Pure Monopoly

1. Pure Monopoly
1. An Introduction to Pure Monopoly.
2. Marginal revenue and elasticity.
3. Price and output decision.
4. Single-price Monopoly and
Competition Compared.

2. 1. An Introduction to Pure
Monopoly

3. Pure monopoly exists when a single firm is the sole producer
of a product for which there are no close substitutes.
Here are the main characteristics of pure monopoly:
A pure, or absolute, monopoly is an industry in which a
single firm is the sole producer of a specific good or the
sole supplier of a service.
Single seller
A pure monopoly’s product is unique in that there are
no close substitutes. The consumer who chooses not
to buy the monopolized product must do without it.
No close
substitutes
The pure monopolist controls the total quantity
supplied and thus has considerable control over price.Price maker
A pure monopolist has no immediate competitors
because certain barriers keep potential competitors
from entering the industry. Those barriers may be
economic, technological, legal, or of some other type.
But entry is totally blocked in pure monopoly.
Blocked
entry

4. Monopoly Versus CompetitionMonopoly Versus Competition
Because competitive firms are price takers, they in
effect face horizontal demand curves, as in panel (a).
Because a monopoly firm is the sole producer in its
market, it faces the downward-sloping market demand
curve, as in panel (b). As a result, the monopoly has to
accept a lower price if it wants to sell more output.
A competitive firms demand curves A monopolist’s demand curves

5. 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 could two or more firms.
A natural monopoly arises when there are economies
of scale over the relevant range of output.
Natural MonopoliesNatural Monopolies

6. Because a natural monopoly has declining average total cost,
marginal cost is less than average total cost.
Therefore, if regulators require a natural monopoly to charge a
price equal to marginal cost, price will be below average total
cost, and the monopoly will lose money.
Marginal-cost Pricing for a Natural MonopolyMarginal-cost Pricing for a Natural Monopoly

7. 2. Marginal revenue and
elasticity

8. (a) Because it must lower price on all
units sold in order to increase its sales,
an imperfectly competitive firm’s
marginal-revenue curve (MR) lies below
its downsloping demand curve ( D ).
The elastic and inelastic regions of
demand are highlighted.
(b) Total revenue (TR) increases at a
decreasing rate, reaches a maximum,
and then declines. Note that in the
elastic region, TR is increasing and
hence MR is positive. When TR reaches
its maximum, MR is zero. In the inelastic
region of demand, TR is declining, so
MR is negative.
Demand, Marginal Revenue, and Total RevenueDemand, Marginal Revenue, and Total Revenue
for a Pure Monopolistfor a Pure Monopolist

9. 3. Price and output decision

10. A monopoly maximizes profit by choosing the quantity
at which marginal revenue equals marginal cost
(point A). It then uses the demand curve to find the
price that will induce consumers to buy that quantity
(point B).
Profit Maximization for aProfit Maximization for a MonopolyMonopoly

11. In part (b), The pure monopolist
maximizes profit by producing at the
MR=MC output, here Qm=3 units. Then,
as seen from the demand curve, it will
charge price Pm=$14. Average total cost
will be ATC(Qm)= $10, meaning that per
unit profit is Pm-ATC(Qm) and total profit
is 3×(Pm-ATC(Qm)). Total economic
profit is thus represented by the light
blue rectangle.
Profit Maximization by a Pure MonopolistProfit Maximization by a Pure Monopolist
In part (a), economic profit is the
vertical distance equal to total revenue
(TR) minus total cost (TC) and it is
maximised at 3 units.

