Monopoly
Topic 6
MONOPOLY- Contents
1. Monopoly Characteristics2. Monopoly profit maximization3. Assessment of Monopoly4. Regulation of Monopoly5. Price Discrimination
Characteristics of a pure monopoly
Single seller High barriers to entry Unique Product
Barriers to Entry
High barriers to entry explain the existence of monopolies
Block all potential competitors
Barriers to Entry
Economies of scale In some industries, efficient, low-cost
production can only be achieved if producers are large – Natural monopoly
Legal Barriers Regulations, Patents and Licences
Control of the supply of raw materials
Monopoly Demand curve
Monopolist’s demand curve is the industry demand curve and therefore is down-sloping
Monopolist is a ‘price maker’ since it can influence total supply
$
Q O
D
Demand Curve of a Monopoly Firm
Copyright 2001 Pearson Education Australia
0 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 QQ
Do
llars
Do
llars
200
150
200
50
750
500
250
MRMR
Elastic
0 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18QQ
DD
TRTR
Inelastic
Unit ElasticityUnit Elasticity
Demand, Marginal Revenue, Total Revenue
Demand and MR Demand curve: P= a - bQ
MR= a – 2bQ
D & MR start from the same point
Everywhere else MR bisects the distance between D curve & vertical axis
Profit maximisation under Monopoly
Rules for Profit maximization same as under Perfect Competition
MR = MC (where MC cuts MR from below)
Short Run: P ≥ AVC Long Run : P ≥ ATC
Profit maximising under monopoly$
Q O
MC
Qm
MR
AR
Copyright 2001 Pearson Education Australia
$
Q O
ATC
MC
AR
AC
Qm
MR
AR
a
b
Profit maximising under monopoly
Copyright 2001 Pearson Education Australia
$
Q O
ATC
MC
AR
AC
Qm
MR
AR
Profit maximising under monopoly
Copyright 2001 Pearson Education Australia
Profit maximisation under Monopoly
Profit Maximisation Loss Minimisation
Points to remember
No supplier will produce an output corresponding to the inelastic section of the demand curve.
Why?
Points to remember A monopolist will not charge the highest
price possible (A monopolist seeks to maximise profit, not necessarily price)
A monopolist will not maximize profit per units but total profits
Monopolies are not always making profitLosses are possible Pure monopoly does not guarantee economic
profits In the short-run, monopolist may experience
losses because of weak demand or high costs
Assessment of MonopolyComparison with PC (with no monopolist economies of scale)
No economies of scale: means that the cost curve ( MC & AC) are the same under both PC and Monopoly
Monopoly: higher price, lower output
smaller consumer surplus
no allocative efficiency no productive efficiency deadweight loss to
society (area ABE)
Assessment of MonopolyComparison with PC (with monopolist economies of scale)
Economies of scale:
means that the costs will be lower under Monopoly
Monopoly: lower price, higher output
larger consumer surplus
more efficient as overall costs will be lower than under PC
Assessment of other factors
Income distribution: Monopoly profits tend to concentrate in higher income
groups.
X-inefficiency the difference between theoretically defined efficient
behavior of firms and how they actually behave Monopoly tends to perform less well compared to PC since
they face less pressure to improve efficiency & cut costs
Technological progress: Monopoly have financial resources hence more R& D than
competitive firms
Regulating Monopolies
Historically, monopolies have been operated or heavily regulated by the government
Competition policy & Legal action: Actions against firms overcharging price
Incentives to new entrants Price ceilings
at the point where MC cuts the D curve (allocative efficiency achieved)
More about price ceilings - When MC is increasing-
• Price ceiling is set at PC
• Increase in consumer surplus: PmAEPc
• Allocative efficiency is achieved (Price = MC)
•Deadweight lost ABE is eliminated
• Monopolist still earn a profit: PcETPt
More about price ceilings - When MC is decreasing-
Two part pricing regulation:
Price ceiling is set at PC Monopoly firm will
incur a loss PaPcEB
Allow monopolist to charge a fixed fee so that the loss will be recovered
Price DiscriminationPrerequisites There is Monopoly
control Clearly identifiable
market segments between which resale
cannot take place
Different price elasticities of demand in the different segments
This is 3rd degree price discrimination
Degrees of price discrimination
1st Degree Each unit sold at the highest price a buyer is willing
to pay (leaving zero consumer surplus)
2nd Degree Different prices charged for blocks of output, rather
than each unit as in 1st degree discrimination
3rd Degree Different prices to different groups of consumers.
Within a group the price remains constant irrespective of the number of units consumed
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