MonopoliesWhat Monopolies DoWhy Do Monopolies Exist?Profit Maximization for the MonopolistPublic Policy Towards the MonopolistPrice Discrimination and the MonopolistEcon 101: Principles of MicroeconomicsChapter 14 - MonopolyFall 2010Herriges (ISU) Ch. 14 Monopoly Fall 2010 1 / 35Outline1MonopoliesWhat Monopolies DoWhy Do Monopolies Exist?2Profit Maximization for the Monopolist3Public Policy Towards the Monopolist4Price Discrimination and the MonopolistHerriges (ISU) Ch. 14 Monopoly Fall 2010 2 / 35Other Market StructuresUp to this point, we have focused our attention on one type ofmarket - the perfectly competitive market.Recall that a perfectly competitive market is characterized by- Many buyers and sellers, all of whom are price-takers- An industry output that is standardized.While this market structure is a good approximation for manymarkets, it certainly does not apply for all markets.- Markets can differ in terms of both the nature of the supply side of themarket or the demand side.- For example, markets can have only one producer (a monopolist)- Alternatively, markets can have only one consumer (a monopsonist).In this class, we will restrict our attention to departures from theperfect competition due to- Limitations in number of producers- Product differentiationHerriges (ISU) Ch. 14 Monopoly Fall 2010 3 / 35Three Additional Market StructuresRelaxing the conditions that define a perfectly competitive marketyields three key new market types:1Monopoly: A monopolist is a firm that is the only producer of a goodthat has no close substitutes. An industry controlled by a monopolist isknown as a monopoly.Note that product differentiation does not matter here in that there isonly one product.2Oligopoly: An oligopoly is a market controlled by few producers.Product differentiation is not a key aspect in terms of defining thismarket type.3Monopolistic Competition: This market structure arises when there aremany producers, but the products they produce are not identical in theeyes of consumers.A classic example here might be restaurants.Herriges (ISU) Ch. 14 Monopoly Fall 2010 4 / 35Monopolies What Monopolies DoWhat Monopolies Do.Why we might be concerned about having a monopolist?The key problem associated with the monopolist is that the producerwill no longer be a price-taker.In a competitive market, the firm cannot directly influence priceIf the price-taking competitive firm tries to raise price, it will simplylose sales to other firms in the market.For the monopolist, there are no other firms to worry about.The ability of the monopolist to raise price above the competitivelevel is known as market power.The monopolist is, however, still constrained by the market demand.- If the firm raises price, quantity demanded will decrease (the quantityeffect).- At the same time, what it does sell it will sell at a higher price (theprice effect).In general, we will see that the monopolist will raise prices and reduceproduction relative to the competitive market.Herriges (ISU) Ch. 14 Monopoly Fall 2010 5 / 35Monopolies Why Do Monopolies Exist?Why Do Monopolies Exist?Monopolies arise due to some aspect of the industry that keeps otherfirms out, known as barriers to entryThere are four key barriers to entry:1Control of a Scarce Resource: The book gives the example here ofDeBeer’s near diamond monopoly due to its ownership of the bulk ofdiamond mines.2Economies of Scale3Legal Barriers to Entry4Network ExternalitiesKrugman and Wells also mention technological superiority, but this islargely driven in turn by legal barriers and economies of scale.Herriges (ISU) Ch. 14 Monopoly Fall 2010 6 / 35Monopolies Why Do Monopolies Exist?Economies of ScaleA natural monopoly will emerge if the firm’s LRATC curve isdeclining (i.e., there are economies of scale) over the range of outputslikely demanded for the entire output.In this case, as single firm can meet market demand at a lower costthan two or more firms.Natural monopolies tend to emerge when there are large fixed costsassociated with production.Local utilities (water, gas, electricity, local cable, local land-lines) arethe most common example of a natural monopoly.Herriges (ISU) Ch. 14 Monopoly Fall 2010 7 / 35Monopolies Why Do Monopolies Exist?The Natural MonopolyHerriges (ISU) Ch. 14 Monopoly Fall 2010 8 / 35Monopolies Why Do Monopolies Exist?Naturally CompetitiveHerriges (ISU) Ch. 14 Monopoly Fall 2010 9 / 35Monopolies Why Do Monopolies Exist?Legal Barriers to EntrySometimes public interest is best served by having a single seller in amarketLegal barriers take the form of- Protection of intellectual property- Government franchise - usually granted in cases of natural monopoly.Herriges (ISU) Ch. 14 Monopoly Fall 2010 10 / 35Monopolies Why Do Monopolies Exist?Protection of intellectual propertyIntellectual property encompasses literary, artistic and musical works,and scientific inventionsIn dealing with intellectual property government strikes a compromise- Allows creators of intellectual property to enjoy a monopoly and earneconomic profit, but only for a limited period of time- Once time is up, other sellers are allowed to enter the market, and it ishoped that competition will bring down pricesMost important kinds of legal protection for intellectual property are- Patents: Gives the inventor a temporary monopoly in the use or sale ofan invention (usually 16-20 years)- Copyrights: Gives the creator a literary or artistic work sole rights toprofit from that work (usually lifetime +70 years)Copyrights and patents are often sold to another person or firm, butthis does not change monopoly status of the market, since there isstill just one seller.Herriges (ISU) Ch. 14 Monopoly Fall 2010 11 / 35Monopolies Why Do Monopolies Exist?Network ExternalitiesNetwork externalities exist when an increase in networks membershipincreases its value to current and potential membersin these cases, joining a large network is more beneficial than joininga small network. . . even if product in larger network is somewhat inferior to product insmaller oneIn addition to advantages of joining a larger network. . . there are typically advantage in not leaving it once youve joined(avoiding switching costs).Herriges (ISU) Ch. 14 Monopoly Fall 2010 12 / 35Monopolies Why Do Monopolies Exist?Network Externalities - An ExampleAll of this clearly applies to the market for computer operatingsystemsWhen you buy a computer already loaded with Microsoft Windows, youbenefitBy having a
View Full Document
Unlocking...