PRINCIPLES OF MICROECONOMICS Wajid Ali Qureshi

1
CHAPTER 12
Pure Monopoly

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CHAPTER CONTENTS
An Introduction to Pure Monopoly
Barriers to Entry
Monopoly Demand
Output and Price Determination
Economic Effects of Monopoly
Price Discrimination
Regulated Monopoly
12-3
INTRODUCTION TO PURE MONOPOLY
Single seller: a sole producer.
No close substitutes: unique product.
Price maker: control over price.
Blocked entry: strong barriers to entry.
Non-price competition: mostly PR but can engage in
advertising to increase demand.

12-4
LO12.1
EXAMPLES OF MONOPOLY
Public utility companies:
• Natural gas
• Electric
• Cable television
Near monopolies
• Intel
• Android
Professional sports teams
12-5
LO12.1
BARRIERS TO ENTRY
Barriers to entry are factors that prevent firms from
entering the industry:
• Economies of scale
• Legal barriers to entry like patents and licenses
• Ownership or control of essential resources
• Pricing and other strategic barriers

12-6
LO12.2
ECONOMIES OF SCALE: THE NATURAL MONOPOLY CASE

$20
Average total cost

15

10 ATC

0 50 100 200
Quantity
12-7
LO12.2
MONOPOLY DEMAND OVERVIEW
The pure monopolist is the industry.
Monopolist demand curve is the market demand curve.
Demand curve is downward sloping.
Marginal revenue is less than price.

12-8
LO12.3
MONOPOLY DEMAND SCHEDULE
Revenue and Cost Data of a Pure Monopolist
Revenue Data Cost Data
(1) (2) (3) (4) (5) (6) (7) (8)
Quantity of Price (Average Total Revenue Marginal Average Total Cost, Marginal Profit [+] or
Output Revenue) (1) X (2) Revenue Total Cost (1) X (5) Cost Loss [-]
0 $172 $ 0 $ 100 $ -100
$162 $ 90
1 162 162 $190.00 190 -28
142 80
2 152 304 135.00 270 +34
122 70
3 142 426 113.33 340 +86
102 60
4 132 528 100.00 400 +128
82 70
5 122 610 94.00 470 +140
62 80
6 112 672 91.67 550 +122
42 90
7 102 714 91.43 640 +74
22 110
8 92 736 93.75 750 -14
2 130
9 82 738 97.78 880 -142
-18 150
10 72 720 103.00 1030 -310
12-9
LO12.3
PRICE AND MARGINAL REVENUE IN PURE MONOPOLY

P
$142, 3 units

$142 $132, 4 units

Loss = $30
132

Gain = $132

0 1 2 3 4 5 6 Q

12-10
LO12.3
MONOPOLY DEMAND AND PRICE
Marginal revenue will be less than price.
Monopolist is a price maker.
Monopolist sets price in the elastic region of the
demand curve.

12-11
LO12.3
DEMAND, MARGINAL REVENUE, AND TOTAL REVENUE FOR A PURE
MONOPOLIST
Elastic Inelastic
$200

150

(a)
Price
Demand and 100
marginal-revenue
MR
curves 50
D

0 2 4 6 8 10 12 14 16 18 Q

$750
Total revenue

500

(b)
Total-revenue curve TR
250

0 2 4 6 8 10 12 14 16 18 Q
12-12
LO12.3
PROFIT MAXIMIZATION BY A PURE MONOPOLIST
$200

175

150 MC
Price, costs, and revenue

Profit
Pm = $122 per unit
125
Economic
100 profit ATC

75
A = $94 D

50
MR = MC

25
Qm = 5 units MR

0 1 2 3 4 5 6 7 8 9 10 Q
Quantity
12-13
LO12.4
OUTPUT AND PRICE DETERMINATION STEPS
Steps for Graphically Determining the Profit-Maximizing Output, Profit-Maximizing Price, and
Economic Profit (if Any) in Pure Monopoly
Step 1. Determine the profit-maximizing output by finding where MR = MC.
Step 2. Determine the profit-maximizing price by extending a vertical line upward from the output
determined in step 1 to the pure monopolist’s demand curve.

