Chapter 6

If a monopolist sells 100 units for $10 per unit and has an average cost of $8 per unit, what is the firm's total revenue?

$1000 Explanation: $1000 is the firm's total revenue. Multiply price by the output.

Product differentiation matters because it is the method by which monopolistically competitive firms

can have some control over their share of the market. Explanation: Product differentiation can give a firm some degree of market power by allowing the firm to behave somewhat like a monopolist. It may be able to control the price and output of its product if it can convince consumers that there are few substitutes for the product.

When firms have either an explicit or implicit agreement among themselves to restrict the quantity of product and regulate its price, the arrangement is called a

cartel. Explanation: The agreement between firms sets up a cartel. A cartel is a special form of oligopoly.

Marginal revenue is equal to the

change in total revenue ÷change in quantity sold. Explanation: Marginal revenue is the change in total revenue from selling one more unit of output. You can calculate it by dividing the change in total revenue by the change in output. For example if a firm increases output by 50 and total revenue changes by $100, the marginal revenue is $100/50 = $2.00

An oligopoly assumes

each firm will react to its competitor's price decreases. Explanation: Oligopolists react to the price decreases of their competitors in order to not lose market share.

Monopolistically competitive markets are like competitive markets in that they have

many sellers Explanation: Both market types have many sellers because of relatively easy entry and exit.

Product differentiation is a type of

nonprice competition. Explanation: Monopolistically competitve firms differentiate their products, but often have the same prices. They try to compete by nonprice methods.

What do oligopolies and perfectly competitive firms have in common?

the rule of profit maximization Explanation: All firms maximize profits where MR = MC.

Examine the demand curve for a monopolist below. If the monopolist decreases the price of the product from P2 to P1, the area ______________ represents the firm's additional revenue.

ABFG Explanation: This area is the addition to total revenue from the increased sales generated by the price decrease. The total revenue before the price change is 0DCA; total revenue after the price change is 0EFG.

Which of the following characteristics can be used to differentiate products in a specific market?

Advertising. Explanation: Product differentiation is the method used by firms with similar products to set their product apart from the competition. One method to differentiate products to consumers is through advertising.

Which of the following would not be an example of product differentiation?

All of the above are methods of differentiation. Explanation: Differentiation can be anything used by a firm to set their product apart from the competition.

Use the graph to answer the question. Which letter represents the profit-maximizing output in a monopoly?

B. Explanation: The profit maximizing output for a monopoly is the output where MC = MR. The price is determined by finding the vertical point on the demand curve associated with the output level.

Examine the graph below. If the firm decreases the product price from P2 to P1, area ____________ represents the firm's lost revenue.

EDCB Explanation: When the price falls to P1, the firm loses this area of revenue. This area is the "price effect" of a change in price.

Which of the following is a serious problem associated with breaking up a monopoly?

Economies of scale may be disrupted. Explanation: Some markets are monopolistic because one firm can provide the product at a lower cost than multiple firms. The industry structure is such that there are increasing returns to scale over the entire production. These are called natural monopolies.

Which of the following statements about elasticity is true?

Elasticity changes as the quantity demanded changes. Explanation: Elasticity generally decreases as the quantity demanded increases.

An outcome of the prisoner's dilemma in which each player does the best that he / she can do, given what the other players are doing is known as a

Nash equilibrium Explanation: A Nash equilibrium represents the outcome of a prisoner's dilemma in which each player does the best that he / she can do, given what every other player is doing.

Examine the graph below. This monopolist is maximizing profits at

Q1 and charging a price of P1. Explanation: The monopolist produces the output where MR equals MC. It then finds the price on its demand curve at that output level.

What is the difference between price and average cost?

The difference between price and average cost is the profit per unit, or profit margin. Explanation: The profit margin is the profit per unit, which is the difference between the per unit cost (the average total cost) and the revenue the firm receives for the unit of output, the price.

Which of the following will be true of the monopolistic competitor in the long run?

The firm will not make an economic profit because low barriers to entry permit other firms to enter. Explanation: The ability of other firms to enter the market will determine the ability to realize long term economic profits.

