Monopoly Flashcards
Explain Characteristics of a Monopoly
- Profit Maximisation. Firms earn a supernormal profit in both the short run and the long run
- Sole seller in the market (Pure Monopoly)
- High barriers to entry
- Price Maker
- Price discrimination
Explain Dynamic Efficiency
- It is to do with:
○ New technology and an increase in productivity which leads to an increase in efficiency in the long run- It is affected by:
○ R&D
○ Investment in human and non-human capital
○ Technological change - Definition:
○ When resources are allocated efficiently overtime and the rate of innovation is at the optimum level which leads to falling average costs in the long run - The market is dynamically efficient if the consumers meets and wants are met as the time goes on.
- It is related to the rate of innovation which might lead to lower costs of production in the future or the creation of new products in the future.
- It is affected by:
Evaluate Dynamic efficiency
® Consider the long time lag between investments and falling costs.
® How factors change during the long run
® Firms often face the choice of giving profits to shareholders, or investing.
* A monopoly is often dynamically efficient as they have the abnormal profits to invest
Explain X-innefficiency
- Occurs when:
○ The firm lacks incentives to control costs
○ This causes the average costs to be higher than needed.
○ In theory, the firm could have an average cost curve at “Potential AC” but due to organisational slack, it’s actual average costs are higher.
○ The difference between actual and potential costs is the x-inefficiency.
Causes of X-innefficiency
○ Monopoly Power:
□ With a monopoly dominating the market, there is no real competition, and a large amount of supernormal profits. In the absence of competition, it is likely a monopoly will not have any incentives to control costs.
○ State control:
□ A nationalised firm, operated by the government have little or no incentive to make a profit.
□ Therefore it has no incentive to cut costs.
○ Principal-agent problem:
□ Shareholders wish to maximise profits and minimise costs in order for larger dividends
□ However managers and workers pursue their objectives, possibly increasing costs for a larger bonus.
○ Lack of motivation:
□ Workers and managers may simply lack motivation in order to work at their full potential
E.G. Taking longer breaks than allowed.
- Explain with the aid of a diagram, Monopoly; supernormal profit in both short and long run:
- A monopolist earns supernormal profit in both the short run and the long run:
§ They produce at the point of MC = MR:- Since the monopoly is the only firm in the market, the revenue curve is the same as the industry’s revenue and cost curve.
- Firms are price makers in a monopoly
- P>MC, since production is profit maximisation, at MC = MR and therefore a monopoly is allocativly inefficient
- Monopolies are not productivly efficient as they do not operate at the lowest part of their AC curve.
- AR>AC, therefore there are supernormal profits.
Explain with the aid of a diagram price discrimination by a firm with monopoly power
- As monopolists are price makers, this leads to price discrimination
- Therefore firms will charge consumers different prices for the same good/service.
- This is not for cost reasons
- Usually there are different elasticities for each demand curve within different groups:
□ This allows for the market to be split and differnt prices to be charged
□ It must not cost the monopolist much to split the market otherwise it will not be financially worthwhile
□ By changing these monopolists can maximise their overall profits.
Explain First-Degree price discrimination
□ First Degree price discrimination is:
w Each consumer is charged a different price because due to the differences in consumer surplus
w E.G. Lawyers charging high income families more than low income families
Explain Second-Degree price-discrimination
□ Second Degree price discrimination is:
w Prices are different according to the volume bought
w E.G. Bulk buying
Explain Third-Degree Price Discrimination
Third Degree price discrimination is:
w Price discrimination based on the characteristics of the consumer
w E.G. Peak and off peak travel time
Evaluate advantages of a monopoly
Dynamic Efficiency - Positive Externalities
No Duplicates - Wasted resources
Generate more export revenue
Able to exploit economies of scale
Source of Govt. Revenue through taxation
Evaluate disadvantages of monopoly
Missalocation of resources - higher prices leads to inequality
Exploit consumers - higher prices, therefore good underconsumed
No incentive for efficiency - X-innefficient
Explain the advantages of a natural monopoly
Can benefit from economies of scale through lower average costs
A sole provider may reduce innefficient duplication of goods or services
