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.
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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.
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
Barriers to Entry (Cont.)
• Patents and CopyrightsPatents - an exclusive right, granted by the
government, to market a product or process for a period of time.
Copyrights - an exclusive right, granted by the government, to publish, copy or sell a piece of music, art or literature.
• Other Legal RestrictionsExample:Turk Telekom, etc.
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
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
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
Monopoly and Total Revenue
Total Revenue
Demand
$
$
Q
Q
Elasticity = 1Elastic
Inelastic
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
Total Revenue and Total Cost
$
Q
TC
TR
Q*
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
D and MR
Qd P ($)0 101 82 63 44 25 0
D and MR
Qd P ($) TR ($)0 10 01 8 82 6 123 4 124 2 85 0 0
D and MR
Qd P ($) TR ($) MR ($)0 10 0 ---1 8 8 82 6 12 43 4 12 04 2 8 -45 0 0 -8
D and MR
P
Q5
$10
D
0 1 2 3 4
24
6
8
D and MR
P
Q5
$10
D
0 1 2 3 4
24
6
8
MR
Profit Maximizing
MCP
Q5
$10
D
0 1 2 3 4
24
6
8
MR
Profit Maximizing
MCP
Q5
$10
D
0 1 2 3 4
24
6
8
MR
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*
Profit Maximizing
MCP
Q5
$10
D
0 1 2 3 4
24
6
8
MR
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?
Profit Maximizing
MCP
Q5
$10
D
0 1 2 3 4
24
6
8
MR
ATC
AVC
Profit Maximizing
MCP
Q5
$10
D
0 1 2 3 4
24
6
8
MR
ATC
AVCatc*
p*
Profit Maximizing
MCP
Q5
$10
D
0 1 2 3 4
24
6
8
MR
ATC
AVCatc*
p*
Profit
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.
A Monopolist Who Should Shut Down
MCP
Q5
$10
D
0 1 2 3 4
24
6
8
MR
ATC
AVCatc*
p*
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
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
Benefits of Monopoly
• Technological Innovations• Incentive for monopoly profits gives firm an
incentive to innovate.
Costs of Monopoly
• To begin to understand the costs of monopoly, we need to introduce another conceptProducer Surplus
• Producer Surplus - the revenue received by the firm above the marginal cost
Producer SurplusP
Q
MCp
Q
Producer Surplus
P
Q
MCp
Q
The Shaded Area is the Producer Surplus
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.
Monopoly vs Perfect Comp.
P
Q
D
0
MR
MC
QMonop
PMonop
Qperf comp
Pperf comp
Monopoly vs Perfect Comp.
P
Q
D
0
MR
MC
QMonop
PMonop
Qperf comp
Pperf comp
Total Surplusfor PerfectCompetition
Monopoly vs Perfect Comp.
P
Q
D
0
MR
MC
QMonop
PMonop
Qperf comp
Pperf comp
Total Surplusfor Monopoly
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
Monopoly vs Perfect Comp.
P
Q
D
0
MR
MC
QMonop
PMonop
Qperf comp
Pperf comp
The area of this triangleis the dead weight loss
Disadvantages of Monopoly
• Inefficient Allocation of Resources• Allocatively Inefficient (P > MC)• Productively Inefficient (P not = min ATC)
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