What would be the result for a firm if its marginal cost curve shifted up within the gap on the marginal revenue curve?

The firm would not change either price or output. Explanation: In this model, prices and out put are more stable than costs. The firm has a range (the area in the gap)within which costs can change but output and price do not.

A monopolist can sell 20 widgets at $25 each. In order to sell 21 widgets, the firm must lower the price to $23. What happens to marginal revenue?

The marginal revenue (MR) would be −$17. Explanation: The marginal revenue (MR) is the change in total revenue. Total revenue (TR) would decrease from $500 ($25 × 20) to $483 ($23 × 21), so MR would be −17.

Which of the statements concerning a monopolist's revenue is not always true?

Total revenue increases with each additional unit of output. Explanation: This statement is not always true. Total revenue increases to the point that marginal revenue equals zero. After this point, increasing output decreases both total and marginal revenue.

Monopoly pricing blocks some trades from taking place. These trades would have taken place if the industry were perfectly competitive. These unrealized trades are

a deadweight loss to society. Explanation: The blocked trades are called deadweight losses. Deadweight loss is the loss of potential economic value from the blocked trades.

Which of the following is a a good example of a monopoly?

a local electric power company Explanation: A local power company often has an exclusive franchise to provide service. The reason that governments grant the exclusive rights ids because of economies of scale in the industry.

Use the graph to answer the question. If this firm is behaving as a firm with some market power, it is experiencing

a loss. Explanation: Always use the ATC curve to evaluate profits at each ouptut level. In this case the ATC is greater than the price so the firm is experiencing a loss.

Use the graph to answer the question. If the graph is a market for a monopoly, which area represents the consumer surplus?

ab. Explanation: Consumer surplus is the area above the price and under the demand curve.

In an advertising "prisoner's dilemma" game, both firms end up __________________ which turns out to be ________________________

advertising; worse for them both Explanation: If both refrain from advertising, there would be greater profit for both.

Market power exists when a firm is

all of the above Explanation: Monopolies have 100% of the market so they are able to set the price / output combination that maximizes profit. Monopolies are called price setters.

Average cost pricing

allows the monopolist to cover per-unit costs. Explanation: Average cost pricing sets price to average cost. This practice allows a monoplist to make a normal profit much like a competitive firm. The goal of the policy is to set price at the point it would be in a competitive market.

Which of the following effects is not created by a monopoly?

an increase in innovation Explanation: Monopolies tend to be less innovative because there is no competition.

For a monopolist, which of the following statements about marginal revenue is true?

For a monopolist, marginal revenue depends on the elasticity of the demand curve. Explanation: For a monopolist, marginal revenue depends on the elasticity of the demand curve. At inelastic portions of the demand curve, selling one additional unit of product can actually result in negative marginal revenue (a decrease in total revenue) because to sell that additional unit, the monopolist had to reduce the price on all of the units he would have been able to sell at a higher price.

Which of these statements about the marginal cost (MC) curve and average total cost (ATC) curve is true?

For a monopolist, the average total cost (ATC) curve is decreasing when it is above the marginal cost (MC) curve and is increasing when it is below the marginal cost (MC) curve. Explanation: For both monopolies and firms in perfectly competitive markets, average total cost (ATC) decreases when marginal cost (MC) is less than ATC and increases when MC is greater than ATC.

Which of these statements is true about a firm with market power?

If a firm with market power faces an elastic demand curve, a small change in price results in positive marginal revenue. Explanation: If a firm with market power faces an elastic demand curve, a small reduction in price results in enough additional sales to more than make up for the revenue lost because all of the units that could have been sold at a higher price are now being sold at the new lower price.

Why will U.S. companies not jointly decide to cease advertising?

It would be collusive and illegal Explanation: Any formal cooperative decisions among firms are considered restraint of trade. Most restraints of trade are illegal in the U.S. or subject to regulation.

What is the profit maximizing point for both firms in competition and in a monopoly?

MR = MC Explanation: For both types of firms, profit maximization occurs at the point where MR = MC. However, for a competitive firm, MR is the same as price. For a monopolist, price is greater than MR.

