Chap6

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Chap6

  1. 1. CHAPTER 6 MARKET STRUCTURE: MONOPOLY
  2. 2. <ul><li>6.1 Characteristic </li></ul><ul><li>6.2 Barriers to Entry </li></ul><ul><li>6.3 Short-run Decision: Profit Maximization </li></ul><ul><li>6.4 Short-run Decision: Minimizing Loss </li></ul><ul><li>6.5 Long-run Profit Maximization & Misconception </li></ul><ul><li>6.6 Social Cost of Monopoly </li></ul><ul><li>6.7 Price Discrimination </li></ul>
  3. 3. <ul><li>Definition: </li></ul><ul><ul><li>Existence of a single seller in the market who produces goods that have no substitutes . </li></ul></ul><ul><ul><li>An industry with a single firm in which the entry of new firms is blocked . </li></ul></ul><ul><ul><li>For example: Microsoft, Tenaga Nasional Berhad. </li></ul></ul>
  4. 4. <ul><li>One seller and large number of buyers : </li></ul><ul><ul><li>Firm supply is equal to the whole market/industry supply. </li></ul></ul><ul><ul><li>The monopolist is a firm as well as an industry in itself. </li></ul></ul><ul><li>Product has no close substitute : </li></ul><ul><ul><li>Unique product with no competition. </li></ul></ul><ul><li>Price maker : </li></ul><ul><ul><li>Monopoly can influence either the market price or quantity supplied. </li></ul></ul><ul><ul><li>Constraint by demand behavior of consumers. </li></ul></ul><ul><li>Barriers to entry : </li></ul><ul><ul><li>Heavy restrictions or barriers. Barrier to entry is legal or natural constraints that protect a firm from potential competitors. </li></ul></ul>6.1 Characteristic
  5. 5. <ul><li>Definition : </li></ul><ul><ul><li>legal or natural constraints that protect a firm from potential competitors. </li></ul></ul><ul><ul><li>The existence of monopoly in the long run is depends on the barriers to entry. </li></ul></ul><ul><li>The following are some common types of barriers : </li></ul><ul><ul><li>Control over raw material </li></ul></ul><ul><ul><li>Patent and copyright </li></ul></ul><ul><ul><li>Cost of establishing an efficient plant </li></ul></ul><ul><ul><li>Government franchises </li></ul></ul>6.2 Barriers to Entry?
  6. 6. <ul><li>Control over raw material </li></ul><ul><ul><li>A monopoly status can be maintained through control over the supply of raw materials </li></ul></ul><ul><ul><li>For example: China is the monopoly supplier of pandas. </li></ul></ul><ul><li>Patents or copyrights </li></ul><ul><ul><li>A patent is an exclusive right to the production of an innovative product. </li></ul></ul><ul><ul><li>A copyright is an exclusive right to the author, of a book or a composer of a music or producer of a movie. </li></ul></ul><ul><ul><li>The owner of the patent and the copyright has a monopoly over that particular product but its valid foar a limited time period only and the monopoly will expire in due course. </li></ul></ul>Types of Barriers to Entry
  7. 7. <ul><li>Cost of establishing an efficient plant </li></ul><ul><ul><li>This is the case of natural monopoly. </li></ul></ul><ul><ul><li>A natural monopoly exists when one firm can meet the entire market demand at a lower price as compared to two or more firms. </li></ul></ul><ul><ul><li>Example; TNB </li></ul></ul><ul><li>Government franchises </li></ul><ul><ul><li>The government will give an exclusive rights to a firm to sell certain goods and services in certain area. </li></ul></ul><ul><ul><li>Example; the government has given the right to install the satellite television system to ASTRO in Malaysia. </li></ul></ul>Types of Barriers to Entry
  8. 8. <ul><li>The firm’s demand curve represents the industry demand curve since there is only one producer in a monopoly. </li></ul><ul><li>The demand curve for the output in monopoly is downward sloping. </li></ul><ul><li>Marginal revenue curve below the demand curve. It is twice as steep as the demand curve. </li></ul>Market Demand and Marginal Revenue
