10 Monopoly The price of monopoly is upon every occasion the highest which can be got. ADAM SMITH Monopoly The price of monopoly is upon every occasion

10

MonopolyThe price of monopoly is upon every occasion the

highest which can be got.ADAM SMITH

● Monopoly Defined

● The Monopolist’s Supply Decision

● Can Anything Good Be Said About Monopoly?

● Price Discrimination Under Monopoly

● Monopoly Defined

● The Monopolist’s Supply Decision

● Can Anything Good Be Said About Monopoly?

● Price Discrimination Under Monopoly

ContentsContents

Copyright© 2003 South-Western/Thomson Learning. All rights reserved.

Copyright© 2003 Southwestern/Thomson Learning All rights reserved.

Monopoly DefinedMonopoly Defined

● Only one firm in the industry

● No close substitute for the product

● Little chance of successful entry by a competitor

● Only one firm in the industry

● No close substitute for the product

● Little chance of successful entry by a competitor

● Barriers to entry♦ Legal restrictions

♦ Patents

♦ Control of a scarce resource or input

♦ Deliberately erected entry barriers

♦ Large sunk costs

● Barriers to entry♦ Legal restrictions

♦ Patents

♦ Control of a scarce resource or input

♦ Deliberately erected entry barriers

♦ Large sunk costs

Sources of MonopolySources of Monopoly


● Cost advantages♦ Technical superiority

♦ Economies of scale

● Cost advantages♦ Technical superiority

♦ Economies of scale

Sources of MonopolySources of Monopoly


● Declining long-run average costs

● When a large firm can produce and sell more cheaply than a small firm

● Declining long-run average costs

● When a large firm can produce and sell more cheaply than a small firm

Natural MonopolyNatural Monopoly


FIGURE 10-1 Natural MonopolyFIGURE 10-1 Natural Monopoly

AC

Ave

rag

e C

ost

Quantity Supplied

2.5 2 1

2.00

2.50

$3.00

C

B

A



The Monopolist’s Supply DecisionThe Monopolist’s Supply Decision

● Price maker (or price searcher)

● Faces a negatively sloped demand curve

● Standard supply-demand analysis does not apply.

● Price maker (or price searcher)

● Faces a negatively sloped demand curve

● Standard supply-demand analysis does not apply.



● Joint decision about price and output

● Marginal revenue < selling price

● Joint decision about price and output

● Marginal revenue < selling price



● Monopolist sets output where MC = MR

● Market demand price for this output

● P > MR

● Monopolist makes profits (or losses) to the extent that price is greater (less) than average cost.

● Monopolist sets output where MC = MR

● Market demand price for this output

● P > MR

● Monopolist makes profits (or losses) to the extent that price is greater (less) than average cost.

FIGURE 10-2 Profit-Maximizing Equilibrium for a Monopolist

FIGURE 10-2 Profit-Maximizing Equilibrium for a Monopolist

MC

MC

0

4

$9

AC

AC

Quantity

Pri

ce

pe

r U

nit

7

150

C D (AR)

D

P

MR

M


TABLE 10-1 A Monopolist’s Price-Output Decision

TABLE 10-1 A Monopolist’s Price-Output Decision




● Compared to perfect competition, a monopoly:♦ May enjoy a long-run profit

♦ Restricts its output to raise its selling price (both in the long and short runs)

♦ Leads to inefficient resource allocation (MC < MU)

● Compared to perfect competition, a monopoly:♦ May enjoy a long-run profit

♦ Restricts its output to raise its selling price (both in the long and short runs)

♦ Leads to inefficient resource allocation (MC < MU)

FIGURE 10-3 Compare Monopoly to Competitive Industry

FIGURE 10-3 Compare Monopoly to Competitive Industry

300

$9

AC

AC

Quantity

Pri

ce

pe

r U

nit

7

150

D (AR)

D

MC

MC

MR

B

P

M

C



Can Anything Good Be Said About Monopoly?Can Anything Good Be Said About Monopoly?

● Under some circumstances a monopoly may:♦ Raise demand for its product (thus negating the

inefficient reduction in output noted above)

♦ Reduce marginal and average cost (produce more efficiently)

♦ Stimulate innovation

● Under some circumstances a monopoly may:♦ Raise demand for its product (thus negating the

inefficient reduction in output noted above)

♦ Reduce marginal and average cost (produce more efficiently)

♦ Stimulate innovation

● Natural monopoly = average costs fall as output rises

● Costs of production would be higher if a natural monopoly were broken up into many smaller firms.

● Natural monopoly = average costs fall as output rises

● Costs of production would be higher if a natural monopoly were broken up into many smaller firms.

Natural Monopoly: Where Single-Firm Production Is CheapestNatural Monopoly: Where Single-Firm Production Is Cheapest


● Natural monopolies may allow lower average cost than a market with numerous competing firms. (Natural monopoly must be regulated in order for consumers to receive lower prices, however.)

● Monopolist may have incentive to produce more innovation than firms in more competitive markets.

● Natural monopolies may allow lower average cost than a market with numerous competing firms. (Natural monopoly must be regulated in order for consumers to receive lower prices, however.)

● Monopolist may have incentive to produce more innovation than firms in more competitive markets.

Natural Monopoly: Where Single-Firm Production Is CheapestNatural Monopoly: Where Single-Firm Production Is Cheapest



Price Discrimination Under MonopolyPrice Discrimination Under Monopoly

● Price discrimination = charge different prices to different groups of customers (or charge the same price in markets where costs vary)

● Allows a monopolist to maximize profits

● Price discrimination = charge different prices to different groups of customers (or charge the same price in markets where costs vary)

● Allows a monopolist to maximize profits


Price Discrimination Under MonopolyPrice Discrimination Under Monopoly

● Monopolist sets marginal revenue (not price) equal in each market

● Assumes equal cost conditions in each markets

● Monopolist sets marginal revenue (not price) equal in each market

● Assumes equal cost conditions in each markets

FIGURE 10-4 Prices/Quantities under Price Discrimination

FIGURE 10-4 Prices/Quantities under Price Discrimination

Db

Db MRa Qa MRb Qb

Pb

W

(b)

Customer Group B Customer Group A

Quantity

0

H H

Pri

ce

(a)

Quantity

Da

Da

0

J

Pa


● No, although sometimes justice appears to demand different prices in different markets.

● In some cases, price discrimination may be necessary for a firm to survive.

● In some cases, where there are significant economies of scale, price discrimination may actually lead to lower prices.

● No, although sometimes justice appears to demand different prices in different markets.

● In some cases, price discrimination may be necessary for a firm to survive.

● In some cases, where there are significant economies of scale, price discrimination may actually lead to lower prices.

Is Price Discrimination Always Undesirable?Is Price Discrimination Always Undesirable?


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10 Monopoly The price of monopoly is upon every occasion the highest which can be got. ADAM SMITH Monopoly The price of monopoly is upon every occasion