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1.
3.
4.
5.
One Seller 2. One Product
Blocked Entry (and exit?)
Non-Price competition
LR profits/losses
6. Price Maker (to maximize profits)
Barriers to Entry
1. Natural monopoly
2. Control of a physical resource
3. Legal Monopoly
4. Patents, trademarks, and copyrights
5. Intimidating potential competitors
Barrier to Entry
Government
Role
Example
Natural Monopoly
Regulated or
owned
Water and electric
cos.
Control of a physical
resource
No
DeBeers and ALCOA
Legal Monopoly
Yes
Post Office
Patents, copyrights, and
trademarks
Protection of
Intellectual
Properties
New drugs or
software
Intimidating potential
competitors
Somewhat?
Predatory pricing
2 Types of Monopolies
1.Natural Monopoly –
a. Economies of Scale can combine with the size of the
market to limit competition.
When the marginal cost of adding an additional customer is
very low, once the fixed costs of the overall system are in
place.
-water lines.
-electrical service
Natural Monopoly in Aircraft Manufacturing
In this market, the demand curve intersects the long-run
average cost (LRAC) curve at its downward-sloping part.
A natural monopoly occurs when the quantity demanded is
less than the minimum quantity it takes to be at the bottom
of the long-run average cost curve.
b. Controlling a Physical Resource
when a company has control of a scarce physical
resource.
When the marginal cost of adding an additional customer is
very low, once the fixed costs of the overall system are in
place.
-ALCOA (bauxite and aluminum).
-DeBeers (diamonds)
2. Legal Monopoly –
a. Post Office and Utilities
-the government allows producers to become regulated
monopolies, to insure that an appropriate amount of
these products is provided to consumers
b. To protect Intellectual Properties
-patents (for inventions)
-trademarks (for names)
-copyrights (for literature)
The Demand Curve for a Monopoly
If a Monopolist
increases prices, it
will lose some, but
many, of its
customers.
Price
P1
P2
Therefore, unlike a perfect
competitor, a Monopoly faces
a downward-sloping demand
curve.
d
q1
© 2013 Pearson Education, Inc. Publishing as Prentice Hall
q2
Quantity/time
Price and Output
• A monopolistic firm will expand output as long
as marginal revenue exceeds marginal cost.
• Price will be lowered and output expanded until
MR = MC
• The price charged by the firm will be greater
than its marginal cost.
Marginal Revenue in Monopoly
• Initial price P1 & output q1.
Total revenue (TR) = P1 * q1.
Price
1. As price falls from P1 to P2,
output increases from q1 to q2,
Reduction in
Total Revenue
two conflicting influences on TR.
1. TR will rise because of an
increase in the number of
units sold (q2 - q1) * P2.
Increase in
Total Revenue
P1
P2
2. TR will decline [(P1 - P2) * q1]
as q1 units once sold at the
higher price (P1) are now sold at
the lower price (P2).
• Depending on the size of the
shaded regions, total revenue
may increase or decrease.
d
MR
q1
q2
Quantity/time
Price and Output Under Monopoly
• Expand output as long
as MR > MC. (P goes
down)
• Output level q will result …
with price determined by the
height of the demand curve
at that level of output, P.
• At q the average total
cost per unit for that scale
of output is C.
• As P > C (price > ATC) the
firm is making economic
profits equal to the area
PABC.
Price
MC
Economic
profits
ATC
A
P
B
C
d
MR < MC
MR > MC
MR
q
Quantity/time
The diagram shows demand and long-run cost conditions in an industry
a. Explain why the industry is
likely to be monopolized.
Price
MC
b. Indicate the monopolist’s
output level, and label it Q.
LRATC
P
c. Indicate the price that a
profit-maximizing monopolist
would charge, and label it P
d. Indicate the maximum profits
of the monopolist.
d
e. Will the profits attract
competitors to the industry?
X
Yes ___
No ____
Explain why or why not
MR
Quantity/time
Q
Price and Output Under Monopoly
• A monopolist will reduce price and expand output as long
as MR > MC.
• As the monopolist reduces price and expands output,
profits increase …
until the point where MC > MR.
• Here an output of 8 a day will maximize profits.
