If a natural monopoly is regulated using
A) a marginal cost pricing rule, the firm maximizes its profit.
B) an average cost pricing rule, the firm incurs an economic loss.
C) a total cost pricing rule, the firm will exit the industry.
D) a marginal cost pricing rule, the firm incurs an economic loss.
E) an average cost pricing rule, the firm maximizes its profit.

Question

Quizplus · Accepted Answer

In a natural monopoly, the firm has high fixed costs and low variable costs. Therefore, if a marginal cost pricing rule is used, the price charged will be lower than the average cost, leading to an economic loss for the firm. However, an average cost pricing rule will allow the firm to cover all its costs but will not provide any incentive for it to operate efficiently and maximize its profit. A total cost pricing rule will result in the firm exiting the industry as it would not be able to cover its fixed costs. Therefore, the best option is to use a marginal cost pricing rule, even though it will result in an economic loss for the firm. This will ensure that the firm operates efficiently and charges a price that is closer to the actual cost of production.

If a Natural Monopoly Is Regulated Using