Monopoly Flashcards
what are the characteristics of a monopoly?
- single supplier dominates the entire market
- price setting power is available to any business with downward sloping demand curve
- high entry and exit barriers into the market
- differentiated goods
- imperfect info of market conditions
- firm is profit maximiser
what does the CMA deem a working monopoly is?
CMA deems that a working monopoly is any firms with greater than 25% of industries total sales→ monopoly power (legal)
what is a dominant firm?
dominant firm- atleast 40% market share by values of sales
who is price setting power available to?
price setting power is available to any business with downward sloping demand curve
what are the examples of high entry and exit barriers into the market?
- high initial investment
- CMA
- legal barriers
- sunk costs (fixed costs that cannot be got back once spent such as advertising, specialist equipment
- brand loyalty
- anti competitive practices such as colluding
- internal economies of scale
draw a diagram for a monopoly in the SR and LR
same as monopolistic diagram in the SR
why is MR always below AR in a monopoly?
- downward sloping AR curve because they are price makers
- MR is always below AR
- makes supernormal profit
why are monopolies not allocatively efficient?
- not allocatively efficient- exploiting consumers as theyre charging prices which are higher than the cost
- low consumer surplus
- restricting output in the market
- choice is low
- resources arent following consumer demand
- quality could be low- lack of competition
why are monopolies not productively efficient?
- not productively efficient
- not producing on the minimum point on their average cost curve
- forgoing economies of scale
why can we assume X-inefficiency in a monopoly?
- producing above AC curve- excess costs
- monopolies become complacent with a lack of a competitive drive
- difficult to reduce waste and reduce costs to absolute minimum, so if a firm doesnt need to cut costs they wont
why is there potential for dynamic efficiency?
- potential for dynamic efficiency as theres long run supernormal profit because firms arent entering the market
- firms can reinvest this profit back into the company in the form of e.g new capital
why do monopolies cause a deadweight loss? draw a diagram to show this
- monopolies reducing total level of society surplus
- MC=S
where is Pm and Qm on the diagram?
monopolist price and quantity taken from profit maximisation point
what is Pc and Qc on the diagram?
Pc and Qc is a competitive firms price and quantity taken at the firms allocatively efficient level of production
where is CS for competitive firms on the diagram?
consumer surplus for competitive firms at Pc, Qc (area above the price)= A + B + C
where is consumer surplus for monopolists price and quantity
consumer surplus (CS) for Pm, Qm= A
where is producer surplus for competitive firms on the diagram?
producer surplus Pc, Qc (area below price but above the supply curve/ MC curve)= D + E
where is producer surplus for monopolies on the diagram?
producer surplus (PS) Pm, Qm = B + D
where is society surplus on the diagram for competitive firms on a monopolists welfare loss diagram
society surplus at Pc, Qc (sum of CS and PS)= A + B+ C+ D + E
where is society surplus on the diagram for monopolies?
society surplus at Pm, Qm= A + B + D
where are the deadweight losses of CS and PS
C= DWL of CS
E= DWL of PS
what do monopolies cause?
is a cause of market failure
what are the cons of monopolies?
- deadweight loss to society
- forgo economies of scale
- if monopoly is too big- diseconomies of scale
- can cause inequalities in necessity markets
- allocative inefficiency- welfare of consumers and producers is maximised
- productive inefficiency
- X- inefficiencies -> consumer choice is restricted as theres no alternative product
what are the pros of monopolies?
- could have dynamic efficiency-> SNP reinvested into R+D
- greater economies of scale due to their size
- charge at a lower price and produce at a higher quantity
- may not have a profit maximising goal, may have other business objectives
- a monopolist only needs to provide one product and so can devote resources to minority tastes if theres an opportunity to make some profit
- they have financial security due to their SNP so they can provide stable employment
- patents which are a legal barrier,encourage innovation
what doe a profit maximising monopolist do?
profit maximising monopolist is charging a lower price and producing a higher quantity than a competitive firm being allocatively efficient
draw a diagram to show the cons of monopolies
what is a natural monopolist and what can they do
- natural monopoly- gives society desirable outcomes
- can cross subsidise goods and services that are loss making if they’re desired by consumers- they can only do this if theyre making high profits
how can you evaluate monopolies?
- is there really dynamic efficiency? so may other things can be done with the profits monopolists make other than reinvesting in capital
- economies or diseconomies of scale?
- objective of the monopoly?- assumed to be profit maximiser
- regulation can help reduce inefficiencies
- price discrimination can increase cons
- is there competition? if there is there can still be strong competition even if a firm has monopoly power
- is the market a natural monopoly?
- type of good and service
- if its a necessity→ bad news for the consumer
what is price discrimination?
occurs when a firm charges different prices to different consumers for an identical good/service with no differences in cost of p
what are the 3 conditions necessary for a firm to price discriminate?
- ave to have some kind of price making ability- monopoly power
- need to have information to be able to seperate the market into different PEDs
e.g need to be able to identify groups of consumers with inelastic demand so they can charge higher prices - have to be able to prevent resale of a good (buying from a place where price is low and reselling at a higher price) otherwise itll reduce profit
what is market seepage?
buying from a place where price is low and reselling at a higher price
recall the 3 different degrees of price discrimination?
first
second
third
what is first degree price discrimination?
consumers are charged the exact price they are willing to pay for a good or service
draw a diagram to show the effect of first degree price discrimination?
erodes all CS in the market and turning it into monopoly profit
what is second degree price discrimination?
