Monopolies

Types of Market Structure Four principal models of market structures: Four principal models of market structures: 1.Perfect Competition – Many producers sell identical product 2.Monopoly – Single producer sells a single, undifferentiated product 3.Oligopoly – Few producers, more than one but not a large number, sell products that are identical or differentiated 4.Monopolistic competition – Many producers each sell a differentiated product

Types of Market Structures System is based on: System is based on: 1. Number of producers in the market 1. Number of producers in the market 2. whether the goods offered are identical or differentiated 2. whether the goods offered are identical or differentiated – Differentiated goods are goods that are different but considered somewhat substitutable by consumers (Coke vs. Pepsi)

Types of Market Structure Are Products Differentiated? How Many Producers Are There? Oligopoly Perfect competition No One Few Many Yes Monopolistic competition Not applicable Monopoly

Meaning of Monopoly  A monopolist is a firm that is the only producer of a good that has no close substitutes. An industry controlled by a monopolist is known as a monopoly, e.g. De Beers (diamond supplier from mines in South Africa)  The ability of a monopolist to raise its price above the competitive level by reducing output is known as market power.

Monopoly True monopolies don’t exist (exceptions of course in pharmaceuticals) today due to legal obstacles True monopolies don’t exist (exceptions of course in pharmaceuticals) today due to legal obstacles – Antitrust Laws – prevent monopolies from emerging Oligopolies are more common Oligopolies are more common – Ex. Automobiles, airline tickets

What Monopolists Do…. How did Cecil Rhodes (De Beers Company) consolidate South African diamond producers into a single company? How did Cecil Rhodes (De Beers Company) consolidate South African diamond producers into a single company? 1. Monopolist moves up the demand curve by reducing quantity supplied to a point which the quantity produced is lower than the price which is higher than under perfect competition 1. Monopolist moves up the demand curve by reducing quantity supplied to a point which the quantity produced is lower than the price which is higher than under perfect competition Known as MARKET POWER Known as MARKET POWER

What a Monopolist Do…. M C S D Q C Q M Quantity Price P M P C 2. … and raises price. 1. Compared to perfect competition, a monopolist reduces output…

What a Monopolist Do…. Market power is what monopolies are all about Market power is what monopolies are all about Wheat farmers have no market power, there are thousands of wheat farmers Wheat farmers have no market power, there are thousands of wheat farmers Water Utility Companies do have market power, you have to pay the price they charge for water, you have no other company to use! Water Utility Companies do have market power, you have to pay the price they charge for water, you have no other company to use!

What a Monopolist Do…. Monopolists reduce output and raise prices compared to the perfectly competitive industry level to create profit Monopolists reduce output and raise prices compared to the perfectly competitive industry level to create profit What allows monopolists to be monopolists? What allows monopolists to be monopolists?

Why do Monopolies Exist? Due to barriers of entry: Due to barriers of entry: 1. Control of a scarce resource or input 1. Control of a scarce resource or input 2. Increasing returns to scale 2. Increasing returns to scale 3. technological superiority 3. technological superiority 4. government-created barriers 4. government-created barriers

1. Control of a scarce resource or input Monopolists control a resource or input crucial to an industry can prevent other firms from entering its market Monopolists control a resource or input crucial to an industry can prevent other firms from entering its market De Beers controlled all the mines that produced the bulk of the world’s diamonds De Beers controlled all the mines that produced the bulk of the world’s diamonds

2. Increasing returns to scale Local utility companies are monopolies, why don’t rival companies compete to provide alternatives? Local utility companies are monopolies, why don’t rival companies compete to provide alternatives? Due to increasing returns to scale: Due to increasing returns to scale: – Average total cost falls as output increases, firms tend to grow larger which then these companies have a cost advantage over any potential entry to the market and thus….a monopoly can start

2. Increasing returns to scale Natural monopolies are created and sustained by increasing returns to scale Natural monopolies are created and sustained by increasing returns to scale Defining characteristic is that it possesses increasing returns to scale over the range of output that is relevant for the industry Defining characteristic is that it possesses increasing returns to scale over the range of output that is relevant for the industry Examples of a natural monopoly: Examples of a natural monopoly: – Water, gas, electric, local land-line phone service and cable television

2. Increasing Returns to Scale Create Natural Monopoly D ATC Quantity Price, cost Relevant output range Natural monopoly. Average total cost is falling over the relevant output range Natural monopolist’s break-even price

3. Technological Superiority A firm that maintains a consistent technological advantage over potential competitors can establish itself as a monopolist A firm that maintains a consistent technological advantage over potential competitors can establish itself as a monopolist Ex. 1970s-1990s, Intel maintained a consistent advantage over potential competitors Ex. 1970s-1990s, Intel maintained a consistent advantage over potential competitors

3. Technological Superiority Although, in certain high-tech industries, technological superiority is not a guarantee of success against competitors Although, in certain high-tech industries, technological superiority is not a guarantee of success against competitors Network externalities – a condition that arises when the value of a good to the consumer rises as the number of people who also use the good rises Network externalities – a condition that arises when the value of a good to the consumer rises as the number of people who also use the good rises – Ex. Microsoft – a monopolist due to the phenomenon of network externalities

