Durable goods monopolist

Jeremy I. Bulow
Kishore Kumar
Gangwani
Coase conjecture:
A monopolist selling good has no monopoly power.
Although Q1 is optimal output of
the monopolist, it faces a
residual demand of BC in the
future. At that time the optimal
quantity is (Q2-Q1) and price is
lower, and so on.
If this is true, then consumers
(foreseeing this) will wait for the
future low price, rather than buy
it at P1 . If the period of waiting
is short enough, then monopolist
will be reduced to a competitive
firm.
Why?
Then what should a
monopolist do?
Bulow (1982)
There are many ways out for the monopolist.
Rent rather than sell the good.
Planned Obsolescence
price guarantee
service contract
implicit contract (reputation)

What are durable goods?
Products that yield a flow of services to the owner over a
given period of time.
Also includes products whose current demand depends
upon their previous demand (ticket).
Difference between a renter and a seller
If a renter produces much, then he suffers the
loss from old units. Cost of production is thus
internalized.
If a seller produces much, then the loss of
overproduction is born by the purchasers. Thus
he is tempted to produce too much in the future.
Expecting this, current buyers are only willing to
buy the good with lower price.
Sometimes, the monopoly renter is able to make
as much profit as a non-durable good
monopolist.


Model
2 periods, one monopolist.
Cost of production: 0
One period rental price: p
Interest rate:
Demand for service: p=-q
Quantity produced by the competitive industry at
period i:q
iC
Quantity produced by monopolist renter at period i :
q
iR

Quantity produced by monopolist seller at period i: q
iS


Competitive Case
Maximize q
1C
(-q
1C
)+ q
2C
(-q
2C
)
Solution:
q
1C
=(/),
q
2C
=0
profit =0,
price=MC=0

Monopolist Renter
Solution:
q
1R
=(/2),
q
2R
=0
price= /2
Profit= (/2)(/2)=(
2
/4)
Monopolist Seller
Suppose a quantity of q
1S
was sold in period 1, then the effective demand
in period 2 is
-(q
1S
+q
2S
)
To maximize period 2 profit, the monopolist sets
q
2S
= (-q
1S
)/2
Anticipating this, in period 1 the consumer is only to demand the
commodity with price P
1

( ) ( )
( ) ( ) | |
( )
( ) | | 2 / 1
2
1
1
1
1
1
1
1
1
1
1
2 1
1
1
2
1
1 1
s s
s
s s
s s s
s
q q
q
q q
q q q
p q p
| o | o
|
| o
| o | o
| o | o
| o
+ + =
(

|
|
.
|

\
|
+ + + =
+ + + =
+ + =

Monopolist Seller
Now the problem of the monopolist is :

Comparing profits of monopolist seller and renter
Comparing quantities if monopolists selling and renting
situations:



If we compare profit s of monopolist seller and renter , we can
say that:
The profit of monopolist is strictly lower in case
when it sells.

If firms can invest in technologies
Let one time sunk cost is F(c)
Marginal cost is c
Then monopolist sellers profit equation is :




For =0, solution is:


Why Planned Obsolescence?
Results have shown that monopolist renter can
make more money than monopolist seller.
If a monopolist produces less durable goods , the
monopolist seller , becomes more like a
monopolist renter.
As we know that renter provides services for his
market one period at a time.
Hence monopolist seller can make the same
profits by producing goods that last for only one
period , i.e., less durable.
Model with constrained capacity
Assumptions:
Capacity can be constructed costlessly, but can not be destroyed.
Infinite time horizon.
Let demand curve is exponential;
p
T
=e
-Q
T
Where, rental price is p and Q
T
=q
T
Firms problem can be written as :


Profit maximizing solution is :
q= /
Profit = /4
Extensions
1. Price Guarantees
2. Service contracts
3. Implicit contracts: such as reputation
(example DeBeers)
Thank You