11. Market Power
The economics of the price-setter — monopoly marginal revenue, Cournot reaction functions, and the art of charging each consumer a different price.
- Monopoly: Marginal Revenue and Deadweight Loss — Look at a market with only one seller. That single firm chooses price and quantity alone.
The monopolist slides down the demand curve to set the price. Selling one more unit means cutting the price, so marginal revenue falls twice as fast as demand. It stops where marginal revenue meets marginal cost. Producing less than competition leaves welfare destroyed. That triangle is the deadweight loss. The markup over cost is measured by the Lerner index below.
For example, say the neighborhood has exactly one snack 🏪 shop. The owner sets the price of tteokbokki alone. Charge too much and friends stop buying. Charging a bit more and selling less can still raise profit. But the friends who go without feel the loss. That loss is the deadweight loss.
- Cournot Oligopoly — Two firms compete while watching each other's output. Each picks its best quantity against the other.
My best quantity depends on how much my rival makes. That relationship is the reaction function. Where the two reaction functions cross sits the Cournot-Nash equilibrium. Add more firms and price and quantity move toward competition. With just one firm, it is monopoly again.
For example, say the neighborhood has two snack 🏪 shops. If one makes lots of tteokbokki, the other does better making little. Watching each other, they settle on quantities that stop moving. Grow to ten shops, and the price falls close to cost.
- Price Discrimination — Watch the art of charging different prices for the same good. Switch between uniform pricing, third-degree, and first-degree discrimination.
Third-degree splits buyers into markets and matches marginal revenue to marginal cost in each. First-degree charges each buyer exactly their willingness to pay and turns all surplus into profit. Surprisingly, third-degree can destroy more welfare than one uniform price. Splitting markets is not always more efficient.
For example, say a stationery 🏪 shop sells ✏️ pencils. The owner charges a regular 🧑 friend 100 won but a first-time visitor 150. The friend buys happily at the low price, and the owner earns more overall. Each customer faces a different price tag.