Marginal revenue
Marginal revenue (or marginal benefit) is a central concept in microeconomics that describes the additional total revenue generated by increasing product sales by 1 unit.
[6][7] To derive the value of marginal revenue, it is required to examine the difference between the aggregate benefits a firm received from the quantity of a good and service produced last period and the current period with one extra unit increase in the rate of production.
[9] In a perfectly competitive market, the incremental revenue generated by selling an additional unit of a good is equal to the price the firm is able to charge the buyer of the good.
[1][3] Therefore, in a perfectly competitive market, firms set the price level equal to their marginal revenue
[8] In imperfect competition, a monopoly firm is a large producer in the market and changes in its output levels impact market prices, determining the whole industry's sales.
Marginal revenue is the concept of a firm sacrificing the opportunity to sell the current output at a certain price, in order to sell a higher quantity at a reduced price.
This can also be represented as a derivative when the change in quantity sold becomes arbitrarily small.
By the product rule, marginal revenue is then given by where the prime sign indicates a derivative.
For a firm facing perfect competition, price does not change with quantity sold (
Changes in the supply level of a single firm does not have an impact on the total price in the market.
[20] Under monopoly, one firm is a sole seller in the market with a differentiated product.
[21] The marginal revenue for a monopolist is the private gain of selling an additional unit of output.
The marginal revenue curve is downward sloping and below the demand curve and the additional gain from increasing the quantity sold is lower than the chosen market price.
Therefore, a company is making money when MR is greater than marginal cost (MC).
Firms' pricing decision, therefore, is based on the tradeoff between the two outcomes by considering elasticity.
By increasing quantity sold, the firm is forced to accept a reduction of price for all the current and previous production units,[23] resulting in a negative marginal revenue (MR).
As such, as consumers are less sensitive and responsive to lower prices movement and so the expected product sales boost is highly unlikely and firms lose more profits due to reduction in marginal revenue.
[27][30][31] Increases in consumer's responsiveness to small changes in prices leads represents an elastic demand curve (e>1), resulting in a positive marginal revenue (MR) under monopoly competition.
Firms in the imperfect competition market that lower prices by a small portion benefit from a large percentage increase in quantity sold and this generates greater marginal revenue.
A monopolist prefers to be on the more elastic end of the demand curve in order to gain a positive marginal revenue.
This shows that a monopolist reduces output produced up to the point where marginal revenue is positive.
If the consumer is willing to pay $50 for this extra lipstick, the marginal income of the purchase is $50.
In microeconomics, for every unit of input added to a firm, the return received decreases.
This is an example of increasing marginal revenue; suppose a company produces toy airplanes.
After some production, the company spends $10 in materials and labor to build the 1st toy airplane.
However, the profit maximization conditions can be expressed in a “more easily applicable form”: Markup is the difference between price and marginal cost.
The formula states that markup as a percentage of price equals the negative (and hence the absolute value) of the inverse of the elasticity of demand.
[33] A lower elasticity of demand implies a higher markup at the profit maximising equilibrium.
[34] The Lerner index is a measure of market power — the ability of a firm to charge a price that exceeds marginal cost.
The closer the index value is to 1, the greater is the difference between price and marginal cost.
