1. McGraw-Hill/Irwin
Copyright © 2013 by The McGraw-Hill Companies, Inc. All rights reserved.

2. Chapter Goals
Summarize how and why the decisions facing a monopolist differ from the collective decisions of competing firms
Determine a monopolist’s price, output, and profit graphically and numerically
Show graphically the welfare loss from monopoly
Explain why there would be no monopoly without barriers to entry
Explain how monopolistic competition differs from monopoly and perfect competition

3. A Monopolistic Market
Monopoly is a market structure in which one firm makes up the entire market
Barriers to entry into the market prevent competition
Barriers to entry can be:
Legal
Sociological
Natural
Technological
There are no close substitutes for the monopolist’s product

4. The Key Difference Between a Monopolist and a Perfect Competitor
A monopolistic firm’s marginal revenue is not its price
Marginal revenue is always below its price
Marginal revenue changes as output changes and is not equal to the price
A monopolistic firm’s output decision can affect price
There is no competition in monopolistic markets so monopolists see to it that monopolists, not consumers, benefit

5. Determining the Monopolist’s Price and Output Numerically
The goal of the monopolistic firm is to maximize profits, the difference between total revenue and total cost
The monopoly maximizes profit when marginal revenue equals marginal cost
Marginal revenue (MR) is the change in total revenue associated with a change in quantity
Marginal cost (MC) is the change in total cost associated with a change in quantity

6. Determining the Monopolist’s Price and Output Numerically
The profit-maximizing condition of a monopolistic firm is:
MR = MC
For a monopolistic firm, MR < P
A monopolistic firm maximizes total profit, not profit per unit
If MR > MC,
The monopoly can increase profit by increasing output
If MR < MC,
The monopoly can increase profit by decreasing its output

7. Monopolistic Profit Maximization Table
The profit- maximizing condition is:
MR = MR Q
P ($)
TR ($)
MR ($)
TC ($)
MC ($)
ATC ($)
Profit ($) 36 33 27 21 15 9 3 -3 -9
-15 47 1 2 4 8 16 54 40 56 80
---
-47 48
48.00 30 60 50
25.00 10 81
18.00 24 96 62
15.50 34 5
105 78
15.60 6 18
108
102
17.00 7
142
20.29
-37 12
198
24.75
-102
278
30.89
-197
If MC < MR,
increase production
Profit maximizing quantity is where MC = MR
If MC > MR,
decrease production

8. Finding the Monopolist’s Price and Output
Draw the marginal revenue, marginal cost, and demand curves P MC
Monopolist Price: D at Qprofit max
$36
Find the profit maximizing level of output, where MR and MC curves intersect
$24
$20.50
Find how much consumers will pay where Qm intersects demand; this is the price the monopolist will charge
MC = MR D MR Q
Qm (profit max)

9. Comparing Monopoly and Perfect Competition
In a monopoly, P>MR,
In perfect competition, P=MR=D
MR=MC is the profit max rule for both P MC
First find the monopoly Q and P PM
PPC
Then find the perfectly competitive Q and P
DPC= MRPC DM
Outcome: Monopoly output is lower and price is higher than perfect competition
MRM Q QM
QPC

10. Determining Profits Graphically: A Firm with Profit
Find output where
MC = MR, this is the profit maximizing Q P
Find how much consumers will pay where the profit max Q intersects demand, this is the monopolist price MC
D at Qprofit max
ATC
Find profit per unit where the profit max Q intersects ATC P
Profits
ATC
ATC at Qprofit max
MC = MR D
Since P>ATC at the
profit maximizing quantity,
this firm is earning profits MR Q
Qprofit max

11. Determining Profits Graphically: A Firm with Zero Profit or Losses
Find output where
MC = MR, this is the profit maximizing Q P MC
Find how much consumers will pay where the profit max Q intersects demand, this is the monopolist price
ATC
D at Qprofit max P
Find profit per unit where the profit max Q intersects ATC
=ATC
ATC at Qprofit max
MC = MR
Since P=ATC at the
profit maximizing quantity,
this firm is earning
zero profit or loss D MR Q
Qprofit max

12. Determining Profits Graphically: A Firm with Losses
Find output where
MC = MR, this is the profit maximizing Q P MC
Find how much consumers will pay where the profit max Q intersects demand, this is the monopolist price
ATC at Qprofit max
ATC
ATC
Losses
D at Qprofit max P
Find profit per unit where the profit max Q intersects ATC
MC = MR D
Since P<ATC at the
profit maximizing quantity,
this firm is earning losses MR Q
Qprofit max

13. Welfare Loss from a Monopoly: The Normal Monopolist
The welfare loss from a monopoly is represented by the triangles B and D
The rectangle C is a transfer of surplus from the consumer to the monopolist
The area A represents the opportunity cost of diverted resources, which is not a loss to society P MC PM C D
PPC B D A MR Q QM
QPC

