Draw the average and marginal cost curves for a natural monopoly. Draw the demand and marginal revenue curves.
a. Show the efficient level of output, at which price equals marginal cost. Explain why if the fi rm charged a price equal to marginal cost, it would operate at a loss. Show diagrammatically the necessary subsidy.
b. Show the monopoly level of output, at which marginal revenue equals marginal cost. Explain why the monopoly level of output is smaller than the efficient level of output.
c. Show the level of output of a government monopoly that was instructed to just break even. How does this level of output compare with the efficient level of output and the private monopoly level of output?