Microeconomics 9: Monopoly, price discrimination and monopolistic competition

Question 1

What are the possible reasons for monopolies?

Answer 1

Patents, barriers to entry, economies of scale and
scope (natural monopolies)

Question 2

Why focus on monopolies?

Answer 2

Simplest possible way to think of a firm enjoying market power

Question 3

Why might ‘economies of scale’ cause monopolies?

Answer 3

The reason this might cause monopolies is because, in some industries it’s much more efficient for a monopoly to exist. Think about the water supply industry, if there were multiple competitive firms with all their own water pipe lines and operations, it would be really inefficient

Question 4

Describe ‘monopolists’

Answer 4

• A firm is a monopolist if it is the
  only supplier of a product for which there is
  no close substitute. The relevant market
  depends on how wide the sector and the
  geographical area considered are.
• A monopolist is not a price-taker, it can choose any price and sell the quantity demanded at that price, or, equivalently, choose an output level and sell it at the market-clearing price.
• It’s constrained by the market demand curve, although normally it’s easier to think in terms of the inverse demand curve p(y)
• The monopolist’s revenue is given by p(y)y

Question 5

Describe monopoly’s profit maximisation

Answer 5

• The firm’s profit maximisation problen is: maxunderneathy p(y)y - c(y)
• The FOC is y dp(y)/dy + p(y) - dc(y)/dy = 0
• The first 2 terms together give marginal revenue, meaning this expression is equivalent to MC=MR
• Assuming a downward-sloping demand curve, dp(y)/dy<0 so MR is less than price: in order to sell more, the firm must reduce its price on all units