To print, choose “File” then “Print” then click box at lower left that says “pure black and white”

To print, choose “File” then

“Print”then click box at lower left

that says“pure black and white”

Economics 153

Economics of the Internet

Ward Hanson

Greg Rosston

T.A.: Lori Parcel

http://www.wardhanson.com/econ153

Economics 153 Today

Goals for the course Syllabus Microeconomic review

Thursday Internet Infrastructure – Readings in syllabus

Microeconomic Review Demand Curves

Qd=0 – 1*P (Simple linear case)

P

Q

D

Demand Curves

P

Q

D

D'

D"

Demand Curves

P

Q

D

D'

Elasticity Own-price elasticity

Inelastic d > -1 (between zero and -1)

Elastic d < -1

Firm vs. Market

0

0

0

0

Q

P

P

Q

Elasticity Cross-price elasticity

Substitutes 01 < 0

Complements 01 > 0

Where does firm produce?

0

1

1

0

QP

P

Q

Review Exercises Show the elastic and inelastic portions of

linear demand curve

Graphically and mathematically show In what portion of demand curve firm will operate. Why other portions don’t maximize profit.

Marginal Revenue

1

0 )(

dQP

PQd 10

1

0

1

1

dQP

BQAP (A<0 for a normal good)

Marginal Revenue (con’t)

QPTR

BQAP

QBQATR )(

BQAQTR 2

BAQQTR

MR 2

Marginal Revenue Curve

P

Q

DMR

Cost Functions

cQFCTC

CostTotal

cQTC

MC

Cost Marginalc

QFC

QTC

AC

CostAverage

Cost Curves

$

Q

TC

FAC

MC

Scale and Scope Economies of scale

TC(2A) < 2*TC(A)

Economies of scope TC(A,B) < [TC(A) + TC(B)]

Competition Assumptions necessary

What happens when those are violated?

What happens when costs change?

What happens when demand changes?

Theory of Monopoly How does firm act differently?

What is profit maximizing rule?

Monopoly

P

Q

D

MR

AC

MC

Qm

Pm

Monopoly?

P

Q

DAC

Monopoly?

P

Q

D

AC

Double Marginalization vs. Selling Direct

Internet leads many manufacturers (for example: Tivo, HP) to think about selling direct to consumers.

Situation 1: Sell direct to consumers. Situation 2: Set wholesale price, with retail

price set by a retailer.

Direct Sales: Monopoly again…

P

Q

D

MR MC

Qd

Pd

Tivo bears all costs and gets all profit.

Manufacturer + retailer: One firm’s price is another’s cost

P

Q

D

MR

Qm

Pw

MCr

Tivo can’t control retail price, can’t capture as much profit, retail price is too high. Monopoly retailer (say, Best Buy) gets substantial profit.Pr

MCW

MCd(scenario 1)

(scenario 2)

Individual vs. Market Demand Previously considered market demand

P

Q

D

total demand

Demand is a mixture of individualdemands, some single unit and some multi-unit.Here, one person might buy 1 unit if price is high and 2 if price is lower.

Individual Demand Curve: Discrete

A single customer’s demand (e.g. CDs).

P

Q

D

One individual’s demand

Here demand is unit by unit, tracing out an individual demand curve.

WTP 1 unit: WTP(1)WTP 2nd unit: WTP(2) – WTP(1)…

Individual Demand Curve: Continuous Again just a single individual, but a continuous

range of quantity (e.g. gasoline)P

Q

D

One individual’s demand

Multi-part Pricing What if a firm can charge both a price per

unit p and a membership fee F ? Does it make more money? Why? Is it more efficient?

Consumer Surplus Area above market price, below demand.

Qd=0 – 1*P (Simple linear case)

P

Q individual

D

How would we calculate that?

Why would we calculate that?

P max

P market

Consumer Surplus Area above market price, below demand.

Qd=0 – 1*P (Simple linear case)

P

Q individual

D

P max

P market

*2

Base Height

(only for linear demand)

Consumer Surplus Area above market price, below demand.

P

Q individual

D

P max

P market

00 1max 1

20

1

( )( )*( )2 2

211 02 *( 2 )

market marketmarket

market

p pQ p p

marketp p

Price up, consumer surplus down.

10 20 30 40 50

500

1000

1500

2000

2500

0 1( 100, 2)

consumersurplus

price

The perfect monopoly Charge EACH individual the marginal cost

per unit, but a fee F equal to their surplus.

P

Q individual

D

P max

P market MC

Personal pricing, Rhapsody subscription

Game Theory

(-5, -5) (-10, -1)

(-1, -10) (-3, -3)

Confess Don’t Confess

Confes

sD

on’t

Player 1

Player

2

Internet Broadband Version

(5, 5) (10, -5)

(-5, 10) (3, 3)

Current speed Triple speed

Curre

ntT

riple

SBC’s DSL

Com

cast Cable

Modem

Different market: Existing cable only

(10, 0) (3, 4)

(5, 0) (2, -2)

No entry Enter high

Curre

ntH

igh

High speed DSL

Cable

Modem