McGraw-Hill/Irwin

Copyright 2009 by The McGraw-Hill Companies, Inc. All rights reserved.

Pure Monopoly
Chapter 10
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
0 1 2 3 4 5 6
$142
132
122
112
102
92
82
Price and Marginal Revenue
Marginal revenue is less than price
D
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)
Gain = $132
Loss = $30
10-7
0 1 2 3 4 5 6
$142
132
122
112
102
92
82
D
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
Gain = $132
Loss = $30
The Constructed Marginal Revenue Curve
Must Always Be Less Than the Price
MR
Price and Marginal Revenue
Marginal revenue is less than 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
(1)
Quantity
Of Output
(2)
Price
(Average
Revenue)
(3)
Total
Revenue
(1) X (2)
(4)
Marginal
Revenue
(5)
Average
Total Cost
(6)
Total Cost
(1) X (5)
(7)
Marginal
Cost
(8)
Profit (+)
or Loss (-)
0
1
2
3
4
5
6
7
8
9
10
$172
162
152
142
132
122
112
102
92
82
72
$0
162
304
426
528
610
672
714
736
738
720
$162
142
122
102
82
62
42
22
2
-18
$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
Revenue Data Cost Data
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Can you See Profit Maximization?
10-11
$200
150
100
50
0
$750
500
250
0
2 4 6 8 10 12 14 16 18
2 4 6 8 10 12 14 16 18
P
r
i
c
e

T
o
t
a
l

R
e
v
e
n
u
e

Monopoly Revenue and Costs
Elastic Inelastic
Demand and Marginal-Revenue Curves
Total-Revenue Curve
D
MR
TR
10-12
Profit Maximization
0
$200
175
150
125
25
100
75
50
P
r
i
c
e
,

C
o
s
t
s
,

a
n
d

R
e
v
e
n
u
e

1 2 3 4 5 6 7 8 9 10
Quantity
D
MR
ATC
MC
MR=MC
P
m
=$122
A=$94
Economic
Profit
10-13
Misconceptions
Not the highest price
Total, not unit, profit
Possibility of losses
10-14
Loss Minimization
0
P
r
i
c
e
,

C
o
s
t
s
,

a
n
d

R
e
v
e
n
u
e

Quantity
D
MR
ATC
MC
MR=MC
Loss
AVC
P
m
Q
m
V

A

10-15
Economic Effects
Purely
Competitive
Market
Pure
Monopoly
D D
S=MC
MC
P=MC=
Minimum
ATC
MR
P
c
Q
c
P
c
P
m
Q
c
Q
m
Pure competition is efficient
Monopoly is inefficient
a
b
c
10-16
Pure competition is efficient
Productive efficiency
Allocative efficiency
CS+PS maximized
Monopoly is inefficient
Charge P>MC
Deadweight loss
Income transfer
Economic Effects
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
Conditions
Monopoly power
Market segregation
No resale
Examples
Airfares
Electric utilities
Theaters & golf courses
Price Discrimination
10-21
Regulated Monopoly
Natural monopolies
Rate regulation
Socially optimum price
P = MC
Fair return price
P = ATC
10-22
0
P
r
i
c
e

a
n
d

C
o
s
t
s

(
D
o
l
l
a
r
s
)

Quantity
Dilemma of Regulation
Monopoly
Price
Fair-Return
Price
Socially
Optimal
Price
P
r
D
r
f
b
a
P
f
P
m
Q
m
Q
f
Q
r
MR
MC
ATC
Regulated Monopoly
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
Next Chapter Preview
Monopolistic
Competition
and Oligopoly
10-26