A monopoly firm faces a demand curve given by the following equation: P = $500 1
ID: 1169081 • Letter: A
Question
A monopoly firm faces a demand curve given by the following equation: P = $500 10Q, where Q equals quantity sold per day. Its marginal cost curve is MC = $100 per day. Assume that the firm faces no fixed cost. You may wish to arrive at the answers mathematically, or by using a graph (the graph is not required to be presented), either way, please provide a brief description of how you arrived at your results.
a) How much will the firm produce?
b) How much will it charge?
c) Can you determine its profit per day? (Hint: you can; state how much it is.)
d) Suppose a tax of $1,000 per day is imposed on the firm. How will this affect its price?
e) How would the $1,000 per day tax its output per day?
f) How would the $1,000 per day tax affect its profit per day?
g) Now suppose a tax of $100 per unit is imposed. How will this affect the firm’s price?
h) How would a $100 per unit tax affect the firm’s profit maximizing output per day?
i) How would the $100 per unit tax affect the firms profit per day?
Explanation / Answer
P = 500 - 10Q
Total revenue, TR = P x Q = 500Q - 10Q2
Marginal revenue, MR = dTR / dQ = 500 - 20Q
(a) Monopolist maximizes profit by equating MR with MC:
500 - 20Q = 100
20Q = 400
Q = 400 / 20 = 20
(b)
P = 500 - 10Q = 500 - 200 = 300
(c)
Profit = TR = TC
= (P x Q) - (MC x Q) = Q x (P - MC)
= 20 x (300 - 100) = 4,000
(d)
Tax will increase the price by amount of tax. So, revised P = 1,000 + 500 - 10Q = 1,500 - 10Q
(e)
revised demand curve: P = 1,500 - 10Q
Revised MR = 1,500 - 20Q [Note here: MR is twice as steep as the demand curve, so coefficient of Q for MR is twice that in demand function]
Equating with (unchanged) MC:
1,500 - 20Q = 100
20Q = 1,400
Q = 70 (Ncrease from pre-tax scenario)
P = 1,500 - 10Q = 800
(f)
Revised profit = Q x (P - MC)
= 70 x (800 - 100) = 49,000
NOTE: Out of total 9 questions, the 1st 6 questions have been answered.
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