1. Principles of Microeconomics Chapter 15
Monopoly

2. Fundamental Causes of Monopoly
Barriers to Entry cause Monopoly Power
Resource Restrictions:
Monopoly has sole ownership of a key resource in production
Gov’t created Monopolies
Monopoly is granted exclusive rights to produce or sell a good
Natural Monopolies
One firm can provide the good at a lower cost than two or more firms

3. Pricing and Production Decisions
A monopoly firm has complete price control because they are the sole provider of the good
Considered a Price Maker
Monopoly firm – still faces a downward sloping demand curve
To sell more = must lower the price
Price: determined by firm
Quantity: determined by demand

4. Monopoly Production Decisions
Consider the market for diamonds where DeBeers has a monopoly. It is deciding how much to sell and at what price.
Where will it gain positive revenue?
What price should it set and where should it produce to maximize profits?
What will be the size of its profits at this point?
Price
Quantity TR TC MR MC
Profit
Change Profit
2000
25,000 -
-25,000
1800
100
180,000
100,000
750
80,000
105,000
1600
200
320,000
190,000
1400
900
130,000
50,000
300
420,000
290,000
1000
1200
400
480,000
400,000
600
1100
-50,000
500
500,000
525,000
1250
-105,000

5. Monopoly Production Decisions
Consider the market for diamonds where DeBeers has a monopoly. It is deciding how much to sell and at what price.
Where will it gain positive revenue?
What price should it set and where should it produce to maximize profits?
What will be the size of its profits at this point?
Price
Quantity TR TC MR MC
Profit
Change Profit
2000
25,000 -
-25,000
1800
100
180,000
100,000
750
80,000
105,000
1600
200
320,000
190,000
1400
900
130,000
50,000
300
420,000
290,000
1000
1200
400
480,000
400,000
600
1100
-50,000
500
500,000
525,000
1250
-105,000

6. Monopoly Production Decisions
Monopoly can set the price anywhere below $2000 and gain positive revenue
Optimal point of production?
Need to consider profit maximization
MR = MC
If MR > MC: Increase profits by increasing Qs
If MR < MC: Increase profits by decreasing Qs

7. Monopoly Production Decisions
Price
Quantity TR MR TC MC
Profit
Change Profit
2000 -
25,000
-25,000
1800
100
180,000
100,000
750
80,000
105,000
1600
200
320,000
1400
190,000
900
130,000
50,000
300
420,000
1000
290,000
1200
400
480,000
600
400,000
1100
-50,000
500
500,000
525,000
1250
-105,000
Optimal Point of Production: MR = MC P = 1400; Q = 300

8. Profits for a Monopoly
Profits = TR – TC = (P x Q) – (ATC x Q) = Q (P – ATC) Profits = 300 (1400 – 966) ATC = 290,000 / 300 = 966

9. Welfare Costs of a Monopoly
Since monopolies set prices and quantities at MR = MC and MR ≠ P – the monopoly outcome is socially inefficient.
Total surplus would be maximized at P = D = MC
D = MC  Socially Efficient Outcome
MR = MC  Profit Max Outcome

10. Difference between Monopoly Outcome and Socially Efficient Outcome  Deadweight loss

11. Application 1
Based on market research, Company A finds out the following information on demand and production costs of its new good:
Demand: P = 1000 – 10Q
Marginal Revenue: MR = 1,000 – 20 Q
Marginal Cost: MC = Q
What is the price and quantity that maximize profits?
What is the price and quantity that maximize social welfare?
Draw the diagram and calculate the deadweight loss.

12. Price Discrimination
Because a monopoly can set the price based on consumer demand – It can set different prices for different buyers
If different markets do not interact: Each consumer can be charged a different price based on max price willing to pay
Example: Pharmaceuticals
US market pays a higher price for pharmaceuticals than Europe (65% cheaper)
People in US do not fly to Europe to buy their medicine
Two markets are separate
Price Discrimination: Allows monopoly to gain even greater profits

13. Price Discrimination
Because a monopoly can set the price based on consumer demand – It can set different prices for different buyers
If different markets do not interact: Each consumer can be charged a different price based on max price willing to pay
Example: Pharmaceuticals
US market pays a higher price for pharmaceuticals than Europe (65% cheaper)
People in US do not fly to Europe to buy their medicine
Two markets are separate
Price Discrimination: Allows monopoly to gain even greater profits

14. Price Discrimination
Because a monopoly can set the price based on consumer demand – It can set different prices for different buyers
If different markets do not interact: Each consumer can be charged a different price based on max price willing to pay
Example: Pharmaceuticals
US market pays a higher price for pharmaceuticals than Europe (65% cheaper)
People in US do not fly to Europe to buy their medicine
Two markets are separate
Price Discrimination: Allows monopoly to gain even greater profits

15. Ways to Regulate Monopoly Power
Increase competition with Antitrust Laws
Regulate natural monopolies to bring price as close to socially efficient point as possible
Public Ownership  Government takes over
Do nothing: Cost to regulation > Benefit of regulating

16. Real-World Monopolies

17. Key Takeaways
Monopolies are the least competitive market structure but they still depend on demand to set prices and profit maximizing quantities
There are social costs to monopoly power, including deadweight loss
There are many harmless and harmful examples of monopoly power in the world today.