Monopoly 3.4.5

What is a pure monopolist?

A single supplier that dominates the entire market (100% market share)

What is a working monopoly?

Any firm with greater than 25% of the industries total sales.

What is a dominant firm?

A firm that has at least 40% market share

What is market power?

The ability of a business to set prices above a level that would exist in a highly competitive market

How does higher prices help firms?

they allow forms to maintain high profit by using barriers to entry to successfully prevent the profitable entry of new firms

What is monopoly power?

Refers to a situation where a single firm had control over a market for a particular product or service

What does monopoly power allow a firm to do?

They can set prices and production level without having to worry about competition from other firms

What is meant when a form is a ‘price maker’?

A firm can change whatever it wants without fear of losing market share

What is a downside to monopoly power?

Consumers often end up paying higher prices and have fewer options, since there is no competition to keep prices in check.

What are disadvantages/ arguments against monopoly power?

• prices are higher in monopoly than other competition which leads to a loss of allocative efficiency

• High monopoly prices can have regressive effects on lower income households whose real income are diminished

• The absence of genuine market competition may lead to x-inefficiencies such as wasteful marketing spending

• A monopoly might get too big- leading to diseconomies of scale in the long run and a loss of productive efficiency

• Welfare loss and causes a market failure compared to highly competitive markets

What are some potential advantages of monopoly power?

• economies of scale leads to lower average costs and lower prices

• Research and development spending accelerates innovation

• Tax revenues from high monopoly profits can flow to the government

• A monopoly can be regulated to help protect customers/ consumers

• Cross subsidies- monopoly firms can use profits for social benefit

• A fully scaled monopoly can improve a country’s export competitiveness

What are policies to control monopoly power?

• industry regulation- OFGLEM sets energy price cap

• Trade liberalisation- free trade makes markets contestable

• Windfall taxes- Labour Party calling for a one off tax on the supernormal profits on energy firms

• Industry deregulation- liberalisation in many uk markets including water services, courier industry, telecoms

What are barriers to entry?

Strategies designed to block potential entrants from entering a markets profitability.

What does cost asymmetry refer to?

The asymmetry in cost between an incumbent firm and potential entrants (challenger firms)

What is limit pricing?

Pricing by the incumbent firm(s) to deter the entry or expansion of fringe/ new firms.

Where does the limit price occur?

Below the short run profit maximising price but above the competitive level.

How does limit pricing work as a barrier to entry?

A monopoly sets prices just low enough to discourage new firms from entering, but not so low that it damages profit.

What is predatory pricing?

Where a monopoly intentionally sets prices so low (below cost) that it drives its competitors out of business.

What is the effect of barriers to entry on efficiency?

• Market power can lead to a loss of allocative efficiency.

• High entry barriers might also damage dynamic & productive efficiency.

What are some barriers to entry in commercial banking?

• Regulatory barriers- new entrants need a banking license

• Natural or intrinsic barriers- costs of entering the market, marketing, infrastructure

• Strategic advantages of larger banks- including vertical integration, branch network

• First mover advantages- including strong brand loyalty, access to wholesale market funding.

What is the first mover advantage?

The idea that, by being the first to enter a new market, a business gains a commercial advantage over actual and potential rivals leading to higher revenues and profits over time.

What is the first scale advantage?

Becoming the first to become ubiquitous/ popular by scaling their products/ service in a category.

What are some costs associated with leaving a market?

• Asset write offs- writing off the value of machinery, stocks.

• Project cancellation costs- redundancy costs, bad debts, contracts with suppliers and penalty costs from ending leases for property and equipment.

• Loss of business reputation and goodwill- leaving a market can damage goodwill among previous customers.

What are some advantages of lower entry barriers?

• Market becomes more contestable in the long run

• Competition drives down prices- increased consumer surplus, real incomes

• Competition improves product quality and drives innovation

• leads to higher productivity and a more efficient allocation of scarce resources

• Improved efficiency/ productivity can make an economy more competitive in global markets

What are some drawbacks from lower entry costs?

