ECO 2023 MDC Monopoly, Monopolistic Competition, and Oligopoly Discussion 1) Monopoly Chapter 15 1.2) How Monopolies make production 1.3) The prevalence

ECO 2023 MDC Monopoly, Monopolistic Competition, and Oligopoly Discussion 1) Monopoly Chapter 15

1.2) How Monopolies make production

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1.3) The prevalence of Monopolies

2) Monopolistic Competition Chapter 16

2.1) The four types of Market structure

2.2) Monopolistic Competition Definition

2.3) Advertising in Monopolistic Competition

3) Oligopoly

3.1) Define Oligopoly Market

3.2) Public Policy toward Oligopolies N. GREGORY MANKIW
PRINCIPLES OF
ECONOMICS
Eight Edition
CHAPTER
15
Monopoly
PowerPoint Slides prepared by:
V. Andreea CHIRITESCU
Eastern Illinois University
© 2018 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part, except for use
as permitted in a license distributed with a certain product or service or otherwise on a password-protected website or school-approved learning
management system for classroom use.
1
Why Monopolies Arise
• Market power
– Alters the relationship between a firm’s
costs and the selling price
• Monopoly
– Charges a price that exceeds marginal
cost
– A high price reduces the quantity
purchased
– Outcome: often not the best for society
© 2018 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part, except for use
as permitted in a license distributed with a certain product or service or otherwise on a password-protected website or school-approved learning
management system for classroom use.
2
Why Monopolies Arise
• Governments
– Can sometimes improve market outcome
• Monopoly
– Firm that is the sole seller of a product
without close substitutes
– Price maker
– Cause: barriers to entry
© 2018 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part, except for use
as permitted in a license distributed with a certain product or service or otherwise on a password-protected website or school-approved learning
management system for classroom use.
3
Why Monopolies Arise
• Barriers to entry
– A monopoly remains the only seller in the
market
• Because other firms cannot enter the market
and compete with it
1. Monopoly resources
2. Government regulation
3. The production process
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as permitted in a license distributed with a certain product or service or otherwise on a password-protected website or school-approved learning
management system for classroom use.
4
Why Monopolies Arise
• Monopoly resources
– A key resource required for
production is owned by a single
firm
– Higher price
“Rather than a monopoly, we like
to consider ourselves ‘the only
game in town.’”
© 2018 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part, except for use
as permitted in a license distributed with a certain product or service or otherwise on a password-protected website or school-approved learning
management system for classroom use.
5
Why Monopolies Arise
• Government regulation
– Government gives a single firm the
exclusive right to produce some good or
service
– Government-created monopolies
• Patent and copyright laws
• Higher prices
• Higher profits
© 2018 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part, except for use
as permitted in a license distributed with a certain product or service or otherwise on a password-protected website or school-approved learning
management system for classroom use.
6
Why Monopolies Arise
• Natural monopoly
– A single firm can supply a good or service
to an entire market
• At a smaller cost than could two or more firms
– Economies of scale over the relevant
range of output
– Club goods
• Excludable but not rival in consumption
© 2018 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part, except for use
as permitted in a license distributed with a certain product or service or otherwise on a password-protected website or school-approved learning
management system for classroom use.
7
Figure 1 Economies of Scale as a Cause of
Monopoly
Costs
Average total cost
0
Quantity of output
When a firm’s average-total-cost curve continually declines, the firm has what is called a natural
monopoly. In this case, when production is divided among more firms, each firm produces less,
and average total cost rises. As a result, a single firm can produce any given amount at the
lowest cost.
© 2018 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part, except for use
as permitted in a license distributed with a certain product or service or otherwise on a password-protected website or school-approved learning
management system for classroom use.
8
Production and Pricing Decisions
• Monopoly
– Price maker
– Sole producer
– Downward sloping demand: the market
demand curve
• Competitive firm
– Price taker
– One producer of many
– Demand is a horizontal line (Price)
© 2018 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part, except for use
as permitted in a license distributed with a certain product or service or otherwise on a password-protected website or school-approved learning
management system for classroom use.
9
Figure 2 Demand Curves for Competitive and
Monopoly Firms
(a) A Competitive Firm’s Demand Curve
Price
(b) A Monopolist’s Demand Curve
Price
Demand
Demand
0
Quantity of output
0
Quantity of output
Because competitive firms are price takers, they face horizontal demand curves, as in panel (a).
Because a monopoly firm is the sole producer in its market, it faces the downward-sloping
market demand curve, as in panel (b). As a result, the monopoly has to accept a lower price if it
wants to sell more output.
© 2018 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part, except for use
as permitted in a license distributed with a certain product or service or otherwise on a password-protected website or school-approved learning
