2. The natural monopolist, whose cost and demand curves are shown to the right, is initially charging price P0 and selling Q0 units of output. Does the firm have an incentive to alter the price it charges for its output?

Yes, the firm should charge a lower price because even though it is earning positive profits, it is not maximizing profit.

   Profit Maximization requires operating where Marginal Revenue = Marginal Cost. At output Q0 Marginal Revenue = Average Cost, the firm is producing less and charging more than the profit maximizing level. It can increase production and its added cost per unit will be less than its added revenue per unit. This will be true as long as Marginal Revenue is greater than Marginal Cost, so this firm would maximize profits by selling QM at price PM where MR = MC.


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