1. MONOPOLY

2. Monopoly Recall characteristics of a perfectly competitive market: –many buyers and sellers –market participants are “price takers” –economic profit = 0 in long run None None of these features are present in a monopoly market

3. Monopoly Word means “one seller” – the opposite of competition (and no close substitutes) A monopolist can “set” market price: –A monopolist is a price setter NOT a price taker Unlike firms in a perfectly competitive market, a monopolist can earn profits in the long-run

4. Monopoly Conditions BARRIERS TO ENTRY: means of eliminating or discouraging competition, allowing firm to operate as monopoly All monopolies are protected by some kind of barrier to entry. Main sources: Ownership of key resource –DeBeers diamond cartel Government grants exclusive rights to market –Patents and copyrights Cost of production such that single producer more efficient than many producers –Natural monopolies

5. “Economies of Scale” and Natural Monopoly Quantity ATC Q0Q0 ATC 0 q 1 = q 2 ATC 1 ECONOMIES OF SCALE: falling long-run Average Total Cost (ATC) as output increases. When a firm’s ATC curve continually declines the firm is a natural monopoly. If production is divided among two firms (Firm 1 and Firm 2 below), each firm must produce less and ATC rises. Thus, it is more efficient to have a single firm. Price

6. Pricing and Output Decisions of a Firm in a Perfectly Competitive Market A competitive firm is small relative to the market and takes the price of its output as given. –Because a competitive firm sells a product with many perfect substitutes, it faces a perfectly elastic (horizontal) demand curve. –If a competitive firm tries to sell its product at a price higher than the market price, demand falls to zero. –For a competitive firm, MR=AR=P

7. Demand Curve Facing a Firm in a Perfectly Competitive Market Competitive Firms are Price Takers and Face a Horizontal Demand Curve: q P P 0 = MR MC q0q0

8. Pricing and Output Decisions of Monopolists A monopolist is the only firm in the market and therefore can alter the price of its good by altering output. –Because a monopolists makes up the entire market, it faces a downward sloping (market) demand curve. –Because the demand curve for its product is downward sloping, when a monopolist raises output by one unit, price will fall. –As a result, for a monopolist, marginal revenue is less than price.

9. Total and Marginal Revenue of a Monopolist Thingamajigs Are Us is a monopolist that controls the market for thingamajigs (are really cool product)

10. Quantity Price D MR Demand and Marginal Revenue Curves for a Monopolist

11. Profit Maximizing Monopoly Basic profit maximization condition the same as with competitive firms: MR = MC But now MR  Price… …MR < Price.

12. Q P D MR MC QMQM PMPM A monopolist maximizes profits where MR=MC. Note that at Q *, price is greater than MR.

13. Q P D MR MC QMQM PMPM ATC Monopoly Profit A Monopolist’s Profits ATC

14. Monopoly: Welfare Analysis Monopolist charges P > MC (and P > ATC) Monopoly profits can be earned in long run, because no entry by competitors FIRM’SMonopoly clearly a better outcome than competition from FIRM’S point of view… SOCIAL WELFARE … but what about SOCIAL WELFARE?

15. Market Efficiency Efficiency is the property of a resource allocation of maximizing the total surplus received by all members of society. –If an allocation of resources is efficient it is impossible to make anyone better off without making someone else worse off Major Point: The equilibrium in a competitive market maximizes the total welfare of buyers and sellers.

16. Quantity Price Demand Supply Q1Q1 P1P1 Q2Q2 A B A = loss in consumer surplus from under production. Why A Competitive Equilibrium is Efficient B = loss in producer surplus from under production.

17. Quantity P D MR MC QMQM PMPM Monopoly Deadweight Loss (Competitive Supply) QCQC

18. Public Policy Toward Monopoly Monopoly is bad for consumers –Price is higher than with competition –Quantity supplied is lower than with competition Monopoly is inefficient from society’s standpoint –Deadweight loss –Monopolist’s market power is a source of “market failure” So what, if anything, should government do about it?

19. Public Policy I: Anti-Trust Law Sherman Anti-Trust Act (1890) Clayton Act (1917) These acts of congress, as interpreted since by the courts, give power to US Federal Government to promote competition by: –approving mergers –breaking up dominant firms –Imposing fines for “price-fixing”, other collusion

20. Public Policy II: Regulated Natural Monopolies With natural monopoly, one firm can produce output at minimum cost (good) Unregulated, a natural monopolist will charge an inefficiently high price (bad) Compromise: “Average Cost Pricing”, or “Rate of Return Regulation” –Allow firm to charge P = ATC, where ATC includes a set return on capital invested –Traditional form of regulation of public utilities (SDG&E)

21. Q P D MR MC QMQM PRPR ATC PMPM QRQR Unregulated Monopoly Profit