Limited Competition and Monopoly

What is a monopoly

a single firm who supplies the entire market

with high barriers to enter

has market power which can exploit consumers

what is a natural monopoly

a monopoly with increasing returns to scale and economies of scale

what is the difference between P, MR, and MC of competitive and monopoly firms

competitive — P=MR=MC

monopoly — P > MR=MC

attributes of a monopoly

higher prices

less supply

extracts rent

has lower econ surplus but presence of deadweight loss

how does the government intervene?

1. public production — where the govenrment doesnt have to be efficent

2. monopoly regulations

how would monopoly regulations work?

firms would operate where P=AC (not MC because may loss) which lowers the price and increases quantity sold

issues in regulation

• admin costs

• asymmetric information

• rise of distortive behavior

what could be the information disadvantage

• opportunity costs

• managerial efforts

• being a “high cost” firm (allows them to have higher prices)

what are the 2 polar cases of regulatory mechanisms

1. cost of service regulation

2. fixed price / price cap

explain cost of service regulation

setting price exactly to P=AC

gov will give back the realized cost to the monopoly which solves advese selection, however it does not provide incentives for manager to be efficient

explain fixed prices / price cap

sets an ex ante price that the firm will be allowed to charge

this provides incentives to lower costs as the profits will be set thus solving moral hazards, however it does not extract rent from the firm

what is incentive regulation mechanism

performance based regulation — provides incentives to reduce costs via setting of performance standards, however it requires even more information