Which of the following statements about marginal revenue is true?

Marginal revenue (MR) is always less than the price. Explanation: Marginal revenue (MR) is always less than the price because in order to sell an additional unit of product, the firm has to lower the price on all of the units that it could have sold at a higher price.

Examine the graph of a monopolist's market. The __________ curve is always downward sloping because price and quantity are _____________ related.

demand; inversely Explanation: The demand curve for a monopoly is always downward sloping because a monoploy has market power and can control price and output to maximize profit. A competitve firm always faces a horizontal demand curve at the market price.

Examine the graph below. The areas of deadweight loss are

e and f. Explanation: These areas are the deadweight loss areas that would be gained if the firm were charging at the competitive price and producing at the competitve output level.

Oil producing countries can operate as a cartel in all of the following ways except

each country sets its profit maximizing price and quantity. Explanation: A cartel is a group of firms or countries acting together in an attempt to limit the supply and raise the price of their product. They try to collectively behave like a monopoly.

In the long run, a monopolistic competitor will

earn zero economic profit. Explanation: The industry is likely to attact new entrants because of short-run profits. The price will fall and each firm's economic profits disappear. However, because of the downward sloping demand curve, price will not be as low as in a competitive industry.

A natural monopoly exists when

economies of scale are so large that only one firm can survive and achieve low unit cost. Explanation: A natural monopoly is one that has large economies of scale. The long-run average cost curve of a firm in this industry slopes downward continuously.

Use the graph to answer the question. Which area represents the deadweight loss in a monopoly?

ef Explanation: Areas e and f are areas that would be consumer surplus in a competitive market. These areas are lost under a monopoly.

In a kinked-demand curve model, the demand curve at prices greater than the kink is _______________, but the curve below the kink is______________.

elastic; inelastic Explanation: The range at prices greater than the kink is elastic: the firm loses revenue when it raises prices. The area below the kink is inelastic: it loses revenue when it decreases prices.

In the market for pants, there are many sellers. These sellers distinguish themselves from one another and thus

face downward sloping demand curves. Explanation: The slope of a firm's demand curve depends on their ability to set their product apart from the competition. If these firms can distinguish their products as unique, they can face a downward sloping demand curve.

Monopolists set the price of their products on the demand curve at the output level where the supply curve intersects the marginal revenue curve.

false Explanation: A monopolist has no supply curve because it is a price setter and not a price taker.

A monopolist is constrained by marginal revenue in setting price.

false Explanation: A monopoloist is constrained by demand when setting price.

Is the following statement true or false? A monopolist will always be able to operate at a profit.

false Explanation: A monopoly will maximize profit (or minimize loss) by producing at that level of output where marginal revenue (MR) equals marginal cost (MC) and charging the price as determined by the products demand curve. The monopoly will be profitable only if its average total cost (ATC) is less than the price that quantity of product can command.

The demand curve facing a monopolist is the same as the one facing every other firm in the industry.

false Explanation: By definition, a monopoly has only one firm in the industry. The demand curve that it faces is always the same as the industry demand curve.

For a firm with market power, marginal revenue (MR) equals price.

false Explanation: False. For a monopolist, marginal revenue (MR) is always less than price because to sell an additional unit of product, the firm has to lower the price not only for the marginal unit but also for all of the units that it could have sold at the higher price.

One of the main characteristics of an oligopoly is firms' complete independence from one another.

false Explanation: Firms in oligopoly markets are mutually interdependent. They often base pricing decisions on other firms' behavior.

Marginal revenue is always less than price for a competitive firm.

false Explanation: For a competitive firm, marginal revenue is equal to price. For a monopolist, marginal revenue is less than price because in order to sell an extra unit the monoplist has to decrease the price for all units.

Monopolists always require government protection to maintain their monopoly position.

false Explanation: Governments may, in some cases, grant exclusive rights, but some monopolies exist without government sanction. These monopolies may have sole ownership of a natural resource or they may be a natural monopoly in which only one firm can survive.

