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Characteristics Single firm is the sole producer The product sold is unique and therefore has
no close substitutes; Control over total quantity supplied and thus
is a “price maker” Blocked entry due to economic,
technological, legal, or some other barrier; Nonprice Competition, using other aspects of
the product besides price to drive in the buyers;
Examples of Monopolies Majority are government-regulated public
utilities – natural gas, electric, water, cable TV, local telephone, etc.
Some companies are “near-monopolies” in which one firm controls the bulk of sales; Wham-O (throwing disks) De Beers (rough-cut diamonds)
*either way, there is almost always some competition.
Barriers to Entry Factors in the industry which block all
potential competition; in a Pure Monopoly, there is complete blocked entry;
Four prominent barriers: Economies of Scale Legal Barriers to Entry Ownership or Control of Essential Resources Pricing and other Strategic Barriers to Entry
Economies of Scale Reminder: As plant size increases, a number of
factors will for a time lead to lower average costs of production;
When dealing with a monopoly, when the long-run ATC is declining, only a single producer can produce any particular output at minimum total cost;
If a small industry tries to enter the market, because of economies of scale of the large industry, the small industry will be undercut because the larger industry can produce at a lower cost and therefore a lower price; the small industry still must charge a higher price to make a profit;
Economies of Scale
A larger firm can produce a larger output at a lower cost and therefore make a profit on a lower price;
A smaller firm entering the industry does not experience the economies of scale based off the output they produce; they must charge a higher price to make a profit;
Legal Barriers to Entry Patents: exclusive right of an inventor to
use, or to allow another to use, his or her invention;
Government seeks to protect the inventor from rivals who mean to take their design and make a profit;
Self sustaining patents is when a firm uses their own patent to continue to further strengthen the patent through more research and gain a market position;
Ownership or Control of Essential Resources Use private property as an obstacle to
potential rivals; Owning a resource essential in the
production of a product and not allowing rivals to purchase that resource;
Pricing and Other Strategic Barriers to Entry Monopolist creating their own barriers:
reducing the price, increasing advertising, etc.
Monopolist can be very creative in the barrier process;
Monopoly Demand Since the pure monopolist is the industry,
its demand curve will also represent the market demand curve; and is Down-sloping;
B/C of the down-sloping line, the monopolist can only increase the sales/output by decreasing the price; so this means that for every price, except the first, Marginal Revenue will be below the Demand curve;
Marginal Revenue below Price The lower price successively charged will now apply
to all prior units sold; So you lose money in the price but you gain money
in the total output produced with the new price; Each new unit sold increases total revenue by an
amount equal to its own price less the sum of the price cuts that apply to all prior units of output;
Thus, MR < P at every possible unit except the first; While TR increases, MR is positive; While TR decreases, MR is negative;
The Monopolist is the Price Maker Firms with a down-sloping line are price
makers; most evident in a pure monopoly;
So when a monopolist determines output to produce, they determine the price as well based off the demand line;
Setting price at the Elastic Region of Demand TR test
when demand is elastic, a decrease in price will increase TR;
When demand is inelastic, a decrease in price will decrease TR;
*a monopolist will never choose a price-quantity combination where a price reduction will cause a loss in TR;The lower TR and Higher Cost of increase output will lead monopolist to produce in the elastic region;
Maximize Total Profits Same rationale as a profit seeking
competitive industry: MR = MC; The price charged will be the price on
the demand line matching up with the quantity of MR = MC;
Note: can still also use the Total Revenue vs Total Cost approach.
Pure Monopolist is without a Supply Curve No unique relationship of price and
quantity supplied because a monopolist merely finds the profit maximizing price;
The profits are dependent on the quantity demanded/price associated with the output of the point where MR = MC;
Misconceptions of Monopoly Not Highest Price: finding highest
profits; Total, Not Unit, Profit: max total profits,
not max unit profits; the extra units sold at lower price may generate a higher total profit than the high unit profit;
Partner up: Without using the Textbook Draw what a loss minimizing position
would look like on a graph. If a monopolist was in profit maximizing
position, what would be the factors that could bring the monopolist into a loss?
Efficiency In Monopoly, does society achieve
productive and allocative efficiency? Why not? Reminder:
Productive efficiency is P = Minimum ATC Allocative efficiency is P = MC
Deadweight Loss Because of the efficiency loss of a
monopoly, some units that should have been produced are not and the resources are directed elsewhere;
The total dollar value of the efficiency loss/deadweight loss is equal to the dollar value of the triangle created by demand, MC and MR;
Income Transfer Basically a monopolist levies a “private
tax” on the consumer, which then ends up in the hands of the owners of the monopoly;
Income transferred is equal to the difference between price equilibrium and price charged by a monopolist multiplied by the units sold;
Cost Complications There are 4 reasons why cost may be
larger or smaller than pure competition: Economies of Scale X-Inefficiency Rent-Seeking Expenditures Technological Advancement
Examining Cost Get back with a partner:
One of you read about economies of scale and Technological Advancement
The Second needs to read about X-Inefficiency and Rent-Seeking Expenditures
Talk with each other and help fill in the notes for each of the 4 cost complications for a Monopoly.
Price Discrimination The practice of selling a specific product at
more than one price when the price differences are not justified by cost differences;
Possible under three conditions: Monopoly power: ability to control price and
output; Market Segregation: ability to segregate buyers
into distinct classes; No Resale: unable to resale item if part of class
buying for lower price;
Partner 1: read and interpret the graph associated with Price Discrimination on page 479. Be sure to understand how more profits and production is displayed and created through price discrimination;
Partner 2: Read and interpret the graph associated with a regulated monopoly on page 480. Be sure to understand the differences between a “socially optimal price” and a “fair-return price.” How will each of these appear graphically?