Monopoly Concepts and Barriers to Entry

Monopoly

• A monopoly is a market structure with a single firm that is the sole producer of a product with no close substitutes.
• The firm and the industry are one and the same.
• A monopolist has the ability to set the price, making them a price maker.
• They can choose either price or quantity, but not both.
• Monopolies exist due to barriers to entry.

Learning Objectives

• Explain how monopolies arise and why they need to reduce prices to sell more.
• Describe how a monopolist determines profit-maximizing output and price.
• Explain five criticisms of monopolies.
• Explain the key differences between monopoly and perfect competition.
• Describe ways governments can control a monopolist.
• Explain three justifications for monopolies.

Barriers to Entry

• These are obstacles that make it difficult or impossible for new firms to enter a market.
• Types of barriers include:
  • Technical barriers (e.g., sole ownership of a scarce resource).
  • Legal barriers (e.g., patents, copyrights, public franchises, licenses).
  • Economic barriers (e.g., economies of scale).

Monopoly Characteristics

• Monopolies are protected from new competitors by barriers to entry.
• Example industries with barriers to entry: Computer operating systems, commercial aircraft manufacturing, West coast wild salmon fishing.

Monopolist's Gains and Losses

• To increase sales, a monopolist must lower the price on all units, resulting in a gain from selling more units but a loss due to lower prices.
• Marginal revenue is less than the price when a firm producing more output.

Total, Average, and Marginal Revenues

• Total revenue increases as more units are sold but starts to decrease eventually.
• Average revenue is identical to the demand curve.
• Total revenue is maximized when marginal revenue equals zero.

Monopoly and Elasticity

• The top of any demand curve is elastic.
• The bottom of any demand curve is inelastic.
• Monopolists will never produce where demand is inelastic.

Profit-Maximizing Output

• A monopolist maximizes profit where marginal revenue (MR) equals marginal cost (MC).
• Being a monopolist does not always ensure profitability.

Calculating Total Profits

• Profits are maximized when the difference between total revenue (TR) and total cost (TC) is greatest.
• The total profit curve (Tπ) is at its maximum when the slope of total revenue (TR) equals the slope of total cost (TC), which is where MR = MC.

Calculating Total Profits (Marginal Approach)

• A different method for calculating profit maximization uses marginal revenue and marginal cost.

Average and Marginal Costs and Revenues for Monpolists

• Break-even when average revenue (AR) equals average cost (AC).
• More profitable when AR > AC.
• Profit maximizing when MR=MC

Perfect Price Discrimination

• Customers are charged the maximum price they are willing to pay.

Monopoly vs. Competitive Markets

• In a competitive market, firms are price takers and produce at the equilibrium price where P = MC.
• Monopolies charge higher prices and produce lower quantities than competitive markets.

Economic Surplus: Perfect Competition vs. Monopoly

• Monopoly results in less consumer surplus, more producer surplus, and deadweight loss.

Key Concepts to Remember

• Definition of monopolies
• Barriers to entry
• Profit maximization
• Criticisms and defenses of monopolies
• Differences between monopolies and perfect competition
• Government control of monopolies