aug8

Outline for Friday, August 8

� Remember

� Quiz Monday

� Final Friday – don’t yet know where

� Review Thursday� Review Thursday

� Quiz practice

� Other pricing schemes

� General Equilibrium

Pareto Efficiency

� A change is a Pareto improvement or is Pareto-superior if…

� Is anyone better off? YES

� Is anyone worse off? NO� Is anyone worse off? NO

� A situation is Pareto efficient if no Pareto improvement exists

� It is inefficient if an improvement can be made

Pareto Efficiency for market interventions

� A Pareto improvement has

� ∆CS>0 for some consumer or ∆PS>0 for some firm or ∆G>0

� And ∆CS<0 for all consumers, ∆PS<0 for all firms, and ∆G<0

� A welfare improvement has

� ∆W = ∆CS + ∆PS + ∆G > 0

Pareto Efficiency recap

� If the situation is efficient

� No unambiguous improvement can be made

� Anything that makes one person better off must make another person worse off

� Efficiency is not a number

� Improving efficiency means making an unambiguous improvement

� Any Pareto improvement increases welfare

Rent seeking

� Total welfare is maximized at equilibrium for W0

� Rent seeking is lobbying for a market intervention

� If it works, you get a larger surplus

� The other side loses surplus� The other side loses surplus

� And the total welfare usually shrinks – a DWL

� It’s like taking a bigger slice of the pie

� Firms can try to get monopoly power

� From patents, intellectual property, government control

� Gives the power to set the price…

� Or to set multiple prices

Price Discrimination

� To set different prices, the firm needs info about consumers

� First-degree price discrimination uses what you want

� Second-degree PD uses what you do (demand q)� Second-degree PD uses what you do (demand q)

� Third-degree PD uses what group you belong to

� So, the firm can recognize consumers

� Identify their individual demand curve or group

� Keep track of quantity sold so far

� It also requires that…

� Consumers have different price elasticities

� Consumers cannot re-sell the good to each other

1D Price Discrimination

� First-degree price discrimination uses what you want

� Also called perfect price discrimination

� The seller charges the marginal WTP of each unit sold, discriminating by

� Buyer and

� Quantity

� The seller takes all consumer surplus

� It sells up until MR = MC

� So it is efficient and there is no DWL

Figure 12.1 Perfect Price Discrimination

6

5

4 MCe

© 2007 Pearson Addison-Wesley. All rights reserved.

12–9

3

2

1

Q, Units per day

6543210

Demand, Marginal revenueMR1 = $6 MR

2 = $5 MR3 = $4

Figure 12.2 Competitive, Single-Price, and Perfect Discrimination Equilibria

E

D

CB

A

MCs

pc = MCcec

esps

p1

MC

© 2007 Pearson Addison-Wesley. All rights reserved.

12–10

D

Q, Units per dayQs Qc = Qd

MCs

Demand, MRd

MRs

MC1


� Second-degree price discrimination uses what you do

� Also called quantity discrimination

� The seller charges a lower per-unit prices to consumers that buy more

� Typical case: If it only sets a few different prices, block pricing, there will be a DWL

� Special case: If it can set as many prices as it wants and consumers all have the same preferences, the firm can perfectly price discriminate, and there is no DWL

Figure 12.3 Quantity Discrimination

50

70

90

(a) Quantity Discrimination

A =$200

C =$200

B =$1,200

D =

60

90

(b) Single-Price Monopoly

F = $900

E = $450

© 2007 Pearson Addison-Wesley. All rights reserved. 12–12

30

Q, Units per day

20 40 900

m

Demand

$1,200D =$200

30

Q, Units per day

30 900

m

Demand

G = $450

MR


� Second-degree price discrimination uses what you do

� Also called quantity discrimination

� The seller charges a lower per-unit prices to consumers that buy more

� Typical case: DWL

� Special case: no DWL

� Or the seller charges an access fee, using a two-part tariff

� A high price to enter Six Flags, then a per-ride price

� A cover charge followed by per-drink prices

� Can be efficient with identical customers


� 3D PD uses what group you belong to

� Also called multimarket price discrimination

� The firm uses simple, identifiable consumer characteristics to split up the market

