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Monopoly and Oligopoly
Announcements
 See web page for all exam information.
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 For room assignments, see the web page
 Check the web page over the weekend for problem set
#7 sometime on Sunday, maybe.
 Otherwise we’ll have it in class on Monday.
 How are the projects going??????
Themes of Today’s Lecture
 Monopoly
 Oligopoly
Monopoly - Structure
single firm
no close substitutes
barriers to entry
full and symmetric
information
Sources of Monopoly Entry Barriers
 Natural monopoly: the most efficient scale of production is so large,
relative to market demand, that a single firm dominates the market.
 Patents, copyrights, licenses, franchises: government protection of a
firm’s right to produce a unique product.
 Economic and/or legal restrictions, strategies or situations that
make entry more difficult for new competitors than for the existing
monopoly firm.
“Other” Monopolies - Good? Bad?
 Input Ownership
 DeBeer’s and diamonds
 Industry Secret or Know-how
 IBM and mainframes?
 Strategic Behavior
 buy ‘em up
 blow’ em up
 let’s make a deal
 Microsoft and operating systems?
Caveats
 monopoly does not => big
 big does not => monopoly
 monopoly does not => absolute and unlimited control
over price
 monopoly does not => must have economic profit
 short run profit does not => monopoly power
 monopoly does not => badly behaved firm
Classic Simple Monopoly
 Polar extreme from perfect competition.
 Monopolist is a “price maker.”
 Cost curves are pretty much the same (except in the case of
natural monopoly).
 The big change from before is in the demand side of the
profit function.
The Simple Monopolist - Conduct
 The simple monopolist abides by the “law of one price.”
Everyone pays the same market price for all units purchased.
 A monopolist faces the declining market demand curve for
its product and simultaneously chooses price and quantity.
 Now P>MR (before P=MR) because the simple monopolist
must lower the price on all preceding units to sell an
additional unit.
 A monopolist has no “supply curve.”
The Simple Monopolist: Rules for Profit
Maximization
 Suppose we are in the short run.
 Rules for profit maximization are the same as before.
 If QSM maximizes profit, then
 MR(QSM ) = MC(QSM )
 very important note: for a simple monopolist P>MR at all positive levels
of Q.
 QSM is a max and not a min.
 at QSM it’s worth operating.
Simple Monopoly
 Economic profits equal total
revenue minus total costs.
 Marginal revenue is the rate of
change of total revenue (just like
marginal cost is the rate of change
of total cost) as quantity increases.
 Economic profits are maximized
when marginal revenue equals
marginal costs
Quantity
0
10
20
30
40
50
60
70
80
90
100
110
120
130
140
150
160
170
180
190
200
Monopoly Selling in a Single Market at a Single Price
Marginal
Marginal
Market
Cost
Average
Revenue
Demand
Total
(midpoint
Total
Total
(midpoint Economic
Price
Costs
formula)
Cost
Revenue
formula)
Profits
100.00
800
0.00
-800
95.00
1,500
82.50 150.00
950.00
90.00
-550
90.00
2,450
65.00 122.50 1,800.00
80.00
-650
85.00
2,800
42.50
93.33 2,550.00
70.00
-250
80.00
3,300
32.50
82.50 3,200.00
60.00
-100
75.00
3,450
20.50
69.00 3,750.00
50.00
300
70.00
3,710
18.50
61.83 4,200.00
40.00
490
65.00
3,820
9.50
54.57 4,550.00
30.00
730
60.00
3,900
9.00
48.75 4,800.00
20.00
900
55.00
4,000
10.00
44.44 4,950.00
10.00
950
50.00
4,100
12.50
41.00 5,000.00
0.00
900
45.00
4,250
17.50
38.64 4,950.00
-10.00
700
40.00
4,450
20.00
37.08 4,800.00
-20.00
350
35.00
4,650
25.00
35.77 4,550.00
-30.00
-100
30.00
4,950
30.00
35.36 4,200.00
-40.00
-750
25.00
5,250
35.00
35.00 3,750.00
-50.00
-1,500
20.00
5,650
45.00
35.31 3,200.00
-60.00
-2,450
15.00
6,150
60.00
36.18 2,550.00
-70.00
-3,600
10.00
6,850
75.00
38.06 1,800.00
-80.00
-5,050
5.00
7,650
100.00
40.26
950.00
-90.00
-6,700
0.00
8,850
44.25
0.00
-8,850
Graphical Display of Monopolist’s
Solution
Average Total Cost
70.00
60.00
50.00 Monopoly Profits
40.00
30.00
20.00
10.00
-20.00
-30.00
-40.00
Quantity
200
190
180
170
160
150
140
130
120
110
90
80
70
100
-10.00
60
0.00
50
Notice that if our monopolist operated at the
competitive equilibrium (Price=MC=$30,
Quantity=140), the firm would make a loss
(ATC>Price).
Marginal Cost
40
Notice that our monopolist is a “natural
monopoly” since the average total costs decline
over the entire relevant range of production.
Exact Marginal Revenue
80.00
30

The monopolist then gets the price off the demand
curve. This implies a market price of $55/unit.
The monopoly profits (light blue in the graph) are
the difference between price ($55) and average
total cost ($44.44) times the number of units sold.
Market Demand Price
90.00
20

100.00
10

Natural Monopolist's Market
0

The monopolist sets marginal revenue equal to
marginal cost at MR=MC and considers
producing Q=90.
Dollars/unit

Implications of the Monopolist’s Profit
Maximum
 Price will exceed the competitive price.
 Quantity will be less than the competitive quantity.
 The monopolist sells the output at a price greater than marginal costs but the
monopoly price can be above or below average total costs. Thus, the
monopolist need not always make a profit. In the long run, of course,
unprofitable monopolists will either stop production or raise the price further
above marginal cost until it covers average total costs.
 The monopolist will always try to operate on the elastic portion of the demand
curve because when the elasticity of demand is greater than -1 (inelastic,
between 0 and 1 in absolute value), marginal revenue is negative and,
necessarily, less than marginal cost.
 Since there is no entry to consider monopolists can have persistent long run
economic profit.
Simple Monopoly- Performance
 Efficiency:
 Is the monopoly equilibrium Pareto Efficient? That is, at QSM is
net social surplus maximized? Does $MB=$MC at QSM?
 Is the monopolist productively efficient? Does the monopolist
operate at minimum efficient scale?
 Equity:
 Is the outcome of monopoly fair? Equitable? Just?
Simple Monopoly- Performance
Answers
 The simple monopoly equilibrium is not Pareto
Efficient.
 The simple monopolist creates “dead-weight-loss.”
 At QSM, $MB>$MC . Recall: $MR=$MC at QSM while
$PSM>$MR at all Q. So $PSM>$MC. Since $P=$MB, then
$MB>$MC.
 The simple monopolist may or may not be productively
efficient.
 Compared to the competitive equilibrium, there is a
transfer of surplus from consumers to producers.