Check Your Understanding

1. Question

   Would each of the following business practices be legal under antitrust law? Explain.

   1. You have a patent for a superior fax machine and therefore are the only person able to sell that type of fax machine. In order to buy your fax machine, you require the purchaser to buy a service contract from you (even though other firms provide excellent service for your machine).

      This practice would be illegal because it constitutes a tying arrangement.

   2. You have invented a new type of correction fluid that does an amazing job covering up mistakes made on paper forms. In order to buy your correction fluid, you require purchasers to buy all of their office supplies from you.

      This practice would be illegal because it constitutes exclusive dealing.

   3. You own a car dealership and plan to buy the dealership across the street and merge the two companies. There are several other car dealerships in town.

      This is legal because the merger does not lead to monopolization.

2. Question

   The FYI in this module discusses the possibility that regulators set prices for wind energy on the basis of average total cost. Explain why policymakers who don’t want to pay subsidies would choose average cost pricing over marginal cost pricing in the market for wind energy.

   Wind energy is created by a natural monopoly, which means that marginal cost is below average total cost in the relevant range of production. (In fact, the marginal cost of wind energy is virtually zero, because the wind itself is free.) Thus, a requirement to charge a price equal to marginal cost would result in a price below average total cost and cause the firm to incur a loss. Only with subsidies could the firm survive with marginal cost pricing. If policy makers chose average cost pricing instead, the operator of the wind farm would make a normal profit and no subsidy would be necessary.