food – For existing brands, the primary barrier is acquiring a franchise
license for the individual restaurant. On the other hand, there are few barriers to
entering the industry on your own, as exemplified by the number of “mom and pop”
burger places.

b) Cable TV – The primary barrier is obtaining a local franchise license. However,

once established, new firms wanting to enter the market must also face very high
start-up costs.
c) Auto Industry – Extraordinarily high start-up costs and brand loyalty make it
very difficult for anyone to enter this industry. In addition, new companies must
establish dealers to sell and service their cars.

d) Illegal Drug Trade – New entrants are often kept out of this industry by threats
from current suppliers in the market. Also, the illegality of the drug trade causes
the government, through the possibility of legal sanctions, to be a barrier to entry.

9. Why would any firm pay another firm so much money to not produce? (See News
Wire on page 151.

LO: 4 AACSB: Reflective Thinking BT: Create

It was worthwhile to Aventis to pay nearly $100 million to “protect” its $700
million revenue, which would have been greatly reduced had the generic drug come
on the market at less than half the price.

10. POLICY PERSPECTIVES What are the economies of scale in multiplex theatres?
Why aren’t their prices less than those of single-screen theaters?

LO: 5 AACSB: Reflective Thinking BT: Create

The economies of scale for a multiplex theater is very significant since they typically
have combined operations for selling tickets, restrooms etc. However, they typically
have also created a theatre monopoly for the surrounding area. Patrons have little
or no choice but the multiplex if they wish to see the movies showing at the
multiplex. Thus, the theatre can charge higher prices since they have little or no
competition.

PROBLEMS
1. In Figure 7.1
(a) What is the highest price the monopolist could charge and still sell fish?
(b) What is total revenue at the highest price?
(c) What happens to total revenue as price is reduced from A to G?
(d) What is the value of marginal revenue as price is reduced from F to G?

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Education.
Chapter 07 - Monopoly

Answers:
(a) $13
(b) $13
(c) Total Revenue increases by $36
(d) $1

Explanation:
(a) According to the demand curve in the figure, consumers will purchase 1 pound of
fish at a price of $13. No demand exists for less than 1 pound.
(b) Total revenue is equal to price times quantity. At a price of $13, one pound of fish
is purchased resulting in total revenue of $13.
(c) As price is reduced from $13 to $7, total revenue increases from $13 (= $13 x 1) to
$49 (= $7 x 7), an increase of $36 (= $49 - $13).
(d) As price is reduced from $8 to $7, total revenue increases from $48 (= $8 x 6) to
$49 (= $7 x 7), yielding a marginal revenue of $1.

LO 07-02
Topic: Profit Maximization
AACSB: Analytic
Blooms: Level 5 Evaluate

2. In Figure 7.1’s graph,

(a) At what output rate is total revenue maximized?
(b) What is MR at that output rate?

Answers:
(a) 7 pounds of fish
(b) $1

Explanation:
(a) Total revenue is at its highest level, $49 (= $7 x 7), when output is equal to 7
pounds of fish.
(b) According to the figure, when output is equal to 7 pounds of fish, marginal
revenue is equal to $1.

LO 07-03
Topic: The Firm’s Production Decision
AACSB: Analytic
Blooms: Level 4 Analyze

3. Use Figure 7.2 to answer the following questions:

(a) What rate of output maximizes total profit?
(b) What is MR at that rate of output?
(c) What is price?
(d) If output is increased by 1 pound beyond that point, what is the relationship of
MC to MR?
(e) What happens to total profits?

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Education.
Chapter 07 - Monopoly

Answers:
(a) 4 pounds of fish
(b) $7
(c) $10
(d) MC ($9) > MR ($5)
(e) Total profits decrease

Explanation:
(a) The profit-maximization rule states that a firm should produce at that rate of
output where marginal revenue equals marginal cost. According to the figure,
marginal revenue ($7) is equal to marginal cost ($7) at an output of 4 pounds of fish.
(b) At an output rate of 4 pounds of fish, marginal revenue is equal to $7.
(c) At an output rate of 4 pounds of fish, the demand curve tells us the highest price
consumers are willing to pay, $10 per pound.
(d) If output is increased to by 1 pound to 5 pounds, marginal cost is $9 and marginal
revenue is $5. Marginal cost is greater than marginal revenue.
(e) In this case, the profit-maximization rule has been violated, total profits decrease.

LO 07-02
Topic: Supply Behavior
AACSB: Analytic
Blooms: Level 2 Understand

4. Compute marginal revenue from the following data on market demand:

Price per unit $38 36 34 32 30 28 26

Units demanded 10 11 12 13 14 15 16
Marginal revenue __ __ __ __ __ __

(a) At what price does MR = 0?

(b) At what price is MR < 0?
(c) At what price is MR < P?

Answers:
(a) $28
(b) $26
(c) Marginal revenue is less than price for all prices less than or equal to $38.

Explanation:
Price per unit $38 36 34 32 30 28 26
Units demanded 10 11 12 13 14 15 16
Total revenue $380 396 408 416 420 420 416
Marginal revenue -- $16 12 8 4 0 -4

(a) According to the table above, total revenue does not change (remains at $420) as
price decreases from $30 to $28. Thus, marginal revenue is equal to zero at a price
of $28.
(b) Once again, according to the table above, as price decreases to $26, total revenue
is decreasing as well. Therefore, marginal revenue is negative (= -$4).
(c) Marginal revenue is less than price for all prices listed. Thus, all prices less than
or equal to $38 have a marginal revenue which is less than price.

