Question

ZD&D holds a patent on a unique medical device that is used for DNA mapping. Assume that ZD&D is a single-price profit-maximizing monopolist and is currently earning positive economic profits.

(a) Draw a correctly labeled graph and show each of the following.

(i) ZD&D’s profit-maximizing price and quantity, labeled as P* and Q*.

(ii) The area representing ZD&D’s economic profits.

(iii) The allocatively efficient level of output, labeled as Qs.

(b) Instead of maximizing profit, assume that now ZD&D maximizes its total revenue.

(i) On your graph in part (a), identify the output level that ZD&D would chose, labeled as Qr.

(ii) Explain why the output you identified maximizes total revenue.

(c) Assume that the government imposes a set price (a price control) on ZD&D so that the allocatively efficient level of output, Qs, is produced.

(i) On your graph in part (a), show this set price, labeled as Ps.

(ii) With the price control, explain whether ZD&D maximizes profit at Qs.

(d) Assume that now the government levies a per-unit tax of $t on ZD&D’s output. Assume that now ZD&D maximizes its profit.

(i) Compared with P* and Q* in part (a), how will ZD&D’s profit-maximizing output and price change?

(ii) Compared with Q* in part (a), does the per-unit tax lead to a more allocatively efficient level of output? Explain.

Answer 1

Answer : a) i), ii), iii) & b) i)

We know that when MR = MC then equilibrium condition occur. In the above diagram E is the monopolistic equilibrium point. As ZD&D is a single price profit maximizing monopolist , it charges higher price than equilibrium. The profit - maximizing price is P* and output is Q* .

The area P*abc shows the economic profit of ZD&D.

Allocatively efficient condition occur at that point where AR = MC. In the above diagram Q_s is the allocatively efficient output level.

We know that

Total Revenue = Price × Quantity. In the diagram as Q* is the equilibrium quantity level, the total revenue maximizing output level is Q* which is also shown as Q_r . The area P*aQ_rO represents the total revenue of ZD&D.