Monopoly It aint just a board game anymore…

Review Monopolies exist because… –A key resource is owned by a single firm, or –The government provides a single firm the right to produce the good or service, or –The costs of production make the single producer more efficient than a large number of firms (natural monopoly) Monopolies fight hard to maintain their position, usually…

Profits for Everyone… Everyone, that is, who owns the monopoly! Unlike firms in perfect competition, monopolies can earn economic profit in both the short and the long run. Why? Remember, D does not equal MR…but… The same rules for the profit maximizing quantity apply: MC = MR

The Pure Monopolist D=ARMR ATC MC QmQm PmPm Profit Q PC

Monopolies are Deadweight Perfectly Competitive Firms –P = MR = MC = ATC –P = MC – Allocative Efficiency –P = ATC – Productive Efficiency Pure Monopoly –P > MR = MC –P > ATC –P ≠ ATC, Productive Inefficiency –P ≠ MC, Allocative Inefficiency

Pure Monopolies are Pure Evil!? Maybe. But… –Monopolies are still subject to the laws of demand…they cannot charge ANY price they wish… –Monopolies often look to produce much larger quantities than any number of smaller firms could combined Think Wal-Mart: Large TOTAL profit by selling a LOT of goods at small UNIT profit. –Monopolies can and do often take losses; markets often become contested Consumer tastes could shift D below ATC, causing losses Same rules apply (take loss in short run if P > AVC, shutdown if P < AVC)

Monopolies vs. Perfectly Competitive Firms Cost Structures Are Not Equal –Monopolies may be producing at a unit cost that is much lower than firms in PC, or much higher Four Factors –Economies of Scale –X-inefficiency –Monopoly specific costs –Technological Advance

Economies of Scale Monopolies often exist because one firm could operate at a much lower point on the ATC curve than numerous firms could. Computer software firms especially have found this to be true due to –Simultaneous Consumption: a product can be used by multiple people at one time –Network Effects: When more people use a product, it becomes more valuable to current users, which drives consumers to one producer Natural Monopolies exist because one firm operates at a much lower unit cost than multiple firms

Monopolist Expenditures Monopolies fight to remain the only firm in the industry. Often, they rely on the government to keep them in this position. Monopolies will expend tremendous amounts of money to pressure government officials to continue the monopoly. –Rent-seeking Behavior –Public Choice Theory These costs drive ATC curves upwards.

X-Inefficiency X-Inefficiency is a theory that firms, especially large firms, do not necessarily operate on their ATC curve but instead incur costs that are higher than they should be… Reasons: –Poor management (hide inside the bureaucracy) –Poor workers (lack of motivation/supervision) –Lack of pressures of competition (how cozy!) In turn, it is possible that even if a monopoly has economies of scale, it may not actually operate at those lower costs.

Technological Advancement Monopolies are less likely to spend significant monies on research and development, since their position in the market is not threatened by competitors… Unless technology is the chief barrier to entry…then they will invest large amounts of money into R & D. The lesson: firm costs could be heavily or not heavily influenced by desires to be technologically advanced. It depends on the cause of the monopoly. Competitive firms have every incentive, however, to find new, more efficient methods of production.