MONOPOLY

MONOPOLY

For monopoly to exist, following conditions are essential:

 One and only one firm produces and sells a particular commodity or a
service.
 There are no rivals or direct competitors of the firm.
 No other seller can enter the market for whatever reasons – legal,
technical or economic.
 Monopolist is a price maker. He tries to take the best of whatever demand
and cost conditions exist without the fear of new firms entering to compete
away his profits.
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The Theory of Monopoly

Market Conditions
Under monopoly, there is only one firm in the industry and so there is no
difference between the demand curve for the industry and the firm. Since a
normal demand curve is assumed, it is necessary for the monopolist to
reduce price in order to increase the quantity sold.
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Monopoly Equilibrium
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Additional Points
 A monopolist will always produce at a point where demand is elastic.
 It is impossible to derive a supply curve for a monopolist.
 A lump sum tax on the profits of a monopolist will leave price and output
unchanged.
 Monopolists arrive at the same conclusion about their production using MC
and MR as they do using TC
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The three alternatives for a Monopolist

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Short Run Equilibrium

In the short run the monopolist maximises his short run profits or minimises his
short run losses if the following two conditions are satisfied
i. MC = MR and
ii. The slope of MC is greater than the slope of MR at the point of their
intersection
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Monopoly and Perfect Competition Compared

In general, monopoly price is higher than competitive price and monopoly
output lower than competitive output. Monopoly and perfect competition
are antipoles of each other and they differ in following ways:
i. Under competition, variation in output has no effect on price and thus,
marginal revenue is equal to price. But if the monopolist wants to sell
more, he must reduce price and, therefore, MR<P for every output level.
ii. Under competition a firm can sell as much as it likes at the current price.
Therefore, the average revenue curve of the firm is a straight line parallel
to the horizontal axis and it is perfectly elastic. But under monopoly the
average revenue or demand curve is downward sloping and we have
elastic demand (ep > 1).
iii. Monopoly price is higher than competitive price.
iv. Monopoly output is lower than competitive output.
Cont…
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v. Under perfect competition the firm, in the long run, makes only normal profits
but under monopoly the firm can get super normal profits even in the long
run.
vi. Since, even in the long run, the monopolist's demand curve remains sloping
downward, it cannot be tangent to average cost curve at AC minimum. It
implies that the firm will produce less than its optimum output level in the long
run.
vii. Monopolies are also likely to be inefficient and slow to introduce
technological change. Pure competition forces each firm to be either efficient
or perish.
Thus, the monopolist leads to an inefficient allocation of resources from the
consumer's point of view.
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Sources of Monopoly
 Legal Restrictions: legal restriction can block entry of new firmsin following
ways: 1) existing firm may be conferred special privileges in production or
distribution of a product in a particular market. Eg- govt has given the
exclusive right to CESC to sell electricity in greater Kolkata. 2) existing firm
may posses product or technology patent.Eg- Rand Xereox had for many
years had patent in plain paper copying. 3) firm has monopolised the market
for a scarce input without which the product can’t be produced. Eg- De Beers
which owns 80% of diamond mines in the world.
 Capital Costs: certain businesses (airlines, chemical companies) have high
set up costs. Hence min efficient scale of production is very high which can’t
be afforded by any firm.
 Natural Factor Endowments: sometimes firms, within a particular country
between them control a major proportion of the world output of a commodity-
eg coffee from Brazil
 Tariffs and Quotas : Import tariff raises price of goods imported in domestic
economy and import quota restricts volume that can be imported. Thus
domestic industry from international competition.
 Limits to the power of the
monopolist
1. Potential competition- though entry can be blocked legally, but in
all cases of monopoly it is nit such. Hence there remains some
fear of competitors to be attracted into the market if prices are too
high, which restricts the monopolist from charging very high price.
2. Availability of substitutes: If monopoly price is very high, people
may use less satisfactory subsitutes (eg- kerosene oil or gas
instead of electricity), so monopolist charges less than max
possible price.
3. Public opinion: In democratic country public opinion is very
important factor.
4. Legislation: In case of public utility services (gas, electricity), govt
by law limits the price that can be charged.
5. Price elasticity of demand: power of monopolist depends upon the
price elasticity of demand, as showed by A.P.Lerner, in his
Lerner’s index
 Price discrimination

When seller sells same product at different prices to

different buyers. It is
• Personal-different prices charged from different persons
• Local- different prices charged from different persons
living in different localities
• According to use-higher prices charged for commercial
use than domestic use.
Price discrimination is possible:1)market is effectively
divided in 2 submarkets. 2)resale of the good is not
possible or prohibited.
Price discrimination is profitable: elasticity of demand is not
same for 2 different market segements.
 Types of price discrimination

1) Third degree price discrimination: market or consumer is separated

on basis of elasticity, monopolist charges 2 different prices.
Example: Geographically separated markets, nature of use
(residential or domestic), personal characteristics of consumers
(adult or child).
2) Second degree price discrimination : if monopolist can negotiate and
sell at more than 2 prices, he receives a further larger part of
consumers surplus. example: where services are metered-
electricity, telephone etc.
3) First degree price discrimination when monopolist can negotiate with
each buyer individually and sell each unit of output at its
corresponding price then he can take away entire CS => “take it or
leave it” basis. In reality it is impossible as it require total information
of market demand & willingness of the consumer.
 PRICING METHODS AND APPROACHES

Generally, price discrimination is identified to be of the following three types.

First Degree Discrimination

This type of discrimination involves charging the maximum price possible for
each unit of output.
 PRICING METHODS AND APPROACHES

Second Degree Discrimination

Instead of setting different prices for each unit, here pricing is done on the basis
of quantities of output purchased by individual consumers.
 PRICING METHODS AND APPROACHES

International Price Discrimination and Dumping

International price discrimination is called dumping or even persistent dumping.
Under this type of dumping the monopolist sells the commodity at a higher
price at home. The reason being that the market demand curve may be less
elastic at home.