This document provides an overview of monopoly as a market structure. It defines monopoly and barriers to entry. It then examines monopoly in the short-run and long-run, including profit maximization where marginal revenue equals marginal cost. The document discusses the advantages of monopoly in terms of lower costs from economies of scale but also the disadvantages, including inefficient allocation of resources and deadweight loss compared to perfect competition. It concludes by introducing the concept of price discriminating monopolies.

1. Monopoly

2. Outline
I. Introduction
A. Definition
B. Barriers to Entry
II. Monopoly in the Short-Run
A. Demand
B. Profit Maximization in the Short-Run

3. Outline (Cont.)
III. Monopoly in the Long-Run
A. Losses in the Short-Run
B. Break-Even or Profits in the Short-Run
IV. Advantages and Disadvantages of
Monopoly
A. Benefits
B. Disadvantages

4. Introduction
• Perfect Competition was one type of market
structure. It had to satisfy many
assumptions - some of which are not all that
realistic. Now we will look at another
market structure which is nearly he opposite
of perfect competition
• Monopoly - a single firm that produces all
the output in a particular market with no
close substitutes and high barriers to entry.

5. Barriers to Entry
• Barriers to Entry are what keeps monopoly
from becoming like a perfectly competitive
market
• Barriers to entry are things that prevent
firms from entering the market. Such as...
• Control of Raw Materials
• Example: The DeBeer’s family owns most of
the diamond mines in the world
• Economies of Scale

6. Barriers to Entry (Cont.)
• Patents and Copyrights
– Patents - an exclusive right, granted by the
government, to market a product or process for
17 years.
– Copyrights - an exclusive right, granted by the
government, to publish, copy or sell a piece of
music, art or literature.
• Other Legal Restrictions
– Example: U.S. Mail, Cable Monopolies, etc.

7. Monopoly in the Short-Run
• What makes monopoly different from
perfect competition is the firm’s demand
curve.
• Since the firm is the market, the firm’s
demand curve is the market demand curve
• Hence, it’s downward sloping

8. Monopoly in the Short Run
• A profit-maximizing monopolist, then not
only chooses how much to produce, but
also chooses what price to charge.
• What prevents a monopolist from charging
an amazingly high price?
– there may not be much demand at that price
• So a monopolist wants to get the highest
price that maximizes their profit

9. Monopoly and Total Revenue
• Profits = Total Revenue - Total Cost
• But Total Revenue is different for a
monopolist than in perf. comp.
• In perf. comp. the moreyou sell, the more
the total revenue, but now if you sell more
you have to lower your price.
• Remember when we discussed elasticity,
we looked at how total revenue changes as
you move down a demand curve

10. Monopoly and Total Revenue
$ Elastic Elasticity = 1
Inelastic
Demand
Q
$
Total Revenue
Q

11. Monopoly Profit
• So does a monopolist want to produce at the
quantity where elasticity equals 1 and total
revenue is at a maximum?
– Not necessarily. Remember we need to
consider total cost, as well
• The monopolist wants to maximize the
difference between total revenue and total
cost

12. Total Revenue and Total Cost
TC
$
TR
Q* Q

13. Monopoly Profit Maximization
• Like perfect competition, this is the quantity
where the slopes of the TC and TR curves
are the same
• And also like perfect competition, this is the
quantity where MR=MC.
• But the MR curve looks different, since the
demand curve is downward sloping

14. D and MR
Qd P ($)
0 10
1 8
2 6
3 4
4 2
5 0

15. D and MR
Qd P ($) TR ($)
0 10 0
1 8 8
2 6 12
3 4 12
4 2 8
5 0 0

16. D and MR
Qd P ($) TR ($) MR ($)
0 10 0 ---
1 8 8 8
2 6 12 4
3 4 12 0
4 2 8 -4
5 0 0 -8

17. D and MR
P
$10
8
6
4
2 D
0 1 2 3 4 5 Q

18. D and MR
P
$10
8
6
4
2 MR D
0 1 2 3 4 5 Q

19. Profit Maximizing
P
$10 MC
8
6
4
2 MR D
0 1 2 3 4 5 Q

20. Profit Maximizing
P
$10 MC
8
6
4
2 MR D
0 1 2 3 4 5 Q

21. Profit Maximizing
• So the monopolist chooses the quantity
where MC=MR (a quantity of 2, in this
example)
• If they chose less, MR>MC so they could
get more money from selling one more than
it would cost to make one more.
• But they also get to choose the price
• They choose the highest price they can
charge in order to sell Q*

22. Profit Maximizing
P
$10 MC
8
6
4
2 MR D
0 1 2 3 4 5 Q

23. Profit Maximizing
• The price is found by looking to the
demand curve and finding the price people
are will to pay in order to buy the quantity
the firm wants to produce
• In the case of this example, this is a price of
about $6.50
• How do we show the profit in this case?

