Editing Marginal revenue (section)

==Marginal revenue and markup pricing==
Profit maximization requires that a firm produces where marginal revenue equals marginal costs. Firm managers are unlikely to have complete information concerning their marginal revenue function or their marginal costs. However, the profit maximization conditions can be expressed in a “more easily applicable form”:

:MR = MC,
:MR = P(1 + 1/e),
:MC = P(1 + 1/e),
:MC = P + P/e,
:(P − MC)/ P = −1/e.<ref name="Pindyck, R 2001 p. 334">Pindyck, R & Rubinfeld, D (2001) p. 334.</ref>

Markup is the difference between price and marginal cost. The formula states that markup as a percentage of price equals the negative (and hence the absolute value) of the inverse of the elasticity of demand.<ref name="Pindyck, R 2001 p. 334"/> A lower elasticity of demand implies a higher markup at the profit maximising equilibrium.<ref name=":5" />

(P − MC)/ P = −1/e is called the Lerner index after economist [[Abba Lerner]].<ref name="Perloff">Perloff (2008) p. 371.</ref> The Lerner index is a measure of market power — the ability of a firm to charge a price that exceeds marginal cost.  The index varies from zero (when demand is infinitely elastic (a perfectly competitive market) to 1 (when demand has an elasticity of −1). The closer the index value is to 1, the greater is the difference between price and marginal cost.  The Lerner index increases as demand becomes less elastic.<ref name="Perloff"/>

Alternatively, the relationship can be expressed as:
:P = MC/(1 + 1/e).

Thus, for example, if ''e'' is −2 and MC is $5.00 then price is $10.00.

'''Example'''
If a company can sell 10 units at $20 each or 11 units at $19 each, then the marginal revenue from the eleventh unit is (11 × 19) − (10 × 20) = $9.