A monopoly firm faces a demand curve given by the following equation: P = $500 − 10Q, where Q equals
quantity sold per day. Its marginal cost curve is MC = $100 per unit. Assume that the firm faces no fixed
cost. You may wish to arrive at the answers mathematically, or by using a graph (the graph is not
required to be presented), either way, please provide a brief description of how you arrived at your
results.
a) How much will the firm produce?
Given:
The demand function: P = 500 - 10Q
The Marginal cost (MC) = $100
The profit-maximizing condition for a monopolist: MR = MC.
Total Revenue = P x Q
Total Revenue = 500Q - 10(Q x 2)
Marginal Revenue = 1st order derivative of TR function, hence:
MR = 500 - 20Q
Plugging in the values for MR = MC and solving for Q, we get:
500 - 20Q = 100
So, Q = 20
The firm will produce 20 units.
b) How much will it charge?
Substituting the value of Q in the market demand function:
P = 500 - 10(20) =$300
The firm will charge $300 per unit.
c) Can you determine its profit per day? (Hint: you can; state how much it is.)
Yes, we can determine its profit per day with the following:
Profit = total revenue – total cost
Total revenue (TR) = quantity x price = 20 x 300 = $6000
Total cost (TC) = Total Variable Cost + Total Fixed Cost. Since the fixed cost is 0:
Total Cost = Total Variable Cost.
Total Variable Cost (TVC) = Average Variable Cost (AVC) x Quantity (Q) = Marginal Cost (MC) x Quantity
(Q).
Total Cost:
TC = MC x Q = 100 x 20 = $2000.
Profit:
TR – TC = 6000 – 2000 = $4000.
Total Revenue / Day: $6000
Total Cost: $2000
Firm Profit / Day: $4000
d) Suppose a tax of $1,000 per day is imposed on the firm. How will this affect its price?
A tax of $1,000 per day will not affect the price of the company because it is a fixed cost that the firm
must pay every day, even if it doesn't produce anything. This means that even if the firm doesn't
produce anything, its price and output will not change. This concept of equilibrium which refers to the
difference between the cost of production and the cost of goods and services is known as the marginal
cost.
e) How would the $1,000 per day tax its output per day?
Since the tax is fixed, it does not change the output per day.
f) How would the $1,000 per day tax affect its profit per day?
Profit = TR - TC
P = (15 x 300) - (100 x 15) = 4500 -1500 = $3000
Profit per day will be reduced by: $(4,500 - 1500) = $3000 / Day
g) Now suppose a tax of $100 per unit is imposed. How will this affect the firm’s price?
If a tax of $100 per unit is imposed on the firm, this will change its Marginal Cost. The change is as
follows:
MC = MC + Tax (T) = 100 + 100 =200
Substituting MR for MC, we get:
500 - 20Q = 200
Q = 15 (Showing a reduction in production from 20 units)
Tax imposition will lower overall production.
Now, substitute value of Q in our demand function:
P = 500 - 10(15)
P = $350
The price for goods sold has increased by $50 to $350.
h) How would a $100 per unit tax affect the firm’s profit maximizing output per day?
Profit maximization happens when MC intersects (or equals) MR
Marginal Cost at $100 tax is as follows:
MC = 100 =TC = MC x Q = 100 x 15 = 1500
Marginal Revenue = $1500
Total Marginal Output (TMO) = 1500 / 100 = 15 units
The output has been reduced to 15 units.
I) How would the $100 per unit tax affect the firms profit per day?
Profit = TR -TC = (350 x 15) = $5250
Profit = (350 x 15) – (200 x 15) = $5250 - $3000 = $2250
This shows a profit reduction of $3,000 per day, bringing the daily profit to $2250
Rittenberg, L. & Tregarthen, T. (2009). Principles of Economics. Flat World Knowledge.
https://open.lib.umn.edu/principleseconomics/front-matter/publisher-information/
