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Chapter 13

Economics 1021 Chapter 13 Notes

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Western University
Economics 1021A/B
Jeannie Gillmore

Chapter 13 Monopoly and how it Arises  A monopoly is a market with a single firm that produces a good or service for which no close substitute exists and that is protected by a barrier that prevents other firms from selling that good or service.  Legal, natural, or ownership constraints that protect a firm from potential competitors are called barriers to entry.  A legal monopoly is a market in which competition and entry are restricted by the granting of a public franchise,  Natural barriers to entry create natural monopoly which is a market in which economies of scale enable one firm to supply the entire market at the lowest possible cost.  All monopolies face a trade off between price and quantity sold, to sell a larger quantity, the monopoly must charge a lower price.  A single price monopoly is a firm that must sell each unit of its output for the same price to all its customers.  Price discrimination is the practice of selling different units of a good or service for different prices. A Single Price Monopoly’s Output and Price Decision  A monopolist faces the market demand curve.  A monopolist’s demand curve is downward sloping.  The table shows the market demand schedule for Bobbie’s barbershop, the sole supplier of haircuts.  Total revenue is the price multiplied by the quantity sold and marginal revenue is the change in total revenue resulting from a one-unit increase in the quantity sold.  A single price monopoly always charges a price at which demand is elastic. Why? Because if demand is inelastic, the monopoly can produce less, raise its price and earn greater profit.  The top figure shows that economic profit is maximized by producing 3 harircuts an hour. o The profit maximizing output also can be found as the quantity at which marginal cost equals marginal revenue.  The bottom figure shows that marginal cost equals marginal revenue at 3 haircuts an hour. o Economic profit is 12 dollars an hour. o The figure also shows how a monopoly sets price. o Find the profit maximizing output at the intersection of the marginal cost and marginal revenue curves and the price comes from the demand curve. o Hence, the price is 14 dollars per haircut Single-Price Monopoly and Competition Compared  Does a monopoly produce the same quantity and charge the same price as firms in perfect competition?  Ex. o The firms in a perfectly competitive industry are bought up by a single firm, a monopoly o What happens to price and quantity?  The demand curve is D and the supply curve is S = MC  The industry produces the quantity Qc and sells it for price Pc o Now the industry becomes a monopoly.  The supply curve of the competitive industry becomes the marginal cost curve of the monopoly.  The demand curve of the competitive industry becomes the monopoly’s demand curve.  The monopoly also faces the marginal revenue curve MR.  The monopoly maximizes profit by producing the quantity Qmr which sells for Pm.  Compared to the perfectly competitive firms, a single price monopoly restricts output and charges a higher price.  The top figure shows the consumer surplus and producer surplus that is received in a perfectly competitive industry. o At the competitive equilibrium, marginal social benefit equals marginal social cost and the sum of consumer surplus and producer surplus is maxed. o
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