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Consider a firm operating in a competitive market. What is the maximum price such a firm...

Consider a firm operating in a competitive market. What is the maximum price such a firm would be willing to pay for the rights to be a sole producer of a good? If the firm buys the sole production rights, it essentially becomes the monopoly provider of this product, and you can assume it would set a single price for the good. Explain.

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Answer #1

A firm will be willing to pay at most the difference between the revenue it would earn if it were to function as monopoly and what it would earn in a competitive market. While the price in a competitive market is given as equal to the marginal cost of production, the price for a monopoly can be fixed greater than the marginal cost depending on the elasticity of demand for the product. Suppose, the price in a competitive market be equal to MC, the price in a monopoly will be MC(1 + 1/e) where MC is the marginal cost and e is the elasticity of demand. Suppose that the quantity sold will be Q in both cases. Based on these prices, the revenue will be MC×Q for a competitive market and MC(1 +1/e) × Q for a monopoly. The maximum amount that a firm will be willing to pay to get monopoly power is MC × Q/ e.

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