Monopoly

1
Business Economics

• Monopoly

Elisabeth Oltheten February 21, 2001
2
Monopoly

• A Monopoly is the only firm in an industry.
• Barriers to entry come from
• Control of a key resource
• Government charter
• Economies of Scale means that the economy can
  only support one producer in the industry
• As the only firm in an industry it faces the
  entire demand curve

3
Revenue and Marginal Revenue

• If the firm increases quantity it must lower the
  price on all the units it sells

4
Profit Maximization

• Set quantity where marginal cost equals marginal
  revenue
• At that quantity set price according to the
  demand curve (charge what the market will bear)
• At that quantity profit per unit is the
  difference between price and average cost.

5
Monopoly Profit
Marginal Cost
Average Cost
Demand Average Revenue
Marginal Revenue

• Profit is maximized when Marginal Cost Marginal
  Revenue

6
Elasticity
Elastic Demand MRgt0
Unit Elasticity MR0
Inelastic Demand MRlt0
A Monopolist will never produce where demand is
inelastic
7
Deadweight Loss

• A Monopoly produces at a lower quantity that a
  competitive industry.
• This means that a monopoly imposes a deadweight
  loss to society

8
Deadweight Loss
Demand Average Revenue
Marginal Cost
Average Cost
Marginal Revenue
9
Natural Monopolies

• Many Natural Monopolies arise because most of the
  cost is fixed
• This means that marginal cost is very low and
  frequently lower than average cost

10
Monopoly
A Natural Monopoly with no marginal cost all
costs are fixed
PAR
MR
Marginal Cost0
MC
AC
11
Readalot Books

• Costs
• Fixed costs 2,000,000
• Variable Costs 0.
• Marginal Costs 0.
• Revenue
• 100,000 _at_ 30 3,000,000. (Profit1,000,000)
• 500,000 _at_ 5 2,500,000. (Profit2,500,000)
• Deadweight Loss
• It is more profitable to sell 100,000 _at_ 30 so
  400,000 readers go without

12
Discriminating Monopolist

• A Discriminating Monopolist can separate its
  market into two or more groups. The key to
  separating the markets is to make sure that there
  is no arbitrage.
• Arbitrage is taking advantage of a price
  difference

Athina P400 drs
Vouliagmeni P500 drs
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Readalot Books

• Discriminate by separating the market
• Sell 100,000 Hardback books _at_ 30 3,000,000
• These die hard fans are willing to pay 30
  because they know that the paperback wont come
  out for another 12 months
• Then sell 400,000 paperbacks _at_ 5 gt 2,000,000
• The deadweight loss disappears because these
  people get their books at 5 after all

14
Perfect Discrimination

• The monopolist can separate the market consumer
  by consumer
• The demand curve becomes the marginal revenue
  curve.
• The monopolist produces at the same quantity as
  the competitive industry but he extracts the
  entire consumer surplus.

15
Perfect Discrimination
Demand Marginal Revenue
Marginal Cost
Average Cost
Monopoly production Optimal production
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End of part one