Monopoly, Monopolistic Competition and Oligopoly

1. Monopoly, Monopolistic
Competition and Oligopoly
Presented By:
Aasim Mushtaq

2. Monopoly
 Monopoly
1) One seller - many buyers
2) One product (no good substitutes)
3) Barriers to entry

3. Monopoly
 The monopolist is the supply-side of
the market and has complete control
over the amount offered for sale.
 Profits will be maximized at the level
of output where marginal revenue
equals marginal cost.

4. Characteristics of
a Monopoly
 Characteristics of monopolies are:
 Single seller but a large number of buyers
 Unique Product, i.e., there are no close substitutes
 Ability to Set Prices (monopolist is a price maker;
discriminating monopolists charge different prices
to different classes of consumers)
 Barriers to Entry (a monopoly generally has an
economic, legal or technical barrier to entry to other
firms)

5. Monopoly
 A Rule of Thumb for Pricing
We want to translate the condition that
marginal revenue should equal marginal
cost into a rule of thumb that can be more
easily applied in practice.

6. Sources of Monopoly Power
 Why do some firm’s have considerable
monopoly power, and others have
little or none?
 A firm’s monopoly power is
determined by the firm’s elasticity of
demand.

7. Sources of Monopoly Power
 The firm’s elasticity of demand is
determined by:
1) Elasticity of market demand
2) Number of firms
3) The interaction among firms

8. The Monopolist’s TR, AR, and MR
Curves
 Since the monopolist is the
only firm producing a
product, the monopolist’s
demand curve is precisely the
same as the market demand
curve.
 So, AR is the monopolist’s
demand curve
 And it is negatively sloped
 Since AR is negatively
sloped, AR & MR are not the
same.
 MR is also negatively
sloped, and is twice as steep
as the AR.
 The Total Revenue curve is
concave downward because
the monopolist’s demand
curve is downward sloping.
Q
P
MR AR
TR

9. The Monopolist’s Cost Curves
 If the monopolist in the
product market faces a
perfectly competitive input
market, then it can not affect
input prices.
 In that case, the concept of
cost curves do not change.
 The TC, TVC, TFC, ATC,
AVC, AFC, and MC curves,
therefore, are as discussed
before for perfect
competition.
Costs
TOTAL COSTS
Output
TC
TVC
TFC
ATC
AVC
Costs/unit
Output
MC
AFC

10. Profit Maximizing Output Decision
under Monopoly in the Short-run
The Total Curves Approach
Profit maximization output
decision rule for a monopolist
depends on two
considerations.
 One, whether there is any
output level at which TR
exceeds the TVC. If not, the
profit maximizing strategy is
to shut down.
 If there are output levels at
which TR > TVC, the
monopolist will produce
where the vertical distance
between TR and TC is at its
maximum.
$
TR
TC
TVC
Q

11. Profit Maximizing Output Decision
under Monopoly in the Short-run
The Total Curves Approach
 In this case, the vertical
distance between TR and TC
is at maximum at the Q* level
of output.
 Note that at Q* units of
output, TR and TC curves
have the same slope, i.e.,
MR = MC. (This is called
the Necessary Condition of
profit maximization)
 Further, the slope of MC
exceeds that of the MR (MC
has a positive slope and MR
has a negative slope). (This
is called the Sufficient
Condition of profit
maximization)
$
TR
TC
TVC
Q* Q

12. Profit Maximizing Output Decision
under Monopoly in the Short-run
The Average & Marginal
Curves Approach
Again, the same decision rules
should be considered.
Does the AR lie above the AVC
in some output range? If not, the
best strategy in the short-run is to
shut down.
If yes, the profit maximizing
output is where MR=MC and the
slope of the MC is greater than the
slope of the MR.
This is the Q* level of output.
$/unit
Q
MR
AR
Q*
MC
AC
AVC

13. Price Determination under Monopoly
After deciding that Q* is the profit
maximizing level of output, the
monopolist must decide the price
at which the output is to be sold.
The monopolist will sell the output at
the maximum price at which he can sell
the output.
That maximum price is the price that
the consumers are willing to pay
(derived from the demand/AR Curve) –
that is P*
At that price of P*, note that profit per
unit is BA dollars and the total
economic profit received by the
monopolist is P*ABC.
$/unit
Q
MR
AR
Q*
MC
AC
AVC
P*
A
C B

14. A Mathematical Example
 Suppose that the Monopolist’s TR and TC curves are given by:
TR = 50 Q – 4 Q2
TC = 10 Q
 What is the Profit Maximizing level of output?
 Note that at the profit max level of output, MR must equal to MC (the Necessary
Condition of profit maximization)
MR = ∂TR/∂Q = 50 – 8Q
MC = ∂TC/∂Q = 10
At MR = MC, 50 – 8Q = 10
8Q = 40 or Q = 5
 Also note that at the profit max level of output, the slope of MC must exceed the slope
of the MR (the Sufficient Condition of profit maximization)
Slope of MR = ∂MR/∂Q = – 8
Slope of MC = ∂MC/∂Q = 0
Thus the Slope of MC > the slope of MR

15. A Mathematical Example
 The Monopolist’s TR and TC curves are given by:
TR = 50 Q – 4 Q2
TC = 10 Q
 What is Equilibrium Price?
 Note that TR = P*Q = 50Q - 4Q2
So, P = 50 – 4Q
Since Q = 5, then P = 50 – 20 = $30
 What is the Profit?
 Note that Profit = TR – TC
TR = 50 (5) – 4 (5)2 = $150
TC = 10 (5) = $50
So, Profit = $150 - $50 = $100

16. Monopolistic Competition:
Monopolistic competition is a market with the
following characteristics:
 A large number of firms.
 Each firm produces a differentiated
product.
 Firms compete on product quality, price,
and marketing.
 Firms are free to enter and exit the
industry.

17. Monopolistic Competition:
Large Number of Firms
The presence of a large number of firms in
the market implies:
 Each firm has only a small market share
and therefore has limited market power
to influence the price of its product.
 Each firm is sensitive to the average
market price, but no firm pays attention to
the actions of the other, and no one firm’s
actions directly affect the actions of other
firms.
 Collusion, or conspiring to fix prices, is
impossible.

18. Monopolistic Competition:
Product Differentiation
Firms in monopolistic competition practice
product differentiation, which means that
each firm makes a product that is slightly
different from the products of competing
firms.
Entry and Exit
There are no barriers to entry in
monopolistic competition, so firms cannot
earn an economic profit in the long run.

19. Oligopoly:
 few sellers
 either homogeneous or a
differential product
 difficult market entry