Question

a. Show the output, price and profits of a monopoly in a well-labeled diagram.

b. Suppose the government imposes a lump-sum tax of $200,000 on this monopoly in (a). In words, explain whether this will affect your answers to (a).

Answer 1

a) the graph of monopoly:

  

In the graph above, we see that Q* is the quantity of output and P* is the price in a monopoly market. Profit = P*ESC.

b)

  

  

b. When a lumpsum tax of $200,000 is levied, answers to (a) remain the same for price and output, but change for profit of the monopolist.

reason: When tax is imposed on the monopolist, it is as if his fixed costs have increased. AC1 shifts upward to AC2. Now, his costs have increased, but output and price are the same. As a result of this shift, his profits reduce from P*ESC1 to P*ERC2. There is a decrease in the profits.