Revenue Maximization, Specialization and exchange
Revenue maximization for monopoly
The first case relate to revenue maximization for monopolies. There are two ways in which a firm with pure monopoly can increase it revenue. The first option is to increase the price of the product and the second option is two lower the price of the product so as to increase the number of quantity sold (Hirschey, 2008). Choosing the right option depend on the prevailing condition. For a monopoly to increase its revenue through the first option i.e. increasing the price two important conditions must be met. First, the marginal revenue must be less than marginal cost. Marginal revenue refers to the additional revenue that is generated by increasing the sale by one unit. Marginal cost refers to the additional cost incurred by producing one extra unit (Mankiw, 2014). When the marginal Revenue is less than marginal cost it simply mean that cost increase at a higher rate than does the revenue. In such case, a monopoly cannot, maximize revenue by increase sale since the cost incurred will be higher than revenue generated. The only option left is to decrease the sale by increasing the prices so as to achieve the optimal sale quantity. Optimal Sale quantity is achieved when Marginal Cost = Marginal revenue (Hirschey, 2008).
Secondly, the demand for its product must be inelastic. Inelastic demand is one which is insensitive to changes in price and income (Hall and Lieberman, 2007). In inelastic demand, an increase in price (say from P1 to P2) lead to no change or very little change in the quantity demand (say q1 to q2) as shown below.