Monopoly and Antitrust Policy

Imperfect Competition and Market Power: Core Concepts

An imperfectly competitive industry is an industry in which single firms have some control over the price of their output. Market power is the imperfectly competitive firms ability to raise price without losing all demand for its product.

Pure Monopoly
A pure monopoly is an industry with a single firm that produces a product for which there are no close substitutes and in which significant barriers to entry prevent other firms from entering the industry to compete for profits.

Barriers to Entry
A barrier to entry is something that prevents new firms from entering and competing in imperfectly competitive industries.

Barriers to Entry
Barriers to entry include:
Government franchises, or firms that become monopolies by virtue of a government directive.

Barriers to Entry
Barriers to entry include:
Patents or barriers that grant the exclusive use of the patented product or process to the inventor.

Barriers to Entry
Barriers to entry include:
Economies of scale and other cost advantages enjoyed by industries that have large capital requirements. A large initial investment, or the need to embark in an expensive advertising campaign, deter would-be entrants to the industry.

Barriers to Entry
Barriers to entry include:
Ownership of a scarce factor of production: If production requires a particular input, and one firm owns the entire supply of that input, that firm will control the industry.

Price: The Fourth Decision Variable

Firms with market power must decide: 1. how much to produce, 2. how to produce it, 3. how much to demand in each input market, and 4. what price to charge for their output.

Price and Output Decisions in Pure Monopoly Markets

To analyze monopoly behavior we assume that:
Entry to the market is blocked Firms act to maximize profit The pure monopolist buys inputs in competitive input markets The monopolistic firm cannot price discriminate The monopoly faces a known demand curve

Price and Output Decisions in Pure Monopoly Markets

In a monopoly market, there is no distinction between the firm and the industry because the firm is the industry.

The market demand curve is the demand curve facing the firm, and total quantity supplied in the market is what the firm decides to produce.

Marginal Revenue Facing a Monopolist

Marginal Revenue Facing a Monopolist
(1) QUANTIT Y 0 1 2 3 4 5 (2) PRICE $11 10 9 8 7 6 (3) TOTAL REVENUE 0 $10 18 24 28 30 (4) MARGINAL REVENUE $10 8 6 4 2

6
7 8 9

5
4 3 2

30
28 24 18

0
-2 -4 -6

10

10

-8

Marginal Revenue and Market Demand

At every level of output except one unit, a monopolists marginal revenue is below price.

Marginal Revenue and Total Revenue

The marginal revenue curve shows the change in total revenue that results as a firm moves along the segment of the demand curve that lies exactly above it. Total revenue is maximum when marginal revenue equals zero.

The Monopolists ProfitMaximizing Price and Output

The profit-maximizing level of output (Qm) occurs where MR = MC. Notice that the outcome is different from that of perfect competition. Here, the price ($4.00) is less than the marginal cost ($1.50), and the monopolist earns positive economic profit.

The Absence of a Supply Curve in Monopoly

A monopoly firm has no supply curve that is independent of the demand curve for its product. A monopolist sets both price and quantity, and the amount of output supplied depends on both its marginal cost curve and the demand curve that it faces.

Monopolistic Competition and Oligopoly

Characteristics of Different Market Organizations

Products Price a differentiated Number decision Free Distinguished or of firms variable entry by Examples homogeneous

Perfect competition

Many

Homogeneous

No

Yes

Price Wheat farmer competition only Textile firm Still constrained Public utility by market Patented Drug demand Price and quality Restaurants competition Hand soap

Monopoly
Monopolistic competition

One

A single, unique product

Differentiated

Yes
Yes, but limited

No

Many

Yes

Oligopoly

Few

Either

Yes

Limited

Strategic behavior

Automobiles Aluminum

Not every industry fits neatly into one of these categories; however, this is a useful framework for thinking about industry structure and behavior.

Monopolistic Competition
A monopolistically competitive industry has the following characteristics:
A large number of firms No barriers to entry Product differentiation

Product Differentiation, Advertising, and Social Welfare

Product differentiation is a strategy that firms use to achieve market power. Accomplished by producing products that have distinct positive identities in consumers minds. This differentiation is often accomplished through advertising.

Oligopoly
An oligopoly is a form of industry (market) structure characterized by a few dominant firms. Products may be homogeneous or differentiated.

Oligopoly Models
All kinds of oligopoly have one thing in common:
The behavior of any given oligopolistic firm depends on the behavior of the other firms in the industry.

The Collusion Model

A group of firms that gets together and makes price and output decisions to maximize joint profits is called a cartel.

Contestable Markets
A market is perfectly contestable if entry to it and exit from it are costless. In contestable markets, even large oligopolistic firms end up behaving like perfectly competitive firms. Prices are pushed to long-run average cost by competition, and positive profits do not persist.