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Chapter 10
Pure Monopoly
McGraw-Hill/Irwin
Copyright © 2009 by The McGraw-Hill Companies, Inc. All rights reserved.
Chapter Objectives
• Characteristics of pure
monopoly
• Profit-maximizing output and
price
• Economic effects of monopoly
• Charging different prices in
different markets
10-2
Characteristics of Monopoly
•
•
•
•
•
Single seller
No close substitutes
“Price maker”
Blocked entry
Nonprice competition
10-3
Examples of Monopoly
• Regulated or natural monopolies
–electricity
• Near monopolies
–Western Union
–Frisbee
–De Beers
• Geographic monopolies
–Professional sport teams
• Dual objectives of study
10-4
Barriers to Entry
• Economies of scale
• Legal barriers to entry
–Patents
–Licenses
• Ownership or control of
essential resources
• Pricing and other strategic
barriers to entry
10-5
Monopoly Demand
• Assumptions:
–Monopoly status is secure
–No government regulation
–Single-price monopolist
• Face down-sloping demand
–Entire market demand
10-6
Price and Marginal Revenue
Marginal revenue is less than price
• A monopolist is
selling 3 units at
$142
• To sell 4, price must
be lowered to $132
• All customers
must pay the same
price
• TR increases $132
minus $30 (3x$10)
$142
132
122
112
Loss = $30
D
102
Gain = $132
92
82
0
1
2
3
4
5
6
10-7
Price and Marginal Revenue
Marginal revenue is less than price
• A monopolist is
selling 3 units at
$142
• To sell 4, price must
be lowered to $132
• All customers
must pay the same
price
• TR increases $132
minus $30 (3x$10)
• $102 becomes a
point on the MR
curve
• Try other prices to
determine other
MR points
$142
132
122
112
Loss = $30
D
102
Gain = $132
92
82
MR
0
1
2
3
4
5
6
The Constructed Marginal Revenue Curve
Must Always Be Less Than the Price
10-8
Down-Sloping Demand
• Marginal revenue < price
–To increase sales, must lower price
• Firm is a price maker
–Choose P,Q combination
• Operate in the elastic region
–Marginal revenue > 0
–Total-revenue test (recall)
10-9
Profit Maximization
• Output-price determination
–Marginal revenue marginal cost
rule
–Same cost definitions
• No supply curve
10-10
Monopoly Revenue and Costs
Cost Data
Revenue Data
(2)
Price
(1)
Quantity (Average
Of Output Revenue)
0
1
2
3
4
5
6
7
8
9
10
$172
162
152
142
132
122
112
102
92
82
72
(3)
Total
Revenue
(1) X (2)
$0 ]
162 ]
304 ]
426 ]
528 ]
610 ]
672 ]
714 ]
736 ]
738 ]
720
(4)
Marginal
Revenue
$162
142
122
102
82
62
42
22
2
-18
(5)
(6)
(7)
(8)
Average Total Cost Marginal Profit (+)
Total Cost (1) X (5)
Cost
or Loss (-)
$190.00
135.00
113.33
100.00
94.00
91.67
91.43
93.75
97.78
103.00
$100 ]
190 ]
270 ]
340 ]
400 ]
470 ]
550 ]
640 ]
750 ]
880 ]
1030
$90
80
70
60
70
80
90
110
130
150
$-100
-28
+34
+86
+128
+140
+122
+74
-14
-142
-310
Can you See Profit Maximization?
10-11
Monopoly Revenue and Costs
$200
Demand and Marginal-Revenue Curves
Elastic
Inelastic
Price
150
100
50
D
MR
0
2
4
Total Revenue
$750
6
8
10
12
Total-Revenue Curve
14
16
18
500
250
0
TR
2
4
6
8
10
12
14
16
18
10-12
Profit Maximization
Price, Costs, and Revenue
$200
175
MC
150
Pm=$122
125
100
75
Economic
Profit
ATC
A=$94
D
MR=MC
50
25
0
MR
1
2
3
4
5
6
7
8
9
10
Quantity
10-13
Misconceptions
• Not the highest price
• Total, not unit, profit
• Possibility of losses
10-14
Price, Costs, and Revenue
Loss Minimization
MC
A
Pm
ATC
Loss
AVC
V
D
MR=MC
MR
0
Qm
Quantity
10-15
Economic Effects
Pure
Monopoly
Purely
Competitive
Market
S=MC
MC
Pm
P=MC=
Minimum
ATC
Pc
b
c
Pc
a
D
D
MR
Qc
Qm
Qc
Pure competition is efficient
Monopoly is inefficient
10-16
Economic Effects
• Pure competition is efficient
–Productive efficiency
–Allocative efficiency
–CS+PS maximized
• Monopoly is inefficient
–Charge P>MC
–Deadweight loss
• Income transfer
10-17
Cost Complications
• Economies of scale
–Simultaneous consumption
–Network effects
• X-inefficiency
–Lowest ATC not achieved
• Rent seeking behavior
• Technological advance
–More likely with monopoly?
10-18
Policy Options
• Use antitrust laws
–Divide the firm
• Natural monopoly
–Regulate price
• Ignore
–Unstable in long run
10-19
Price Discrimination
• Three forms
– Charge each customer max
willingness to pay
– Charge one price for first unit
and a lower price for subsequent
units
– Charge different customers
different prices
10-20
Price Discrimination
• Conditions
– Monopoly power
– Market segregation
– No resale
• Examples
– Airfares
– Electric utilities
– Theaters & golf courses
10-21
Regulated Monopoly
• Natural monopolies
• Rate regulation
• Socially optimum price
P = MC
• Fair return price
P = ATC
10-22
Regulated Monopoly
Dilemma of Regulation
Price and Costs (Dollars)
Monopoly
Price
Pm
Fair-Return
Price
f
Pf a
Socially
Optimal
Price
ATC
Pr
r
D
MR
0
MC
b
Qm
Qf
Qr
Quantity
10-23
De Beers Diamonds
• 66 years of monopoly pricing
–Independent producers went along
• Mid-2000 abandoned monopoly
–New discoveries
–Independent producers withdrew
–Political considerations
• New strategy
–“The diamond supplier of choice”
10-24
Key Terms
•
•
•
•
•
•
•
•
•
pure monopoly
barriers to entry
simultaneous consumption
network effects
X-inefficiency
rent-seeking behavior
price discrimination
socially optimal price
fair-return price
10-25
Next Chapter Preview…
Monopolistic
Competition
and Oligopoly
10-26