- second degree- excess capacity pricing
- this is when you have a firm that has fixed capacity
- makes no sense to leave this capacity idle because they have fixed costs they need to pay
- last minute drop prices to fill the capacity and contribute to their fixed costs
MC is constant is assumed
which consumers gain CS in second degree price discrimination?
consumers that are able to buy last minute when the price drops gain CS
draw a diagram to show second degree price discrimination
what is third degree price discrimination?
occurs when a firm is able to segment the market into different PEDs
- charge different prices to those different groups
- e.g railway travel
- for price inelastic consumers- price is much higher to exploit the fact that demand is inelastic and vice versa for price elastic consumers
through this they are able to maximise their profit
where do firms charge when they are third degree price discriminating
- MC constant
- firms charge where MC=MR
draw a diagram to show third degree price discrimination?
if they charge at P1 for all consumers there will be no demand at all
recall the cons of price discrimination?
allocative inefficiency
inequalities
anti-competitive pricing
why does allocative inefficiency occur as a con of price discrimination
exploiting consumers with high prices
why do inequalities occur as a con of price discrimination?
- segmenting the market
- could widen income inequality if the consumers with low income are the ones with inelastic demand
why does anti-competitive pricing occur as a con of price discrimination
- if prices are driven down in third degree price discrimination (in price elastic segment) then competitors may be driven out
- this firm will be left with pure monopoly power
recall the pros of price discrimination?
dynamic efficiency-supernormal profits can be reinvested
economies of scale
- higher quantities produced
- lower prices to consumers overtime
some consumers benefits
- price elastic consumers benefit
cross subsidisation
why is cross subsidisation a pro of price discrimination
higher profits that firms make may be used to subsidise loss making goods elsewhere in the business so they can be provided to consumers
what are the characteristics of a natural monopoly?
- huge fixed costs + total cost
- big potential for economies of scale
- makes rational sense for only one firm to supply the entire market
- will only happen if the natural monopoly is regulated
why is there huge fixed costs + total costs in natural monopolies
to minimise AC its gonna take a huge quantity however theres a huge potential for economies of scale because of this
why is there a big potential for economies of scale in natural monopolies
maximum efficient point while all economies of scale are fully exploited will occur at a very high quantity
why is it rational for only one firm to supply the entire market in a natural monopoly?
- competition is undesirable
- competition would result in a wasteful duplication of resources
- the first firm into the market has got the economies of scale advantage
- allocative and productive efficiency
what happens if a firm enters a natural monopoly later?
- if a firm enters this market later, they wont have the same economies of scale advantage as the first firm and will eventually be priced out of the market
- when they leave the market, their infrastructure will be idle- allocative inefficiency -> waste of resources
- if there is competition there wont be the full exploitation of economies of scale + there will be productive inefficiency as firms wont be of the greatest size possible
draw the diagram for a natural monopoly
what would regulators do for natural monopolist?
- regulators would come in and regulate the natural monopolist to allocative efficiency levels because of the necessity of the goods that the natural monopoly is producing
- reduce price and increase quantity
why are subsidies given by the regulator in a natural monopoly?
- sub normal profit being made at the allocatively efficient point
- subsidies are given by the regulator to make sure the losses are covered
- the subsidy is equal to the lost per unit and allow them to make normal profit
where is supernormal profit and subnormal profit on the natural monopoly diagram?
refer to bottom of notion
what is a pure monopoly
when there is a single supplier in the market
why is the cost curve downward sloping for a natural monopoly
due to economies of scale
where is the allocatively efficient point on the natural monopoly diagram
AR= LRMC (long run marginalcost)
why is there sub-normal profit made at the allocatively efficient point in a natural monopoly and how do regulators solve this
because LRAC>AR so regulators provide subsidies to cover the loss and allow them to make normal profit
what are the causes for monopoly power
when there is a natural monopoly
elimination/lack of competition
ownership of resources -> where access to a scarce resource is restricted by ownership of certain assets
legal monopolies- patent laws guaranteeing monopoly status for a number of years to encourage innovation and invention
local monopolies- where the size of the market is too small to support more than one firms such as a village shop
advertising- marketing gives monopolies power through creating high brand loyalty
what are the factors that influence monopoly power
high barriers to entry
advertising which can be informative of persuasive. creating brand loyalty not only increases the demand but makes it more price inelastic.
the number of competitors in the market
what are natural barriers and artificial barriers to entry
there are natural barriers such as economies of scale and artificial barriers such as patents and predatory pricing
what is the effect of the factors that influence monopoly power
they lead to more price inelastic demand for the product
makes it easier for monopolist to increase profit by increasing price
price inelastic demand increases the monopoly power of the supplier
why are standard monopolies not productively efficient
have no incentive to lower their AC or to be efficient
due to lack of competition
which is why they make SNP in the SR and long run
What inefficiencies are present in monopolies
X inefficiencies
Productive inefficiency
Allocative inefficiency