12. AA Monopoly’s ProfitMonopoly’s Profit
How much profit does the monopoly make?
To see the monopoly’s profit, recall that profit equals
total revenue (TR) minus total costs (TC):
Profit = TR - TC
We can rewrite this as
Profit (TR/Q - TC/Q) × Q
TR/Q is average revenue, which equals the price P, and
TC/Q is average total cost ATC. Therefore,
Profit = (P - ATC) × Q

13. If demand D is weak and costs are high, the pure
monopolist may be unable to make a profit. Because Pm
exceeds V, the average variable cost at the MR=MC
output Qm, the monopolist will minimize losses in the
short run by producing at that output. The loss per unit is
A-Pm, and the total loss is indicated by the red rectangle.
The Loss-minimizing Position of a Pure MonopolistThe Loss-minimizing Position of a Pure Monopolist

14. Steps for Graphically Determining the Profit-Steps for Graphically Determining the Profit-
Maximizing Output, Profit-Maximizing Price, andMaximizing Output, Profit-Maximizing Price, and
Economic Profit (if Any) in Pure MonopolyEconomic Profit (if Any) in Pure Monopoly
Step 1. Determine the profit-maximizing output by finding where MR=MC.
Step 2. Determine the profit-maximizing price by extending a vertical line
upward from the output determined in step 1 to the pure monopolist’s
demand curve.
Step 3. Determine the pure monopolist’s economic profit using one of two
methods:
Method 1. Find profit per unit by subtracting the average total cost of the
profit-maximizing output from the profit-maximizing price. Then multiply the
difference by the profit-maximizing output to determine economic profit (if
any).
Method 2. Find total cost by multiplying the average total cost of the profit-
maximizing output by that output. Find total revenue by multiplying the
profit-maximizing output by the profit-maximizing price. Then subtract total
cost from total revenue to determine economic profit (if any).

15. Panel (b) shows a monopolist
that can perfectly price
discriminate. Because consumer
surplus equals zero, total surplus
now equals the firm’s profit.
WELFARE WITH AND WITHOUT PRICE DISCRIMINATION
Panel (a) shows a monopolist that
charges the same price to all customers.
Total surplus in this market equals the
sum of profit (producer surplus) and
consumer surplus.
Comparing these two panels, you can see that perfect price discrimination
raises profit, raises total surplus, and lowers consumer surplus.

16. 4. Single-price Monopoly and
Competition Compared

17. A competitive industry produces the quantity Gc at price Pc.
A single-price monopoly produces the quantity Qm at which
marginal revenue equals marginal cost and sells that
quantity for the price Pm. Compared to perfect competition, a
single-price monopoly restricts output and raises the price.
Monopoly's Smaller Output and Higher PriceMonopoly's Smaller Output and Higher Price
Compared to a perfectly
competitive industry, a
single-price monopoly
restricts its output and
charges a higher price.

18. When a patent gives a firm a monopoly over the sale of a
drug, the firm charges the monopoly price, which is well
above the marginal cost of making the drug. When the
patent on a drug runs out, new firms enter the market,
making it more competitive. As a result, the price falls
from the monopoly price to marginal cost.
The Market for Drugs.

19. Reasons for
imperfect
competition
(1) economies of scale
 economies of scale means that the
average cost goes down as the level
of output increases;
 substantial degree of the economies
of scale;
 a single firm comes to monopolize
the whole market → natural
monopoly.
Imperfectly Competitive Market

20. (2) government policies
 provision of patent rights to boost
invention;
 provision of monopoly rights.
(3) competitive strategies
 aggressive advertisements;
 differentiated products;
 predatory pricing;
 lowering price temporarily to drive out
the competitors from the market.
Reasons for
imperfect
competition
Imperfectly Competitive Market

21.  A monopoly is a firm that is the sole seller in its
market.
 It faces a downward-sloping demand curve for its
product.
 A monopoly’s marginal revenue is always below the
price of its good.
 Like a competitive firm, a monopoly maximizes profit
by producing the quantity at which marginal cost and
marginal revenue are equal.
 Unlike a competitive firm, its price exceeds its
marginal revenue, so its price exceeds marginal cost.
 A monopolist’s profit-maximizing level of output is
below the level that maximizes the sum of consumer
and producer surplus.
SummarySummary

22.  A monopoly causes deadweight losses similar to the
deadweight losses caused by taxes.
 Policymakers can respond to the inefficiencies of
monopoly behavior with antitrust laws, regulation of
prices, or by turning the monopoly into a government-
run enterprise.
 If the market failure is deemed small, policymakers
may decide to do nothing at all.
 Monopolists can raise their profits by charging
different prices to different buyers based on their
willingness to pay.
SummarySummary