Monopoly

Chapter 15
Copyright 2001 by Harcourt, Inc. All rights reserved. Requests for permission to make copies of any part of the work should be mailed to: Permissions Department, Harcourt College Publishers, 6277 Sea Harbor Drive, Orlando, Florida 32887-6777.

Monopoly
While a competitive firm is a price taker, a monopoly firm is a price maker.

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Monopoly
A

firm is considered a monopoly if . . . it is the sole seller of its product. its product does not have close substitutes.

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Why Monopolies Arise The fundamental cause of monopoly is barriers to entry.

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Why Monopolies Arise

Barriers to entry have three sources:

Ownership of a key resource.

This tends to be rare. De Beers is an example

The government gives a single firm the exclusive right to produce some good.
Patents, Copyrights and Government Licensing.

Costs of production make a single producer more efficient than a large number of producers.
Natural Monopolies

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Economies of Scale as a Cause of Monopoly...

Cost

Average total cost

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Quantity of Output

Monopoly versus Competition

Monopoly Is the sole producer Has a downwardsloping demand curve Is a price maker Reduces price to increase sales Competitive Firm Is one of many producers Has a horizontal demand curve Is a price taker Sells as much or as little at same price

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Demand Curves for Competitive and Monopoly Firms...

(a) A Competitive Firms Demand Curve Price (b) A Monopolists Demand Curve

Price

Demand

Demand
0 Quantity of Output 0 Quantity of Output

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A Monopolys Revenue
Total

Revenue

P x Q = TR
Average

Revenue Revenue

TR/Q = AR = P
Marginal

TR/Q = MR
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A Monopolys Marginal Revenue A monopolists marginal revenue is always less than the price of its good.
The When

demand curve is downward sloping. a monopoly drops the price to sell one more unit, the revenue received from previously sold units also decreases.

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A Monopolys Total, Average, and Marginal Revenue

Quantity (Q) 0 1 2 3 4 5 6 7 8 Price (P) $11.00 $10.00 $9.00 $8.00 $7.00 $6.00 $5.00 $4.00 $3.00 Total Revenue (TR=PxQ) $0.00 $10.00 $18.00 $24.00 $28.00 $30.00 $30.00 $28.00 $24.00 Average Revenue (AR=TR/Q) $10.00 $9.00 $8.00 $7.00 $6.00 $5.00 $4.00 $3.00 Marginal Revenue (MR= TR / Q ) $10.00 $8.00 $6.00 $4.00 $2.00 $0.00 -$2.00 -$4.00

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A Monopolys Marginal Revenue When a monopoly increases the amount it sells, it has two effects on total revenue (P x Q).
The

output effectmore output is sold, so Q is higher. The price effectprice falls, so P is lower.
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Demand and Marginal Revenue Curves for a Monopoly...

Price $11 10 9 8 7 6 5 4 3 2 1 0 -1 -2 -3 -4

Marginal revenue
1 2 3 4 5 6 7 8

Demand (average revenue)

Quantity of Water

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Profit-Maximization for a Monopoly...

Costs and Revenue 2. ...and then the demand curve shows the price consistent with this quantity. B 1. The intersection of the marginal-revenue curve and the marginalcost curve determines the profit-maximizing quantity... Average total cost A Demand

Monopoly price

Marginal cost

Marginal revenue 0

QMAX

Quantity

Comparing Monopoly and Competition

For a competitive firm, price equals marginal cost.

P = MR = MC

For a monopoly firm, price exceeds marginal cost.

P > MR = MC

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A Monopolys Profit Profit equals total revenue minus total costs.

Profit = TR - TC Profit = (TR/Q - TC/Q) x Q Profit = (P - ATC) x Q

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The Monopolists Profit...

Costs and Revenue Marginal cost Monopoly E price B

y ol o p it on f M pro
C

Average total cost

Average total cost D

Demand

Marginal revenue 0

QMAX

Quantity

The Monopolists Profit

The monopolist will receive economic profits as long as price is greater than average total cost.

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Public Policy Toward Monopolies

Government responds to the problem of monopoly in one of four ways.

Making monopolized industries more competitive. Regulating the behavior of monopolies. Turning some private monopolies into public enterprises. Doing nothing at all.

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Two Important Antitrust Laws

Sherman Antitrust Act (1890)

Reduced the market power of the large and powerful trusts of that time period. Strengthened the governments powers and authorized private lawsuits.

Clayton Act (1914)

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Marginal-Cost Pricing for a Natural Monopoly...

Price

Average total cost Regulated price

Loss

Average total cost Marginal cost

Demand

0
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Quantity

Price Discrimination
Price discrimination is the practice of selling the same good at different prices to different customers, even though the costs for producing for the two customers are the same. In order to do this, the firm must have market power.

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Price Discrimination

Two important effects of price discrimination:

It can increase the monopolists profits. It can reduce deadweight loss.

Be able to separate the customers on the basis of willingness to pay. Prevent the customers from reselling the product.

But in order to price discriminate, the firm must

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