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Monopoly. Eco 2023 Chapter 10 Fall 2007. Monopoly. A market with a single seller with a product that is differentiated from other products. Characteristics. Single seller Firm and industry are synonymous No close substitutes Price maker Blocked entry

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monopoly

Monopoly

Eco 2023

Chapter 10

Fall 2007

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Monopoly
  • A market with a single seller with a product that is differentiated from other products.
characteristics
Characteristics
  • Single seller
    • Firm and industry are synonymous
  • No close substitutes
  • Price maker
  • Blocked entry
    • Barriers to entry keep competitors out of the market
  • Standardized or differentiated
barriers to entry
Barriers to Entry
  • Any impediment that prevents new firms from entering an industry and competing on an equal basis with existing firms
  • Types
    • Economies of scale
    • Legal restrictions
    • Control over essential resource
economies of scale
Economies of Scale
  • Declining average total cost with added firm size are extensive
  • Long run average total cost will decline over a wide range of output
  • Only a single large firm can achieve low average total costs
  • Protects the firm from competitors
  • Natural monopoly
    • the market demand curve cuts the long-run ATC curve where average total costs are still declining
legal restrictions
Legal Restrictions
  • Patent
    • A legal barriers to entry that grants its holder the exclusive right to sell a product for 20 years from the date the patent application is filed
    • Innovation
      • The process of turning an invention into a marketable product
  • Licenses
    • Governments often confer monopoly status by awarding a single firm the exclusive right to supply a particular good or service
control over essential resource
Control over Essential Resource
  • Firms owns all sources of a resource
    • ALCOA – aluminum
    • DeBeers – diamonds
monopoly demand
Monopoly Demand
  • Three assumptions
    • Patents, economies of scale or resource ownership secure our monopolist’s status
    • No unit of government regulates the firm
    • Single price monopolist,
  • Demand curve
    • Downward sloping demand curve
    • Quantity demanded increases as price decreases
implications
Implications
  • Marginal revenue is less than price
    • The downward sloping demand curve means that it can increase sales by charging a lower price
    • Marginal revenue is less than price for every level of output
    • Marginal revenue curve is below the demand curve
    • Marginal revenue is positive while total revenue is increasing.
    • When total revenue is decreasing, marginal revenue is negative
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Price

Elastic

Unit Elastic

Inelastic

Demand = Average Revenue

Monopoly

Marginal Revee

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Monopoly
  • Where demand is price elastic, marginal revenue is positive
  • Therefore:
  • TR increases as Price decreases
  • Where demand is price inelastic, marginal revenue is negative
  • TR decreases as Price increases
  • Where demand is unit elastic, marginal revenue is zero,
    • TR is at a maximum, neither increasing nor decreasing
implications12
Implications
  • Price Maker
    • When monopolist decides on output level, he determines price.
  • Elastic Region
    • Monopolist will never choose a price-quantity combination where price reductions cause total revenue to decrease
      • Marginal revenue is NEGATIVE
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Monopoly
  • Profit Maximization
    • A firm that must find the profit maximizing price when the demand curve for its output slopes downward
    • Monopolist produces the quantity at which total revenue > total cost by greatest amount
    • Marginal revenue = Marginal cost
monopoly short run
Price

Profit

Marginal Cost

Average Total Cost

P

Demand = Average Revenue

Monopoly – short run

Marginal Revenue

Q

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Monopoly
  • Short run
    • Economic profits can exist
    • Losses
      • Can exist
      • If the price covers average variable cost, the firm will produce
      • If not, the firm will shut down at least in the short run
long run profit maximization
Long run Profit Maximization
  • Long run efficiency in pure competition is
    • P = MC = Minimum ATC
  • Monopoly
    • MR < P, monopolist will sell smaller output at a higher price than pure competition
    • An efficiency loss occurs because
      • P > MC
      • P > minimum ATC
long run profit maximization18
Long-Run Profit Maximization
  • If a monopoly is insulated from competition by high barriers that block new entry, economic profit can persist in the long run.
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Monopoly
  • Allocation of Resources
    • If monopolists are no greedier than perfect competitors because both maximize profit
    • What is the problem with monopoly?
      • Lower output
      • Higher price
        • Than perfect competition
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Monopoly
  • Price Discrimination
    • Increasing profits by charging different groups of consumers different prices when the price differences are not justified by differences in production costs
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Monopoly
  • Conditions
    • Demand must be downward sloping
    • At least to separate groups of consumers
      • Each with different price elasticity of demand
    • Firm must be able to charge each group a different price for essentially the same product
    • The firmmust be able to prevent those who pay the lower price from reselling the product to those who pay the higher price
    • Each market, the firms equates marginal revenue with marginal cost
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