Price and quantity effect of a fall in price, area of the rectangles on graph and effect on total revenue.

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Chapter 12, Problem 4P

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Price and quantity effect of a fall in price, area of the rectangles on graph and effect on total revenue.

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The three graphs below illustrate the market for electricity. The distribution of electricity is a natural monopoly; therefore, to take advantage of lower production costs, it is efficient to have only one firm in the market. Unfortunately, if a monopoly were allowed to provide electricity, it would charge a higher price and provide a smaller amount of electricity than would be desirable. In other words, the unregulated monopoly would charge the monopoly's profit-maximizing price. To avoid this, the government will allow a single firm to provide electricity, but the government will regulate the price. Let’s compare possible regulatory solutions.

The diagram above represents a monopolist firm. Answer the following questions: What price will this firm charge and what quantity produced in order to maximize profit? Explain your answer. If this firm becomes regulated and the regulatory agency want to achieve economic efficiency, what will be the price and quantity? Explain your answer. If the monopolist operates at the economic efficiency level, will he be making a profit or loss? Explain. Suppose the regulatory agency wants the monopolist to charge a price that matches what it costs to produce a unit of the good/service. What price will this be and what would be the quantity produced? Explain. At a price ceiling of $41 what would be the profit/loss of the monopolist?

AT&T and Verizon have two pricing strategies: Set a high (monopoly) price or set a low (competitive) price. Suppose that if they both set a competitive price, economic profit for both is zero. If both set a monopoly price, AT&T makes an economic profit of $100 million and Verizon makes an economic profit of $200 million. If AT&T sets a low price and Verizon sets a high price, AT&T makes an economic profit of $200 mil- lion and Verizon incurs an economic loss of $100 million; if AT&T sets a high price and Verizon sets a low price, AT&T incurs an economic loss of $50 million and Verizon makes an economic profit of $250 million. Create the payoff matrix for this game. What is the equilibrium of this game? Is the equilibrium efficient?