Monopoly

LEARNING OBJECTIVES
• To understand the characteristics of
monopoly and factors that create monopoly
firms.
• To understand how a monopoly firm
determines its equilibrium price and output to
maximize its profit in the short-run and in
long-run..
 Forms of Competition
Imperfect Competition

Monopolistic
Monopoly
Competition

Oligopoly

Perfect
Competition
 Monopoly

– A monopoly is a market:
 That produces a good or service for which no close substitute
exists
 In which there is one supplier that is protected from
competition by a barrier preventing the entry of new firms.
 MONOPOLY’S CHARACTERISTICS
• A single firm selling all output in a market : it is a direct
contrast to perfect competition.
• Many buyers
• Only one seller i.e. not a price-taker.
• Unique product.
• Barriers to Entry and Exit.
 Why Monopolies Arise
Barriers to entry have following sources:
– Government license or franchise
– Patent and copyrights
– High start- up cost
– Efficiency in production Process(decreasing average total
cost).
– Control over raw material
 Why Monopolies Arise

• Government regulation
– Government gives a single firm the exclusive right to
produce some good or service
– Government-created monopolies
• Patent and copyright laws
• Govt license
 Why Monopolies Arise
• The production process
– A single firm can produce output at a lower cost.
• Natural monopoly
– 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
– Economies of scale over the relevant range of output
 Natural Monopoly
• A monopoly sometimes occurs naturally when a firm
experiences economies of scale.

• The market demand is not great enough to allow more

than one firm to achieve sufficient economies of scale.
Thus a single firm emerges from the competitive process
as the only supplier in the market.
• A new entrant cannot sell enough output to experience
the economies of scale enjoyed by an established natural
monopolist  entry into the market is naturally blocked
 How Monopolies Make Production& Pricing Decisions
• A monopoly’s revenue
– Total revenue = price times quantity
– Average revenue
• Revenue per unit sold
– Total revenue divided by quantity
– Marginal revenue
• Revenue per each additional unit of output
– Change in total revenue when output increases by 1
unit
• Can be negative
• Always: MR < P
How Monopolies Make Production& Pricing Decisions
• Because a monopoly, by definition, supplies the entire
market, the demand for goods or services produced by a
monopolist is also the market demand

• The demand curve of a monopolist is highly price inelastic.

• As there are no close substitute and consumer has no or
little choice. If the consumer want to consume the
product, they have to buy it at price charged by
monopolist.

• The demand curve for the monopolist’s output therefore

slopes downward, reflecting the law of demand
 A Monopoly’s Marginal Revenue

A monopolist’s marginal revenue is always less than the price of

its good.
 The demand curve is downward sloping.
 When a monopoly drops the price to sell one more unit, the
revenue received from previously sold units also decreases.
A monopoly’s total, average, and marginal revenue

Quantity Price Total revenue Average revenue Marginal revenue

(Q) (P) (TR=P ˣ Q) (AR=TR/Q) (MR=ΔTR/ΔQ)
0 Rs11 Rs0 -
1 10 10 Rs10 Rs10
2 9 18 9 8
3 8 24 8 6
4 7 28 7 4
5 6 30 6 2
6 5 30 5 0
7 4 28 4 -2
8 3 24 3 -4
 Demand and marginal-revenue curves for a monopoly
Price
Rs11
10
9
8
7
6
5
4
3
Demand
2 (average revenue)
1
0
-1 1 2 3 4 5 6 7 8 Quantity
of water
-2
-3
Marginal revenue
-4

The demand curve shows how the quantity affects the price of the good. The marginal-revenue curve
shows how the firm’s revenue changes when the quantity increases by 1 unit. Because the price on all
units sold must fall if the monopoly increases production, marginal revenue is always less than the price.
How Monopolies Make Production& Pricing Decisions

• Profit maximization
– If MR > MC – increase production
– If MC > MR – produce less
– Maximize profit
• Produce quantity where MR=MC
• Intersection of the marginal-revenue curve and the
marginal-cost curve
Profit maximization for a monopoly
Costs 2. . . . and then the demand curve shows the
price consistent with this quantity.
and
Revenue Marginal cost

1. The intersection of the marginal-revenue

curve and the marginal-cost curve determines
Monopoly B the profit-maximizing quantity . . .
price
Average total cost
A

Demand

Marginal revenue

0 Q1 QMAX Q2 Quantity

A monopoly maximizes profit by choosing the quantity at which marginal revenue equals
marginal cost (point A). It then uses the demand curve to find the price that will induce
consumers to buy that quantity (point B).
The monopolist’s profit
Costs
and
Revenue Marginal cost

Monopoly E B
Average total cost
price

Monopoly
profit
Average Demand
total
cost D C

Marginal revenue

0 QMAX Quantity

The area of the box BCDE equals the profit of the monopoly firm. The height of the box (BC) is
price minus average total cost, which equals profit per unit sold. The width of the box (DC) is the
number of units sold.
Monopolist receiving positive profits
Zero-profit monopolist
Monopolist receiving economic loss
 CLASS TASK-16
• Suppose the following demand and total cost
functions of a monopolist are given.
Q = 360 -20P
TC = 6Q + 0.05Q 2

Determine equilibrium output of the

monopolist. What price will be charged in this
equilibrium solution?
 CLASS TASK-16
• Suppose the following demand and total cost
functions of a monopolist are given.
Q = 360 -20P
TC = 6Q + 0.05Q 2

Determine equilibrium output of the monopolist.

What price will be charged in this equilibrium
solution?
Ans : Q = 60 , P = Rs15 and Profit = Rs 360
 CLASS –TASK-17
• A manufacturer of palmtop computers is
currently a monopolist facing the following
demand and cost functions:
TC = 10000 + 100Q + 0.02Q2
Q = 20000 -100P

Determine the profit maximising output and

price.
 CLASS –TASK-17
• A manufacturer of palmtop computers is
currently a monopolist facing the following
demand and cost functions:
TC = 10000 + 100Q + 0.02Q2
Q = 20000 -100P

Determine the profit maximizing output and

price.(Q = 1666.7,P =183)
 CLASS-TASK-18
• Given the following linear demand and cost
functions, find out the output level under
monopoly .
Q = 300-2P
TC = 150+ 10 Q
 CLASS-TASK-18
• Given the following linear demand and cost
functions, find out the output level under
monopoly and perfect competition.
Q = 300-2P
TC = 150+ 10 Q
Ans : Monopoly = 140
 CLASS TASK-19
• Suppose a firm is operating under monopoly
conditions in the market in short-run. It faces
the following revenue and cost conditions
P= 405-4Q
TC= 40 + 5Q + Q 2

Determine the equilibrium level of output and

total profit made.
 Long-Run Profit
Maximization
• - Short-run profit-No guarantee of long-run profit

 - If a monopoly is insulated from competition by high

barriers that block new entry, economic profit can
persist into the long run.
 - Erase a loss or increase profit: Adjust the scale of
the firm
 - If unable to erase a loss: Leave the market