23.3 Business and Policy Application: Monopoly Pricing in Health Insurance Markets: In Chapter 22, we worked with models in which high and low cost customers compete for insurance. Consider the level x of health insurance that consumers might choose to buy, with higher levels of x indicating more comprehensive insurance coverage.

A. Suppose that there are relatively unhealthy type 1 consumers and relatively healthy type 2 consumers.

The marginal cost of providing additional insurance coverage is MC1 and MC2

, with MC1 . MC2

.

Unless otherwise stated, assume that d 1 5 d 2

; that is, the individual demand curves for x are the same for the two types. Also, suppose that the number of type 1 and type 2 consumers is the same, and some portion of each demand curve lies above MC1

.

a. Begin by drawing a graph with the individual demands for the two types, d 1

and d 2

, as well as the marginal costs. Indicate the efficient levels of health insurance x*

1 and x*

2 for the two types.

b. Suppose the monopolist cannot tell consumers apart and can only charge a single price to both types. What price will it be, and what level of insurance will each type purchase?

c. How does your answer change if the monopolist can first degree price discriminate?

d. What if she can third degree price discriminate?

e. Suppose you worked for the U.S. Justice Department’s antitrust division and you only cared about efficiency. Would you prosecute a first degree price discriminating monopolist in the health insurance market? What if you cared only about consumer welfare?