A monopolist maximizes profit by maximizing price.

false Explanation: Maximizing price usually means relatively low sales. If reducing the price slightly will result in a relatively large increase in sales, reducing price will increase total revenue, which will increase profits as long as the lower price is still greater than the marginal cost to produce the additional units of product.

For a monopolist, maximizing revenue is the same as maximizing profit.

false Explanation: Maximizing profit and revenue are different concepts. Revenue is maximized where marginal revenue equals zero but profits have to account for cost. Profit is maximized where marginal revenue equals marginal cost.

When regulators consider ways to regulate monopolies, they should choose to set price and output where marginal cost equals demand, thus maximizing social value.

false Explanation: Setting price at this point usually means that marginal cost is less than average total cost. If this is the case, the firm may exit the industry, thus decreasing social value.

In a game of advertising between two monopolistic competitors, the firms choose the most stable outcome because they can enforce the agreement between them.

false Explanation: The agreements cannot be enforced. In most cases, collusion is illegal.

A firm with market power faces a demand curve with constant elasticity.

false Explanation: The demand curve faced by a firm with market power has a much higher elasticity at high prices than it has at lower prices.

A monopolistically competitive firm is characterized by high barriers to entry.

false Explanation: There maybe minor barriers to entry for firms, but there generally is easy entry and exit in these industries. This characteristic is similar to perfectly competitve firms.

Which of the following is an example of a monopolistically competitive industry?

fast-food hamburger restaurants Explanation: Fast-food hamburger restaurants meet the definition of monopolistcal competition because there are many of them who competete by nonprice methods with slightly differentiated products.

A Nash equilibrium means that in an oligopoly market,

firms choose their own best pricing strategy, given the behavior of other firms in the industry. Explanation: Each firm observes the behavior of other firms and then tries to maximize its profits by choosing the best pricing strategy that it can. In an oligopoly, each firm closely observes the pricing behavior of other firms.

A monopolist's price is _______ and output is ______ than perfect competition.

greater; less Explanation: The monopolist is able to restrict quantity and control price in order to maximize profits. The competitive firm must accept the market price as given and is such a small portion of the market that it it will not restrict output.

If one company is a single seller of a good and is earning economic profits, what prevents other firms from entering the market and competing with the firm?

high barriers to entry Explanation: The main reason that monopolies exist is that the industry has high barriers to entry, thus preventing others from competing. The barriers might be legal, financial, or from the industry cost structure.

Which of the following is not a problem associated with cartels?

higher production costs Explanation: All firms have relatively the same cost curves. The production costs are not the problem with cartels.

Cartels are

illegal in the U.S. for restraining free trade. Explanation: Cartels act like a monopoly, not a competitive industry.

All of the following are reasons some monopolies are legal in the U.S. except

increasing availability of jobs. Explanation: Some industries cannot be profitably served by multiple firms. However, increased job opportunities are not a reason that monopolies exist.

The following are all examples of rent-seeking practices except

increasing the monthly rental rate for tenants in a building. Explanation: This action is a pricing activity in a competitive market. A rent-seeking activity is a non-price activity by a monoply that attempts to maintain the monopoly.

For natural monopolies, average total cost falls continuously and never begins to increase. Therefore, marginal cost

is always less than average total cost. Explanation: If ATC is falling, marginal cost is less than average total cost and is pulling the average down. By forcing monopolies to price at marginal cost, the firm will be forced to operate ata loss.

One of the paradoxes of game theory is that the players' "dominant strategy"

is not necessarily the most efficient outcome Explanation: As in the examples presented, the most efficient outcome often is the furthest removed from the players' "dominant strategy."

For a monopolist, marginal revenue is

less than the product's price. Explanation: Marginal revenue is less than the product's price because the firm must lower its price for all previous units as it increases output. Therefore, with each price change marginal revenue changes. Marginal revenue is the change int total revenue for an additional unit sold.

Which of the following would hinder the success of a cartel?

low barriers to entry Explanation: A cartel relies on the same characterisitcs as a monopolist. If there were low barriers to entry, many firms would enter and the cartel would break down. A cartel can exist only when there are few firms.

