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Economics (14)
01:220:102 (14)
Chapter 14


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Rutgers University
Thomas Prusa

Chapter 14- Monopoly Types of Market Structure  System of market structures based on two dimensions o Number of producers in the market (one, few, many) o Whether the goods offered are identical or differentiated The Meaning of Monopoly  A monopolist is a firm that is the only producer of a good that has no close substitutes  Monopoly- an industry controlled by a monopolist Monopoly: Our First Departure from Perfect Competition  Crucial difference between a firm with market power, such as a monopolist, and a firm in a perfectly competitive industry is that perfectly competitive firms are price- takers that face horizontal demand curves, but a firm with market power faces a downward-sloping curve What Monopolists Do  Market power- ability of a firm to raise prices  Monopolist moves up the demand curve by reducing quantity supplied to a point like M, at which the quantity produced, QM, is lower an the price, PM, is higher than under perfect competition  increases profit  Due to the price effect of an increase in output, the marginal revenue curve of a firm with market power always lies below its demand curve  Profit-maximizing monopolist chooses the output level at which marginal cost is equal to marginal revenue- not to price  As a result, the monopolist produces less and sells its output at a higher price than a perfectly competitive industry would; earns a profit in the short run and long run Why Do Monopolies Exist?  To earn economic profits, a monopolist must be protected by a barrier to entry- something that prevents other firms from entering the industry  Control of a Scarce Resource or Input o Monopolist that controls a resource or input crucial to an industry can prevent other firms from entering its market  Increasing Returns to scale o Natural monopoly exists when increasing returns to scale provide a large cost advantage to a single firm that produces all of an industry’s output o Creates a barrier to entry because an established monopolist has lower average total cost than any smaller firm  Technological Superiority o Firm that maintains a consistent technological advantage over potential competitors can establish itself as a monopolist o Network externalities- condition that arises when the value of a good to the consumer rises as the number of people who also use the good rises  Government-Created Barriers o Patent gives an inventor a temporary monopoly in the use or sale of an invention o Copyright gives the creator of a literary or artistic work sole rights to profit from that work o Temporary because they attempt to balance the need for higher prices as compensation to an inventor for the cost of invention against the increase in consumer surplus from lower prices and greater efficiency How a Monopolist Maximizes Profit The Monopolist’s Demand Curve and Marginal Revenue  Monopolist’s market demand curve slopes downward; this downward slope creates a “wedge” between the price of the good and the marginal revenue of the good-the change in revenue generated by producing one more unit  Increase in production by a monopolist has two opposing effects on revenue o Quantity effect- one more unit is sold, increasing total revenue by the price at which the unit is sold o Price effect- in order to sell that last unit, the monopolist must cut the market price on all units sold  At low levels of output, the quantity effect is stronger than the price effect  At high levels of output, the price effect is stronger than the quantity effect The Monopolist’s Profit-Maximizing Output and Price  MR=MC at the monopolist’s profit-maximizing quantity of output Monopoly vs. Perfect Competition  P=MC at the perfectly competitive firm’s profit-maximizing quantity of output  P > MR = MC at the monopolist’s profit-maximizing quantity of output  Compared with a competitive industry, a monopolist does the following o Produces a smaller quantity QM < QC o Chargers a higher price PM > PC o Earns a profit Monopoly: The General Picture  Profit = TR – TC = (PM x QM) – (ATCM x QM) = (PM – ATCM ) X QM  Barriers to entry allow a monopolist to make profits both in the short run and long run Monopoly and Public Policy Welfare Effects of Monopoly  By res
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