Suppose that a manufacturer is a monopolist in selling some product to a number of competitive retailers at wholesale price w. The manufacturer has marginal cost of $10 per unit. Each retailer pays w to the manufacturer and charges p for each unit it sells to the consumers. The demand that retailers face in final product market is given by Q = 110 ? p.
a. What is the market equilibrium retail price p? What is the profit-maximization wholesale price w for the manufacturer to set? How many units of products will the retailer sell and what will the profit be? Calculate the consumer surplus.
b. Consider a proposed vertical merger between the manufacturer and one of the retailers. Derive the post-merger market outcomes, i.e. retail price, quantity, profit and consumer surplus.
c. Compare your answers in (a) and (b). How will the vertical merger affect profit and consumer welfare?