To maximize revenue, a monopolist prices its product at the point where ___________ is equal to zero.

marginal revenue Explanation: A monopolist will set its price where marginal revenue is equal to zero when maximizing revenue.

By following the profit maximizing rule, a monopolist

maximizes its profit (or minimizes its losses). Explanation: At at an output level other than the point where MR = MC, the firm could increase its profit by following the rule. If average costs are greater than the product price at the profit-maximizing output, the firm would be minimizing its losses.

A monopolistically competitive firm behaves somewhat like

monopoly due to their market power. Explanation: Product differentiation provides the firm with market power much as a monoploy. However theproducts are similar.

Deadweight loss compares

monopoly surplus to competitive surplus. Explanation: Deadweight loss examines the loss of surplus when a monopolist is the producer.

If firms in a monopolistically competitive market are making short-run economic profits,

new firms are likely to enter the market. Explanation: This characteristic is similar to competitve markets. The existence of short-run profits attracts new firms into the industry; low barriers to entry permit them to enter the market.

In the kinked-demand curve model, the kink means that

other firms in the industry match all price decreases below the kink. Explanation: The other firms respond only to price decreases that lie below the kink.

A monopolist is not as good for society as a perfectly competitive firm because

output is lower and price is higher than under competition. Explanation: Monopolists restrict quantity and produce at the point where MR = MC. A competitive market produces at the point where MC = Demand. A monopolist's price is on the demand curve at the profit-maximizing output. This price is higher than the competitive price where MC = demand.

Advertising by monopolistically competitive firms assumes that

people will pay more for a product they consider superior. Explanation: Monopolistically competitive firms try to convince consumers that their product is unique and superior to other similar products. If they can accomplish this task, they can exercis some degree of market power.

A cartel is different from a monopoly

because a cartel is made up of multiple firms. Explanation: A cartel acts like a monopoly but is not a single firm. It is a group of firms colluding to set price and output.

The economic problem with a monopoly is

price is high and quantity is low. Explanation: Because price and quantity are controlled by the monopolist firm, it can limit output and set price at the profit-maximizing level. The result is a lower output and higher price than in a competitive market.

All of the following are examples of how monopolies are created except

profitability. Explanation: A monopoly can be created by special licenses, patents, copyrights and sole ownership of a particular product.

The prisoner's dilemma game does not explain _____________________ markets, but is useful in explaining behavior in ________________ markets.

competitive, oligopoly Explanation: With many firms and market-set prices, competitive firms do not have to moniter the behavior of each other. The prisoner's dilemma does not explain competitive markets. It can explain behavior of oligopolies which have few players.

The main problem with monopolies is their ability to

restrict output to level below the socially efficient level. Explanation: Monopolies restrict output and cause deadweight loss by blocking some trades.

All of the following may be methods of regulating a monopoly, except

restricting quantity sold. Explanation: One of the problems with a monopoly is that it artificially restricts output. Government regulations to further restrict output would be counterproductive.

A natural monopoly arises because of the interaction between the __________ of the market and the __________ scale of operation of a single firm.

size; efficient. Explanation: A natural monopoly arises because of the interaction between size of the market and the efficient scale of operation of a single firm.

Which of the following is probably not a method of product differentiation.

small number of sellers Explanation: A small number of sellers often leads to product similarity.

If a regulated monopolist has a loss when the government forces it to price at its marginal cost,

the government should subsidize the firm. Explanation: The firm may produce an essential product that the public demands. If the firm is forced to operate at a loss, the government should subsidize it rather than permit it to exit.

One method of government regulation of monopolies is to require the firm to price the product at its marginal cost and produce at the competitive output level. The problem with this scheme is

the monopolist may have economic losses and exit the industry. Explanation: In most cases, average costs will be greater than marginal costs at the point where marginal cost equals marginal revenue. The firm would have economic losses and exit the industry.

In the short run, a monopolistically competitive firm chooses

the quantity to produce and the price at which it can sell the product. Explanation: Since the firm has some degree of market power, it can set both price and quantity in the short run.

