Market Power and Monopoly Notes

Market Power and Monopoly

Barriers to entry allow firms to maintain positive producer surplus in the long run.
Types of barriers:
- Natural monopoly: Extreme scale economies where it's more efficient for a single firm to produce the entire industry output.
- Switching costs: Costs incurred by consumers when changing from one product to another.
- Product differentiation: Imperfect substitutability across varieties of a product.
- Absolute cost advantages or control of key inputs: Controlling scarce inputs to maintain lower costs.
- Government regulation: Limits entry to a market through patents, copyrights, licensing, etc.

Exists when a production process exhibits economies of scale at every quantity level.
Long-run average total cost curve is downward sloping.

Result from:
- Brand-related opportunity costs (e.g., airline preferred status).
- Technology constraints (e.g., adapters/earpods).
- Search costs (e.g., health insurance plans).
Network goods: Value to each consumer increases with the number of other consumers (e.g., Instagram).

Limits entry to a market.
Examples:
- Patents and copyrights.
- Licensing requirements (e.g., medical board certification).
- Prohibition of competition (e.g., U.S. Postal Service).

In a competitive market, firms are price takers (horizontal demand curve).
Firms with market power face a downward-sloping demand curve.
Output level and price are interrelated.
Market structures with downward-sloping demand:
- Monopoly (no competing firms).
- Oligopoly (few competitors).
- Monopolistic competition (many firms with some market power, zero economic profit in the long run).

Marginal revenue is not equivalent to price for a firm facing a downward-sloping demand curve.
Marginal revenue is the change in total revenue associated with an increase in output, composed of:
- Increase in total revenue from increased sales.
- Decrease in total revenue from the fall in market price for all previously produced units of output.
Mathematically, Marginal Revenue MR = \frac{\Delta TR}{\Delta Q}

Firms engage in production until marginal revenue equals marginal cost: MR = MC.
Profit-maximizing price is greater than marginal cost.
Economic profit is positive.
Consumer surplus exists.

Firms with market power maximize profit where marginal revenue equals marginal cost.

Spending money in socially unproductive efforts to acquire, maintain, or exercise monopoly power.
Examples:
- Medieval Guilds
- Taxi licensing
- Regulatory capture
- Lobbying for tariff protection, quotas, and subsidies.

Schumpeter and Creative Destruction
Entrepreneurship and innovation are the engine of economic growth.
R&D is often driven by large firms with market power.
Small firms (perfect competitors) often cannot afford R&D.
Larger firms have the ability (market power and high profits) and the incentive (prospects of consolidating market power) to undertake product innovation and research.

The deadweight loss associated with market power can justify government intervention.
Regulations help achieve a more competitive or efficient outcome.

In some cases, the government regulates price rather than dismantling a monopoly.
Common for natural monopolies (e.g., utilities providing electricity).
Significant fixed costs and low marginal costs.

Designed to promote competitive markets by restricting behaviors that limit competition.
Targets:
- Mergers and acquisitions
- Price fixing and other forms of collusion
- Predatory pricing

Patents, licenses, and copyrights incentivize innovation.
Setting patent length balances the incentive for innovation with the reduction in consumer welfare from granting a monopoly.

Promotes awareness, acceptance, and compliance with the Commerce and Fair Trading Acts.
Ensures consumers and producers benefit from healthy competition.
Commerce Act 1986 prohibits anti-competitive activities:
- Arrangements lessening competition.
- Price fixing among competitors.
- Dominant company preventing competition.