Slide 1MonopolyWhat Is A Monopoly?The Sources of MonopolyEconomies of ScaleA Natural MonopolyLegal BarriersProtection of Intellectual PropertyGovernment FranchiseNetwork ExternalitiesSlide 11Monopoly Goals And ConstraintsMonopoly Price or Output DecisionDemand and Marginal RevenueThe Profit-Maximizing Output LevelMonopoly Price and Output DeterminationProfit And LossMonopoly Profit and LossEquilibrium in Monopoly MarketsShort-Run EquilibriumLong-Run EquilibriumComparing Monopoly to Perfect CompetitionComparing Monopoly and Perfect CompetitionSlide 24Slide 25Why Monopolies Often Earn Zero Economic ProfitWhat Happens When Things Change?An Increase in Demand and a Cost-Saving Technological AdvanceA Change in DemandSlide 30Price DiscriminationRequirements for Price DiscriminationPrice Discrimination That Harms ConsumersSlide 34Price Discrimination That Benefits ConsumersPerfect Price DiscriminationSlide 37The Decline of Monopoly?Using the Theory: Price Discrimination at Colleges and UniversitiesSlide 40Lecture by: Jacinto FabiosaFall 2005Monopoly2Monopoly•“Monopoly” is as close as economics comes to a dirty word–Negative reputation of monopoly is in many ways deserved–At the same time a mythology has developed around monopolies–This negative characterization goes too far•We do better by managing monopoly problem, rather than eliminating it3What Is A Monopoly?•A monopoly firm is the only seller of a good or service with no close substitutes–Market in which the monopoly firm operates is called a monopoly market•Key concept is notion of substitutability•Definition of monopoly firm or market may seem precise–But in real world, definition is not always so clear-cut•Because we all have different tastes and characteristics, we can have different opinions about what is, and what is not, a “close” substitute–As a result, we can have different ideas about how broadly or how narrowly we should define a market when trying to decide if it is a monopoly4The Sources of Monopoly•Existence of a monopoly means that something is causing other firms to stay out of the market –Rather than enter and compete with firm already there•What barrier prevents additional firms from entering the market?–Several possible answers•Economies of scale•Legal barriers•Network externalities5Economies of Scale•If economies of scale persist to the point where a single firm is producing for entire market, the market is a natural monopoly–Market in which, due to economies of scale, one firm can operate at lower average cost than can two or more firms•Unless government intervenes, only one seller would survive—market would naturally become a monopoly•Small local monopolies are often natural monopolies –Because they continue to enjoy economies of scale up to point at which they are serving entire market6A Natural Monopoly7Legal Barriers•Sometimes public interest is best served by having a single seller in a market•Many monopolies arise because of legal barriers including–Protection of intellectual property–Government franchise8Protection of Intellectual Property•The words you are reading right now are an example of intellectual property, which includes literary, artistic and musical works, and scientific inventions•In dealing with intellectual property government strikes a compromise–Allows creators of intellectual property to enjoy a monopoly and earn economic profit, but only for a limited period of time–Once time is up, other sellers are allowed to enter the market, and it is hoped that competition among them will bring down prices•Most important kinds of legal protection for intellectual property are–Patents•Temporary grant of monopoly rights over a new product or scientific discovery–Copyrights•Grant of exclusive rights to sell a literary, musical, or artistic work•Copyrights and patents are often sold to another person or firm, but this does not change monopoly status of the market, since there is still just one seller9Government Franchise•Large firms we usually think of as monopolies have their monopoly status guaranteed through government franchise–Grant of exclusive rights over a product•Barrier to entry is–Any other firm that enters the market will be prosecuted•Governments usually grant franchises when they think market is a natural monopoly10Network Externalities•Exist when an increase in network’s membership increases its value to current and potential members•When network externalities are present, joining a large network is more beneficial than joining a small network–Even if product in larger network is somewhat inferior to product in smaller one•In addition to advantages of joining a larger network–Advantage in not leaving it once you’ve joined•Avoiding switching costs11Network Externalities•All of this clearly applies to the market for computer operating systems–When you buy a computer already loaded with Microsoft Windows, you benefit •By having a large number of people with whom you can easily share documents•Huge number of computers everywhere you can easily operate–You gain access to many more software programs, like Microsoft Word, Excel, or Outlook, since many more programs are designed for Windows than for the few alternatives–You can save time by just calling knowledgeable friends or coworkers•Rather than attempting to contact technical support12Monopoly Goals And Constraints•Goal of a monopoly—like that of any firm—is to earn highest profit possible•However, a monopolist faces constraints–Constraint on monopoly’s cost•For any level of output it might produce, total cost is determined by–Technology of production–Price it must pay for its inputs–Demand constraint•Monopolist’s demand curve tells us maximum price monopolist can charge to sell any given quantity of output•And for any level of output it might produce, maximum price it can charge is determined by market demand curve for its product13Monopoly Price or Output Decision•Noncompetitive firms—such as monopolies—do not make two separate decisions about price and quantity, but rather one decision–Once firm determines its output level, it has also determined its price•When any firm—including a monopoly—faces a downward sloping demand curve, marginal revenue is less than price of output–Therefore, marginal revenue curve will lie below demand curve•Monopoly will always produce at an
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