• Lower supernormal profits might reduce the finance to fund capital investment

• Lower profits could lead to weaker tax revenues for the government

• Rapid entry of new firms might lead to over-supply which drags prices lower and makes an industry less sustainable

• Risk of structural unemployment- technological innovation

• Low barriers to entry is no guarantee of a contestable market- old established monopolies might soon be replaced by new ones.

What is the ‘sunk cost fallacy’?

When individuals continue a behaviour or endeavor as a result of previously invested resources (time, money, effort). This fallacy, which is related to loss aversion and status quo bias, can also be viewed as bias resulting from an ongoing commitment.

What is price discrimination?

When a firm charges a different price to different groups of consumers for an identical good or service, for reasons not associated with costs of supply.

In what type of imperfect market structure(s) is price discrimination most common?

• Monopoly

• Oligopoly

How does price discrimination aim to increase revenue?

Extracting consumer surplus and turning it into increased producer surplus for the seller.

How does price discrimination aim to make higher profits?

Total profit will rise providing the marginal profit from selling to extra customers is positive.

How does price discrimination aim to use spare capacity?

Price discrimination can help a business make more efficient use of their supply capacity.

What is 1st degree price discrimination?

Charging each individual consumer, the maximum price that they are willing to pay.

What is 2nd degree price discrimination?

Charging different prices depending upon quantity bought, time period, use of coupons.

What is 3rd degree price discrimination?

Charging different prices to groups of people with a different price elasticity of demand.

What are some examples of 3rd degree price discrimination>

• Cinema pricing- tickets vary by age, time and location

• Student discounts- students have a more price sensitive demand

• Car insurance- price walking, long standing customers faced higher prices when renewing their policies.

What are negative effects of price discrimination on consumer welfare

• Higher prices for many people reduces their consumer surplus

• Reinforces monopoly power of firms which can then lead to higher prices in the long run and a loss of allocative efficiency

• Algorithms increase the potential to discriminate between consumers- widespread use of AI driven price discrimination

• Multi-purchase or volume discount purchasing favours higher-income, large families at expense of single people. It can encourage food waste which creates external loss.

What is ‘dual pricing’?

When more loyal customers are charged more than new customers.

What is the effect of dual pricing?

This form of pricing exploits imperfect information in the market and consumer inertia.

What are arguments supporting price discrimination?

• Make use of spare capacity leading to less waste- environmental benefits

• Helps guarantee extra cash flow for businesses- can ensure survival during a recession, which supports jobs and maintains consumer choice

• Can fund cross-subsidy of goods and services- premium prices for some can fund discounts for others living on lower incomes. It can allow continuation of loss-making services such as rural bus & train routes

• Higher monopoly profits can finance investment and research & development spending which then drives improved dynamic efficiency in the long run

• Can be seen as a progressive policy- an example, charging different prices for drugs between advanced and developing countries

How are the welfare effects of price discrimination judged?

Can be judged on a case-to-case basis. The impact depends on how a business chooses to use their extra profits.

What is a natural monopoly?

Type of market structure where a single firm can produce a particular product or service at a lower average cost than multiple firms could.

When does a natural monopoly occur?

When economies of scale are so pronounced that the average total cost of production decreases as the firm produces more output.

The most efficient number of firms is one.

Why might governments regulate natural monopolies?

The potential for monopolistic abuse in natural monopolies cause governments to regulate them to ensure fair pricing, quality of service and accessibility for customers.

What are some examples of natural monopolies?

• Web search (google)

• Messaging platforms

• London underground

• Air traffic control

• Rail Network

• Energy Grid

In a natural monopoly what are the effects on costs?

A natural monopoly will typically have high fixed costs and low marginal costs meaning that it might be inefficient to have many firms each providing the same product.