Pure
Monopoly
Mr. Bammel
Characteristics
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Single firm is the sole producer
The product sold is unique and therefore has
no close substitutes;
Control over total quantity supplied and thus
is a “price maker”
Blocked entry due to economic,
technological, legal, or some other barrier;
Nonprice Competition, using other aspects of
the product besides price to drive in the
buyers;
Examples of Monopolies
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Majority are government-regulated public
utilities – natural gas, electric, water, cable TV,
local telephone, etc.
Some companies are “near-monopolies” in
which one firm controls the bulk of sales;
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Wham-O (throwing disks)
De Beers (rough-cut diamonds)
*either way, there is almost always some
competition.
Barriers to Entry
 Factors
in the industry which block all
potential competition; in a Pure
Monopoly, there is complete blocked
entry;
 Four prominent barriers:
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Economies of Scale
Legal Barriers to Entry
Ownership or Control of Essential Resources
Pricing and other Strategic Barriers to Entry
Economies of Scale
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Reminder: As plant size increases, a number of
factors will for a time lead to lower average costs of
production;
When dealing with a monopoly, when the long-run
ATC is declining, only a single producer can produce
any particular output at minimum total cost;
If a small industry tries to enter the market, because
of economies of scale of the large industry, the small
industry will be undercut because the larger industry
can produce at a lower cost and therefore a lower
price; the small industry still must charge a higher
price to make a profit;
Economies of Scale
A smaller firm entering
the industry does not
experience the
economies of scale
based off the output
they produce; they
must charge a higher
price to make a profit;
A larger firm can produce a
larger output at a lower cost
and therefore make a profit on
a lower price;
Legal Barriers to Entry
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Patents: exclusive right of an inventor to use,
or to allow another to use, his or her invention;
Government seeks to protect the inventor
from rivals who mean to take their design and
make a profit;
Self sustaining patents is when a firm uses their
own patent to continue to further strengthen
the patent through more research and gain a
market position;
Ownership or Control of
Essential Resources
 Use
private property as an obstacle to
potential rivals;
 Owning a resource essential in the
production of a product and not allowing
rivals to purchase that resource;
Pricing and Other Strategic
Barriers to Entry
 Monopolist
creating their own barriers:
reducing the price, increasing advertising,
etc.
 Monopolist can be very creative in the
barrier process;
Monopoly Demand
 Since
the pure monopolist is the industry,
its demand curve will also represent the
market demand curve; and is Downsloping;
 B/C of the down-sloping line, the
monopolist can only increase the
sales/output by decreasing the price; so
this means that for every price, except the
first, Marginal Revenue will be below the
Demand curve;
Marginal Revenue below Price
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The lower price successively charged will now
apply to all prior units sold;
So you lose money in the price but you gain
money in the total output produced with the new
price;
Each new unit sold increases total revenue by an
amount equal to its own price less the sum of the
price cuts that apply to all prior units of output;
Thus, MR < P at every possible unit except the first;
While TR increases, MR is positive;
While TR decreases, MR is negative;
The Monopolist is the Price
Maker
 Firms
with a down-sloping line are price
makers; most evident in a pure monopoly;
 So when a monopolist determines output
to produce, they determine the price as
well based off the demand line;
Setting price at the Elastic
Region of Demand
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TR test
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when demand is elastic, a decrease in price will
increase TR;
When demand is inelastic, a decrease in price
will decrease TR;
*a monopolist will never choose a price-quantity
combination where a price reduction will cause a
loss in TR;
The lower TR and Higher Cost of increase output
will lead monopolist to produce in the elastic
region;
Profit Maximization of Pure
Monopoly
Maximize Total Profits
 Same
rationale as a profit seeking
competitive industry: MR = MC;
 The price charged will be the price on the
demand line matching up with the
quantity of MR = MC;
 Note: can still also use the Total Revenue
vs Total Cost approach.
Pure Monopolist is without a
Supply Curve
 No
unique relationship of price and
quantity supplied because a monopolist
merely finds the profit maximizing price;
 The profits are dependent on the quantity
demanded/price associated with the
output of the point where MR = MC;
Misconceptions of Monopoly
 Not
Highest Price: finding highest profits;
 Total, Not Unit, Profit: max total profits, not
max unit profits; the extra units sold at
lower price may generate a higher total
profit than the high unit profit;
Partner up: Without using the
Textbook
 Draw
what a loss minimizing position
would look like on a graph.
 If a monopolist was in profit maximizing
position, what would be the factors that
could bring the monopolist into a loss?
Reminder of Pure Competition
Efficiency
 In
Monopoly, does society achieve
productive and allocative efficiency?
 Why not? Reminder:
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Productive efficiency is P = Minimum ATC
Allocative efficiency is P = MC
Deadweight Loss
 Because
of the efficiency loss of a
monopoly, some units that should have
been produced are not and the
resources are directed elsewhere;
 The total dollar value of the efficiency
loss/deadweight loss is equal to the dollar
value of the triangle created by demand,
MC and MR;
Efficiency Loss of Monopoly
Income Transfer
 Basically
a monopolist levies a “private
tax” on the consumer, which then ends
up in the hands of the owners of the
monopoly;
 Income transferred is equal to the
difference between price equilibrium and
price charged by a monopolist multiplied
by the units sold;
Cost Complications
 There
are 4 reasons why cost may be
larger or smaller than pure competition:
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Economies of Scale
X-Inefficiency
Rent-Seeking Expenditures
Technological Advancement
Examining Cost
 Get
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back with a partner:
One of you read about economies of scale
and Technological Advancement
The Second needs to read about XInefficiency and Rent-Seeking Expenditures
Talk with each other and help fill in the notes
for each of the 4 cost complications for a
Monopoly.
Price Discrimination
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The practice of selling a specific product at
more than one price when the price
differences are not justified by cost
differences;
Possible under three conditions:
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Monopoly power: ability to control price and
output;
Market Segregation: ability to segregate buyers
into distinct classes;
No Resale: unable to resale item if part of class
buying for lower price;
Regulated Monopoly
 Being
subject to rate (price) regulation;
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Partner 1: read and interpret the graph
associated with Price Discrimination on page
479. Be sure to understand how more profits
and production is displayed and created
through price discrimination;
Partner 2: Read and interpret the graph
associated with a regulated monopoly on
page 480. Be sure to understand the
differences between a “socially optimal
price” and a “fair-return price.” How will each
of these appear graphically?