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Education.
Chapter 07 - Monopoly

LO 07-02
Topic: Profit Maximization
AACSB: Analytic
Blooms: Level 4 Analyze

5. Suppose the following data represent the market demand for catfish:

Price
(per unit) $20 19 18 17 16 15 14 13 12 11
Quantity demanded
(units per day) 12 13 14 15 16 17 18 19 20 21
Total
Revenue __ __ __ __ __ __ __ __ __ __
Marginal
Revenue -- __ __ __ __ __ __ __ __ __

(a) Compute total and marginal revenue to complete the table above.
(b) At what rate of output is total revenue maximized?
(c) At what rate of output is MR less than price?
(d) At what rate of output does MR first become negative.
(e) Graph the demand and MR curves.

Answers:
(a)
Price
(per unit) $20 19 18 17 16 15 14 13 12 11
Quantity demanded
(units per day) 12 13 14 15 16 17 18 19 20 21
Total
Revenue $240 247 252 255 256 255 252 247 240 231
Marginal
Revenue -- $7 $5 $3 $1 -$1 -$3 -$5 -$7 -$9

(b) 16 units
(c) All rates of output listed
(d) 17 units
(e) (Include illustration)

Explanation:
(a) Total revenue is equal to price times quantity. Marginal revenue is the change in
total revenue that results from a one-unit increase in quantity sold.
(b) According to the table provided above, total revenue is maximized at an output
rate of 16, where total revenue is equal to $256.
(c) Marginal revenue is always less than price for a monopolist. In this instance,
marginal revenue is less than price for all prices listed.

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Chapter 07 - Monopoly

(d)

LO 07-02
Topic: Industry Entry and Exit
AACSB: Analytic
Blooms: Level 4 Analyze

6. Assume that the following marginal costs exist in catfish production:

Quantity produced
(units per day) 10 11 12 13 14 15 16 17
Marginal cost
(per unit) $4 6 8 10 12 14 16 18

(a) Graph the MC curve.

(b) Use the data on market demand below and graph the demand and MR curves on
the same graph.

rice
(per unit) $25 24 23 22 21 20 19 18
Quantity demanded
(units per day) 10 11 12 13 14 15 16 17

(c) At what rate of output is MR = MC?

(d) What price will a monopolist charge for that much output?
(e) If the market were perfectly competitive, what price would prevail?
(f) How much output would be produced?

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Education.
Chapter 07 - Monopoly

Answers:

(a) and (b)

Price
(per unit) $25 24 23 22 21 20 19 18
Quantity demanded
(units per day) 10 11 12 13 14 15 16 17
Total revenue $250 264 276 286 294 300 304 306
Marginal revenue -- $14 12 10 8 6 4 2

(c) 13 units per day

(d) $22
(e) $18
(f) 17 units per day

LO 07-04
Topic: Market Structure
Topic: Perfect Competition
AACSB: Analytic
Blooms: Level 2 Understand

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Chapter 07 - Monopoly

7. Graph the impact on oil prices of OPEC’s decision to limit output (see News Wire p.
152).
(a) According to the News Wire on p. 152, OPEC ministers agreed to keep their daily
crude production target at what level?
(b) This explicit limit on production lead to how much of an immediate increase in
price?

Answer:
(a) 30 million barrels a day
(b) $0.70 increase

LO 07-03
Topic: Supply Behavior
AACSB: Analytic
Blooms: Level 2 Understand

8. According to the News Wire on p. 155, how much profit per month per user might the
producers of Cardizem have been making if their average total costs were equal to
that of the generic substitute? What if the average total costs were $40?

Answers:
(a) $41 per month
(b) $33 per moth

Explanation:
(a) The price of the drug is $73 a month per person while the generic cost
is $32. (Price - ATC) Q = Total Profit. Our Q is one since we are looking at
a single person per month, so we can use Price - ATC or $73 - $32 for a
monthly profit of $41 per person.
(b) The price of the drug is $73 a month per person with an ATC
of $40. (Price - ATC) Q = Total Profit. Our Q is one since we are looking
at a single person per month, so we can use Price - ATC or $73 - $40 for a
monthly profit of $33 per person.

LO 07-04
Topic: Industry Entry and Exit
AACSB: Analytic
Blooms: Level 5 Evaluate

9. If the on-campus demand for soda is as follows:

Price
(per can) $0.25 0.50 0.75 1.00 1.25 1.50 1.75 2.00
Quantity demanded
(per day) 100 90 80 70 60 50 40 30

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Education.
Chapter 07 - Monopoly

and marginal cost of supplying a soda is 50 cents, what price will students end up
paying in
(a) A perfectly competitive market?
(b) A monopolized market?

Answer:
(a) $0.50
(b) $1.25

Explanation:
(a) In a perfectly competitive market, marginal cost is approximately equal to supply.
In this case, supply is constant at $0.50. Equilibrium is where demand and supply
intersect, at a price of $0.50 and a quantity of 90 cans.
(b) In a monopolized market, the firm must set marginal revenue equal to marginal
cost. According to the table below,

Price
(per can) $0.25 0.50 0.75 1.00 1.25 1.50 1.75 2.00
Quantity demanded
(per day) 100 90 80 70 60 50 40 30
Total revenue $25 $45 $60 $70 $75 $75 $70 $60
Marginal revenue -- $2.50 $2.00 $1.00 $0.50 $0 -$0.50 -$1.00

MR ($0.50) = MC ($0.50) occurs at a quantity of 60 and a price of $1.25.

LO 07-04
Topic: Industry Entry and Exit
AACSB: Analytic
Blooms: Level 2 Understand

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