MONOPOLY EQUILIBRIUM Definition Of Monopoly:

The word monopoly is taken from Greek words monos mean one and polein means to sell. Monopoly is defined as the situation in which one and only one company produces and/or sells a particular product or service. It is a market condition in which a single seller controls the entire output of a particular good or service. Or we can say: A situation in which a single company or group owns all or nearly all of the market for a given type of product or service. By definition, monopoly is characterized by an absence of competition - which often results in high prices and inferior products. Monopoly is a market structure which is at opposite extreme from perfect competition. We see that a monopoly firm produces less, charge a higher price, and earn greater profits than do firms operating under perfect competition. Monopoly charges a single price for its product.

Characteristics of Monopoly:
The main characteristics of monopoly are as follows: Single Seller: For a pure monopoly to take place, only one company can be selling the good. No close substitutes: Monopoly is not merely the state of having a unique or recognizable product, but also that there are no close substitutes available Price maker: Because a single firm controls the total supply in a pure monopoly, it is able to exert a significant degree of control over the price by changing the quantity supplied. Blocked entry: A pure monopolist has no immediate competitors because certain barriers keep potential competitors from entering the industry. Those barriers may be economic, technological, legal, or of some, other type. But entry is totally blocked in pure monopoly. Non price competition: The product produced by a pure monopolist may be either standardized (as with natural gas and electricity) or differentiated. Monopolies that have standardized products engage mainly in public relations

advertising, whereas those with differentiated products sometimes advertise their products attributes.

Curves Under Monopoly:

The curves under monoply are different from the perfect competition. As the monopoly is the sole producer of the product that it sells, its demand curve is identical with the market demand curve for that product. The market demand curve, which shows the total quantity that buyers will purchase at each price, also shows the quantity that the monoppoly firm will be able to sell at each price. Thus the monopoly firms , faces a negatively sloped demand curve. This means that it faces a trade-off between the price it changes and the quantity it sells. Sales can be increased only if price is reduced, and price can be increased only if sales are reduced. When the monopoly firm charges the same price for all units sold, average revenue per unit is identical with price. Thus, the market demand curve is also the firms average revenue curve. While in perfect competiton, AR=MR=P=D having same horizontal curve parallel to xaxis. The demand (i.e. average revenue) curve facing the monopolist will be downward sloping, implying that more can be sold at a lower price. Thus the MR curve is downward sloping. The U-shaped short-run cost curves are a consequence of the law of diminishing returns. Because this law applies to the conditions under which goods are produced rather than to the market structure in which they are sold, monopoly firms have U-shaped short-run cost curves just as perfectly competitive firms do. The marginal revenue is always less than the avrage revenue. The slope of marginal is double the slope of average revenue.

Equilibrium Of Firm:
The main objective of every firm is to attain maximum profit. So it always tries to produce that much quantity of output at which total profit is maximum. This position of the firm is called equlibrium.

Equilbrium Under Monopoly:

To achieve equilbrium under monopoly, the firm has to compare the marginal cost production and the marginal revenue. If cost of producing an additional unit of output (MC) is less than the additional expected income (MR), the firm will increase production. It will adjust production at a level where the following two conditions must be fulfilled: i. MR=MC ii. MC curve cuts MR curve below. (i.e. Slope of MC> Slope of MR)

Equilibrium Of Monopoly Under Short Run:

During the short run, the monopoly bears profits as well as loss like in the perfect competition. But it always earns abnormal profit as the monopoly is the price-maker. A pure monopolist is the sole supplier in an industry and, as a result, the monopolist can take the market demand curve as its own demand curve. The firm is a price maker and has some power over the setting of price or output. It cannot, however, charge a price that the consumers in the market will not bear. So the firm will bear some losses too.

Case-I

Abnormal Profit

It is much easier for a monopolist to make large profits through profit maximizing behavior than it is for a firm in a highly competitive industry. The reason is that the former has much greater flexibility in setting prices than does the latter, which has little if any control over prices. However, the monopolist has this flexibility because there is little or no direct competition to force the price down close to the cost of production.

Graphical Representation:

Explanation:
On x-axis we are measuring output (Q) and on y-axis we are measuring revenues, costs and price. The revenue curves of monopoly are down ward sloping as it is shown above. Equilibrium takes place where MC=MR. but as it shown in the graph that AC is less than AR curve which implies that the firm is having much more revenues than the toal cost. So the shaded region in the graph is showing the abnormal profits of the monoppoly firm. The price and output produced by the monopoly firm is shown in the graph.

Case-II

Normal Loss

Not all monopolies are guaranteed profits. There can be occasions when the costs of production are greater than the average revenue a monopolist can charge for their products. This might occur for example when there is a sharp fall in market demand (leading to an inward shift in the average revenue curve). In the diagram below notice that ATC lies AR across the entire range of output.

The monopolist will still choose an output where MR=MC for this reduces their losses to the minimum amount.

Graphical Representation

Explanation:
On x-axis we are measuring output (Q) and on y-axis we are measuring revenues, costs and price. As the AC curve is above the AR curve. It means the monopolistic firm is not able to bear its costs which implies that the monopoly is going through losses. The losses are shown in the shaded region in the graph.

