Topic 7. Market structure: Monopoly

November 10th 2003

Lecture slides available from Nancy’s website:

The aim of today’s lecture is to:

  • Show the profit maximising output and price for a monopoly
  • Contrast the outcomes of monopoly with perfect competition
  • Demonstrate price discrimination as a profit maximising strategy

Essential reading:

  • Sloman Chapter 6: Section 6.3
  • Price discrimination: Section 7.3

  1. Monopoly: definitions, explanations
  • single supplier
  • firm = industry
  • barriers to entry

Defining the relevant ‘market’:

  • availability of close substitutes
  • geographical market boundaries

Reasons for monopoly?

  • ‘natural’ monopoly
  • barriers to entry created by government.

In contrast to perfect competition, the firm is not a ‘price taker’ but a ‘price maker’.

Test your understanding…

“A monopolist can charge any price it wants to”

True or False?

2. Demand and revenue curves under monopoly

3. Monopoly:supply, demand and profit maximisation

Profit maximising output is Q, where marginal cost = marginal revenue.

At that quantity, price = P and average cost = AC.

Total revenue=P x Q

Total cost=AC x Q

Therefore profit=(P-AC) x Q

4. Problems with pure monopoly

(i)Limit pricing

(ii)X-inefficiency

(iii)Pure monopoly and perfect competition compared

(iv)Price discrimination

5. Pure monopoly and perfect competition compared

  • Monopoly produces a smaller quantity at a higher price.
  • P > MC
  • Monopolists can earn super-normal profits in the long run.

6. Price discrimination

  • The practice of charging different consumers different prices.
  • Why would a monopolist do this?
  • Pre-conditions.

Third degree price discrimination:

First degree price discrimination

  • The firm charges each consumer the maximum price they are prepared to pay for each unit.
  • D = MR. Why?
  • Show profit maximising output

7. Advantages of pure monopoly

(i) Economies of scale

(ii) innovation

e.g. pharmaceutical industry.