Step 3. Determine the pure monopolist’s economic profit by using one of two methods:

Method 1. Find profit per unit by subtracting the average total cost of the profit-maximizing
output from the profit-maximizing price. Then multiply the difference by the
profit-maximizing output to determine economic profit (if any).
Method 2. Find total cost by multiplying the average total cost of the profit-maximizing output by
that output. Find total revenue by multiplying the profit-maximizing output by the
profit-maximizing price. Then subtract total cost from total revenue to determine the
economic profit (if any).

12-14
LO12.4
MISCONCEPTIONS OF MONOPOLY PRICING
Not the highest price
Total, not unit, profit
Possibility of losses

12-15
LO12.4
THE LOSS-MINIMIZING POSITION OF A PURE MONOPOLIST

Price, costs, and revenue (dollars) MC

Loss
per unit
ATC
A
Loss AVC
Pm

MR = MC
D
MR
0 Qm
Quantity
12-16
LO12.4
INEFFICIENCY OF PURE MONOPOLY RELATIVE TO A
PURELY COMPETITIVE INDUSTRY

P P

Efficiency loss
S = MC
b MC
Pm
P = MC =
Pc d c
Pc minimum ATC
MR = MC a

D
D
MR
0 Qc Q 0 Qm Qc Q

(a) (b)
Purely competitive market Pure monopoly

12-17
LO12.5
ECONOMIC EFFECTS OF MONOPOLY
Income transfer
Cost complications:
• Economies of scale
• Simultaneous consumption
• Network effects
• X-inefficiency
• Rent-seeking behavior
• Technological advance
12-18
LO12.5
ASSESSMENT AND POLICY OPTIONS
Antitrust laws: Break up the firm.
Regulate it: Government determines price and quantity.
Ignore it: Let time and markets get rid of monopoly.

12-19
LO12.5
GLOBAL PERSPECTIVE 12.1
COMPETITION FROM FOREIGN MULTINATIONAL
CORPORATIONS

12-20
LO12.5
Source: Fortune Global 500. Fortune Media IP Limited, 2019.
PRICE DISCRIMINATION
Price discrimination:
• Charging different buyers different prices
• Different prices are not based on cost differences
Conditions for success:
• Monopoly power
• Market segregation
• No resale

12-21
LO12.6
EXAMPLES OF PRICE DISCRIMINATION
Business travel
Movie theaters
Golf courses
Railroad companies
Coupons
International trade
12-22
LO12.6
PRICE DISCRIMINATION APPLIED TO DIFFERENT GROUPS OF BUYERS

P P
Pb Economic profit (a)

Economic profit (b)

Ps
MC = MC = ATC
Db ATC Ds
MRb MRs

0 Qb Q 0 Qs Q
(a) Small businesses (b) Students

12-23
LO12.6
REGULATED MONOPOLY
Natural monopolies.
Socially optimal price: Set price equal to marginal
cost.
Fair return price:
• Set price equal to average total cost.
• Dilemma of regulation.

12-24
LO12.7
RATE REGULATION OF A NATURAL MONOPOLY

Monopoly
price
Price and costs (dollars)

Fair-return
Pm price
Socially
optimal
a f price
Pf
ATC
Pr MC
r
D
MR
b
0 Qm Qf Qr
Quantity
12-25
LO12.7
LAST WORD: PERSONALIZED PRICING
“Big Data” available to Internet retailers.
Ability to set a price according to consumer’s perceived
ability to pay.
Based on your online buying habits, backgrounds, and
preferences.
Low price for those with elastic demand.
Higher price for those with inelastic demand.
Personalized pricing strategy can fail when consumers
comparison shop.
12-26