Monopoly Flashcards
What is imperfect competition?
This is where firms differentiate their product in some way and so can have some influence over price
What is one of the three different degrees of imperfect competition?
Monopoly
What is a monopoly?
Technically its a market structure with only one firm and no close substitutes but in reality, firms can exercise monopoly power by being dominant firm in the market
Why might firms be investigated?
If they account for over 25% of the market share they might have too much market power
define market share
The proportion of total sales in a market accounted for by a particular firm
Define market power
Where a firm is able to raise the price of its product and not lose all its sales to rivals
Is a competitive firm a price maker or taker?
It is a price taker
Is a monopolistic firm a price maker or taker?
It is a price maker
Define monopoly?
A firm that is the sole seller of a product without close substitutes
What is the fundamental cause of monopoly?
The presence of barriers to entry
What are the 4 sources of barriers to entry?
1- ownership of a key resource
2- the government gives a single firm the exclusive right to produce a good
3- costs of production make a single producer more efficient than a large number of producers
4- a firm is able to gain control of other firms in the market and thus grow in size
For which source of barrier to entry do monopolies rarely arise?
Monopolies rarely arise as a result of exclusive ownership of a key resource
What are two examples of how governments restrict entry by giving a single firm the exclusive right to sell a particular good in certain markets?
Patents
Copyright laws
Why would a government create a monopoly?
To serve a public interest
What is a benefit of government-created monopoly?
Increased incentive for creative activity
What is a disadvantage of government-created monopoly?
Monopoly pricing
What is a natural monopoly?
An industry is a natural monopoly when a single firm can supply a good or service to an entire market at a smaller cost than two or more firms could
When does a natural monopoly occur?
When there are economies of scale
What do economies of scale imply?
Average total cost falls as the firm’s scale becomes larger.
How can you tell from a cost curve if a firm is experiencing economies of scale?
The average total cost will slope downwards
What is the key difference between a competitive firm and a monopoly?
The monopoly’s ability to control price
In which direction does the demand curve slope for a monopoly?
Downwards
What happens to a monopoly’s sales when it increases its price?
It doesn’t lose them all
What is the difference between a competitive firm’s demand curve and a monopolist’s demand curve?
A competitive firm’s demand curve is horizontal whilst a monopolist’s is downward sloping
Why do competitive firms have horizontal demand curves?
Because they are price takers
What are the four things that make a firm a monopoly?
It is the sole producer’faces a downward-sloping demand curve
Is a price maker
Reduces price to increase sales
What are four things that make a firm competitive?
It is one of many producers
It faces a horizontal demand curve
It is a price taker
It sells as much or as little at the same price
How can you calculate a monopoly’s total revenue?
price x quantity
How can you calculate a monopoly’s average revenue?
TR/Q = AR = P P = price
How can you calculate a monopoly’s marginal revenue?
change in total revenue / change in quantity
What is the rule about a monopoly’s marginal revenue?
It is always less than the price of its good
What happens to the revenue when the monopoly drops the price to sell one more unit?
The revenue received from previously sold units also decreases
What are the two effects that take hold when a monopoly increases the amount it sells?
The output effect
The price effect
What is the output effect?
More output in sold so Q is higher
What is the price effect?
Price falls, so P is lower
Which curve is lower: the marginal revenue curve or the demand curve (the demand curve is the average revenue)?
The marginal revenue curve is always lower than the demand curve
What does the demand curve also show?
The average revenue
How does a monopoly maximise profit?
It produces a quantity at which marginal revenue equals marginal cost
How does a monopoly find the price that will induce the consumers to buy the profit-maximising quantity?
It uses the demand curve
How can the profit-maximising quantity be found graphically?
The intersection of the marginal revenue curve and the marginal cost curve
How can the demand curve be used to find the price that is consistent with the profit-maximising quantity?
It is the point on the demand curve directly above the intersection of the marginal revenue and marginal cost curves
What is the relationship between price and marginal cost for a competitive firm?
Price equals marginal cost
P = MR = MC
What is the relationship between price and marginal cost for a monopoly?
Price exceeds marginal cost
P > MR = MC
What are the 3 possible equations for a monopoly’s profit?