� Which store or country you’re buying from

� Whether you’re a student, senior or child

� The firm charges the monopoly price in each market

� Which is above the equilibrium price and causes a DWL

� You only need to know that the monopoly price is inefficient, not why it’s above the equilibrium price


http://tutor2u.net/economics/revision-notes/a2-micro-price-discrimination.html

Figure 12.4 Multimarket Pricing of Harry Potter DVD

29

(a) United States

DA

35

(b) United Kingdom

CSB

DB

© 2007 Pearson Addison-Wesley. All rights reserved. 12–18

QA, Million sets per year

πA

1m

MRA

DWLA

9.4 19.47

pA = 15

CS1

πB

QB, Million sets per year

MRB

DWLB

1m

4.532.2

pB = 18

CSB

Other types of price discrimination

� Discriminating by time of purchase

� Selling last-minute flights at lower prices – yield management

� Charging drivers a fee when roads are congested –congestion pricing

� Similarly, charging more when electricity demand is high – peak-load pricing

Other types of price discrimination

� Discriminating by time of purchase

� Selling last-minute flights at lower prices – yield management

� Charging drivers a fee when roads are congested –congestion pricing

� Similarly, charging more when electricity demand is high – peak-load pricing

� Anything that involves

� Charging more than one price

� But not creating more than one good


� Remember

� Quiz Monday



� Quiz practice


� General Equilibrium

Last quiz

� Half concepts: multiple choice or T and F

� Half numerical and graphical problems

� Bonus for a couple of difficult problems

Profit maximization

� A firm is making a short-run production decision. Its fixed costs are F = 10 and its variable costs are VC = 20q2. Its marginal cost is 40q. Find

� Its break-even priceIts break-even price

� Its shutdown price

� Its supply function

Profit maximization

� A firm is making a short-run production decision. Its cost function is C(q) = 12q2 + 20. What is its

� Average variable cost

� Average fixed cost� Average fixed cost

� Average cost

� Profit as a function of price and quantity

� Operating profit as a function of price and quantity

Profit maximization

� A firm is making a short-run production decision. Its cost function is C(q) = 12q2 + 20. What is its

� Average variable cost

� Average fixed cost� Average fixed cost

� Average cost

� Profit as a function of price and quantity

� Operating profit as a function of price and quantity

� Why might the firm operate at a loss?

Profit maximization

� In the short run, at what prices will the firm

� Shutdown P < minimum AVC

� Make a negative profit if operating P < minimum AC

� Show, on the following graph� Show, on the following graph

� Whether the firm makes a profit or loss at P = 30

� Whether the firm makes a profit or loss at P = 50

� What is the firm’s revenue, total cost and total profit in each case?

Welfare

� What is the CS, PS, DWL and W on this graph (on the board) if…

� The market is in equilibrium

� There’s perfect price discrimination� There’s perfect price discrimination

� There’s a price ceiling at PH

� There’s a price ceiling at PL

� There’s a tax of PH - PL

Welfare vs. efficiency

� Is this situation inefficient? If so, find a Pareto improvement. If not, explain why not.

� There’s a price floor set above the equilibrium price

� I have my suitcase, but you have the key to open it� I have my suitcase, but you have the key to open it

� (More situations like the homework)






� Suppose the government gives consumers a price subsidy. Demand increases, so CS and PS both increase. Has welfare increased (from the original equilibrium)?






� Suppose the government gives consumers a price subsidy. Demand increases, so CS and PS both increase. Has welfare increased (from the original equilibrium)?

� True or False. In the short run, producer surplus is profit.

Bonus: economies of scale

� Are there economies or diseconomies of scale? In what range of quantities?

� C = 10q2

� C = (q+2).5 � C = (q+2)

� q = 2L+7K

� q = min{L, 2} + 5K


� Remember

� Quiz Monday



� Quiz practice


� General Equilibrium – on Monday

aug8

Business

pareto efficient

pareto efficiencya change

paretosuperior ifis

g0a welfare improvement

g0and cs0

paretoimprovement existsit

rememberquiz mondayfinal

noa situation