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Chapter 25: Monopoly
ECON 152 – PRINCIPLES OF MICROECONOMICS
Materials include content from Pearson Addison-Wesley which has been modified by the instructor and displayed with permission of the publisher. All rights reserved.
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Definition of a Monopolist
MonopolistA single supplier of a good or service for
which there is no close substitute
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The source of monopolyA barrier to entry that allows the firm to make
long-run economic profits
Barriers to Entry
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Ownership of resources without close substitutes If you owned all the oil reserves, who could
enter the refining business?The Aluminum Company of America (ALCOA)
at one time owned 90 percent of the world’s bauxite.
Barriers to Entry
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Problems in raising adequate capitalChoose a product that requires a substantial
capital investmentWhy not enter the microprocessor market and
compete with Intel?
Barriers to Entry
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Economies of scaleLow unit costs and prices drive out rivalsThe largest firm can produce at the lowest
average total cost
Barriers to Entry
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Natural MonopolyA monopoly that arises from the peculiar
production characteristics in an industry It usually arises when there are large
economies of scale
Barriers to Entry
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8Figure 25-1
LAC
LMC
Kilowatts of Electricity per Time Period
Pric
e pe
r K
ilow
att
The Cost Curves that Might Lead to a Natural Monopoly: The Case of Electricity
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Legal or governmental restrictionsLicenses, franchises, and certificates of
convenience Is the postal service still a monopoly?
Consider UPS FedEx Fax machines The Internet
Barriers to Entry
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Legal or governmental restrictionsPatents
Intellectual propertyTariffs
Taxes on imported goodsRegulation
Barriers to Entry
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CartelsAn association of producers in an industry
that agree to set common prices and output quotas to prevent competition
Barriers to Entry
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Recall In perfectly competitive markets:
All firms combined create the industry supply Industry supply relative to market demand (D) determines
equilibrium price and quantity The industry faces the market demand
The Demand Curvea Monopolist Faces
Monopolist’s demand = market demandMonopolist is the industry
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Demand Curves for the Perfect Competitor and the Monopolist
Figure 25-3, Panels (a) and (b)
d = D
Q
Panel (b)
Demand If Individual SupplierIs the Only Supplier in a
Pure Monopoly
d
q
Panel (a)
Demand If Individual Supplier Is inPerfect Competition
Pric
e pe
r U
nit
Pric
e pe
r U
nit
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MonopolyPerfect Competition
Single Seller
Faces market demand
Must lower price to sell more
MR < P
One of many sellers
Perfectly elastic demand (price takers)
Must only produce moreto sell more
All units sold for same price (P = MR)
Comparing Perfect Competition and Monopoly
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15Figure 25-4
P1
MR = area A – area B
Quantity of Electricity perTime Period
Q + 1Q
P2
Area A (+)Gain
Area B (–)
Loss
Demand curve = AR curve
D
Pric
e of
Ele
ctri
city
Marginal Revenue: Always Less Than Price
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A monopoly is a single seller of a well-defined good or service with no close substitutes.
The more imperfect substitutes there are, and the better these substitutes are, the greater the price elasticity of demand of the monopolist’s demand curve
Elasticity and Monopoly
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Price Maker (Searcher)A firm that must determine the price-output
combination that maximizes profit because it faces a downward-sloping demand curve
Cost and MonopolyProfit Maximization
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18Figure 25-5, Panel (a)
Monopoly Costs,Revenues, and Profits
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19Figure 25-5, Panels (b) and (c)
Monopoly Costs,Revenues, and Profits
Profit-maximizingrate of output
MC = MR
MR
D
MC
1514131211109876543210
1
2
3
4
5
6
Panel (c)
10
9
8
7
Output per Time Period
Losses
Maximumprofit
TR
Losses
1514131211109876543210
10
20
30
40
50
60
Panel (b)
100
90
80
70
Output per Time Period
Pric
e,
Ma
rgin
al C
ost
s, a
nd
Ma
rgin
al R
eve
nu
e p
er
Un
it ($
)
To
tal C
ost
s a
nd
To
tal R
eve
nu
e (
$)
TC
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Why produce where marginal revenue equals marginal cost?Producing past where MR = MC
Incremental cost > Incremental revenue
Producing less than where MR = MC Incremental revenue > Incremental cost
Cost and MonopolyProfit Maximization
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21Figure 25-6
Maximizing Profits
MC
Quantity per Time Period
D
Pric
e, M
argi
nal C
ost,
and
Mar
gina
l Rev
enue
per
Uni
t
MRQ1
B
A
Qm
Pm
Q2
FC
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22Figure 25-7
Calculating Monopoly Profit
131211109876543210
1
2
3
4
5
6
18
17
16
15
14
13
12
11
10
9
8
7
Output per Time Period
MC
D
MR
ATC
Qm
Pm
Pric
e,
Ma
rgin
al R
eve
nu
e,
an
d C
ost
pe
r u
nit
($)
Monopolyprofit
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23Figure 25-8
Monopolies: Not Always Profitable
Losses
MR
Pm
C 1
Qm
D
ATC
MC
Output per Time Period
Pric
e, M
arg
inal
Rev
enu
e, a
nd C
ost
per
unit
A
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Price Discrimination (Illegal)Selling a given product at more than one
price, with the difference being unrelated to differences in cost
On Making Higher Profits: Price Discrimination & Differentiation
Price Differentiation (Legal)Establishing different prices for similar
products to reflect differences in marginal cost in providing those commodities to different groups of buyers
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Necessary conditions for price discrimination The firm must face a downward-sloping demand
curve The firm must be able to separate markets at a
reasonable cost The buyers in the various markets must have
different price elasticities of demand The firm must be able to prevent resale of the
product or service
On Making Higher Profits: Price Discrimination
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Original ScenarioStart with a perfectly competitive market in
long-run equilibrium MR = MC Pe = MC (marginal cost pricing) Zero economic profits
The Social Cost of Monopolies
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New Scenario: Now, assume the industry is acquired by one firm with no impact on cost.
End with a monopoly in long-run equilibrium MR = MC Higher prices since Pe > MC Lower quantity Potential positive economic profits
The Social Cost of Monopolies
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The Effects of Monopolizing an Industry
MCm
Pm
Qm
D
S = MC
Panel (b)
MR
Quantity per Time Period
D
S = ΣMC
Panel (a)
Quantity per Time Period
Pric
e, M
arg
inal
Rev
enu
e, a
ndM
argi
nal C
ost
per
Uni
t
Pric
e pe
r U
nit
Pe
Qe
E
Before and after scenarios:
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Chapter 25: Monopoly
ECON 152 – PRINCIPLES OF MICROECONOMICS
Materials include content from Pearson Addison-Wesley which has been modified by the instructor and displayed with permission of the publisher. All rights reserved.