Download Monopoly - Helena Glebocki Keefe

Principles of Microeconomics
Chapter 15
Monopoly
Fundamental Causes of Monopoly
Barriers to Entry cause Monopoly Power
• Resource Restrictions:
Monopoly has sole ownership of a key resource in production
• Gov’t created Monopolies
Monopoly is granted exclusive rights to produce or sell a
good
• Natural Monopolies
One firm can provide the good at a lower cost than two or
more firms
Pricing and Production Decisions
• A monopoly firm has complete price control because
they are the sole provider of the good
Considered a Price Maker
• Monopoly firm – still faces a downward sloping
demand curve
• To sell more = must lower the price
Price: determined by firm
Quantity: determined by demand
Monopoly Production Decisions
Consider the market for diamonds where DeBeers has a monopoly. It
is deciding how much to sell and at what price.
Price
Quantity
TR
TC
MR
MC
Profit
Change
Profit
2000
0
0
25,000
-
-
-25,000
-
1800
100
180,000
100,000
1800
750
80,000
105,000
1600
200
320,000
190,000
1400
900
130,000
50,000
1400
300
420,000
290,000
1000
1000
130,000
0
1200
400
480,000
400,000
600
1100
80,000
-50,000
1000
500
500,000
525,000
200
1250
-25,000
-105,000
• Where will it gain positive revenue?
• What price should it set and where should it produce to maximize profits?
• What will be the size of its profits at this point?
Monopoly Production Decisions
Consider the market for diamonds where DeBeers has a monopoly. It
is deciding how much to sell and at what price.
Price
Quantity
TR
TC
MR
MC
Profit
Change
Profit
2000
0
0
25,000
-
-
-25,000
-
1800
100
180,000
100,000
1800
750
80,000
105,000
1600
200
320,000
190,000
1400
900
130,000
50,000
1400
300
420,000
290,000
1000
1000
130,000
0
1200
400
480,000
400,000
600
1100
80,000
-50,000
1000
500
500,000
525,000
200
1250
-25,000
-105,000
• Where will it gain positive revenue?
• What price should it set and where should it produce to maximize profits?
• What will be the size of its profits at this point?
Monopoly Production Decisions
Monopoly can set the price anywhere below
$2000 and gain positive revenue
Optimal point of production?
Need to consider profit maximization
MR = MC
If MR > MC: Increase profits by increasing Qs
If MR < MC: Increase profits by decreasing Qs
Monopoly Production Decisions
Price
Quantity
TR
MR
TC
MC
Profit
Change
Profit
2000
0
0
-
25,000
-
-25,000
-
1800
100
180,000
1800
100,000
750
80,000
105,000
1600
200
320,000
1400
190,000
900
130,000
50,000
1400
300
420,000
1000
290,000
1000
130,000
0
1200
400
480,000
600
400,000
1100
80,000
-50,000
1000
500
500,000
200
525,000
1250
-25,000
-105,000
Optimal Point of Production:
MR = MC
P = 1400; Q = 300
Profits for a Monopoly
Profits = TR – TC
= (P x Q) – (ATC x Q)
= Q (P – ATC)
Profits = 300 (1400 – 966)
ATC = 290,000 / 300 = 966
Welfare Costs of a Monopoly
• Since monopolies set prices and quantities at
MR = MC and MR ≠ P – the monopoly outcome
is socially inefficient.
• Total surplus would be maximized at P = D = MC
• D = MC  Socially Efficient Outcome
• MR = MC  Profit Max Outcome
Difference between Monopoly Outcome and
Socially Efficient Outcome  Deadweight loss
Application 1
Based on market research, Company A finds out the
following information on demand and production costs of
its new good:
Demand: P = 1000 – 10Q
Marginal Revenue: MR = 1,000 – 20 Q
Marginal Cost: MC = 100 + 10 Q
• What is the price and quantity that maximize profits?
• What is the price and quantity that maximize social welfare?
• Draw the diagram and calculate the deadweight loss.
Price Discrimination
Because a monopoly can set the price based on consumer
demand – It can set different prices for different buyers
– If different markets do not interact: Each consumer can be
charged a different price based on max price willing to pay
– Example: Pharmaceuticals
• US market pays a higher price for pharmaceuticals than Europe
(65% cheaper)
• People in US do not fly to Europe to buy their medicine
• Two markets are separate
– Price Discrimination: Allows monopoly to gain even greater
profits
Price Discrimination
Because a monopoly can set the price based on consumer
demand – It can set different prices for different buyers
– If different markets do not interact: Each consumer can be
charged a different price based on max price willing to pay
– Example: Pharmaceuticals
• US market pays a higher price for pharmaceuticals than Europe
(65% cheaper)
• People in US do not fly to Europe to buy their medicine
• Two markets are separate
– Price Discrimination: Allows monopoly to gain even greater
profits
Price Discrimination
Because a monopoly can set the price based on consumer
demand – It can set different prices for different buyers
– If different markets do not interact: Each consumer can be
charged a different price based on max price willing to pay
– Example: Pharmaceuticals
• US market pays a higher price for pharmaceuticals than Europe
(65% cheaper)
• People in US do not fly to Europe to buy their medicine
• Two markets are separate
– Price Discrimination: Allows monopoly to gain even greater
profits
Ways to Regulate Monopoly Power
• Increase competition with Antitrust Laws
• Regulate natural monopolies to bring price as
close to socially efficient point as possible
• Public Ownership  Government takes over
• Do nothing: Cost to regulation > Benefit of
regulating
Real-World Monopolies
• https://www.youtube.com/watch?v=h7H_8UkmFU
Key Takeaways
• Monopolies are the least competitive market
structure but they still depend on demand to set
prices and profit maximizing quantities
• There are social costs to monopoly power, including
deadweight loss
• There are many harmless and harmful examples of
monopoly power in the world today.