management system for classroom use.
10
Production and Pricing Decisions
• A monopoly’s total revenue
– Total revenue = price times quantity
• A monopoly’s average revenue
– Revenue per unit sold
– Total revenue divided by quantity
– Always equals the price
© 2018 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part, except for use
as permitted in a license distributed with a certain product or service or otherwise on a password-protected website or school-approved learning
management system for classroom use.
11
Production and Pricing Decisions
• A monopoly’s marginal revenue
– Revenue per each additional unit of output
• Change in total revenue when output
increases by 1 unit
– MR < P • Downward-sloping demand • To increase the amount sold, a monopoly firm must lower the price it charges to all customers – Can be negative © 2018 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website or school-approved learning management system for classroom use. 12 Table 1 A Monopoly’s Total, Average, and Marginal Revenue Data © 2018 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website or school-approved learning management system for classroom use. 13 Production and Pricing Decisions • Increase in quantity sold – Output effect • Q is higher: increase total revenue – Price effect • P is lower: decrease total revenue • Because MR < P – Marginal-revenue curve is below the demand curve © 2018 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website or school-approved learning management system for classroom use. 14 Figure 3 Demand and Marginal-Revenue Curves Price $11 10 9 8 7 6 5 4 3 2 1 0 -1 -2 -3 -4 for a Monopoly Demand (average revenue) 1 2 3 4 5 6 7 8 Quantity of water Marginal revenue The demand curve shows how the quantity sold affects the price of the good. The marginal-revenue curve shows how the firm’s revenue changes when the quantity increases by 1 unit. Because the price on all units sold must fall if the monopoly increases production, marginal revenue is less than the price. © 2018 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website or school-approved learning 15 Production and Pricing Decisions • Profit maximization – If MR > MC: increase production
– If MC > MR: produce less
– Maximize profit
• Produce quantity where MR=MC
• Intersection of the marginal-revenue curve
and the marginal-cost curve
• Price: on the demand curve
© 2018 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part, except for use
as permitted in a license distributed with a certain product or service or otherwise on a password-protected website or school-approved learning
management system for classroom use.
16
Figure 4 Profit Maximization for a Monopoly
Costs
and
Revenue
2. . . . and then the demand
curve shows the price consistent
with this quantity.
Marginal cost
B
Monopoly
price
Average total cost
A
Demand
1. The intersection of the marginal-revenue
curve and the marginal-cost curve
determines the profit-maximizing quantity . . .
Marginal revenue
0
Q1
QMAX
Q2
Quantity
A monopoly maximizes profit by choosing the quantity at which marginal revenue equals
marginal cost (point A).
It then uses the demand curve to find the price that will induce consumers to buy that quantity
(point B).
© 2018 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part, except for use
as permitted in a license distributed with a certain product or service or otherwise on a password-protected website or school-approved learning
management system for classroom use.
17
Production and Pricing Decisions
• Profit maximization
– Perfect competition: P=MR=MC
• Price equals marginal cost
– Monopoly: P>MR=MC
• Price exceeds marginal cost
• A monopoly’s profit
– Profit = TR – TC = (P – ATC) ? Q
© 2018 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part, except for use
as permitted in a license distributed with a certain product or service or otherwise on a password-protected website or school-approved learning
management system for classroom use.
18
Figure 5 The Monopolist’s Profit
Costs
and
Revenue
Marginal cost
B
Monopoly E
price
Average total cost
Monopoly
profit
Demand
Average
total
cost
D
C
Marginal revenue
0
QMAX
Quantity
The area of the box BCDE equals the profit of the monopoly firm.
The height of the box (BC) is price minus average total cost, which equals profit per unit sold.
The width of the box (DC) is the number of units sold.
© 2018 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part, except for use
as permitted in a license distributed with a certain product or service or otherwise on a password-protected website or school-approved learning
management system for classroom use.
19
Monopoly Drugs versus Generic Drugs
• Market for pharmaceutical drugs
– New drug, patent laws, monopoly
• Produce Q where MR=MC
• P>MC
– Generic drugs: competitive market
• Produce Q where MR=MC
• And P=MC
• Price of the competitively produced
generic drug
– Below the monopolist’s price
© 2018 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part, except for use as
permitted in a license distributed with a certain product or service or otherwise on a password-protected website or school-approved learning
management system for classroom use.
20
Figure 6 The Market for Drugs
Costs
and
Revenue
Price
during
patent life
Price after
patent
expires
Marginal cost
Demand
Marginal revenue
0
Monopoly
quantity
Competitive
quantity
Quantity
When a patent gives a firm a monopoly over the sale of a drug, the firm charges the monopoly
price, which is well above the marginal cost of making the drug. When the patent on a drug
runs out, new firms enter the market, making it more competitive. As a result, the price falls
from the monopoly price to marginal cost.
© 2018 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part, except for use
as permitted in a license distributed with a certain product or service or otherwise on a password-protected website or school-approved learning
21
The Welfare Cost of Monopolies
• Total surplus
– Economic well-being of buyers and sellers
in a market
– Sum of consumer surplus and producer
surplus
• Consumer surplus
– Consumers’ willingness to pay for a good
– Minus the amount they actually pay for it
© 2018 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part, except for use
as permitted in a license distributed with a certain product or service or otherwise on a password-protected website or school-approved learning
management system for classroom use.
22
The Welfare Cost of Monopolies
• Producer surplus
– Amount producers receive for a good
– Minus their costs of producing it
• Benevolent planner: maximize total
surplus
– Socially efficient outcome
– Produce quantity where
• Marginal cost curve intersects demand curve
– Charge P=MC
© 2018 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part, except for use
as permitted in a license distributed with a certain product or service or otherwise on a password-protected website or school-approved learning
management system for classroom use.
23
Figure 7 The Efficient Level of Output
Costs
and
Revenue
Marginal cost
Value
to
buyers
Cost to
monopolist
Value
to
buyers
Cost to
monopolist
0
Value to buyers is greater
than cost to sellers
Demand
(value to buyers)
Quantity
Efficient
quantity
Value to buyers is less
than cost to sellers
A benevolent social planner maximizes total surplus in the market by choosing the level of output
where the demand curve and marginal-cost curve intersect.
Below this level, the value of the good to the marginal buyer (as reflected in the demand curve)
exceeds the marginal cost of making the good.
Above this level, the value to the marginal buyer is less than marginal cost.
© 2018 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part, except for use
as permitted in a license distributed with a certain product or service or otherwise on a password-protected website or school-approved learning
management system for classroom use.
24
The Welfare Cost of Monopolies
• Monopoly
– Produce quantity where MC = MR
– Produces less than the socially efficient
quantity of output
– Charge P > MC
– Deadweight loss
• Triangle between the demand curve and MC
curve
© 2018 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part, except for use
as permitted in a license distributed with a certain product or service or otherwise on a password-protected website or school-approved learning
management system for classroom use.
25
Figure 8 The Inefficiency of Monopoly
Costs and
Revenue
Marginal cost
Deadweight loss
Monopoly
price
Demand
Marginal revenue
Efficient
Quantity
Monopoly
quantity
quantity
Because a monopoly charges a price above marginal cost, not all consumers who value the good
at more than its cost buy it. Thus, the quantity produced and sold by a monopoly is below the
socially efficient level. The deadweight loss is represented by the area of the triangle between the
demand curve (which reflects the value of the good to consumers) and the marginal-cost curve
(which reflects the costs of the monopoly producer).
0
© 2018 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part, except for use
as permitted in a license distributed with a certain product or service or otherwise on a password-protected website or school-approved learning
management system for classroom use.
26
The Welfare Cost of Monopolies
• The monopoly’s profit: a social cost?
– Monopoly – higher profit
• Not a reduction of economic welfare
– Bigger producer surplus
– Smaller consumer surplus
• Not a social problem
– Social loss = Deadweight loss
• From the inefficiently low quantity of output
© 2018 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part, except for use
as permitted in a license distributed with a certain product or service or otherwise on a password-protected website or school-approved learning
management system for classroom use.
27
Price Discrimination
• Price discrimination
– Business practice
– Sell the same good at different prices to
different customers
– Rational strategy to increase profit
– Requires the ability to separate customers
according to their willingness to pay
– Can raise economic welfare
© 2018 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part, except for use
as permitted in a license distributed with a certain product or service or otherwise on a password-protected website or school-approved learning
management system for classroom use.
28
Price Discrimination
• Perfect price discrimination
– Charge each customer a different price
• Exactly his or her willingness to pay
– Monopoly firm gets the entire surplus
(Profit)
– No deadweight loss
© 2018 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part, except for use
as permitted in a license distributed with a certain product or service or otherwise on a password-protected website or school-approved learning
management system for classroom use.
29
Price Discrimination
• Without price discrimination
– Single price > MC
– Consumer surplus
– Producer surplus (Profit)
– Deadweight loss
© 2018 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part, except for use
as permitted in a license distributed with a certain product or service or otherwise on a password-protected website or school-approved learning
management system for classroom use.
30
Figure 9 Welfare with and without Price
Discrimination
(a) Monopolist with Single Price
Price
(b) Monopolist with Perfect Price Discrimination
Price
Consumer
surplus
Deadweight
loss
Monopoly
price
Profit
Profit
Marginal
revenue
0
Marginal cost
Marginal cost
Quantity sold
Demand
Demand
Quantity
0
Quantity sold
Quantity
Panel (a) shows a mono…
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