Chapter 29 Slides

8/8/2019 Chapter 29 Slides

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Natural Monopoly

Natural Monopoly an industry in which

economies of scale are so important thatonly one firm can survive.

See Example 1 on page 29-2.


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An unregulated natural monopoly wouldattempt to maximize profits by producing

the quantity of output where marginal

revenue equals marginal cost.

Unregulated Natural Monopoly


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Unregulated Natural Monopoly


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Optimal Quantity

The optimal quantity of output occurs

where price equals marginal cost (andthus where marginal social benefit equals

marginal social cost).


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Optimal Quantity


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Deadweight Loss

Producing the profit-maximizing quantity of

output causes a deadweight loss.

The deadweight loss is equal to the area

between the demand curve and the

marginal cost curve for the amount of

underproduction.


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Deadweight Loss


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Regulating Natural Monopoly

If a natural monopoly is regulated to

produce the optimal quantity of output, thefirm will suffer an economic loss.

To keep the firm operating would require agovernment subsidy to the firm to

eliminate the economic loss.


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Subsidy to Achieve Optimal Quantity

$8 -


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Zero Economic Profit

To avoid the need for a subsidy, natural

monopolies are often regulated to earn

zero economic profit (a normal rate of

return). This leads to problems:

1. The natural monopoly lacks incentives

to control costs.

2. The regulators may not be able to

obtain accurate information.


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Theories ofRegulation

1. Public interest theory. This theoryholds that regulation serves the publicinterest.

Assumes that elected officials are alwaysmotivated to act in ways that serve thepublic interest.

A great deal of government regulationdoes not seem to be serving the publicinterest.


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2. Capture theory. This theory holds that theregulatory agency will be captured (controlled)by the industry being regulated.

The firms in the regulated industry have aspecial interest in the policies of the regulatoryagency.

Regulations may be used to serve the best

interest of the regulated industry.



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3. Public choice theory. This theory holds

that regulation serves the best interest of

the government regulators.

Regulators would favor a regulatory

approach that led to more regulatory

power and a growing budget for the

regulatory agency.


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Costs ofRegulation

Regulations impose costs on the

economy:

1. Costs of the regulatory agency.

The costs to operate regulatory agencies

are paid by the taxpayers.

See the table on page 29-6.


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2. Costs to the regulated firms of

complying with the regulations.

These costs add to a companys cost of

production and are ultimately paid by the

consumers.


Costs ofRegulation


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3. Inefficiency costs if the regulations

reduce competition.

Regulation often reduces competition in

the regulated industry. A lack of

competition leads to higher prices for

consumers.


Costs ofRegulation


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4. Costs of unintended consequences ofregulations.

Regulations intended to accomplish adesirable goal may have unintendedconsequences that are undesirable.

See Examples 7 and 8 on pp. 29-7 and29-8.

Costs ofRegulation


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Deregulation

Deregulation will usually result in lower

prices due to increased competition.

See Examples 9A and 9B on page 29-8. Deregulation can be politically difficult to

accomplish.

Those who benefit from the regulation willact as a special-interest group to fight

deregulation.


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Sherman Act

Section 1 prohibits contracts,

combinations, and conspiracies in restraint

of trade.

Section 2 prohibits persons from

monopolizing, or attempting to

monopolize, a market.


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Sherman Act

The Supreme Court has interpreted the

Sherman Act as only prohibiting behavior

that unreasonably restrains trade.

Certain actions are held to always be

unreasonable restraints of trade and thus

are illegal per se.



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Sherman Act

Actions that are held not to be per se

violations of the Sherman Act are judgedunder the rule of reason.



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Clayton Act

The Clayton Act prohibits certain specificactions if the effect of the actions is tosubstantially lessen competition or tend to

create a monopoly. Section 3 of the Clayton Act restricts tying

agreements and exclusive dealingagreements.

Section 7 of the Clayton Act restrictsmergers.


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Types of Mergers

Whether a proposed merger will be judgedto substantially lessen competition or tendto create a monopoly depends largely on

the type of merger proposed: 1. Horizontal merger a merger of firms

competing in the same product market.

2. Vertical merger a merger of firms inthe same industry, but not at the samestage in the production process.


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3. Conglomerate merger a merger offirms that are not in the same industry.

Example 13: A merger of General Motorsand Ford Motor Company would be ahorizontal merger. A merger of GeneralMotors and Goodyear Tire and RubberCompany would by a vertical merger. Amerger of General Motors and Tonka Toyswould be a conglomerate merger.

Types of Mergers


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Today, the antitrust laws are enforced bythe Federal Trade Commission and by theAntitrust Division of the Department of

Justice.

Private parties who suffer damages

caused by antitrust violations may sue theviolator and recover three times thedamages proved.

Antitrust Law

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Chapter 29 Slides