Equilibrium Of Monopoly Under Long Run

Like the perfect competition, the monopolistic firm earn normal profit in the long run. But due to the profits other firms will be attracted towards the market which would be harmful for the monopoly. So there must be some entry barriers to prevent other firm to enter the market. Then the monopolistic firm starts earning abnormal profits and then due to entry barriers it remains as a single seller.

Case-I

Abnormal Profit

Due to the lack of competition, monopoly firms make an economic profit.Monopoly profits are permanent and enjoyed in the short as well as long run. It has no fear of being competed away. Competitive Super Normal profits, on the other hand, are the result of more efficient and favorable conditions of production. Whether a monopolist will always earn extra profits or be satisfied with normal profits depends upon the technical cost conditions of a monopolist and the flexibility of the demand

curve. By nature, a monopolist is not likely to allow his profits to fall. He will maintain some positive profits through restrictive practices.

Graphical Representation

Explanation:
Similarly the output is measured along x-axis and revenues, price and costs are measured along the y-axis. AR and MR are the demand and marginal revenue curves of a monopolist. AC and MC are the respective cost curves. In the figure MR and MC have intersected at point e which is the equilibrium point. At this point the monopolist produces and supplies output quantity Q. This is the only profit-maximizing condition for the monopolist. Under the given demand-cost structure no other level of output can help to enhance his profit. The curves in the long run are usually more flat as shown in the graph. The shaded region in the graph shows the abnormal profits when costs are less than revenues.

Barriers To Entry:
In economics and especially in the theory of competition, barriers to entry are obstacles in the path of a firm which wants to enter a given market. The term refers to hindrances that an individual may face while trying to gain entrance into a profession or trade. It also, more commonly, refers to hindrances that a firm may face (or even a country) while trying to enter an industry or trade grouping. The barriers to entry also reduce competition.

Barriers To Entry For Firms Into A Market:

Barriers to entry into markets for firms include;

 Investment, especially in industries with economies of scale and/or natural

monopolies. Government regulations may make entry more difficult or impossible. In the extreme case, a government may make competition illegal and establish a statutory monopoly. Requirements for licenses and permits, for example, may raise the investment needed to enter a market. Predatory pricing - the practice of a dominant firm selling at a loss to make competition more difficult for new firms who cannot suffer such losses, as a large dominant firm with large lines of credit or cash reserves can. It is illegal in most places, however it is difficult to prove. Patents give a firm the sole legal right to produce a product for a given period of time. Patents are intended to encourage invention and technological progress by offering this financial incentive. Economy of scale - Large, experienced firms can generally produce goods at lower costs than small, inexperienced firms. Cost advantages can sometimes be quickly reversed by advances in technology. For example, the development of personal computers has allowed small companies to make use of database and communications technology which was once extremely expensive and only available to large corporations. Customer loyalty - large incumbent firms may have existing customers loyal to established products. The presence of established strong Brands within a market can be a barrier to entry in this case. Advertising - incumbent firms can seek to make it difficult for new competitors by spending heavily on advertising that new firms would find more difficult to afford. Research and development - some products, such as microprocessors, require a massive upfront investment in technology which will deter potential entrants. Sunk costs - sunk costs cannot be recovered if a firm decides to leave a market; they therefore increase the risk and deter entry. Network effect - when a good or service has a value that depends on the number of existing customers, then competing players may have difficulties to enter a market where a strong player has already captured a significant user base. Restrictive practices, such as air transport agreements that make it difficult for new airlines to obtain landing slots at some airports. Distributor agreements, exclusive agreements with key distributors or retailers can make it difficult for other manufacturers to enter the industry. Supplier agreements, exclusive agreements with key links in the supply chain can make it difficult for other manufacturers to enter the industry. Inelastic demand, a strategy of selling at a lower price in order to penetrate markets is ineffective with price-insensitive consumers.

Those markets with high entry barriers have few players and thus high profit margins. Those markets with low entry barriers have lots of players and thus low profit margins. Those markets with high exit barriers are unstable and not self-regulated, so the profit margins fluctuate very much along time. Those markets with a low exit barrier are stable and self-regulated, so the profit margins do not fluctuate along time. The higher the barriers to entry and exit the more prone a market tend to be a natural monopoly. The reverse is also true. The lower the barriers the more likely to become a perfect competition.

B. Numerical question representing equilibrium of firm under monoploy. How much quantity a monopolist will produce and what price will it charge?
TC = 20 + 0.5 q2 P = 460 2q Taking 1 st derivative of TC function, we get:
C T = +2 (0.5) q 0 q

MC = q P = 460 2q As we know that: TR = p. q TR = (460 2 q) q TR = 460q 2q2 Taking 1st derivative of the TR function, we get:
R T =4 0 2( 2) q 6 q

MR = 460 4 q

According to the equilibrium condition of the firm: MC = MR q = 460 4 q q + 4q = 460 5 q = 460 q = 92 units p = 460 2q p = 460 - 2(92) p = 460 - 184 p = $ 276 A monopolist will produce 92 units of the commodity at the price of $276 to get the equilibrium.

REFERENCES: Lipsey, Chrystal. Economics 10th ed. McConnell, Brue. Economics 16th ed. Mike Rosser, Basic Mathematics for Economists 2nd edition Monopoly: A Brief Introduction by The Linux Information Project