Price and Output Determination

Under Monopoly
Contents
• Monopoly Defined / Sources of Market Power
• Price and Output Determination
• Optimal Mark-up / Contribution Margin
• Monopolists & Capacity Investments
• Regulated Monopolies
• Economic Rationale for Regulation
• Case Analysis
Monopoly

Definition: A market structure characterized by a single seller, selling a

unique product in the market.

Characteristics: Micky Mouse Monopoly

• No close substitutes
• High-entry barriers
• High mark-ups / profit maximizers
 Sources Of Market Power
• Patent & Copyright

- First, a firm may possess a patent or copyright that prevents other firms from producing

• Controling Critical Resources

- Control over natural resources critical to the production of a good.

- Gives the owner the power to price a good over marginal cost without losing customers to competitors

- Owned most of the diamond production in South Africa

- Handled Exclusive Marketing Agreements

- No longer monopolist. Price determined by S&D

Sources Of Market Power
Sales Penetration Curve

• Government Authorised franchise

- When one firm is chosen to provide exclusive service to the community, like cable TV services
in U.S cities adopted by FCC (Federal Communications Commission).

• Network Effects – Increasing Returns

Adoption Curve Segments

1. Innovators
2. Early Adopters
3. Early Majority
4. Late Majority
5. Laggards
Limit Pricing

• Maximizing Short-run Profits

• Average Total Cost Curve

THE OPTIMAL MARKUP

• P=ED/(ED+1)*MC

• P=(1+%Mark-up)*MC
CONTRIBUTION MARGIN

• Contribution Margin %=(P-MC)/P

Chanel No. 5, Ole Musk, and Whitman’s Sampler
Components of the Gross Profit Margin

• Direct Fixed Costs

• Advertising and Selling Price
• Overhead Costs
Components of the Gross Margin at Kellogg Co.

• 30% - Advertising
• 5% - Compounding, Promotion and Rebate
• 22% - Capital Costs
• 8% - R&D
• Net Profit Margin – 5%
Thank You