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Chapter 7 Monopoly, after reading this chapter, you should be able to: Define what a monopoly is, explain why price exceeds marginal revenue in monopoly, describe how a monopoly sets output and price, illustrate how monopoly and competitive outcomes differ, discuss the pros and cons of monopoly structures.
Chapter7 Monopoly Copyrightâ2014McGrawưHillEducation.Allrightsreserved.NoreproductionordistributionwithoutthepriorwrittenconsentofMcGrawưHillEducation MonopolyStructure: Monopoly A monopoly is one firm that produces the entire market supply of a particular good or service • Because there is only one firm in a monopoly industry, the firm is the industry 72 Monopoly = Industry • In a monopoly structure, the firm’s demand curve is identical to the market demand curve for the product 73 Price versus Marginal Revenue • Marginal revenue (MR) is the change in total revenue that results from a oneunit increase in quantity sold • Price equals marginal revenue only for perfectly competitive firms • Marginal revenue is always less than price for a monopolist 74 Price versus Marginal Revenue • A monopolist can sell additional output only if it reduces prices • The MR curve lies below the demand curve at every point but the first 75 Figure 7.1 76 Profit Maximization • A monopolist: – Makes pricing decisions that perfectly competitive firms cannot make – Uses the profit-maximization rule to determine its rate of output – Maximizes profit at the rate of output where MR = MC 77 Profit Maximization • The profit maximization rule applies to all firms: – A perfectly competitive firm produces the quantity where MC = MR (= p) – A monopolist produces the quantity where MC = MR (< p), as all imperfectly competitive firms 78 Figure 7.2 79 The Monopoly Price • The intersection of the marginal revenue and marginal cost curves establishes the profit-maximizing rate of output • The demand curve tells us the highest price consumers are willing to pay for that specific quantity of output • Only one price is compatible with the profit-maximizing rate of output 710 Monopoly Profits • Total profit equals profit per unit times the number of units produced • Profit per unit = price minus average total cost: Profit per unit = p – ATC • Total profit = profit per unit times quantity: Total profit = (p – ATC) x q 711 Figure 7.3 • A monopolist produces less and charges a higher price than a competitive industry • A competitive industry produces units and sells at $9, while a monopolist produces units and sells at $10 712 Barriers to Entry • Obstacles that make it difficult or impossible for would-be producers to enter a particular market • Examples include patents, legal harassment, exclusive licensing, bundled products, and government franchises 713 Competition versus Monopoly • In competition, as well as in monopoly, high prices and profits signal consumers’ demand for more output • In competition, the high profits attract new suppliers • In monopoly, barriers to entry are erected to exclude potential competition 714 Competition versus Monopoly • In competition, production and supplies expand, and prices slide down the market demand curve • In monopoly, production and supplies are constrained, and prices don’t move down the market demand curve 715 Competition versus Monopoly • In competition, a new equilibrium is established, and average costs of production approach their minimum • In monopoly, no new equilibrium is established, and average costs are not necessarily at or near a minimum 716 Competition versus Monopoly • In competition, economic profits approach zero, and price equals marginal cost throughout the process • In monopoly, economic profits are at a maximum, and price exceeds marginal cost at all times 717 Competition versus Monopoly • In competition, the profit squeeze pressures firms to reduce costs or improve product quality • In monopoly, there is no profit squeeze to pressure the firm to reduce costs or improve product quality 718 Near Monopolies • In duopoly, two firms together produce the industry output • In oligopoly, several firms dominate the market • In monopolistic competition, many firms each have a monopoly on their own brand image but must still contend with competing brands 719 Natural Monopoly • A natural monopoly is an industry in which one firm can achieve economies of scale over the entire range of market supply – Examples include local telephone, cable, and utility services – Having two or more firms produce will require excessive duplication of production and distribution equipment 720 How Does the Monopolist Answer the Questions? • WHAT? – Less is produced and it is sold at higher prices • HOW? – There is no need to upgrade quality due to no competition • FOR WHOM? – Fewer customers can afford the product; producer will make greater profits 721 Contestable Markets • A contestable market is an imperfectly competitive industry subject to potential entry if prices or profits increase • How contestable a market is depends not so much on its structure as it does on its barriers to entry 722 ... quantity of output • Only one price is compatible with the profit-maximizing rate of output 7 10 Monopoly Profits • Total profit equals profit per unit times the number of units produced • Profit... imperfectly competitive firms 7 8 Figure 7. 2 7 9 The Monopoly Price • The intersection of the marginal revenue and marginal cost curves establishes the profit-maximizing rate of output • The demand... unit = price minus average total cost: Profit per unit = p – ATC • Total profit = profit per unit times quantity: Total profit = (p – ATC) x q 7 11 Figure 7. 3 • A monopolist produces less and charges