Lecture Economics (18th edition): Chapter 10 - McConnell, Brue, Flynn''s

Chapter 10
Pure Monopoly

McGraw­Hill/Irwin

        Copyright © 2009 by The McGraw­Hill Companies, Inc. All rights reserved.


Chapter Objectives
• Characteristics of pure
monopoly
• Profit-maximizing output and
price
• Economic effects of monopoly
• Charging different prices in
different markets
10-2


Characteristics of Monopoly
•
•
•
•
•

Single seller
No close substitutes
“Price maker”
Blocked entry
Nonprice competition

10-3


Examples of Monopoly
• Regulated or natural monopolies
– electricity

• Near monopolies
– Western Union
– Frisbee
– De Beers

• Geographic monopolies

– Professional sport teams

• Dual objectives of study

10-4


Barriers to Entry
• Economies of scale
• Legal barriers to entry
– Patents
– Licenses

• Ownership or control of
essential resources

• Pricing and other strategic
barriers to entry
10-5


Monopoly Demand
• Assumptions:
– Monopoly status is secure
– No government regulation
– Single-price monopolist

• Face down-sloping demand
– Entire market demand
10-6


Price and Marginal Revenue
Marginal revenue is less than price
• A monopolist is
selling 3 units at
$142
• To sell 4, price must
be lowered to $132
• All customers
must pay the same
price
• TR increases $132
minus $30 (3x$10)

$142

132
122
112

Loss = $30

D

102

Gain = $132

92
82

0

1

2

3

4

5

6

10-7

Price and Marginal Revenue
Marginal revenue is less than price
• A monopolist is
selling 3 units at
$142
• To sell 4, price must
be lowered to $132
• All customers
must pay the same
price
• TR increases $132
minus $30 (3x$10)
• $102 becomes a
point on the MR
curve
• Try other prices to
determine other
MR points

$142
132
122
112

Loss = $30

D

102

Gain = $132

92
82

MR
0

1

2

3

4

5

6

The Constructed Marginal Revenue Curve
Must Always Be Less Than the Price

10-8


Down-Sloping Demand
• Marginal revenue < price

– To increase sales, must lower price

• Firm is a price maker
– Choose P,Q combination

• Operate in the elastic region
– Marginal revenue > 0
– Total-revenue test (recall)
10-9


Profit Maximization
• Output-price determination
– Marginal revenue marginal cost
rule
– Same cost definitions

• No supply curve

10-10


Monopoly Revenue and Costs
Cost Data

Revenue Data
(2)
Price
(1)
Quantity (Average

Of Output Revenue)

0
1
2
3
4
5
6
7
8
9
10

$172
162
152
142
132
122
112
102
92
82
72

(3)
Total
Revenue
(1) X (2)

$0 ]
162 ]
304 ]
426 ]
528 ]
610 ]
672 ]
714 ]
736 ]
738 ]
720

(4)
Marginal
Revenue

$162
142
122
102
82
62
42
22
2
-18

(5)
(6)

(7)
(8)
Average Total Cost Marginal Profit (+)
Total Cost (1) X (5)
Cost
or Loss (-)

$190.00
135.00
113.33
100.00
94.00
91.67
91.43
93.75
97.78
103.00

$100 ]
190 ]
270 ]
340 ]
400 ]
470 ]
550 ]
640 ]
750 ]
880 ]
1030

$90
80
70
60
70
80
90
110
130
150

$-100
-28
+34
+86
+128
+140
+122
+74
-14
-142
-310

Can you See Profit Maximization?
10-11


Monopoly Revenue and Costs
$200

Demand and Marginal-Revenue Curves
Elastic
Inelastic

Price

150
100
50
0

2

4

$750

Total Revenue

D

MR
6

8

10

12

Total-Revenue Curve

14

16

18

500

250

0

TR
2

4

6

8

10

12

14

16

18
10-12


Profit Maximization
Price, Costs, and Revenue

$200
175

MC

150
125
100
75

Pm=$122
Economic
Profit

ATC

D

A=$94

MR=MC

50
25
0

MR
1

2

3

4

5

6

7

8

9

10

Quantity
10-13


Misconceptions

• Not the highest price
• Total, not unit, profit
• Possibility of losses

10-14


Price, Costs, and Revenue

Loss Minimization
MC

A
Pm

ATC

Loss

AVC
V

D
MR=MC
MR
0

Qm

Quantity

10-15


Economic Effects
Pure
Monopoly

Purely
Competitive
Market
S=MC

MC
b

Pm
P=MC=
Minimum
ATC

Pc

c

Pc
a

D
Qc

MR
Qm

D

Qc

Pure competition is efficient
Monopoly is inefficient
10-16


Economic Effects
• Pure competition is efficient
– Productive efficiency
– Allocative efficiency
– CS+PS maximized

• Monopoly is inefficient
– Charge P>MC
– Deadweight loss

• Income transfer
10-17


Cost Complications
• Economies of scale
– Simultaneous consumption
– Network effects

• X-inefficiency
– Lowest ATC not achieved

• Rent seeking behavior
• Technological advance
– More likely with monopoly?
10-18


Policy Options
• Use antitrust laws
– Divide the firm

• Natural monopoly
– Regulate price

• Ignore
– Unstable in long run
10-19


Price Discrimination
• Three forms
– Charge each customer max
willingness to pay
– Charge one price for first unit
and a lower price for subsequent
units
– Charge different customers

different prices

10-20


Price Discrimination
• Conditions

– Monopoly power
– Market segregation
– No resale

• Examples

– Airfares
– Electric utilities
– Theaters & golf courses
10-21


Regulated Monopoly
• Natural monopolies
• Rate regulation
• Socially optimum price
P = MC

• Fair return price
P = ATC
10-22

Regulated Monopoly
Dilemma of Regulation
Price and Costs (Dollars)

Monopoly
Price
Pm

Fair-Return
Price
f

Pf a

Pr

ATC

r

MC
D

MR
0

Socially
Optimal
Price

b

Qm

Qf

Qr

Quantity
10-23


De Beers Diamonds
• 66 years of monopoly pricing
– Independent producers went along
• Mid-2000 abandoned monopoly
– New discoveries
– Independent producers withdrew
– Political considerations
• New strategy
– “The diamond supplier of choice”
10-24


Key Terms
•
•
•
•

•
•
•
•
•

pure monopoly
barriers to entry
simultaneous consumption
network effects
X-inefficiency
rent-seeking behavior
price discrimination
socially optimal price
fair-return price
10-25