Economics 101, Introduction to Economics, Ch. 15 Notes – Flashcards
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Price maker.
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A monopoly firm is a...
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Exceeds marginal cost.
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A monopoly charges a price that...
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A firm that is the sole seller of a product without close substitutes.
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Monopoly
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Barriers to entry: a monopoly remains the only seller in its market because other firms cannot enter the market and compete with it.
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Fundamental cause of monopoly:
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1. Monopoly resources: a key resource required for production is owned by a single firm. 2. Government regulation: the government gives a single firm the exclusive right to produce some good or service. 3. The production process: a single firm can produce output at a lower cost than can a large number of firms.
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Three main sources of barriers to entry:
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A single firm to own a key resource.
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Simplest way for a monopoly to arise is...
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The government has given one person or firm the exclusive right to sell some good or service.
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In many cases, monopolies arise because...
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Benefits: increased incentives for creative activity. Costs: Monopoly pricing.
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The benefits and costs of patent and copyright laws
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A monopoly that arises because a single firm can supply a good or service to an entire market at a smaller cost than could two or more firms. Arises when there are economies of scale over the relevant range of output. Example: Distribution of water.
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Natural monopoly
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When a firm's average-total-cost curve continually declines, the firm has what is called a natural monopoly. In this case, when production is divided among more firms, each firm produces less, and average total cost rises. As a result, a single firm can produce any given amount at the least cost.
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Economies of Scale as a Cause of Monopoly?
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The monopoly's ability to influence the price of its output.
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Difference between a competitive firm and a monopoly?
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A competitive firm's demand curve: horizontal line. Monopoly firm's demand curve: down-word sloping, diagonal market demand curve. Monopoly has to accept a lower price if it wants to sell more output. Monopolist can choose any point on the demand curve, but it cannot choose any point off the demand curve.
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Demand curves for competitive and monopoly firms
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The price of the good.
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Average revenue always equals...
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A monopolist's marginal revenue is always less than the price of its good. MR is lower than price because a monopoly faces a downward-sloping demand curve.
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Important rule about monopolies:
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The output effect: More output is sold, so Q is higher, which tends to increase total revenue. The price effect: The price falls, so P is lower, which tends to decrease total revenue.
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When a monopoly increases the amount it sells, this action has two effects on total revenue:
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Average-revenue curve. Demand curve and marginal-revenue curve always start at the same point on the vertical axis because the marginal revenue of the first unit sold equals the price of the good.
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The demand curve is also the...
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How the firm's revenue changes when the quantity increases by one unit. Because the price on all units sold must fall if the monopoly increases production, the marginal revenue is always less than the price.
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The marginal-revenue curve shows...
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Marginal revenue equals marginal cost. It then uses the demand curve to find the price that will induce consumers to buy that quantity (point B).
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A monopoly maximizes profit by choosing the quantity at which...
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The firm can increase profit by producing more units.
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When marginal cost is less than marginal revenue...
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The firm can raise profit by reducing production.
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If marginal cost is greater than marginal revenue...
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The intersection of the marginal-revenue curve and the marginal-cost curve.
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Monopolist's profit-maximizing quantity of output is determined by...
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The marginal revenue of a competitive firm equals its price, whereas the marginal revenue of a monopoly is less than its price. For a competitive firm: P = MR = MC For a monopoly firm: P > MR = MC
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Important difference b/w competitive market, monopoly
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Price equals marginal cost.
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In competitive markets...
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Price exceeds marginal cost.
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In monopolized markets...
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Profit = TR (total revenue) - TC (total cost) a.k.a. Profit = (P - ATC) X Q ( (Price minus average total cost), multiplied by quantity)
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Profit formula (review)
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Area of box Height of box: price minus average total cost. This equals profits per unit sold. Width of box: number of units sold.
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The Monopolist's Profit (Graph)
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The demand curve and the marginal-cost curve intersect. Value to buyers = cost to sellers.
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The socially-efficient quantity is found where...
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The value of the good to the marginal buyer exceeds the marginal cost of making this good.
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Below this socially-efficient quantity...
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The value of the good to the marginal buyer is less than the marginal cost.
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Above this socially-efficient quantity...
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Produces less than the socially efficient quantity of output.
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The monopolist...
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Because a monopoly charges a price above marginal cost, not all consumers who value the good at more than its cost buy it. Inefficiency is represented by area of the triangle between the demand curve (reflects value to consumers) and marginal-cost curve (which reflects costs of monopoly producer).
