Monopoly

1. Monopoly
Chapter 15
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Monopoly
While a competitive firm is a
price taker, a monopoly firm is
a price maker.

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Monopoly
A firm is considered a monopoly if . . .
it is the sole seller of its product.
its product does not have close
substitutes.

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Why Monopolies Arise
The fundamental cause of
monopoly is barriers to entry.

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Why Monopolies Arise
Barriers to entry have three sources:
 Ownership of a key resource.
 This tends to be rare. De Beers is an example
 The government gives a single firm the exclusive right
to produce some good.
 Patents, Copyrights and Government Licensing.
 Costs of production make a single producer more
efficient than a large number of producers.
 Natural Monopolies

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Economies of Scale as a Cause of
Monopoly...
Average
total
cost
Quantity of Output
Cost
0

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Monopoly versus Competition
Monopoly
 Is the sole producer
 Has a downward-
sloping demand curve
 Is a price maker
 Reduces price to
increase sales
Competitive Firm
Is one of many
producers
Has a horizontal
demand curve
Is a price taker
Sells as much or as
little at same price

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Quantity of
Output
Demand
(a) A Competitive Firm’s
Demand Curve
(b) A Monopolist’s
Demand Curve
0
Price
0 Quantity of
Output
Price
Demand
Demand Curves for Competitive and
Monopoly Firms...

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A Monopoly’s Revenue
Total Revenue
P x Q = TR
Average Revenue
TR/Q = AR = P
Marginal Revenue
DTR/DQ = MR

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A Monopoly’s Marginal Revenue
A monopolist’s marginal revenue is
always less than the price of its good.
The demand curve is downward sloping.
When a monopoly drops the price to sell one
more unit, the revenue received from
previously sold units also decreases.

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A Monopoly’s Total, Average, and
Marginal Revenue
Quantity
(Q)
Price
(P)
Total Revenue
(TR=PxQ)
Average
Revenue
(AR=TR/Q)
Marginal Revenue
(MR= )
0 $11.00 $0.00
1 $10.00 $10.00 $10.00 $10.00
2 $9.00 $18.00 $9.00 $8.00
3 $8.00 $24.00 $8.00 $6.00
4 $7.00 $28.00 $7.00 $4.00
5 $6.00 $30.00 $6.00 $2.00
6 $5.00 $30.00 $5.00 $0.00
7 $4.00 $28.00 $4.00 -$2.00
8 $3.00 $24.00 $3.00 -$4.00
QTR DD /

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A Monopoly’s Marginal Revenue
When a monopoly increases the
amount it sells, it has two effects on
total revenue (P x Q).
The output effect—more output is
sold, so Q is higher.
The price effect—price falls, so P is
lower.

13. Demand and Marginal Revenue Curves
for a Monopoly...
Quantity of Water
Price
$11
10
9
8
7
6
5
4
3
2
1
0
-1
-2
-3
-4
1 2 3 4 5 6 7 8
Marginal
revenue
Demand
(average revenue)
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14. Profit-Maximization for a Monopoly...
Monopoly
price
QuantityQMAX0
Costs and
Revenue
Demand
Average total cost
Marginal revenue
Marginal
cost
A
1. The intersection of
the marginal-revenue
curve and the marginal-
cost curve determines
the profit-maximizing
quantity...
B
2. ...and then the demand
curve shows the price
consistent with this
quantity.
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Comparing Monopoly and
Competition
 For a competitive firm, price equals
marginal cost.
P = MR = MC
 For a monopoly firm, price exceeds
marginal cost.
P > MR = MC

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A Monopoly’s Profit
Profit equals total revenue minus total costs.
Profit = TR - TC
Profit = (TR/Q - TC/Q) x Q
Profit = (P - ATC) x Q

17. The Monopolist’s Profit...
Quantity0
Costs and
Revenue
Demand
Marginal cost
Marginal revenue
QMAX
BMonopoly
price
E
Average
total cost D
Average total cost
C
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The Monopolist’s Profit
The monopolist will receive
economic profits as long as price is
greater than average total cost.

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Public Policy Toward Monopolies
Government responds to the problem of
monopoly in one of four ways.
 Making monopolized industries more
competitive.
 Regulating the behavior of monopolies.
 Turning some private monopolies into public
enterprises.
 Doing nothing at all.

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Two Important
Antitrust Laws
 Sherman Antitrust Act (1890)
 Reduced the market power of the large and
powerful “trusts” of that time period.
 Clayton Act (1914)
 Strengthened the government’s powers and
authorized private lawsuits.

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Marginal-Cost Pricing for a Natural
Monopoly...
Regulated
price
Quantity0
Loss
Price
Demand
Marginal cost
Average total cost
Average
total cost

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Price Discrimination
Price discrimination is the practice of selling
the same good at different prices to different
customers, even though the costs for producing
for the two customers are the same. In order
to do this, the firm must have market power.

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Price Discrimination
 Two important effects of price discrimination:
 It can increase the monopolist’s profits.
 It can reduce deadweight loss.
 But in order to price discriminate, the firm must
 Be able to separate the customers on the basis of willingness to pay.
 Prevent the customers from reselling the product.