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1
Pure Monopoly
2
Learning Objectives
• Review the nature of barriers to entry into an industry, their form and their likely occurrence.
• Examine demand from a monopolist’s viewpoint.
• Understand how monopoly adjusts price and output in short-run and long-run situations.
3
Learning Objectives (cont.)
• Compare the outcome of a monopoly industry with that of one that is purely competitive. Is the allocative and productive efficiency observed in pure competition achieved by the monopolist?
• Discuss whether government can play a role in modifying monopoly behaviour.
4
Barriers to Entry
• High barriers to entry explain the existence of monopolies
• Block all potential competitors
• Economies of scale:– Defined as the forces that reduce the average cost
of producing a product as the firm expands the size of the output in the long run
– In some industries, efficient, low-cost production can only be achieved if producers are large
5
Barriers to Entry (cont.)
• Ownership of essential raw materials
• Legal barriers: patents and licences
• Note:– Pure monopolies are rare– Monopolies may be desirable or undesirable
depending on what premise is used– Natural monopoly occurs in industries whose
technological and economic realities are out of the possibility of competitive markets
6
Monopoly Demand
Three assumptions:1. Monopolist’s position is guaranteed:
– ownership of patent or control of raw materials
2. No prospect of government intervention or regulation of the firm
3. Monopolist does not discriminate between buyers
7
Monopoly Demand (cont.)
• Monopolist’s demand curve is the industry demand curve and therefore is down-sloping
• Price (P ) exceeds marginal revenue (MR)
• Monopolist is a ‘price maker’ since it can influence total supply
8
MarginalRevenue
0 1 23456789
10
Quantityof
Output
Price(AverageRevenue)
TotalRevenue
MarginalCost
Profit +or
Loss –
AverageTotalCost
TotalCost
$172 162 152142132122112102
928272
] ]$ 0162304426528610672714736738720
]]]]]]]]]
$162142122102
82624222
2– 18
$190.00135.00113.33100.00
94.0091.6791.4393.7397.78
103.00
$100190270340400470550640750880
1030
]]]]]]]]]
90807060708090
110130150
– $100– 28+ 34+ 86
+ 128+ 140+ 122
+ 74– 14
– 142– 310
Monopoly Revenue and Cost
]]
9
Monopoly Demand
Price elasticity and total revenue
• Marginal revenue is negative beyond the point of unit elasticity of demand
10
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
100
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, MR, TR: Imperfectly Competitive Firm
11
Price and Output Determination
• Profit-seeking monopolist employs same rationale as in a competitive industry:– MC = MR Rule
• No supply curve. Why?– At any given demand and cost conditions,
there is only one profit-maximising price–output combination
12
Misconceptions Concerning Monopoly Pricing
• Not highest price– monopolists seek to maximise profit, not necessarily
price
• Total profits not unit profits– monopolists seek to maximise total profit, not
necessarily per-unit profit
• Losses are possible– Pure monopoly does not guarantee economic profits– In the short-run, monopolist may experience losses
because of weak demand or high costs
13
Profit
Q0 1 2 3 4 5 6 7 8 9 10
200
175
150
125
100
75
50
25
P
DD
MR
MCMC
ATC
$94
$122
MR = MC
ProfitPer Unit
CompetitivePrice
Profit Maximisation Under Monopoly
14
Loss
Q0 1 2 3 4 5 6 7 8 9 10
200
175
150
125
100
75
50
25
P
DD
MR
MCMC
ATC
LossPer Unit
AVC
Loss Minimisation Under Monopoly
MR = MC
15
Economic Effects of Monopoly
• Productive inefficiency:– Minimum ATC is not necessarily chosen
• Allocative inefficiency:– P price does not necessary equal MC
• Income distribution
16
Economic Effects of Monopoly
• Cost complications– Economies of scale– X-inefficiency– Very long run may allow for
technological progress
17
Q
P
DMR
MC
Pm
Qm
MonopolistMonopolistwill sell lesswill sell less
units at aunits at ahigher pricehigher price
than inthan incompetitioncompetitionPc
Qc
Profit Maximisation under Monopoly
18
Technological Progress
• Dynamic efficiency:– ability to develop the most efficient
production techniques over time
• Are purely competitive firms or monopolists more innovative over time?– competitive model– monopolist model
19
Price Discrimination
Three required Conditions• Monopoly power• Market segmentation• No resale
Consequences• More profits• More production
20
Regulating Monopolies
• Historically, monopolies have been operated or heavily regulated by the government
• Socially optimal price: P = MC– may result in severe losses
• ‘Fair-return’ price: P = AC– normal profit is generated– only partially resolves problem of under-allocation
21
Regulated Monopoly
Q
DMR
P
Pric
e an
d C
osts
MC
ATC
Monopoly Price:MR = MC
Socially Optimum Price:Price = MC
Fair Return Price:Price = ATC