Characteristics
Monopoly
The word MONOPOLY is derived from the Greek words MONOS = alone one seller POLEIN = to sell
Single seller of product with no close substitutes High barriers to entry firm has entire market to itself firm and market are same thing
Examples: Australia Post as stamp seller The only casino in a capital city (Star City in Sydney)
Barriers to Entry
= factors that restrict/discourage entry of firms to a market and prevent new firms competing on an equal basis with the existing firm Barriers include:
Legal barriers = laws licenses patents laws, licenses, Technological barriers = sole access to best production techniques Control of essential raw materials Natural barriers via economies of scale cost advantage over potential entrants prohibitive set-up costs for potential entrants
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Revenue Conditions
Since monopoly firm is the only producer of the product firms D curve is the market D Curve negatively sloped D curve via Law of Demand emand Suppose the data in the table applies to a monopoly firm..
P = AR $ Q TR =PxQ MR = TR/ Q
11 10 9 8
0 1 2 3
0 10 18 24
4
10 8 6
Revenue Conditions
$
12 10 8 6
Output and Pricing Decisions
max/loss min output level is determined by same rule as firm in perfect competition set MC = MR Q* 0 provided P > AVC (otherwise set Q = 0)
D = AR
4
-2
MR
-4
-6 0 1 2 3 4 5 6 7 8
Can see that firms D curve is not the same as its MR curve. Rather, firms MR curve lies below the D curve and MR is twice as steep as D curve. p
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What about price? Unlike Perfect Competition firm monopoly is firm, able to set/choose the price that it will charge.
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Output and Pricing Decisions
Price (P*) is the price that allows firm to sell its max/loss min output (Q*)
P MC P*
Profitability in the SR
SR profitability is not specified in the Monopoly model 3 possibilities (as in Perfect Comp.) TR > TC supernormal (above normal) profit l) fit 2. TR = TC normal profit 3. TR < TC loss
1.
7 8
With Q = Q* consumers would be willing and able to pay P*
MR 0 Q*
D Q
Above Normal Profit (TR > TC)
P MC ATC P P* A = above normal profit (P*ABC) = TR (0P*AQ*) ( ) = TC (0CBQ*)
Normal Profit (TR = TC)
P MC ATC
P P*
= TR (0P*AQ*) = TC (0P*AQ*)
MR 0 Q*
D Q
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MR 0 Q*
D Q
10
Loss (TR < TC)
P MC C P P* B A = TR (0P AQ ) (0P*AQ*) = TC (0CBQ*) = loss (P*ABC) MR 0 Q* D Q
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Profitability in the SR
ATC
Whether firm makes profit or loss at Q* output Q level depends on firms ATC and AR (=P*). If making a loss in SR decision about whether to remain in production is the same as for Perfect Competition: C titi if P < AVC, then SHUTDOWN, Q = 0, and loss is restricted to just TFC. If P > AVC, stay in production, Q > 0 and AVC d 0, d loss = <TFC
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Profitability in the LR
Due to existence of barriers to entry a monopoly can continue to earn above normal p profits in the LR. Potential competitors unable to enter market and compete away excess returns returns. So in the LR can be making either above normal profits or normal profit. fi l fi Losses are unacceptable in the LR. p If making a loss will shutdown in LR.
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Lack of Supply Curve
In monopoly there is no supply curve curve. demand shift of firms MR curve new MC = MR point BUT one price can be associated with 2 quantities OR one quantity can be associated with 2 p prices
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Common Misconceptions
1.
Common Misconceptions
2.
The Th monopoly l charges the highest i hi h t price possible.
At all P P* lower or higher loss
MC
Monopoly firm P M l fi attempts to maximise per-unit i i i profit. In fact, whilst monopoly is p y assumed to maximise profit, it is total profit.
Max of total
Q*
Max of per-unit Q1 (where difference between P and ATC is greatest) MC
P* In fact, monopoly charges the price g p that is associated with the max/loss min output level (Q*). 0
ATC
MR Q Q*
D Q
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MR Q1 Q*
D Q
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Common Misconceptions
3. 3
Common Misconceptions
4. 4
The monopoly firm is always profitable. In fact, there is no theoretical or p empirical foundation to this belief. Profitability is not specified in the SR or the LR LR.
The monopoly firm has an inelastic demand curve via its sole supplier status. In fact, since the D curve is subject to law of fact demand elasticity varies along the length of the D curve Furthermore, max/loss min firm will only set y price in the elastic section of D curve. p With positive MC = MR, Q* and P* will be in the elastic section of D curve.
Remember Sydneys Cross City Tunnel fiasco
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Monopoly: Applications p y pp
Price Discrimination
First-degree price discrimination Second-degree price discrimination Third-degree price discrimination g p
Monopoly
Movie ticket prices as an example of third-degree price discrimination
Three conditions are required to make this type of pricing feasible
The different groups of consumers must be separable and identifiably different The different groups must have different demand elasticities The tickets must not be able to be resold
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Comparing Monopoly and Perfect Competition
Does monopoly cause a misallocation of resources? Need to compare LR outcome of Monopoly and Perfect Competition Perfect Competition: in LR MR = MC = P = ATC no supernormal profit What about Monopoly ????
Comparing Monopoly and Perfect Competition
P MC P* PPC P = MC
MR 0 Q* QPC
D Q
P > MR always, and so P > MC always Consumers always pay a higher price under Monopoly and a lower output is produced, compared to Perfect Competition
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Comparing Monopoly and Perfect Competition
Because of barriers to entry a Monopoly can continue to earn supernormal profit in the LR this y p g means are not necessarily operating at min of ATC So M S Monopoly does not produce the max l d t d th output at least cost, output is restricted to max profit
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Comparing Monopoly and Perfect Competition
Counter claims Innovation and technological change Economists such as Joseph Schumpeter have argued that Monopoly does benefit the community Inefficiency of production in Monopoly is compensated for by greater development and implementation of t h l i l change and i l t ti f technological h d innovation (e.g. new commodities, new ways of organising production)
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