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The inefficiency of monopoly (on graph)
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The government gets the revenue from a tax, whereas a private firm gets the monopoly profit.
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Difference between deadweight loss caused by monopoly and deadweight loss caused by tax
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Firm produces and sells a quantity of output below the level that maximizes total surplus.
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Problem in a monopolized market arises because...
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The business practice of selling the same good at different prices to different customers.
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Price discrimination
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1. Price discrimination is a rational strategy for a profit-maximizing monopolist. 2. Price discrimination requires the ability to seperate customers according to their willingness to pay. Certain market forces can prevent firms from price discriminating. 3. Price discrimination can RAISE economic welfare. Price discrimination can eliminate the inefficiency inherent in monopoly pricing.
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Three lessons about price discrimination:
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1. Arbitrage, the process of buying a good in one market at a low price and selling it in another market at a higher price to profit from the price difference.
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Market forces that can prevent firms from price discriminating
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Describes a situation in which the monopolist knows exactly each customer's willingness to pay and can charge each customer at a different price. Monopolist gets the entire surplus in every transaction.
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Perfect price discrimination
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Total surplus is consumer surplus + profit. Deadweight loss is created.
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Monopolist with Single Price (graph)
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Total surplus is firm's profit. No deadweight loss.
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Monopolist with Perfect Price Discrimination (graph)
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Raises profit, raises total surplus, and lowers consumer surplus.
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Compared to monopolist with a single price, a monopolist with perfect price discrimination...
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Movie tickets, airline prices, discount coupons, financial aid, quantity discounts.
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Examples of price discrimination
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Many movie theaters charge a lower price for children and senior citizens than for other patrons.
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Movie tickets
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Seats on airplanes are sold at many different prices. Most airlines charge a lower price for a round-trip ticket between two cities if the traveler stays over a Saturday night.
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Airline prices
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Many companies offer discount coupons to the public in newspapers, magazines, or online. Thus, by charging a lower price only to those customers who clip coupons, firms can successfully price discriminate.
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Discount coupons
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Many colleges and universities give financial aid to needy students. By charging high tuition and selectively offering financial aid, schools in effect charge prices to customers based on the value they place on going to that school.
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Financial aid
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A bakery might charge $0.50 for each donut but $5 for a dozen. This is a form of price discrimination because the customer pays a higher price for the first unit bought than for the twelfth.
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Quantity discounts
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1. By trying to make monopolized industries more competitive. 2. By regulating the behavior of the monopolies. 3. By turning some private monopolies into public enterprises. 4. By doing nothing at all.
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Policymakers in the government can respond to the problem of monopoly in one of four ways:
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Collection of statutes aimed at curbing monopoly power.
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Antitrust laws
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Law passed by Congress in 1890 to reduce the market power of the large and powerful "trusts" that were viewed as dominating the economy at the time.
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Sherman Antitrust Act
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Law passed in 1914 that strengthened the government's powers and authorized private lawsuits.
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The Clayton Antitrust Act
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Allow the government to prevent mergers, allow the government to break up companies, and prevent companies from coordinating their activities in ways that make markets less competitive.
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How do antitrust laws give the government various ways to promote competition?
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Benefits from mergers.
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Synergies
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1. Logic of cost curves. 2. Gives the monopolist no incentive to reduce costs.
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Two practical problems with marginal-cost pricing as a regulatory system:
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Natural monopoly = marginal cost < average total cost. If regulators require a natural monopoly to charge a price equal to marginal cost, price will be below average total cost, and the monopoly will lose money.
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Marginal-cost pricing for a natural monopoly (graph)
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The monopolist earns exactly zero economic profit.
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If regulated price = average total cost.
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A tax on the good the monopolist is selling.
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Average-cost pricing is like...
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Rather than regulating the monopoly that is run by the private firm, the government can run the monopoly itself.
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Public ownership
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Charges less than the socially efficient quantity and charges a price above marginal cost. As a result, a monopoly causes deadweight losses.
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A monopolist...
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Both produce the quantity at which marginal revenue (MR) = marginal cost (MC)
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Rules for maximizing in both monopoly and a competitive firm
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Decreasing average total cost.
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A firm is a natural monopoly if it exhibits the following as its output increases:
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Stay the same and its profits will decrease.
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If a monopoly's fixed costs increase, its price will...
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A quantity that is too low and a price that is too high.
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Compared to the social optimum, a monopoly firm chooses...
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Some potential consumers who forgo buying the good value it more than its marginal cost.
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The deadweight loss from monopoly arises because...
