Question

The MR curve of a perfectly competitive firm is horizontal. The MR curve of a monopoly firm is: \(L O 12.3\) a. Horizontal, too. c. Downsloping. b. Upsloping. d. It depends.

Short answer

The MR curve of a monopoly firm is downsloping.

Step-by-step solution

Understanding the MR Curve

The marginal revenue (MR) curve represents the additional revenue gained by selling one more unit of a good. In a perfectly competitive market, the MR equals the price of the good and is thus a horizontal line.

Recognizing a Monopoly's MR Curve

In a monopoly, the MR curve is not the same as in perfect competition. A monopoly faces a downward-sloping demand curve because to sell more units, it must lower its price. Consequently, the MR curve will lie below the demand curve and slope downward at a steeper rate.

Analyzing the Given Options

Given the unique characteristics of a monopoly's MR curve, the correct description must account for its downward slope due to the need to lower prices to sell additional units.

Selecting the Correct Answer

Option (c) states that the MR curve is downsloping, which aligns with the behavior of a monopolist's MR curve. Therefore, this option is correct.

Key concepts

Marginal Revenue

Marginal Revenue, often abbreviated as MR, is the extra income a firm makes from selling one more unit of a product. It's a crucial concept in understanding different market structures, especially monopolies and perfectly competitive markets.

In a perfectly competitive market, where many firms sell identical products, the price of goods remains constant. Hence, the MR curve in this scenario is horizontal because each additional unit sold fetches the same price.

However, for monopolists, who've significant sway over the market price, selling an extra unit might require reducing the price. Thus, the MR curve for a monopoly is downward-sloping. Each additional unit sold generates less revenue than the previous one due to the price reduction needed to sell more.

Perfect Competition

Perfect Competition refers to a market structure characterized by a plethora of small firms, each too insignificant to affect the market price. These firms sell homogenous products, and potential buyers have perfect information about the prices.

Because of these features, any single firm's decision to change output does not alter the overall market price, ensuring each unit sold has a constant price. This constancy is reflected in the horizontal marginal revenue curve for firms operating within perfect competition.

Other highlights of perfect competition:

• No barriers to entry or exit, allowing firms to freely enter or leave the market.
• Producers are price takers, adjusting their output to maximize profits without influencing prices.
• Economic profits tend to break even in the long run due to the entry of new competitors.

Demand Curve

The Demand Curve visually represents the relationship between product price and consumer purchase quantity. A decline along the curve typically indicates that lower prices increase quantity demanded, showcasing why the curve generally slopes downward.

In the context of a monopoly, the demand curve is crucial because it underpins the monopolist's pricing strategy. To expand sales volume, the monopolist must reduce the product price, unlike in perfect competition where firms can sell any quantity at the market price without affecting it.

This fundamental difference in demand curves guides varying MR curve behaviors and pricing strategies across different market structures.

Market Dynamics

Market Dynamics refer to the forces that impact prices and behavior in a given market. These dynamics differ markedly between monopoly and perfect competition, influencing pricing, output, and overall market operation.

In a competitive market, firms respond rapidly to changes due to the free entry and exit of firms. Prices adjust naturally through supply and demand forces within the market. Consumers in such a market enjoy competitive pricing and high efficiency.

In contrast, a monopoly market is controlled by a single firm that can manipulate prices and outputs to maximize profits owing to its power over market supply. The lack of competition can lead to higher prices and less innovation. This firm’s decisions on pricing and output greatly impact market dynamics since they do not face competition pressures, unlike in a perfectly competitive setup.