| 1. |
Pure monopoly is a market
structure in which a single firm sells a product for which there are no close substitutes.
These characteristics make the monpoly firm a price maker rather than a price taker
as
was the case for the purely competitive firm. Entry into the industry is blocked
and
there can be nonprice competition through advertising to influence the demand for the
product.
- Examples of monopolies typically include
regulated public utilities such as firms providing electricity
natural gas
local
telephone service
and cable television
but they can also be unregulated
such as the De
Beers diamond syndicate.
- While monopoly is relatively rare
it is still
important because monopoly firms account for about 5 — 6 percent of domestic output
and it is useful for understanding the economic effects of other market structures –
oligopoly and monopolistic competition – where there is some degree of monopoly
power.
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| 2. |
Pure monopoly (and oligopoly) can exist in the
long run only if potential competitors find there are barriers which prevent their entry
into the industry.
- Four barriers that can prevent or restrict entry
into an industry are
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- economies of scale
which makes one large firm
the lowest cost producer instead of having many small competitive firms;
- legal restrictions through patents and licenses
that give a firm exclusive right over the sale of a product;
- the ownership or control of essential resources;
and
- pricing and other strategic practices
such as
price cuts
advertising campaigns
and producing excess capacity
all of which can deter
entry.
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- Entry barriers are seldom perfect in preventing
the entry of new firms
and efficient production may
in some cases
require that firms be
prevented from entering an industry.
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| 3. |
The demand curve of the pure monopolist is
downsloping because the monopolist is the industry. By contrast
the purely competitive
firm has a horizontal (perfectly price elastic) demand curve because it is only one of
many small firms in an industry. There are several implications of the downsloping shape
of the monopolist’s demand curve.
- The monopolist can increase sales only by
lowering product price; thus price will exceed marginal revenue for every unit of output
but the first.
- The monopolist will have a pricing policy
or is
a price maker; the purely competitive firm has no price policy and is a price taker.
- The monopolist will avoid setting price in the
inelastic segment of its demand curve because total revenue will be decreasing and
marginal revenue will be negative; price will be set in the elastic portion of the demand
curve.
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| 4. |
The output and price determination of the
profit-maximizing pure monopolist entails several considerations.
- Monopoly power in the sale of a product does not
necessarily affect the prices that the monopolist pays for resources or the costs of
production; an assumption is made in this chapter that the monopolist hires resources in a
competitive market and uses the same technology as competitive firms.
- The monopolist produces that output at which
marginal cost and marginal revenue are equal and charges a price at which this
profit-maximizing output can be sold.
- The monopolist has no supply curve because there
is no unique relationship between price and quantity supplied; price and quantity supplied
will change when demand and marginal revenue change. By contrast
a purely competitive
firm has a supply curve that is the portion of the marginal cost curve above average
variable cost
and there is a unique relationship between price and quantity supplied.
- Two popular misconceptions about monopolists are
that they charge as high a price as is possible and that they seek maximum profit per unit
of output.
- The monopolist is not guaranteed a profit and can
experience losses because of weak demand for a product or high costs of production.
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| 5. |
Pure monopoly has significant economic effects
on the economy when compared to outcomes that would be produced in a purely competitive
market.
- The pure monopolist charges a higher price and
produces less output than would be produced by a purely competitive industry. Pure
monopoly is neither productively efficient because price is greater than the minimum of
average cost
nor is it allocatively efficient because price is greater than marginal
cost.
- Monopoly contributes to income inequality in the
economy.
- A monopolist may have lower or higher average
costs than a pure competitor producing the same product would have.
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- If there are economies of scale in the production
of the product
the monopolist is able to produce the good or service at a lower long-run
average cost than a large number of small pure competitors could produce it.
- If a monopolist is more susceptible to
X-inefficiency than a purely competitive firm
its long-run average costs at every level
of output are higher than what those of a purely competitive firm would be.
- Rent-seeking expenditures in the form of legal
fees
lobbying
and public-relations expenses to obtain or maintain a monopoly position
add nothing to output
but increase costs.
- The monopoly market structure is not likely to be
technologically progressive because there is little incentive for the monopolist to
produce a new and more advanced product. The threat of potential competition
however
may
stimulate more research and technological advances than would typically be the case
but
it is often designed to restrict entry and maintain the monopoly position.
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- The policy options for dealing with the economic
inefficiency of monopoly include the use of antitrust laws and the breakup of firms
the
regulation of price
output
and profits of the monopolist
and ignoring the monopoly
because its position is short lived.
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| 6. |
To increase profits a pure monopolist may
engage in price discrimination by charging different prices to different buyers of the
same product (when the price differences do not represent differences in the costs of
producing the product).
- To discriminate
the seller must have some
monopoly power
be capable of separating buyers into groups which have different price
elasticities of demand
and be able to prevent the resale of the product from one group to
another group.
- The seller charges each group the highest price
that group would be willing to pay for the product rather than go without it.
Discrimination increases not only the profits but also the output of the monopolist.
- Price discrimination is common in the U.S.
economy.
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| 7. |
The prices charged by monopolists are often
regulated by governments to reduce the misallocation of resources.
- A ceiling price determined by the intersection of
the marginal-cost and demand schedules is the socially optimum price and improves the
allocation of resources.
- This ceiling may force the firm to produce at a
loss
and therefore government may set the ceiling at a level determined by the
intersection of the average cost and demand schedules to allow the monopolist a fair
return.
- The dilemma of regulation is that the socially
optimum price may cause losses for the monopolist
and a fair-return price results in a
less efficient allocation of resources.
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