4. Government-Created Barriers Patent – inventor given the sole right to make, use, or sell that invention for a period of years (depending on country) Patent – inventor given the sole right to make, use, or sell that invention for a period of years (depending on country) – Only given to new products, such as drugs or devices – Ex. iPhone Copyright – gives the creator of a literacy or artistic work the sole rights to profit from that work, usually for period equal to the creator’s lifetime plus 70 years Copyright – gives the creator of a literacy or artistic work the sole rights to profit from that work, usually for period equal to the creator’s lifetime plus 70 years – Ex: NFL, Super Bowl Logo, Coca Cola Logo, Pepsi Logo

4. Government-Created Barriers Why Patents and Copyrights? Why Patents and Copyrights? Due to allowing incentives for inventors and encouraging invention and creativity Due to allowing incentives for inventors and encouraging invention and creativity

Notes on Monopolies

Types of Market Structure Four principal models of market structures: Four principal models of market structures: 1.Perfect Competition 2.Monopoly 3.Oligopoly 4.Monopolistic competition

Types of Market Structures System is based on: System is based on: – Differentiated goods are goods that are different but considered somewhat substitutable by consumers (Coke vs. Pepsi)

Types of Market Structure Are Products Differentiated? How Many Producers Are There? No One Few Many Yes

Meaning of Monopoly  A monopolist is a firm that is the only producer of a good that has no close substitutes. An industry controlled by a monopolist is known as a ____________, e.g. De Beers (diamond supplier from mines in South Africa)  The ability of a monopolist to raise its price above the competitive level by reducing output is known as __________________.

Monopoly True monopolies don’t exist (exceptions of course in pharmaceuticals) today due to legal obstacles True monopolies don’t exist (exceptions of course in pharmaceuticals) today due to legal obstacles Oligopolies are more common Oligopolies are more common

What Monopolists Do…. How did Cecil Rhodes (De Beers Company) consolidate South African diamond producers into a single company? How did Cecil Rhodes (De Beers Company) consolidate South African diamond producers into a single company? 1. Monopolist moves up the demand curve by reducing quantity supplied to a point which the quantity produced is lower than the price which is higher than under perfect competition 1. Monopolist moves up the demand curve by reducing quantity supplied to a point which the quantity produced is lower than the price which is higher than under perfect competition Known as __________________ Known as __________________

What a Monopolist Do…. M C S D Q C Q M Quantity Price P M P C

What a Monopolist Do…. Market power is what monopolies are all about Market power is what monopolies are all about Wheat farmers have no market power, there are thousands of wheat farmers Wheat farmers have no market power, there are thousands of wheat farmers Water Utility Companies do have market power, you have to pay the price they charge for water, you have no other company to use! Water Utility Companies do have market power, you have to pay the price they charge for water, you have no other company to use!

What a Monopolist Do…. Monopolists reduce output and raise prices compared to the perfectly competitive industry level to create profit Monopolists reduce output and raise prices compared to the perfectly competitive industry level to create profit What allows monopolists to be monopolists? What allows monopolists to be monopolists?

Why do Monopolies Exist? Due to barriers of entry: Due to barriers of entry: – 1. – 2. – 3. – 4.

1. Control of a scarce resource or input Monopolists control a resource or input crucial to an industry can prevent other firms from entering its market Monopolists control a resource or input crucial to an industry can prevent other firms from entering its market

2. Increasing returns to scale Local utility companies are monopolies, why don’t rival companies compete to provide alternatives? Local utility companies are monopolies, why don’t rival companies compete to provide alternatives? Due to increasing returns to scale: Due to increasing returns to scale:

2. Increasing returns to scale Natural monopolies are created and sustained by increasing returns to scale Natural monopolies are created and sustained by increasing returns to scale Defining characteristic is that it possesses increasing returns to scale over the range of output that is relevant for the industry Defining characteristic is that it possesses increasing returns to scale over the range of output that is relevant for the industry Examples of a natural monopoly: Examples of a natural monopoly:

2. Increasing Returns to Scale Create Natural Monopoly D ATC Quantity Price, cost

3. Technological Superiority A firm that maintains a consistent technological advantage over potential competitors can establish itself as a monopolist A firm that maintains a consistent technological advantage over potential competitors can establish itself as a monopolist

3. Technological Superiority Although, in certain high-tech industries, technological superiority is not a guarantee of success against competitors Although, in certain high-tech industries, technological superiority is not a guarantee of success against competitors Network externalities – a condition that arises when the value of a good to the consumer rises as the number of people who also use the good rises Network externalities – a condition that arises when the value of a good to the consumer rises as the number of people who also use the good rises

4. Government-Created Barriers Patent – inventor given the sole right to make, use, or sell that invention for a period of years (depending on country) Patent – inventor given the sole right to make, use, or sell that invention for a period of years (depending on country) Copyright – gives the creator of a literacy or artistic work the sole rights to profit from that work, usually for period equal to the creator’s lifetime plus 70 years Copyright – gives the creator of a literacy or artistic work the sole rights to profit from that work, usually for period equal to the creator’s lifetime plus 70 years

4. Government-Created Barriers Why Patents and Copyrights? Why Patents and Copyrights?