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Two-part tariff

Background: Merriwell Corporation has a virtual monopoly in the ultra high-speed computer market. Merriwell has recently introduced a new computer that will be used by satellite installations around the world. The installations have identical demands for the computers. Merriwell's managers have decided to lease rather than sell the computers. But they have been unable to decide whether to use a single hourly rental charge or a two-part tariff. Under the two-part tariff, users would be levied an "access charge" plus an hourly rental rate. Merriwell's marketing staff estimates the demand and marginal revenue curves below for each potential user:

P = 45 - 0.025Q
MR = 45 - 0.05Q

P = price per hour of computer time ($), and Q = number of hours of computer time leased per month. Merriwell offers their users extensive maintenance assistance and technical support. The firm's engineers estimate that marginal cost is $30 per hour of computer time (MC = $30.)

a) Assuming Merriwell chooses to set a single price, what will the firm's price and output be? Draw a diagram to show how the firm sets price and output. Also, calculate the price-cost margin.

b) Assuming that Merriwell uses a two-part tariff, what "access charge" and hourly rental fee should the firm set? Compare the firm's revenues under the options in a and b, and use a diagram to show how the "access charge" is found.

Solution Summary

Two-part tariffs are assessed.