5 Steps to a 5 AP Microeconomics, 2014-2015 Edition

128 › Step 4. Review the Knowledge You Need to Score High

producer of granulated sugar wanted to monopolize the market, the firm might wish to con-

trol all of the sugarcane plantations.

Monopoly Demand

The perfectly competitive firm is a price taker and faces perfectly elastic demand for the

product. The firm sells all it wants at the going market price; this decision does not affect

the market price. The monopolist is the only provider of that good, making the demand

for the product the market demand for that product. The monopolist must pay attention

to the law of demand, which means that if it wishes to sell more, the monopolist must

decrease the price.

Demand, Price, and Marginal Revenue

Price exceeds marginal revenue because the monopolist must lower price to boost sales. The

added revenue from selling one more unit is the price of the last unit less the sum of the

price cuts that must be taken on all prior units of output. For example, the demand curve

for the monopolist’s product is P= 7 - Qd.

The monopolist begins at a price of $6 and sells one unit of the good (see Table 9.6).

A price cut to $5 results in one more unit sold, so total revenue increases by $5 on this

second unit. However, the first unit, previously sold at $6, must also now be sold at $5,

which costs the firm $1 in total revenue. With $5 gained (P) from the second and $1 lost

in total revenue from the first unit, the net or marginal increase (MR) in total revenue is $4

for the second unit. Graphically we can see the revenue effect of selling the second unit in

Figure 9.10

Chapter 7 examined the effect that price elasticity of demand (Ed) has on total revenue.

Demand is elastic above the midpoint of a linear demand curve like the one in Figure 9.10,

so cuts in price increase total revenue. Demand is inelastic below the midpoint; further cuts

in price decrease total revenue. At the midpoint, total revenue is maximized and demand is

unit elastic. Recognizing this connection, the price-making monopolist is going to avoid

the inelastic portion of the demand curve and operate at some point to the left of the mid-

point. Figure 9.11 combines demand, marginal revenue, and the total revenue function.

You can see that when total revenue is at the maximum, marginal revenue is zero and fur-

ther price cuts decrease total revenue, making marginal revenue negative.

Table 9.6

PQTR MR

70 0

61 66

5 2 10 4

4 3 12 2

3 4 12 0

2510 - 2

16 6- 4

0 7 0 - 6

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