Pure Monopoly

1
Learning Objectives
• Review the nature of barriers to entry into
an industry, their form and their likely
occurrence.
• Examine demand from a monopolist’s
viewpoint.
• Understand how monopoly adjusts price and
output in short-run and long-run situations.

2
Learning Objectives (cont.)
• Compare the outcome of a monopoly
industry with that of one that is purely
competitive. Is the allocative and
productive efficiency observed in pure
competition achieved by the monopolist?
• Discuss whether government can play a
role in modifying monopoly behaviour.

3
Barriers to Entry
• High barriers to entry explain the
existence of monopolies
• Block all potential competitors
• Economies of scale:
– Defined as the forces that reduce the average cost
of producing a product as the firm expands the
size of the output in the long run
– In some industries, efficient, low-cost production
can only be achieved if producers are large

4
Barriers to Entry (cont.)
• Ownership of essential raw materials
• Legal barriers: patents and licences
• Note:
– Pure monopolies are rare
– Monopolies may be desirable or undesirable
depending on what premise is used
– Natural monopoly occurs in industries whose
technological and economic realities are out of the
possibility of competitive markets

5
Monopoly Demand
Three assumptions:
1. Monopolist’s position is guaranteed:
– ownership of patent or control of raw materials
1. No prospect of government
intervention or regulation of the firm
2. Monopolist does not discriminate
between buyers

6
Monopoly Demand (cont.)
• Monopolist’s demand curve is the
industry demand curve and
therefore is down-sloping
• Price (P ) exceeds marginal
revenue (MR)
• Monopolist is a ‘price maker’
since it can influence total supply

7
Monopoly Revenue and Cost
Quantity Price Average Profit +
of (Average Total Marginal Total Total Marginal or
Output Revenue) Revenue Revenue Cost Cost Cost Loss –

$172 $100
0 $ 0 ] $162 ] 90 – $100
162 $190.00 190
1 162 ] 142 ] 80 – 28
152 135.00 270 ]
2 304 ] 122 70 + 34
3 142 426 ] 102
113.33 340 ] 60 + 86
4 132 528 ] 82
100.00 400 ] 70 + 128
122 ] 94.00 470 ]
5 610
] 62 ] 80 + 140
112 91.67 550
6 672
] 42 ] 90 + 122
102 91.43 640
7 714 ] 22 ] 110 + 74
92 93.73 750
8 736 ] 2 ] 130 – 14
82 97.78 880
9 738
] – 18 ] 150 – 142
10 72 720 103.00 1030 – 310

8
Monopoly Demand
Price elasticity and total revenue
• Marginal revenue is negative
beyond the point of unit elasticity
of demand

9
Demand, MR, TR: Imperfectly Competitive
Firm 200
Elastic
Unit Elasticity
150

Dollars
Inelastic
100

50 MR D
0 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 Q
750

500
Dollars

250
TR
0 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 Q

10
Price and Output
Determination
• Profit-seeking monopolist
employs same rationale as in a
competitive industry:
– MC = MR Rule
• No supply curve. Why?
– At any given demand and cost conditions,
there is only one profit-maximising price–
output combination

11
Misconceptions Concerning
Monopoly Pricing
• Not highest price
– monopolists seek to maximise profit, not necessarily price

• Total profits not unit profits

– monopolists seek to maximise total profit, not necessarily
per-unit profit

• Losses are possible

– Pure monopoly does not guarantee economic profits
– In the short-run, monopolist may experience losses because
of weak demand or high costs

12
 Profit Maximisation Under
Monopoly
P MC
200
Profit
175 Per Unit

150

125
$122 ATC
Profit
100
$94
75
D
Competitive
50 Price
25 MR = MC MR
0 1 2 3 4 5 6 7 8 9 10
Q
13
Loss Minimisation Under Monopoly
P
Loss MC
200
Per Unit
175
ATC
150
Loss
125 AVC
100

75
D
50

25 MR = MC MR
0 1 2 3 4 5 6 7 8 9 10
Q
14
Economic Effects of
Monopoly
• Productive inefficiency:
– Minimum ATC is not necessarily chosen
• Allocative inefficiency:
– P price does not necessary equal MC
• Income distribution

15
Economic Effects of
Monopoly
• Cost complications
– Economies of scale
– X-inefficiency
– Very long run may allow for
technological progress

16
Profit Maximisation under Monopoly
P MC
Monopolist
will sell less
units at a
Pm higher price
than in
Pc competition

MR D

Qm Qc Q
17
Technological Progress
• Dynamic efficiency:
– ability to develop the most efficient
production techniques over time
• Are purely competitive firms or
monopolists more innovative
over time?
– competitive model
– monopolist model

18
Price Discrimination
Three required Conditions
• Monopoly power
• Market segmentation
• No resale
Consequences
• More profits
• More production

19
Regulating Monopolies
• Historically, monopolies have been
operated or heavily regulated by the
government
• Socially optimal price: P = MC
– may result in severe losses

• ‘Fair-return’ price: P = AC
– normal profit is generated
– only partially resolves problem of under-allocation

20
Regulated Monopoly
P Monopoly Price:
MR = MC

Fair Return Price:

Price and Costs
Price = ATC

Socially Optimum Price:

Price = MC

ATC
MC

D
MR
Q
21