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Market Power - Case Study

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Question 1: a) Identify the most important source (s) of market power in the following markets and briefly explain your answers:

i. Small town bars with liquor licenses

Answer: According to the market analysis this type of industry in the market is considered under a monopolistic competition. In such condition competition exists but on a restricted basis as the competitors are there but not on a huge level. Primarily, on the basis that the license is not easy to obtain.

ii. Apple iPad

Answer: According to the market analysis this type of industry in the market is considered under a perfect competition. However, the market power is rolled under brand presence and brand image. On the other, similar products are available but no identical product and therefore at time may enjoy zero competition.

iii. Electronic commerce (Amazon)

Answer: According to the market analysis this type of industry in the market is considered under a monopolistic competition. However, the market power is rolled under-price dominance and massive product range. Thereby, helps in eliminating its competitor and ruling on a single basis.

iv. Brand-name prescription drugs

Answer: According to the market analysis this type of industry in the market is considered under a monopoly. Mainly because, these are considered and patents products and cannot be available with any other competitor. Thereby, lead in ruling the market single handily.

v. Netflix

Answer: According to the market analysis this type of industry in the market is considered under a perfect competition. However, the market power is rolled under brand presence and brand image, along with content provided helps in ruling single handed business.

b) Calculate the Lerner Index for the following profit maximizing firms:

i. Netflix: price = 10, marginal cost = 4

ii. Shell gasoline: elasticity = 0.6

Answer: Netflix:

Lerner Index - (Price-Marginal cost) / Price = Netflix Price - Marginal Cost / Netflix Price
10 - 4/10 = 0.60

Shell Gasoline:

Lerner Index = -1 / Elastic Demand

Lerner Index = -1 / 0.6 = -1.6667

c) Provide an example cross price elasticity for the following products and briefly justify your answer:

i. The price of Apple iPhone X and the quantity of Samsung Galaxy S10

ii. The price of BP gasoline and the quantity of Ford Expedition SUV's

iii. The price of Starbuck's latte's and the quantity of Nike shoes

Answer: It is the relation between the BP Gasoline and the quantity of the Ford Expedition SUV's, the reason being that none of them are the substitutes of each other or competitors. However, in normal course of business all the car required fuel to run on th road and in case when the fuel prices rise the car running becomes low, thereby reduces the demand of the car (Johnson, 2017). Hence, increase in fuel price will lead to a reduction in the quantity demand of the Ford Expedition SUV's.

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Question 2: a) Solve the monopolists' problem (finding optimal quantity, price, and profit) with output as the choice variable and setting marginal revenue equal to marginal cost.

Answer: Finding optimal quantity, price, and profit when marginal revenue equal to marginal cost

Q = Quantity

P = Price

TR (Total Revenue) = Price * Quantity = 60 Q - 2Q2

MR = Change TR / Change Quantity = 60 - 4Q

MC = Change TR / Change Quantity = 2Q + 6

MR = MC

60 - 4Q = 2Q + 6

Q = 9 Unit

P = 60 - 2 * 9 = $ 42.

Profit = TR - TC = (42 * 9) - (81 + 54 + 48) = $ 195

b) Solve the monopolists' problem (finding optimal quantity, price, and profit) with output as the choice variable and setting marginal profit equal to zero.

Answer: Finding optimal quantity, price, and profit when marginal revenue equal to marginal cost

MR - MC = 0

60 - 4Q - 2Q - 6 = 0

Q = 9 Units

P = $ 42 (Solving the equation)

Thus, if Q = 9 Units and P = $ 42 then Profit = $ 195.

c) Solve the monopolists' problem (finding optimal quantity, price, and profit) with price as the choice variable and setting marginal profit equal to zero.

Answer: Finding optimal quantity, price, and profit when marginal profit equal to zero

MP = 0 or MR -MC = MP = 0

As per the above solution MR -MC = 0 then profit = $ 195

So, MP = MR -MC the profit = $ 195.

d) Graph the monopolists' problem indicating demand, marginal revenue, marginal cost, average total cost, optimal output, optimal price, and profit.

Answer: 

Market Power 1.jpg

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Question 3: Graph long-run equilibrium in this monopolistically competitive market. (You do not need to precisely calculate the locations of the curves, but you need to get the general picture correct.) Be sure to identify the average cost curve, marginal cost curve, demand curve, and marginal revenue curve. Also, identify the profit maximizing output and price and any resulting profits.

Answer: Understanding the concept of the monopolist competition, in case of the short run it may definitely earn profits on a larger basis. However, in case of the long run it may definitely earn profits in zero and run losses reason being because there is actually no barriers for entry and exit.

Thus, the equilibrium of the monopolistic competition in a long run can be explained as follows:

Market Power 2.jpg

P = Price

O = Output

MR = Marginal Revenue

AR = Average Revenue

MC = Marginal Cost

AC = Average Cost

E = EQUILBRIUM

In this condition Equilibrium is attained below the Average Revenue.

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