14. The Price-Discriminating Monopolist
When a monopolist price discriminates, it charges different prices to different individuals or groups of individuals
Consumers with less elastic demands are charged higher prices.
Consumers with more elastic demands are charged lower prices
Price discrimination increases output and profits

15. The Price-Discriminating Monopolist
A price-discriminating monopolist produces the same output as the combination of all firms in a competitive market
All firms in the perfectly competitive market capture only area B
The price-discriminating monopolist captures all the surplus represented by areas A and B MC A PC B D
QPM = QC

16. The Price-Discriminating Monopolist
Examples of price discrimination
Movie discounts to senior citizens and children
Airline charge more to fly on Fridays and Sundays
Tracking consumer information and pricing accordingly
It might seem unfair for a monopolist to charge different people different prices, but doing so eliminates welfare loss from monopoly
For a price-discriminating monopolist, because it can charge what consumers are willing to pay, all consumer surplus is captured by the monopolist

17. Barriers to Entry Natural Ability
A firm is better at producing the good than anyone else
Natural Monopolies
Natural monopoly is when a single firm can produce at a lower cost than can two or more firms
Government-Created Monopolies
Patents
If there were no barriers to entry, profit-maximizing firms would always compete away monopoly profits

18. Average Cost for Natural Monopolist
One firm producing Q1 has average cost C1
If two firms share the market, each produces Q1/2 and has average cost C2
If three firms share the market, each produces Q1/3 has average cost C3 C3 C2 C1
ATC Q
Q 1/3
Q 1/2 Q1

19. Profit of Natural Monopolist
A natural monopolist produces QM and charges PM, therefore earning a profit
Average Cost
If there is government regulation and a competitive solution where P = MC is required, the monopolist produces QC and charges PC, therefore earning a loss PM
Profits CM CC
ATC
Losses PC MR MC D Q QM QC

20. Government Policy and Monopoly: AIDS Drugs
A few companies have patents for AIDS drugs that enable them to charge high prices because demand is inelastic
Policy Options
Government regulation where price = marginal cost benefits society, but discourages research
Government purchase of the patents and allowing anyone to produce the drugs so their price = marginal cost. This is expensive for taxpayers.

21. Characteristics of Monopolistic Competition
Four distinguishing characteristics:
Many sellers that do not take into account rivals’ reactions
Product differentiation where the goods that are sold aren’t homogenous
Multiple dimensions of competition make it harder to analyze a specific industry, but these methods of competition follow the same two decision rules as price competition
Ease of entry of new firms in the long run because there are no significant barriers to entry

22. Output, Price, and Profit of a Monopolistic Competitor
Like a monopoly,
The monopolistic competitive firm has some monopoly power so the firm faces a downward sloping demand curve
Marginal revenue is below price
At profit maximizing output, marginal cost will be less than price
Like a perfect competitor, zero economic profits exist in the long run

23. Monopolistic CompetitionMC
You can see that a monopolistically competitive firm prices in the same manner as a monopolist, setting quantity where marginal revenue equals marginal cost
But the firm is also a competitor; competition implies zero economic profit in the long run (determined by ATC)
ATC
PMC D MR Q
QMC

24. Comparing Monopolistic Competition with Monopoly
It is possible for the monopolist to make economic profit in the long run because of the existence of barriers to entry
No long-run economic profit is possible in monopolistic competition because there are no significant barriers to entry
For a monopolistic competitor in long-run equilibrium, (P = ATC) ≥ (MC = MR)

25. Monopolistic Competition Compared with Perfect Competition GraphMC
In monopolistic competition in the long run, P > min ATC
In perfect competition in the long run, P = min ATC
ATC
PMC
DPC
PPC
Outcome:
Monopolistic competition output is lower and
price is higher than
perfect competition
DMC
MRMC Q
QMC
QPC

26. Advertising and Monopolistic Competition
Perfectly competitive firms have no incentive to advertise, but monopolistic competitors do
The goals of advertising are to increase demand and make demand more inelastic
Advertising increases ATC
The increase in cost of a monopolistically competitive product is the cost of “differentness”

27. Chapter Summary
A monopolist maximizes profit or minimizes losses where MR=MC
To determine a monopolist’s profit or loss: Find output where MR=MC; Determine price and ATC at that output; Profit or loss = (P – ATC) * Q
Because monopolies reduce output and charge P > MC, monopolies create a welfare loss for society
Monopoly output is lower and price is higher than in competitive markets
Natural monopolies exist in industries with strong economies of scale

28. Chapter Summary
A price-discriminating monopolist earns more profit than a normal monopolist by charging a higher price to those with less elastic demand and a lower price to those with more elastic demand
Three important barriers to entry are natural ability, economies of scale, and government restrictions
Monopolistic competition is characterized by many sellers, differentiated products, multiple dimensions of competition, and ease of entry for new firms
A monopolistic competitor differs from a monopolist in that a monopolistic competitor makes zero economic profit in long-run equilibrium