10

Pure Monopoly

McGraw-Hill/Irwin Copyright © 2012 by The McGraw-Hill Companies, Inc. All rights reserved.
 Four Market Models
Characteristics of the Four Basic Market Models
Pure Monopolistic
Characteristic Competition Competition Oligopoly Monopoly
Number of firms A very large Many Few One
number
Type of product Standardized Differentiated Standardized or Unique; no
differentiated close subs.
Control over None Some, but within rather Limited by mutual Considerable
price narrow limits inter-dependence;
considerable with
collusion

Conditions of Very easy, no Relatively easy Significant Blocked

entry obstacles obstacles
Nonprice None Considerable emphasis Typically a great Mostly public
competition on advertising, brand deal, particularly relation
names, trademarks with product advertising
differentiation
Examples Agriculture Retail trade, dresses, Steel, auto, farm Local utilities
shoes implements
LO1 10-2
 An 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 block
potential competition
• Non-price competition – mostly PR or advertising
the product
Public utility Near Professional
companies monopolies sports teams
• Natural Gas • Intel
• Electric • Wham-O
• Water

LO1 10-3
 Barriers to Entry

• Barrier to entry: a factor that keeps

firms from entering an industry
• Economies of scale
• Legal barriers: patents and licenses
• Ownership of essential resources
• Pricing

LO1 10-4
 Monopoly Demand

• The pure monopolist is the industry

• Demand curve is the market demand
curve
• Downsloping demand curve
• Marginal revenue is less than price

LO1 10-5
 Monopoly Demand

• Marginal revenue < price

• Monopolist is a price maker
• Monopolist sets prices in elastic
region of demand curve

LO2 10-6
 Output and Price Determination
Steps for Graphically Determining the Profit-Maximizing Output, Profit-
Maximizing Price, and Economic Profits (if Any) in Pure Monopoly
Step 1 Determine the profit-maximizing output by finding where MR=MC.
Determine the profit-maximizing price by extending a vertical line
Step 2 upward from the output determined in step 1 to the pure monopolist’s
demand curve.

Determine the pure monopolist’s economic profit by using one of two

Step 3 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).
LO2 10-7
 Output and Price Determination

$200
Price, Costs, and Revenue

175
Pm=$122 MC
150

125
Economic
Profit ATC
100

75 D
A=$94
MR=MC
50

25
MR
0
1 2 3 4 5 6 7 8 9 10
Quantity

LO2 10-8
 Misconceptions of Monopoly Pricing

• Not highest price

• Total profit
• Possibility of losses

LO2 10-9
 Misconceptions of Monopoly Pricing

MC

ATC
A Loss
Pm
AVC

V
D

MR=MC

MR
0 Qm

LO2 10-10
 Economic Effects of Monopoly
Pure competition is efficient
Monopoly is inefficient

S=MC MC
Pm b
P=MC= d
Pc Pc c
Minimum
ATC a

D D
MR
Qc Qm Qc

(a) (b)
Purely Competitive Market Pure Monopoly

LO3 10-11
 Economic Effects of Monopoly

• Income transfer
• Cost complications
• Economies of scale
• X-Inefficiency
• Rent seeking expenditures
• Technological advance

LO3 10-12
 X-Inefficiency

ATCx X

ATC1

X'
ATCx' Average
ATC2 Total Cost

Q1 Q2

LO3 10-13
 Price Discrimination
• Price discrimination
Price Discrimination
• Charging different buyers different
prices
• Price differences are not based on
cost differences
• Examples: business travel, electric
utilities, movie theaters, golf
courses, railroad companies,
coupons, international trade
LO4 10-14
 Price Discrimination

• Conditions for success:

• Monopoly power
• Market segregation
• No resale

LO4 10-15
 Regulated Monopoly

• Natural monopolies
• Socially optimal price
• Set price = marginal cost
• Fair return price
• Set price = ATC

LO5 10-16
 Regulated Monopoly

Monopoly
Price

Pm Fair-Return
Price
Socially
a f Optimal
Pf Price
ATC

Pr r MC
MR D
b
Qm Qf Qr

LO5 10-17