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10 Pure Monopoly Copyright © 2012 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin
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Monopolistic Competition
Four Market Models Characteristics of the Four Basic Market Models Characteristic Pure Competition Monopolistic Competition Oligopoly Monopoly Number of firms A very large number Many Few One Type of product Standardized Differentiated Standardized or differentiated Unique; no close subs. Control over price None Some, but within rather narrow limits Limited by mutual inter-dependence; considerable with collusion Considerable Conditions of entry Very easy, no obstacles Relatively easy Significant obstacles Blocked Nonprice competition Considerable emphasis on advertising, brand names, trademarks Typically a great deal, particularly with product differentiation Mostly public relation advertising Examples Agriculture Retail trade, dresses, shoes Steel, auto, farm implements Local utilities LO1 10-2
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An Introduction to Pure Monopoly
Single seller – a sole producer No close substitutes – unique product Price maker – control over price Blocked entry – strong barriers to entry block potential competition Non-price competition – mostly PR or advertising the product Public utility companies Natural Gas Electric Water Near monopolies Intel Wham-O Professional sports teams LO1 10-3
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Barrier to entry: a factor that keeps firms from entering an industry
Barriers to Entry Barrier to entry: a factor that keeps firms from entering an industry Economies of scale Legal barriers: patents and licenses Ownership of essential resources Pricing LO1 10-4
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The pure monopolist is the industry
Monopoly Demand The pure monopolist is the industry Demand curve is the market demand curve Downsloping demand curve Marginal revenue is less than price LO1 10-5
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Marginal revenue < price Monopolist is a price maker
Monopoly Demand Marginal revenue < price Monopolist is a price maker Monopolist sets prices in elastic region of demand curve LO2 10-6
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Output and Price Determination
Steps for Graphically Determining the Profit-Maximizing Output, Profit-Maximizing Price, and Economic Profits (if Any) in Pure Monopoly Step 1 Determine the profit-maximizing output by finding where MR=MC. Step 2 Determine the profit-maximizing price by extending a vertical line upward from the output determined in step 1 to the pure monopolist’s demand curve. Step 3 Determine the pure monopolist’s economic profit by using one of two methods: Method 1. Find profit per unit by subtracting the average total cost of the profit-maximizing output from the profit-maximizing price. Then multiply the difference by the profit-maximizing output to determine economic profit (if any). Method 2. Find total cost by multiplying the average total cost of the profit-maximizing output by that output. Find total revenue by multiplying the profit-maximizing output by the profit-maximizing price. Then subtract total cost from total revenue to determine the economic profit (if any). LO2 10-7
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Output and Price Determination
$200 175 150 125 25 100 75 50 Price, Costs, and Revenue 1 2 3 4 5 6 7 8 9 10 Quantity Pm=$122 MC Economic Profit ATC A=$94 D MR=MC MR LO2 10-8
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Misconceptions of Monopoly Pricing
Not highest price Total profit Possibility of losses LO2 10-9
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Misconceptions of Monopoly Pricing
Price, Costs, and Revenue Quantity MC ATC A Loss Pm AVC V D MR=MC MR Qm LO2 10-10
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Economic Effects of Monopoly
Pure competition is efficient Monopoly is inefficient S=MC MC Pm b P=MC= Minimum ATC d Pc Pc c a D D MR Qc Qm Qc (a) Purely Competitive Market (b) Pure Monopoly LO3 10-11
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Economic Effects of Monopoly
Income transfer Cost complications Economies of scale X-Inefficiency Rent seeking expenditures Technological advance LO3 10-12
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X-Inefficiency Average total costs Quantity ATCx X ATC1 X' ATCx'
Average total costs Quantity ATCx X ATC1 X' ATCx' Average Total Cost ATC2 Q1 Q2 LO3 10-13
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Price Discrimination Price Discrimination
Charging different buyers different prices Price differences are not based on cost differences Examples: business travel, electric utilities, movie theaters, golf courses, railroad companies, coupons, international trade Price Discrimination LO4 10-14
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Conditions for success: Monopoly power Market segregation No resale
Price Discrimination Conditions for success: Monopoly power Market segregation No resale LO4 10-15
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Socially optimal price Set price = marginal cost Fair return price
Regulated Monopoly Natural monopolies Socially optimal price Set price = marginal cost Fair return price Set price = ATC LO5 10-16
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Regulated Monopoly Price and Costs (Dollars) Quantity Monopoly Price
Price and Costs (Dollars) Quantity Monopoly Price Pm Fair-Return Price Socially Optimal Price a f Pf ATC Pr r MC D MR b Qm Qf Qr LO5 10-17
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