Output
(per day)
(1)
Price
(per unit)
(2)
0
----
1
2
3
4
5
6
7
8
9
10
$25.00
$24.00
$23.00
$22.00
$21.00
$19.75
$18.50
$17.25
$16.00
$14.75
Total
revenue
= (1)*(2)
(3)
-----
Total
costs
Profit
(per day) = (3) - (4)
(4)
(5)
$50.00
$60.00
$25.00
$69.00
$48.00
$77.00
$69.00
$84.00
$88.00
$90.50
$105.00
$96.75
$118.50
$102.75
$129.50
$108.50
$138.00
$114.75
Maximum
$144.00
$121.25
$147.50profits
-$50.00
-$35.00
-$21.00
-$8.00
$4.00
$14.50
$21.75
$26.75
$29.50
$29.25
$26.25
Marginal
cost
(6)
Marginal
revenue
(7)
---$10.00
$9.00
$8.00
$7.00
$6.50
$6.25
$6.00
$5.75
$6.25
$6.50
----
<
<
<
<
<
<
<
<
$25.00
$23.00
$21.00
$19.00
$17.00
$13.50
$11.00
$8.50
$6.00
$3.50
60
50
40
30
20
10
0
1
2
3
4
5
6
7
8
9
10
Number of Cakes
Profits Under Monopoly
• High entry barriers protect monopolists
from competitive pressures.
– Monopolists can earn long-run profits.
• However even a monopolist will not
always be able to earn profit.
– When ATC is always above the demand
curve, the monopolist will be unable to
cover costs (unable to earn a profit).
When a Monopolist Incurs Losses
Price
• A monopolist will set output
equal to q, where MR = MC
• At this level of output, the
price that the monopolist
C
charges does not cover the
average total cost of
P
producing the output ( P < C ).
• Whenever the ATC curve
lies always above the demand Short-run
losses
curve, the monopolist will
incur short-run losses.
• In this diagram the firm is
making economic losses
equal to the shaded area,
CABP.
MC
ATC
A
B
d
MR
q
Quantity/time
Comparing Monopoly and Perfect Competition
In perfectly competitive, price and quantity are
determined by the intersection of the demand and supply
curves.
In a monopoly, the industry supply curve becomes the
monopolist’s marginal cost curve. The monopolist reduces
output to where marginal revenue equals marginal cost,
QM, and the monopolist raises the price from PC to PM.
The Inefficiency of Monopoly
A monopoly charges a higher price,
PM vs PCand produces a smaller
quantity, QM vs QC
The higher price reduces consumer
surplus by the area equal to the
rectangle A and the triangle B.
Some of the reduction in consumer
surplus is captured by the
monopoly as producer surplus,
and some becomes deadweight
loss, which is the area equal
to triangles B and C.
Regulation of a Monopolist
• An unregulated monopolist
produces where MR = MC
(Q0) and charge price P0.
Price
• From an efficiency
viewpoint, this output is too
small and the price is too high.
1. average cost pricing
The monopolist is forced to
reduce its price to P1 the
expand output to Q1.
2. marginal cost pricing
-Force output to be expanded
to Q2 where P = MC
- P = cost to produce
-Forces LR losses.
Average cost
pricing
Marginal cost
pricing
P0
LRATC
P1
MC
P2
D
MR
Q0
Q1
Q2
Quantity/time
When economies of scale are important and an industry tends toward
natural monopoly, splitting the industry into small, rival firms will
a. lead to lower prices in the short run.
b. cause prices to rise when demand is inelastic but fall when it is
elastic.
c. cause prices to fall because of the decline in producer profits.
d. increase per-unit costs of production.
A monopolist will maximize profits by
a. setting his price as high as possible.
b. setting his price at the level that will maximize per-unit profit.
c. producing the output where marginal revenue equals marginal cost and
charging the price on the demand curve at that quantity.
d. producing the output where price equals marginal cost.
Assuming that firms maximize profits, how will the price and output
policy of an unregulated monopolist compare with ideal market
efficiency?
a. The output of the monopolist will be too large and its price too high.
b. The output of the monopolist will be too large and its price too low.
c. The output of the monopolist will be too small and its price too high.
d. The output of the monopolist will be too small and its price too low.
Which of the following is the most accurate description of a
monopolist?
a. a firm that produces a single product
b. a firm that is the sole producer of a narrowly defined product class,
such as yellow, grade-A butter produced in Jackson County,
Wisconsin
c. a firm that is the sole producer of a product for which there are no
good substitutes in a market with high barriers to entry
d. a firm that is large relative to its competitors
When natural monopoly is present in an industry, the per-unit costs of
production will be
a. lowest when there are large number of producers in the industry.
b. lower for small firms than for large firms
c. lowest when a single firm generates the entire output of the
industry
d. minimized at the output that maximizes the industry’s profitability
What price and output in the graph
would an unregulated profitmaximizing monopolist choose?
a. price C and output R
b. price B and output R
c. price B and output S
d. price A and output T
Would they be making a profit?
a. yes
b. no
c. normal but not economic
d. can’t tell
If a regulatory agency were using the “normal return” (zero economic
profit) criteria to impose a price on a monopolist with the cost and
demand conditions depicted, what price would the regulators set, and
what output would the monopolist produce?
a. price A and output T
b. price C and output R
c. price B and output R
d. price B and output S