Deadweight Loss and Price Discrimination
Deadweight Loss and Price Discrimination
Deadweight Loss and Price Discrimination
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Producer Surplus
The Producer surplus is defined as the difference between the amount the
producer is willing and able to supply the goods for and the actual amount
received by him. Producer surplus is a measure of producer welfare. It is
shown graphically as the area above the supply curve and below the
equilibrium price. As the price increases, the incentive for producing more
goods increases, thereby increasing the producer surplus.
PS=(240-200)*50,000=2,000000
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Producer and consumer surplus
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The Deadweight Loss
In a perfectly competitive market price is equal to marginal cost. But in a
monopoly price is not equal to marginal cost. Monopoly always charges
higher price compared to cost of production. Because of monopoly power,
monopoly charges higher price and produces lower quantity of goods and
the consumers are worse off as they are paying more. Because of monopoly,
society as a whole is worse off.
Because a monopoly sets its price above marginal cost, it places a wedge
between the consumer’s willingness to pay and the producer’s cost.
This wedge causes the quantity sold to fall short of the social optimum.
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Monopoly L M
Price(Rs60)
X Y
PCM Price C
Z
( Rs. 50) B
N
Marginal
revenue Demand Curve or AR curve
D
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The Deadweight Loss Continues…
Consumer surplus is the area below the demand curve and above the market
clearing price. In case of perfectly competitive market the consumer surplus area
is ABC. Producer surplus is the area above the supply curve and below the
market clearing price. Here, producer surplus area is BCD in PCM. You know
monopoly charges more price than the cost of production. Due to higher price
charged by monopoly, consumer will pay more and consumer surplus will come
down. Now, area of consumer surplus is ALM in Monopoly. Consumer surplus
has comedown because of higher price charged by the monopoly. There is loss
of consumer surplus X+Y. In a perfectly competitive market, producer surplus
was BCD. Because of higher price by monopoly the producer surplus has
changed(increased) to LMND. The gain of producer surplus is X-Z. The loss of
consumer surplus is X+Y Hence, the dead weight loss is the area Y+Z. Dead
weight loss the loss to the society. That loss arise because of producer and
consumer loss. TR in perfectly competitive market is 60*5= 300 in monopoly.
TR in PCM is 50 *7 =350. 350-300=50 is loss for the society.
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Public Policy Toward Monopolies
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Price Discrimination
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Price Discrimination
What is Price Discrimination?
Price discrimination refers to the practice of selling
the same good at different prices to different buyers.
Types
Personal: Air Travel and Movie Tickets
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Price Discrimination
Note: If price differences is based on cost
differences in supplying a product or services is not
treated as price discrimination.
The price discrimination is said to be exist, if price
differences are not based on cost differences
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Degrees of Price Discrimination
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Second Degree of price discrimination
Instead of setting price for each buyer as in the 1st degree price
discrimination, the second degree price discrimination occurs
when a firm/company charges a different prices for different
quantities consumed, such as quantity discount on bulk
purchases. It involves setting prices subject to the amount
brought, in an attempt to capture part of the consumer surplus.
By doing so, the firm will extract part, but not all consumer
surplus. The firm exercises second degree price discrimination
to get rid of excess inventories/stocks when demand is low.
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Conditions for third degree
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Equilibrium condition for Third Degree:
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Equilibrium of Discriminating monopolist
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Let’s assume that average total cost(ATC) in total market is Rs. 3 at the best
level of output. Then profit is (5-3)=Rs. 2 per unit and total profit is 2*90=Rs.
180.
While exercising price discrimination let’s see how much profit monopoly will
earn. In market 1, the price is Rs. 7 and ATC is Rs. 3. Then profit is 7-3=Rs. 4
per unit and total profit is 4*50=200.
Likewise in market 2 price is Rs. 4 and ATC is Rs. 3. Then Rs.1 is the profit
per unit and total profit is 1*40=40.
what is the total profits in market 1 and market 2 together. That is 200+40=Rs.
240. We can say, while exercising price discrimination the total profit is Rs.
240.
Let’s assume firm is not exercising price discrimination then what is the total
profit. Price is Rs. 5 and ATC is Rs. 3. Then profit is Rs. 2 per unit and total
profit is 2*90=180.
Rs. 240 total profit is better than Rs.180 total profit. Hence, we can say that
monopoly should exercise price discrimination. By exercising price
discrimination monopoly total revenue and profit will be more
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Thank You
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