24. Profit Maximizing
P
$10 MC
8 ATC
AVC
6
4
2 MR D
0 1 2 3 4 5 Q

25. Profit Maximizing
P
$10 MC
8 ATC
p*
AVC
6
atc*
4
2 MR D
0 1 2 3 4 5 Q

26. Profit Maximizing
P
$10 MC
8 ATC
p*
AVC
6
atc*
Profit
4
2 MR D
0 1 2 3 4 5 Q

27. Shut Down Rules
• A monopolist faces the same short run shut
down rules as a perfectly competitive firm
for all of the same reasons
• As long as P>AVC, the firm is paying off
some fixed cost and should stay open in the
short run
• If P<AVC, the firm should shut down. Just
because the firm is a monopolist, does not
guarantee a profit.

28. A Monopolist Who Should Shut
Down
P ATC
$10 MC AVC
atc*
8
p*
6
4
2 MR D
0 1 2 3 4 5 Q

29. Profit Maximizing
• Q* - where MR = MC (profit
maximization)
• P* - highest P consumers are willing and
able to pay for Q*
• Demand curve at Q*
• In the Short-Run a Monopolist may
• Make Profits
• Break Even
• Operate at a Loss

30. Profit Maximizing
• Note that a Monopolist always Operates on
Elastic Portion of Demand Curve
• Profit Maximizing - MR = MC
• MC > 0 always
• MR > 0 when demand is elastic

31. Monopoly in the Long-Run
• If Losses in Short-Run
• Firm exits the Industry
• Industry Disappears
• If Profits or Break-Even in the Short-Run
• Profit may or may not persist in the long run

32. Benefits of Monopoly
• Natural Monopoly - a monopolist whose
ATC decreases over the relevant range of
output.
• Economies of Scale - monopolist can
produce at lower costs.

33. Why Monopoly Profits May
Persist
• Since there are barriers to entry, firms don’t
enter the industry and drive down prices

34. Why Monopoly Profits May Not
Persist
• When Selling The Firm
– If the firm is sold for the value of future profits,
the new owner of the monopoly will make zero
profits or certainly less profit
• Auctioning of the Monopoly Rights (Rent
Seeking)
– Ex. - If the govt. auctioned off the right to be
the monopolist, they price for this right would
eventually equal the expected profit

35. Benefits of Monopoly
• While Costs are lower, price can still be
relatively "high" since P > MC in
monopoly.
• Sometimes, Gov. regulates natural
monopolies to lower price.
• Ex: Utilities
• A Natural Monopoly is an industry where is
can be cheaper to let one firm provide the
good (because of econ. of scale, etc)

36. Natural Monopoly
P
ATC
MR D
Q

37. Natural Monopoly
P
MC
ATC
MR D
Q

38. Benefits of Monopoly
• Technological Innovations
• Incentive for monopoly profits gives firm an
incentive to innovate.

39. Costs of Monopoly
• To begin to understand the costs of
monopoly, we need to introduce another
concept
– Producer Surplus
• Producer Surplus - the revenue received by
the firm above the marginal cost

40. Producer Surplus
P
MC
p
Q
Q

41. Producer Surplus
P
MC
p
The Shaded
Area is the
Producer
Surplus
Q
Q

42. Comparison of Monopoly and
Perfect Competition
• We can compare Monopoly and Perfect
Competition by looking at the total amount
of social surplus (consumer surplus plus
producer surplus) generated by both and
then comparing them.

43. Monopoly vs Perfect Comp.
P
MC
MR
P
Monop
P perf comp
D
0 Q Monop Q
perf comp
Q

44. Monopoly vs Perfect Comp.
P
MC
MR
Total Surplus
P
Monop
for Perfect
P perf comp
Competition
D
0 Q Monop Q
perf comp
Q

45. Monopoly vs Perfect Comp.
P
MC
MR
P
Monop Total Surplus
P perf comp for Monopoly
D
0 Q Monop Q
perf comp
Q

46. Dead Weight Loss
• If we take the difference between the total
social surplus under perfect competition and
subtract the total surplus under monopoly
we find the dead weight loss
• This is the loss in surplus to consumers and
producers from having a monopoly

47. Monopoly vs Perfect Comp.
P
MC
MR
The area of this triangle
P
Monop is the dead weight loss
P perf comp
D
0 Q Monop Q
perf comp
Q

48. Disadvantages of Monopoly
• Inefficient Allocation of Resources
• Allocatively Inefficient (P > MC)
• Productively Inefficient (P not = min ATC)

49. Price Discriminating Monopolist
• A price discriminating monopolist is a
monopolist who can charge different prices
to different customers for the same good or
service.
• In order to be a price discriminator you
need
– at least 2 types of consumers with different
elasticities of demand
– to be able to distinguish between the types

50. Examples of Price
Discriminating Behavior
• Coupons
• Airline Tickets
• Dry Cleaning and Haircuts (?) (…think
gender)
The idea is that the monopolist charges a
higher price to the consumer with more
inelastic demand

51. Perfect Price Discrimination
• A Perfectly Price Discriminating
Monopolist is a monopolist who charges
everyone exactly what they are willing to
pay
• In other words, they work their way down
the demand curve, lowering the price only
to those who aren’t willing to pay the high
price, until P=MC
• Example - Auctions

52. Perfect Price Discrimination
Note that in this case there is no dead weight
loss AND the firm is allocatively efficient