1. McGraw-Hill/Irwin Copyright © 2009 by The McGraw-Hill Companies, Inc. All rights reserved. Pure Monopoly Chapter 10

2. Chapter Objectives Characteristics of pure monopoly Profit-maximizing output and price Economic effects of monopoly Charging different prices in different markets 10-2

3. Characteristics of Monopoly Single seller No close substitutes Price maker Blocked entry Nonprice competition 10-3

4. Examples of Monopoly Regulated or natural monopolies –electricity Near monopolies –Western Union –Frisbee –De Beers Geographic monopolies –Professional sport teams Dual objectives of study 10-4

5. Barriers to Entry Economies of scale Legal barriers to entry –Patents –Licenses Ownership or control of essential resources Pricing and other strategic barriers to entry 10-5

6. Monopoly Demand Assumptions: –Monopoly status is secure –No government regulation –Single-price monopolist Face down-sloping demand –Entire market demand 10-6

7. 0 123456 $142 132 122 112 102 92 82 Price and Marginal Revenue Marginal revenue is less than price D A monopolist is selling 3 units at $142 To sell 4, price must be lowered to $132 All customers must pay the same price TR increases $132 minus $30 (3x$10) Gain = $132 Loss = $30 10-7

8. 0 123456 $142 132 122 112 102 92 82 D A monopolist is selling 3 units at $142 To sell 4, price must be lowered to $132 All customers must pay the same price TR increases $132 minus $30 (3x$10) $102 becomes a point on the MR curve Try other prices to determine other MR points Gain = $132 Loss = $30 The Constructed Marginal Revenue Curve Must Always Be Less Than the Price MR Price and Marginal Revenue Marginal revenue is less than price 10-8

9. Down-Sloping Demand Marginal revenue < price –To increase sales, must lower price Firm is a price maker –Choose P,Q combination Operate in the elastic region –Marginal revenue > 0 –Total-revenue test (recall) 10-9

10. Profit Maximization Output-price determination –Marginal revenue marginal cost rule –Same cost definitions No supply curve 10-10

11. Monopoly Revenue and Costs (1) Quantity Of Output (2) Price (Average Revenue) (3) Total Revenue (1) X (2) (4) Marginal Revenue (5) Average Total Cost (6) Total Cost (1) X (5) (7) Marginal Cost (8) Profit (+) or Loss (-) 0 1 2 3 4 5 6 7 8 9 10 $172 162 152 142 132 122 112 102 92 82 72 $0 162 304 426 528 610 672 714 736 738 720 $162 142 122 102 82 62 42 22 2 -18 $190.00 135.00 113.33 100.00 94.00 91.67 91.43 93.75 97.78 103.00 $100 190 270 340 400 470 550 640 750 880 1030 $90 80 70 60 70 80 90 110 130 150 $-100 -28 +34 +86 +128 +140 +122 +74 -14 -142 -310 Revenue Data Cost Data ] ] ] ] ] ] ] ] ] ] ] ] ] ] ] ] ] ] ] ] Can you See Profit Maximization? 10-11

12. $200 150 100 50 0 $750 500 250 0 24681012141618 24681012141618 Price Total Revenue Monopoly Revenue and Costs ElasticInelastic Demand and Marginal-Revenue Curves Total-Revenue Curve D MR TR 10-12

13. Profit Maximization 0 $200 175 150 125 25 100 75 50 Price, Costs, and Revenue 12345678910 Quantity D MR ATC MC MR=MC P m =$122 A=$94 Economic Profit 10-13

14. Misconceptions Not the highest price Total, not unit, profit Possibility of losses 10-14

15. Loss Minimization 0 Price, Costs, and Revenue Quantity D MR ATC MC MR=MC Loss AVC PmPm QmQm V A 10-15

16. Economic Effects Purely Competitive Market Pure Monopoly D D S=MC MC P=MC= Minimum ATC MR PcPc QcQc PcPc PmPm QcQc QmQm Pure competition is efficient Monopoly is inefficient a b c 10-16

17. Pure competition is efficient –Productive efficiency –Allocative efficiency –CS+PS maximized Monopoly is inefficient –Charge P>MC –Deadweight loss Income transfer Economic Effects 10-17

18. Cost Complications Economies of scale –Simultaneous consumption –Network effects X-inefficiency –Lowest ATC not achieved Rent seeking behavior Technological advance –More likely with monopoly? 10-18

19. Policy Options Use antitrust laws –Divide the firm Natural monopoly –Regulate price Ignore –Unstable in long run 10-19

20. Price Discrimination Three forms –Charge each customer max willingness to pay –Charge one price for first unit and a lower price for subsequent units –Charge different customers different prices 10-20

21. Conditions –Monopoly power –Market segregation –No resale Examples –Airfares –Electric utilities –Theaters & golf courses Price Discrimination 10-21

22. Regulated Monopoly Natural monopolies Rate regulation Socially optimum price P = MC Fair return price P = ATC 10-22

23. 0 Price and Costs (Dollars) Quantity Dilemma of Regulation Monopoly Price Fair-Return Price Socially Optimal Price PrPr D r f b a PfPf PmPm QmQm QfQf QrQr MR MC ATC Regulated Monopoly 10-23

24. De Beers Diamonds 66 years of monopoly pricing –Independent producers went along Mid-2000 abandoned monopoly –New discoveries –Independent producers withdrew –Political considerations New strategy –The diamond supplier of choice 10-24

25. Key Terms pure monopoly barriers to entry simultaneous consumption network effects X-inefficiency rent-seeking behavior price discrimination socially optimal price fair-return price 10-25

26. Next Chapter Preview… Monopolistic Competition and Oligopoly 10-26