Governments sometimes force monopolies to set their price at their average cost. The main problem with this regulatory pricing method is that

there is no incentive for a monopolist to lower its costs. Explanation: As long as the monopolist is permitted to price at average cost, the monopolist has no incentive to lower average costs.

A monopoly is a single seller of a good or service.

true Explanation: A monopoly is the single seller of a product because it is the only firm in the market.

Monopolies create a social cost because consumers who may be willing to pay for the product up to its marginal cost are not served.

true Explanation: By raising the price of their product, monopolists are able to charge more to the customers who stick with them than they would earn by serving those additional customers who would be willing to pay for the product up to its marginal cost. By restricting their output and charging a higher price, monopolists maximize their profits. Customers willing to pay competitive prices for the product are not being served, resulting in lost economic value, or a deadweight loss.

If a monopolist firm has an inelastic demand curve, it can increase its price and expect a more than proportionate increase in revenue.

true Explanation: In inelastic demand curve means that with a price increase, the quantity demanded is less than the percentage change in price. The price effect outweighs the quantity effect and an increase in price will allow the firm to generate more revenue.

For a profit-maximizing monopoly, when total revenue is maximized, marginal revenue is zero.

true Explanation: Marginal revenue is the increase in total revenue from selling one additional product. As long as marginal revenue is positive, each sale is making a contribution to total revenue. When marginal revenue becomes negative, each sale is a reduction in total revenue. The maximum point for total revenue must be at the point where it is zero.

For a monopolistically competitive firm, when price equals average total cost, the price must lie above marginal cost.

true Explanation: Monopolistically competitive firms face a downward sloping demand curve. They price on the demand curve where MC = MR, but not where P = ATC. These firms are price setters so marginal cost is below ATC at the set price.

Product differentiation leads to some degree of market power.

true Explanation: Product differentiation leads to a degree of market power because consumers perceive the product as having no close substitute.

For a monopolist, profit maximization occurs at the output where marginal revenue is equal to marginal cost.

true Explanation: Profit maximization occurs when marginal revenue minus marginal cost is equal to zero. At this point, marginal revenue is adding the same to total revenue as marginal costs are reducing it.

A monopolist calculates its profit by multiplying the quantity of output by average revenue minus average cost.

true Explanation: The firm uses the price on its demand curve as the price for its product. For a monopolist, average revenue is the same as price.

The main criticism of the kinked-demand curve model is that it does not explain how firms reach the original price / output at the kink.

true Explanation: The model fails to explain the original price / output combination.

A monopolistically competitive firm will advertise

whether or not it believes the competitor will advertise. Explanation: Even if the best outcome for both companies, due to the cost of advertising, would be to not advertise and to split the market, because there is no way to enforce cooperation they would not do so. Each firm ends up advertising out of fear of its competitor advertising combined with a desire to exploit the situation if their competitor does not advertise.

Game theory assumes that your competitor

will react to your actions. Explanation: Game theory is based on interdependence. The basic premise of game theory is that each firm reacts to the actions of other firms.

If the total revenue (TR) that a monopolist earns for 50 widgets is $20,000 and the marginal revenue (MR) for selling 51 widgets is $145, what is the average revenue (AR) for 51 widgets?

$395 Explanation: Average revenue (AR) is total revenue (TR) divided by the number of units. AR is $20,145 ($20,000 + $145) divided by 51, which equals $395.

Examine the graph below. The firm's profit is

$750. Explanation: At the profit-maximizing output of 150, the firm's average cost is $40 per unit. The firm charges $45 per unit. Its profit is the difference, $5, multiplied by the output, 150.

If a monopolist sells 100 units for $10 per unit and has an average cost of $8 per unit, what is the firm's total cost?

$800 Explanation: Total costs are average costs multiplied by the outout: $8 × 100 = $800.

If reducing the price of a product from $20 to $18 results in an increase in sales from 100 units to 106 units, what is the product's elasticity of demand?

0.6 Explanation: The increase in sales is a 6% change, and the decrease in price from $20 to $18 is a change of −10%, so the elasticity is 0.6.