7. Monopoly Flashcards
What is a price marker?
A firm is said to be a price-maker (or price-setter) if it has the ability to set its own prices
What is market power?
A firm has market power if it has the ability to set its own price
What is a monopoly?
Only one firm in the market. Hence the firm’s individual demand curve = market demand curve
What is monopolistic competition?
There is a large number of firms, each producing slightly differentiated foods (almost perfect substitutes.)
eg restaurants all sell same food except different cuisines
What is oligopolistic competition?
There is a small number of firms selling goods that are close substitutes (eg. Coles, IGA)
What are the determinants of market power?
Control over scarce resources
- If a firm has exclusive control over key inputs of production, it might be impossible for other firms to enter and compete against it
Government-created barriers to entry
- Through issuing patents, copyright protection, licenses
Increasing returns to scale (economies of scale)
- The ATC of producing a good decreases with the amount of the good produced.
- In this case, firms experiencing iRS become more profitable with Size. A firm producing a large quantity of a good can do so more efficiently than other firms
Network economies
- This emerges when customer satisfaction with a given product increases with the number of users (E.g. Facebook).
- This is similar to economies of scale because in both cases, a company’s position gets stronger and stronger as it expands production.
What is a natural monopoly?
A monopoly that occurs because of economies of scale
How does the government regulate anti-competitive conduct of firms?
Through competition Law.
This is a law that is intended to foster market competition by encouraging new firms to enter the market, and ensuring that consumers are charged the lowest possible prices.
How does the government intervene in the case of a natural monopoly
In order to increase the total surplus in the presence of a natural monopoly, governments often regulate the price at the which the monopolist is allowed to sell its products
This policy is called average cost pricing. By using this policy, the government sets the price and quantity at the intersection of the ATC curve and the demand curve. This eliminates any positive profit accrued to the monopolist.
Why is average cost pricing hard to implement?
- The government can only estimate the ATC (it does not know actual, exact figures)
- Once this policy is in place, firms have no incentive to invest in new technology to lower their production costs - they make zero profit either way.
- By using average cost pricing, the firm’s output is allocatively inefficient. This is due to the fact that price usually exceeds the marginal cost
o Solution: set price ceiling at MC
But in some case PROFIT < 0 the industry collapses
Why does a monopolist not produce enough?
They produce less than what is socially optimaly because they need to set the same price for all consumers
What is first price discrimination?
Describes a situation in which the monopolist knows the reservation price of each consumer and is able to charge each consumer their marginal benefit (or reservation price)
What is second price discrimination?
The monopolist charges different prices based on the quantity or quality demanded by each consumer.
If a consumer buys a larger quantity, they will be charged a lower amount per unit (bulk discount)
By offering “discounts” the monopolist manages to distinguish between consumers with high and low reservation price, without having to know that information in advance.
What is third price discrimination?
The monopolist charges different prices depending on observable consumer attributes such as location
(this leads to a shift in surplus from the monopolist to the consumer)
