Principles of Microeconomics Ch 9-10

Sources of Monopoly Power (Barriers to Entry)

1. Extreme Economies of Scale

2. Control over input

3. Patents and Copyrights

Extreme Economies of Scale

-Incredibly high start-up costs, with significantly lower marginal costs

-Gives existing firms advantage over new firms

Natural Monopoly

Industry is better off with only 1 firm, which can operate at a lower ATC

Patents and Copyrights

-Legally protects a business from having a patented item copied by competitors (for a set period)

-Encourages innovation and R+D

Marginal Revenue

To sell an additional unit, the firm must lower its price on all units

-For a monopolist, MR<P

Can a monopolist earn a loss in the short run?

Yes

Consequences of Monopoly

1. Produce Less Output

2. Charge a Higher Price

3. Less Incentive for Efficiency

Examples of Monopoly inefficiency

1. Rent-Seeking Behavior: Using resources to protect monopoly power

Ex: Lobbyists, Legal fees, tariff protection

2. X-Inefficiency: Excessive and wasteful spending 

Ex: Corporate Jets, Luxury retreats

Price Discrimination

• Charging different customers different prices for the exact same good

• Businesses use this strategy to increase revenues

• Offer discounts to more price-sensitive buyers (More Elastic buyers)

1st Degree (Perfect)

Seller individually negotiates with each buyer to change the most each buyer is willing to pay.

2nd Degree

Pay a lower price for purchasing a higher quantity (Bulk)

3rd Degree

Different groups of people pay different prices

Ex: students, veterans, senior citizens

Antitrust Policy

Laws designed to maintain competition and prevent monopolies in a market

Ex: Laws against price-fixing; govt. Reviews major mergers and acquisitions

HHI

Measures how competitive an industry is; threat of monopoly power

HHI= (S1)^2 +(S2)^2 +(S3)^2…

Where Sn = % of market share of a company

HHI<1500

highly competitive industry (No monopoly threat)

HHI between 1500-2000

Moderately competitive (Some monopoly threat)

HHI>2500

Limited competition (Major monopoly threat)

PROFIT MAXIMIZATION

PROFIT IS MAXIMIZED AT
THE QUANTITY AT WHICH
MR = MC.

COMPARING
MONOPOLY AND
COMPETITION

 Under conditions of monopoly,
the price will be higher and
output will be lower than under
conditions of competition.

 This creates inefficiency in the
market known as deadweight
loss.

CONDITIONS FOR PRICE DISCRIMINATION

1. MUST HAVE SOME CONTROL OVER
PRICE.

2. MUST BE ABLE TO SEPARATE THE
MARKET INTO GROUPS BASED ON
ELASTICITIES OF DEMAND.

3. MUST BE ABLE TO PREVENT
ARBITRAGE.

MAJOR ANTI-TRUST LAWS

 THE SHERMAN ANTITRUST ACT (1890)
• PROVIDES CRIMINAL PENALTIES FOR
ATTEMPTS TO MONOPOLIZE

 THE CLAYTON ANTITRUST ACT (1914)
• FORBIDS CONTRACTS AND OTHER
ARRANGEMENTS THAT LIMIT
COMPETITION

 THE FEDERAL TRADE COMMISSION
ACT (1914)
• PROTECTS CONSUMERS FROM UNFAIR
OR DECEPTIVE PRACTICES

TWO TYPES OF ADVERTISING

Informational and Persuasive

Persuasive

INFLUENCES CONSUMERS’ EMOTIONS AND TENDS TO DRIVE UP THE COST OF

PRODUCTS

Informational

INFORMS CONSUMERS ABOUT ASPECTS OF A PRODUCT AND REDUCES SEARCH COSTS

Monopolistic Competition

• Highly Competitive markets;many sellers

• Easy entry; no barriers

• In the L.R, firms earn zero econ profits

• Differentiated Products

• Some market power; firms can set their own price, within reason

• Location, Branding, and advertising are essential

If firms are earning positive econ profit, then in the long run…

New firms join industry, S(Increase) P(Falls) continues until all firms earn zero econ profit.

Oligopoly

• Only a few firms in the industry; barriers to entry

• Mutual interdependence

Cartel

Firms collude to act jointly as a monopolist illegal in the U.S.; unstable, incentive to cheat.

OPEC

Limit oil production among countries

Kinked Demand Curve

• When 1 firm raises prices, other firms do not follow

• When 1 firm lowers prices, others will follow

Game Theory

2 players (ex, businesses, countries, etc) 

Discrete Strategy: Choose between 2 options (Ex: free shipping or charge for it?)

Non-Cooperative: Players cannot collaborate when making decisions

Prisoners Dilemma

• The strategy chosen by each player is not the best possible outcome for reach player

LONG-RUN ADJUSTMENTS

 If firms are earning economic profit, new
firms will enter the industry.

 Competition reduces the demand for
each individual seller, shifting the
demand curve to the left.

 In the long run, each seller earns a
normal profit, so that price equals
average total cost.