Economics Chapter 15 Review

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Questions and Answers

What is 'natural' about a natural monopoly?

Because the economies of scale are very large one firm can supply an entire market at a low average cost. A monopoly happens naturally because whichever firm expands its production will reduce its average total cost, reduce its price and drive the competition out of business.

What is the relationship between a monopolist's demand curve and the market demand curve?

They are the same curve.

What is the relationship between a monopolist's demand curve and its marginal revenue curve?

Because the marginal revenue curve is below the demand curve, marginal revenue is less than price.

Why is society worse off when a monopolist charges a price that earns monopoly profits rather than when price is set at the 'competitive level'?

Because to sell everything at the price that will earn them profit they will have to produce less than economically efficient and sell at a price that is more than economically efficient, creating deadweight loss. Signup and view all the answers

Will charging the highest possible price always maximize a monopolist's profit? Briefly explain.

No, because firms maximize profit where marginal cost equals marginal revenue. Signup and view all the answers

Why do most regulatory agencies require natural monopolies to charge a price equal to average cost instead?

Because if firms charged where it was economically efficient, the price would be below the average total cost and firms would suffer losses, leading them to stop producing in the long run. Signup and view all the answers

Why would it be economically efficient to require a natural monopoly to charge a price equal to marginal cost?

Because marginal cost represents supply and price represents demand. Signup and view all the answers

Which type of merger is more likely to increase the market power of a newly merged firm?

Horizontal merger. Signup and view all the answers

What is the difference between a horizontal merger and a vertical merger?

A horizontal merger is between firms of the same industry, while a vertical merger is between firms at different stages of production. Signup and view all the answers

Who is in charge of enforcing antitrust laws?

The Federal Trade Commission and the Antitrust Division of the U.S. Department of Justice. Signup and view all the answers

What is the purpose of the antitrust laws?

Laws aimed to eliminate collusion and promote competition among firms. Signup and view all the answers

Is the total deadweight loss from market power for the economy large or small?

Small because monopoly markets are rare. Signup and view all the answers

What is a monopoly?

A firm that is the only seller of a product that doesn't have close substitutes. Signup and view all the answers

In what sense is a monopolist a price maker?

If they increase the price of their product, they might lose some customers but not all of them. Signup and view all the answers

Are all public franchises natural monopolies?

All public franchises are not natural monopolies, and all natural monopolies are not public franchises. Signup and view all the answers

What is a public franchise?

A government designation that a firm is the only provider of a good. Signup and view all the answers

If patents, copyrights, and trademarks reduce competition, why does the federal government grant them?

To encourage individuals and firms to spend money on research and development to create new products. Signup and view all the answers

What are the four most important ways a firm becomes a monopoly?

<ol> <li>Government blocks entry of more than one firm into a market. 2. One firm controls the key resources to produce. 3. There are network externalities of supplying a good. 4. Economies of scale are so large that one firm has a natural monopoly.</li> </ol> Signup and view all the answers

Can a firm be a monopoly if close substitutes for its product exist?

Yes, if the firm is in a small town where its substitutes cannot be found even though they exist. Signup and view all the answers

Study Notes

Natural Monopolies

A natural monopoly arises when a single firm can supply an entire market at a lower average cost due to large economies of scale.
As a firm increases production, average total cost decreases, enabling it to undercut competitors and drive them out of business.

Demand Curves

A monopolist's demand curve is identical to the market demand curve.
The monopolist's marginal revenue curve lies below its demand curve, indicating that marginal revenue is less than the price.

Monopolistic Pricing

When monopolists set prices to earn profits, they produce less than economically efficient levels, resulting in deadweight loss.
Maximum profit occurs where marginal cost equals marginal revenue, not by simply charging the highest price.

Regulatory Measures

Regulatory agencies mandate that natural monopolies charge a price equal to average cost to avoid losses that could drive firms out of business.
Requiring a price equal to marginal cost is economically efficient as it aligns supply with demand.

Mergers and Market Power

Horizontal mergers, between firms within the same industry, are more likely to enhance market power.
Vertical mergers occur between firms at different production stages, with distinct operational implications.

Antitrust Laws

Enforcement of antitrust laws is the responsibility of the Federal Trade Commission and the Antitrust Division of the U.S. Department of Justice.
Antitrust laws aim to prevent collusion and foster competitive markets.

Market Power Impact

Total deadweight loss resulting from market power is generally small since monopoly markets are not common.
A monopoly is defined as a firm that is the sole seller of a product without close substitutes.

Price Maker Concept

A monopolist is considered a price maker, as it can raise prices without losing all customers, but may still face some loss of demand.

Public Franchises

Not all public franchises are natural monopolies, and not all natural monopolies qualify as public franchises.
A public franchise grants a firm exclusive rights to provide a good, as designated by the government.

Intellectual Property Rights

The federal government grants patents, copyrights, and trademarks to stimulate research and development investment, despite their competitive limitations.

Formation of Monopolies

Key pathways to monopoly formation include:
- Government actions preventing entry of additional firms.
- Exclusive control over essential production resources.
- Network externalities favoring a sole supplier.
- Significant economies of scale.

Monopoly vs. Close Substitutes

A firm can still be considered a monopoly even in the presence of close substitutes, particularly in a localized market where alternatives are unavailable.

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This quiz focuses on key concepts from Chapter 15 of economics, covering topics such as natural monopolies and the demand curve for monopolists. Test your understanding of these crucial economic principles through flashcards designed for review and study.