  9. 9. For a monopolist, an increase in output involves not just producing more and selling it, but also reducing the price of its output to sell it. TABLE 13.1 Marginal Revenue Facing a Monopolist (1) QUANTITY (2) PRICE (3) TOTAL REVENUE (4) MARGINAL REVENUE 0 $11 0  1 10 $10 $10 2 9 18 8 3 8 24 6 4 7 28 4 5 6 30 2 6 5 30 0 7 4 28  2 8 3 24  4 9 2 18  6 10 1 10  8
  10. 10. FIGURE 13.3 Marginal Revenue Curve Facing by Monopolist
  11. 11. <ul><li>The monopolist will fix a higher price if demand is inelastic and a lower price if demand is elastic. </li></ul><ul><li>When demand is elastic (Ed >1): </li></ul><ul><ul><li>a decrease in price increases total revenue </li></ul></ul><ul><ul><li>marginal revenue is positive </li></ul></ul><ul><li>When demand is unitary/ unit elastic (Ed = 1): </li></ul><ul><ul><li>Total revenue is maximum </li></ul></ul><ul><ul><li>Marginal revenue will is zero (intersect with quantity). </li></ul></ul><ul><li>When demand is inelastic (Ed < 1): </li></ul><ul><ul><li>a decrease in price reduces total revenue </li></ul></ul><ul><ul><li>marginal revenue is negative </li></ul></ul>Demand Curve and Elasticity of Demand
  12. 12. (b) Total Revenue $60,000 0 16 32 Total revenue $3,750 0 16 32 Marginal revenue Elastic (Ed > 1) Inelastic (Ed < 1) Unit elastic (Ed =1) D = Average revenue 1-carat diamonds per day (a) Demand and Marginal Revenue $ per diamond Dollars 1-carat diamonds per day Demand Curve and Elasticity of Demand ↓ Inelastic -ve Maximum Unitary Elastic 0 ↑ Elastic +ve TR PED MR
  13. 13. <ul><li>MR = MC </li></ul><ul><ul><li>Profit maximizing output </li></ul></ul><ul><ul><li>No incentive to change the output. </li></ul></ul><ul><li>MR < MC </li></ul><ul><ul><li>it would pay for the firm to decrease output as the saving in cost would be bigger than loss in revenue </li></ul></ul><ul><li>MR > MC </li></ul><ul><ul><li>additional revenue will more than additional cost, thus it would be better off for the firm to increase output </li></ul></ul>The monopolist is a price maker because can select the price that maximizes profit. 6.3 Short-run Decision: Profit Maximization
  14. 14. <ul><li>In the short run, a monopolist firm can earn supernormal profit, normal profit, or subnormal profit. </li></ul><ul><li>Supernormal profit : </li></ul><ul><ul><li>Profit that earned by a firm when its (TR > TC) or (P > ATC). </li></ul></ul><ul><li>Normal profit: </li></ul><ul><ul><li>Profit that earned by firm when its (TR = TC) or (P = ATC) </li></ul></ul><ul><li>Subnormal profit: </li></ul><ul><ul><li>Profit that earned by firm when its (TR < TC) or (P < ATC) </li></ul></ul>Short-run Decision: Profit Maximization
  15. 15. Supernormal Profit Quantity Price P PROFIT DD = AR MR ATC MC ATC Q M <ul><li>TR > TC </li></ul><ul><li>P > ATC </li></ul>TR TC
  16. 16. Normal Profit Quantity Price P = ATC DD = AR MR ATC MC Q M <ul><li>TR = TC </li></ul><ul><li>P = ATC </li></ul>TR TC
  17. 17. Normal Profit Quantity Price P DD = AR MR ATC MC Q M <ul><li>TR < TC </li></ul><ul><li>P < ATC </li></ul>TR TC ATC LOSS
  18. 18. <ul><li>Firm suffer losses: </li></ul><ul><ul><li>Average revenue less than average total cost. </li></ul></ul><ul><li>The monopolist will continue to produce rather than shut down in the short run because price exceeds average variable cost. </li></ul><ul><ul><li>Despite having market power, the monopolist still constraint to either setting the price or output only, not both. </li></ul></ul>6.4 Short-run Decision: Minimizing Loss
  19. 19. p Marginal cost Average total cost Average variable cost Demand = Average revenue Marginal revenue 0 Q e c b a Loss Quantity per period <ul><li>Marginal revenue equals marginal cost at point e . </li></ul><ul><li>At quantity Q, price p (at point b ) is less than average total cost (at point a ) </li></ul><ul><li>The monopolist suffers a loss. </li></ul><ul><li>But the monopolist will continue to produce rather than shut down in the short run because price exceeds average variable cost (at point c ). </li></ul>Dollars per unit
