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Ch 12 – Natural Monopoly. Antitrust vs. Regulation. Under ideal conditions, the market mechanism provides optimal outcomes: All producers must be perfect competitors. People must have full information about tastes, costs, and prices. All costs and benefits must be reflected in market prices.

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Presentation Transcript
antitrust vs regulation
Antitrust vs. Regulation
  • Under ideal conditions, the market mechanism provides optimal outcomes:
    • All producers must be perfect competitors.
    • People must have full information about tastes, costs, and prices.
    • All costs and benefits must be reflected in market prices.
    • Pervasive economies of scale must be absent.
antitrust vs regulation1
Antitrust vs. Regulation
  • These ideal conditions are rarely, if ever, attained, leading to market failure.
  • Market failure - An imperfection in the market mechanism that prevents optimal outcomes.
behavioral focus
Behavioral Focus
  • Antitrust is government intervention to alter market structure or prevent abuse of market power.
  • Regulation is government intervention to alter the behavior of firms, for example, in pricing, output, or advertising.
natural monopoly
Natural Monopoly
  • A natural monopoly is desirable because it can achieve economies of scale.
  • It is likely that consumers will not benefit from the resulting cost savings.
    • Natural monopoly – An industry in which one firm can achieve economies of scale over the entire range of market supply.
declining atc
Declining ATC
  • The distinctive characteristic of a natural monopoly is its downward-sloping average total cost (ATC) curve.
  • The marginal cost (MC) curve lies below the ATC curve at all rates of output.
declining atc1
Declining ATC
  • The economies of scale offered by a natural monopoly imply that no other market structure can supply the good as cheaply.
  • Economies of scale - Reductions in minimum average costs that come about through increases in the size (scale) of plant and equipment.
unregulated behavior
Unregulated Behavior
  • The unregulated pricing of a natural monopolist violates the competitive principle of marginal cost pricing.
    • Marginal cost pricing – The offer (supply) of goods at prices equal to their marginal cost.
  • The natural monopolist’s profit-maximizing output also fails to minimize average total cost.
natural monopoly1

Price (dollars per unit)

Quantity (units per period)

Natural Monopoly

Average total cost

Demand

Unregulated p

pA

ATC = p (Normal profit)

C

pC

Marginal cost

B

pB

MC = p

(Efficient)

A

MCA

0

qA

qC

qD

MR

subsidy
Subsidy
  • Marginal cost pricing by a natural monopolist implies a loss on every unit of output produced.
  • A subsidy must be provided to the natural monopoly in order to provide efficient pricing.
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