Monopolies

• What is a pure monopoly


  A pure monopoly exists when one firm is the sole seller of a product in market
• Assumptions of monopolies


  • one firm in the industry
  • short-run profit maximization
  • high barriers to entry
• Demand curve for profit maximizing equilibrium

  Downward sloping as consumer can choose not to buy, the firm is the industry itself.
• what is profit maximization

  • occurs where MC=MR
  • produces at output Q! and price P1
  • supernormal profits possible due to high barrier to entry
• What is price discrimination

  Charging different prices to different consumers for the same products
• Examples of price discrimination

  • peak vs off peak train times
  • price differences between (London vs small times)
  • income based discounts (elderly discounts)
• Conditions for price discrimination

  • clear separation of market groups
  • different elasticities of demand
  • contol over supply to prevent arbitrage
• Diagram for inelastic market

  High prices and supernormal profits
• diagram for elastic market

  lower price supernormal profits
• diagram for combines markets

  smaller total profit
• cost and benefits of price discrimination

  • firms: increase profit for r&d and dynamic efficiency
  • elastic market consumers: lower prices due to cross-subsidization
  • all consumers: lose consumer surplus; some pay higher prices
• What is a natural monopoly

  Industries where economies of scale are so large that one producer cannot fully exploit them
• Examples of a natural monopoly

  national grid, royal mail, national rail - high fixed costs
• Natural monopoly diagram 


  AC and MC curve fall continuously. Profit maximization at MC=MR, supernormal profits earned.
• Natural monopoly implications 


  • competition raises average costs, making it inefficient
  • new entrants face higher costs and are priced out
• Efficiency of a natural monopoly

  • not productively of allocatively efficient
  • large fixed costs - lower AC, benefiting consumers
• Firms benefits of a monopoly:

  • large shareholder profits
  • finance for investments and reserves for short term difficulties
  • compete with large overseas firms
  • maximise economies of scale- reduced costs and increased profits
• Firm limitations of a monopoly

  • may not profit maximise due to x-inefficiencies, sales/revenue maximisation or contestability
  • lack of competition may lead to complacency and lower profits in the long run
• Employee impacts of a monopoly

  lower output - fewer employees

  higher wages possible due to inefficiency
• supplier impacts of a monopoly

  monopsony effect - if the monopolist is also a monopsonist, suppliers profits decrease as prices are forced down
• consumer benefits of a monopoly

  • economies of scale - higher consumer surplus
  • cross subsidization - access to products for some consumers
• consumer limitations of a monopoly

  higher prices, poorer quality, less choice due to a lack of competition
• do monopolies achieve productive efficiency

  no as MC does not equal AC
• do monopolies achieve allocative efficiency

  Not achieved at P>MC
• do monopolies achieve dynamic efficiency

  through supernormal profits

  • lack of competition may reduce incentive to innovate or invest
  • schumpeters view that monopolies can exploit profits for innovation and efficiency
• monopolies deadweight loss 


  • less production leads to deadweight loss
  • consumer surplus reduces
• monopolies economies of scale

  • large economies of scale may reduce AC - inceased consumer surplus
• monopolies creative destruction 


  monopolies incentivize innovation and new market entrants
• What are the cost characteristics of a natural monopoly

  • in industries with high fixed costs, cost curves reflect large economies of scale
  • average costs and marginal costs continue to fall as production increases
• What are the implications of cost shifts for a natural monopoly

  • If AC and MC decrease due to larger economies of scale, monopolists can reduce prices or decrease profits
  • Nee entrants find it difficult to compete because their costs would be higher
• What is the X-Inefficiency of cost curves

  Monopolies may suffer from X-inefficiency due to lack of competitive pressure
• What can X-inefficiency lead to

  This can lead to rising costs, reducing efficiency and consumer surplus
• What is dynamic efficiency in terms of cost curves

  • Monopolists might reduce costs over time by investing in innovation, lowering MC and AC in the long run
  • Schumpeter suggested monopolies can exploit new production techniques or products, improving efficiency
• How is price discrimination shown in revenue curves

  seperate revenue curves for elastic and inelastic markets

  • inelastic demand - higher prices generate higher revenues at a smaller quantity
  • elastic demand market lower prices generate revenues at a higher quantity
• combined market on revenue curves

  without price discrimination, revenue is lower since prices cannot be tailored to demand elasticities
• How do revenue curves show changes in market conditions

  • If demand increases AR shifts outward and MR shifts outward allowing higher potential profits
  • If demand decreases both AR and MR shift inward, reducing potential revenue and profit
• Impacts of innovation on shifts

  technological improvements or cost reductions shift AC and MC downward, enabling higher output or lower prices
• Impact of market entry barriers on shifts

  High barriers ensure limited competition, preventing adverse shifts in revenue curves
• Impacts of creative destruction on shifts

  over time, monopolies face potential disruption as firms innovate to break into the marlet, causing possible downward pressure on AR and MR
• What is elasticity of demand

  Measures the responsiveness of quantity demanded to changes in other variables: