ECON1101 Lecture Notes - Lecture 10: Monopolistic Competition, Monopoly Price, Price Ceiling
Part 3: Imperfectly Competitive markets
- Free entry and exit + consumers/producers price takers
Market Power: Monopoly
- Price takers- means demand curve for indiv firm is perfectly elastic
- Market power: ability to set its own price (price setters)- doesn’t lose all customers
(downward sloping demand)
- An Imperfectly Competitive Market is a market where that at least one of the
characteristics of a perfectly competitive market fails to be satisfied.
o Monopoly: market structure w one firm market- indiv demand coincides w
market demand
o Monopolistic competition: large number of firms producing slightly
differentiated product (restaurant cuisine)
o Oligopolistic competition: small number of firms that sells goods that are
close subs (banking sector)- market power from size of firms to overcome
barriers to entry
- Determinants of market power
o Invisible hand principle (free entry/exit) → barriers to entry
▪ Control over scarce resources
▪ Gov created barriers to entry (patents, licenses)
▪ Increasing returns to scale (economies of scale: ATC decreases w
amount of good produced) – natural monopoly (monopoly that occurs
quod eco of scale) e.g public utilities (require costly infrastructure)
▪ Network economies: when customers’ satisfaction w a given product
increases w # of users (market position stronger as produce more, and
stronger as expands production) (fb)
- Monopoly
o Perfect comp: horizontal demand curve- sells any # of untis at market price-
marginal revenue is constant and = market price BUT monopolist needs to
reduce the price in order to increase quantity sold (or reduce Q to increase P)
o MR = ∆R/∆Q
o Maximise profit- expand production until MR = MC (∆TC/∆Q) [monopoly
underprovides]
o Socially optimal level of production: Marginal Cost = MB (reservation P)
o In order to sell the extra units of the good and attract new consumers, the
monopolist needs to reduce the price- affects every unit sold (implicit cost in
increasing Q sold- leads to equilibrium production level that is lower than
socially optimal one)
find more resources at oneclass.com
find more resources at oneclass.com
- Invisible hand principle does not apply here- when monopolist maximises profit result
is not socially optimal
Government Regulation
- Competition laws: intended to foster market competition by regulating anti-
competitive conduct by firms- ensure consumers are charged lowest possible prices
- Gov intervention may create inefficiencies quod single firm producing large quantity
of g can do so more efficiently than large # of firms producing small quantities
- To increase surplus in natural monopoly- gov regulate price at which monopolist sells
ie average cost pricing: gov forces monopolist to set P+Q at intersection of ATC
curve and demand curve (eliminates any +ve profit accrued to mono)
o Gov does not know ATC- only estimate
o Once policy in place, firms have no incentive to invest in new tech to lower
production costs- make 0 profit anyway
o Firm’s output is allocatively inefficient- P exceeds marginal cost
▪ Instead, set price ceiling = to MC forcing monopolist to sell product at
MC (but may force monopolist to make –ve profits)
Price discrimination
- First Degree Price discrimination
o situation in which the monopolist knows the reservation price of each
consumer and is able to charge each consumer his marginal benefit (or
reservation price)
o monopolist should expand production until MR = MC (ie sell socially optimal
quantity- maximises societal surplus) BUT distribution of surplus is uneven-
CS =0 so monopolist accrues all surplus
- second degree price discrimination
o monopolist charges different prices depending on Q demanded from each
consumer (bulk discount to distinguish between those w high/low reservation
P)
o different classes of g- quality discrim- capture more CS
- third degree price discrimination
o observable consumer attributes- location, age group discounts (like 1st deg but
different tables for each country- w workers per day)
o shift of surplus from monopolist to consumers
Chapter 8: Market Power- Oligopoly (game theory)
- small number of firms (media, banking industry) → actions of one firm have direct
impact on others- strategic interactions among firms
find more resources at oneclass.com
find more resources at oneclass.com
Document Summary
Free entry and exit + consumers/producers price takers. Price takers- means demand curve for indiv firm is perfectly elastic. Market power: ability to set its own price (price setters)- doesn"t lose all customers (downward sloping demand) Determinants of market power: invisible hand principle (free entry/exit) barriers to entry, control over scarce resources, gov created barriers to entry (patents, licenses) Invisible hand principle does not apply here- when monopolist maximises profit result is not socially optimal. Competition laws: intended to foster market competition by regulating anti- competitive conduct by firms- ensure consumers are charged lowest possible prices. Gov intervention may create inefficiencies quod single firm producing large quantity of g can do so more efficiently than large # of firms producing small quantities. Instead, set price ceiling = to mc forcing monopolist to sell product at. Mc (but may force monopolist to make ve profits)