  20. 20. <ul><li>Long-run is the time period in which the firm can adjust its input used in the production. </li></ul><ul><li>A monopolist firm in the long-run is also in equilibrium at a point where MR = MC . </li></ul><ul><li>A monopolist that earns economic profit in the short-run may find that profit can be increased in the long run by adjusting the scale of the firm. </li></ul><ul><li>A monopoly that suffers a loss in the short run may be able to eliminate that loss in the long run by adjusting to a more efficient size </li></ul>6.5 Long Run Profit Maximization
  21. 21. Misconception Monopolist CAN earn positive economic profit in the long run. Monopolist seek to maximize PROFIT . Monopolist has BOTH good and bad to the market/society. Monopolist ALWAYS earn positive economic profit in the long run. Monopolist seek to maximize PRICE . Monopolist ALWAYS bad to the market/society. True Wrong
  22. 22. <ul><li>Deadweight loss </li></ul><ul><ul><li>The result of not producing at price equal to marginal cost like in perfect competitive market structure. </li></ul></ul><ul><li>Price discrimination </li></ul><ul><ul><li>behavior that transfer income or surplus from consumers to the monopolist. </li></ul></ul><ul><li>Rent-seeking </li></ul><ul><ul><li>behavior to preserve positive profits @ action taken by household & firms to preserve positive profit. </li></ul></ul>6.6 Social Cost of Monopoly
  23. 23. Deadweight Loss A B C D E
  24. 24. Try this!! Deadweight Loss???? Producer Surplus Total Surplus Consumer Surplus Changes Monopoly Perfect Competitive
  25. 25. <ul><li>Definition : </li></ul><ul><ul><li>Charging different prices to different buyers for the same good or different prices for the same good on different units sold. </li></ul></ul><ul><li>Conditions : </li></ul><ul><ul><li>Monopoly Power : </li></ul></ul><ul><ul><ul><li>The sellers must be a monopolist or at least must posses some ability to control output and price. </li></ul></ul></ul><ul><ul><li>No resale: </li></ul></ul><ul><ul><ul><li>Ability to prevent those who pay the lower price from reselling the product to those who pay the higher price. </li></ul></ul></ul><ul><ul><li>Market Segregation: </li></ul></ul><ul><ul><ul><li>Identify and separate different buyers based on different elasticity of demand. </li></ul></ul></ul>6.7 Price Discrimination
  26. 26. <ul><li>Types of Price Discrimination: </li></ul><ul><ul><li>First-degree price discrimination </li></ul></ul><ul><ul><ul><li>Occurs when a firm charges different prices for each unit sold and charges each consumer the maximum price that he/she is willing to pay. </li></ul></ul></ul><ul><ul><ul><li>Example: Product that sold in auction  antique goods, artwork, car or house. </li></ul></ul></ul><ul><ul><li>Second-degree price discrimination </li></ul></ul><ul><ul><ul><li>The monopolist sells at different price per unit of output , depending on how much a consumer buys. </li></ul></ul></ul><ul><ul><ul><li>Charges higher/lower price for fewer units sold and a lower/higher price for larger quantities purchased. </li></ul></ul></ul><ul><ul><ul><li>Example: Public utilities  electricity charges, water charges or telephone charges. </li></ul></ul></ul>
  27. 27. <ul><ul><li>Third-degree price discrimination: </li></ul></ul><ul><ul><ul><li>The monopolist sells to different group of consumer with different price but every unit of product sold to a given group is sold at same price. </li></ul></ul></ul><ul><ul><ul><li>The price to be charge based on the price elasticity of demand. </li></ul></ul></ul><ul><ul><ul><li>Refer slide 11. </li></ul></ul></ul><ul><ul><ul><li>Example: movie ticket, transportation, medical… </li></ul></ul></ul>
  28. 28. THANK YOU

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