Profit = TR - TC Profit = (TR/Q - TC/Q) x Q Profit = (P - ATC) x Q
Does a monopoly always have profit?
Yes
Does a competitive firm always have a profit?
No
How can you find the monopoly’s profit from a graph?
(monopoly price - average total cost) x profit-maximising quantity (the bottom of the average total cost U Shape)
What is required in order for a monopoly to make an economic profit?
The monopolist will receive economic profit as long as the price is greater than the average cost
Why are monopolies undesirable from the view of the consumers?
They charge prices higher than the marginal cost, this high price is undesirable
Why are monopolies desirable from the view of the owners of the firm?
They can charge high prices
Why do monopolies cause a wedge between the consumer’s willingness to pay and the producer’s cost?
Because the monopoly sets its price above the marginal cost
What is a result of the wedge caused by monopolies between the consumer’s willingness to pay and the producer’s cost?
The quantity sold will fall short of the social optimum
Why do monopolies experience deadweight loss?
Total surplus equals the value of the good to consumers minus the costs of making the good incurred by the monopoly producers. The socially efficient quantity is where the demand curve and marginal cost curve intersect, below this quantity there is a surplus which is increased if the monopoly increases output.
How do you find the deadweight loss from a graph?
It is the triangle formed between the socially efficient quantity and the monopoly quantity that crosses the marginal revenue cost curve and the demand curve
Are monopolies efficient or inefficient and why?
Monopolies are inefficient because they produce less than the socially efficient quantity of output.
What is the deadweight loss of a monopoly similar to?
The deadweight loss caused by a tax
What is the difference between the deadweight loss from a monopoly and from a tax?
The government gets the revenue from the tax whereas a private firm gets the monopoly profit.
What does welfare in a market include?
Both producers and consumers
Is the transfer of surplus from consumers to producers a social loss?
No
What causes deadweight loss from monopolies?
They produce less than the socially efficient level of output
What other costs could also be included in the monopoly’s deadweight loss?
Any costs that it incurred to maintain or create monopoly power
Define price discrimination
Selling the same good at different prices to customers, even though the cost of producing the good is the same.
Define arbitrage
The process of buying a good in one market and then selling it in another market at a higher price
What can limit a monopoly’s ability to price discriminate?
Arbitrage
What is needed in order for price discrimination to occur?
The firm must have some market power in order to price discriminate
When does price discrimination occur?
When the monopolist knows the willingness to pay of each consumer and can charge each customer a different price
What are two important effects of price discrimination?
It can increase the monopolist’s profits
It can reduce deadweight loss
Is there a consumer surplus as a result of price discrimination?
No
What happens as a result of consumer surplus being zero when price discrimination occurs?
Total surplus equals profit: there is no consumer surplus, only producer surplus
Give 4 examples of price discrimination
Cinema tickets
Airline prices
Discount coupons
Quantity discounts
Why can students get discount?
They earn less money than workers and are therefore more likely to buy a good when it is discounted
Why are quantity discounts examples of price discrimination?
People who really like a product are more likely to buy more of it
Why are airline prices examples of price discrimination?
They can be refundable and non-refundable and can be time flexible
How do car insurers work out willingness to pay?
If you want to insure your car you have to fill out a form to get a quote.
What is a way to work out willingness to pay that isn’t insurance?
Offer bundles at differing quantities
What are the 4 ways in which governments can respond to the problem of monopoly?
Make monopolized industries more competitive
Regulate the behaviour of monopolies
Turn some private monopolies into public enterprises
Do nothing at all
What are 3 ways in which governments can increase competition?
Laws to prevent mergers
Laws that allow governments to break up companies
Competition laws that prevent companies from undertaking activities that make markets less competitive
What are competition laws known as in the USA?
Anti-trust laws
What are competition laws known as in the USA?
Competition laws
What 3 things do competition laws cover?
Acting against cartels and restrictive business practices
Banning pricing strategies which are anti-competitive such as price fixing and predatory pricing
Monitoring and supervising acquisitions and joint ventures
Define cartel
A group of firms acting in unison
Define predatory pricing
A situation where firms hold price below average cost for a period to try and force out competitors or prevent new firms from entering the market
Define price fixing
A practice where rival firms illicitly agree not to sell goods or services below a certain price
