Question: Monopoly taxation, Suppose the marginal cost of producing onesies for adults is constant, where MC = m, and m is a positive number. The demand curve for adult onesies is given by QD = 5P -A, where A is a positive constant.
(a) Calculate the elasticity of demand for this demand function. (Look back at one of the earliest homeworks if you need a refresher.)
(b) Suppose adult onesies are only supplied by the monopolist at foreverlazy.com. (According to their website, they were founded due to the difficulties of finding quality onesies.) The fashion police think that adult onesies are hideous and decide to institute a unit tax of $1 on the adult onesie market. Calculate the size of the market price change P2 - P1 as a function of the elasticity you calculated in part (a). (Hint: write down the formula for how price is related to MC and elasticity for a monopolist.)
(c) To the dismay of the fashion police, the popularity of adult onesies grows substantially and identical firms enter the market until it is perfectly competitive. Compare the price change in part (b) to the market price change you would get if the same $1 unit tax is implemented on the perfectly competitive market. Answer whether or not the price change is larger, smaller, or the same as the monopoly change. If it depends on the elasticity of demand, explain how (i.e., the price change is larger than the monopoly change when A > #).