CHAPTER 9

MONOPOLY
COMPILER : DR. PRECILA R. BAUTISTA
Learning objectives:
At the end of the chapter, will learn about:
- Characteristics of a pure monopoly,
- Setting profit-maximizing output and
price,
- Different price charges of a monopoly in
different markets
MONOPOLY DEFINED
Monopoly – situation where there is a single controller and seller
of a product where there is no close substitute.
- In situations where an industry is monopolized, prices rise
above and output falls below what the competitive level is.
- A monopoly is a firm that is the only seller and controller of the
entire supply of a certain good or service, with no close
substitutes in the market.
- In the absence of government intermediation, a firm is free to
set the prices that it chooses and will usually set the price that
will generate the largest possible profit.
- A firm that sets and chooses its price based on its output
decision is called a price setter, and a firm that acts as a price
setter obtains monopoly power.
- A monopoly need not make a firm more profitable compared
with other firms which face competition, the market may be
so small that it just supports one firm. But in case where a
monopoly is in point more profitable than competitive firms,
economists assume that other entrepreneurs will enter the
business to take some of the higher returns. If a number of
competitor enter the market, competition will drive prices
down and will eliminate the monopoly power, but the entry of
potential competitors is prohibitively difficult.
- Pure monopolies are relatively rare, but there are somehow
a large number of less pure monopolies.
BARRIERS TO ENTRY
- Factors that prohibit a firm from entering a
market.
- In the case of a monopoly, strong barriers
are present which effectively affect the
entry of potential competitors.
- In the absence of strong barriers, there will
be a large number of firms competing in a
market.
ECONOMIES OF SCALE
- If the rate of output is less than the optimal level, increasing
the output rate will result in decreasing average unit cost.
- Serves as a protection for the monopolists in a specific
market or what we commonly term as barrier to entry.
- Small-scale producers entering the market cannot realize
the cost economies of the monopolist, therefore making
them out of the business by the monopolist, because of its
ability to cost products at a much lower price, while still
making a profit due to small per-unit cost associated with its
economies of scale.
 LEGAL BARRIERS TO ENTRY
1. Patents – exclusive right of an inventor to use his invention or
allow other party to use it.
- This aims to protect an inventor from rivals who would use the
invention without having the permission and sharing of efforts
and expenses in developing it.
- The patent gives the inventor a monopoly position over the
lifetime of the patent.

2. Licenses – an official document granted by the government to

do, use or have something.
- The government may limit the entry of different firms in an
industry by issuing licenses.
OWNERSHIP OR CONTROL OF ESSENTIAL
RESOURCES
A monopolist may use his private property to
prevent rivals from entering the market. For ex-
a certain firm that owns a land which produces
tobacco can prohibit other firms to enter the
industry. A single firm may own all the nearby
land and farms.
PRICING AND OTHER STRATEGIC BARRIERS
- Even if a firm is not protected by entry, extreme
economies of scale and extensive ownership of
essential resources, the monopolist may block
an entrant to enter the industry by its respond.
The monopolist may create his own entry
barrier by slashing down its price, increasing its
advertising, and making other strategies which
will give an obstacle for the rival to succeed.
MONOPOLY DEMAND
- Let us start by making 3 assumptions to be able to build a model of a
pure monopoly so that we can analyze its price and output decisions:
1. Economies of scale patents or resource ownership secure the firm’s
monopoly.
2. The monopoly sets a single price for all of its units of output.
3. No government unit regulates the monopoly.
- The big difference between a purely competitive firm and a pure
monopolist lies in its market demand. As we have discussed, a purely
competitive firm faces a perfectly elastic demand. It is a price taker.
Every additional unit sold will add the amount of constant product price
to the firm’s total revenue. Meaning, the marginal revenue for a
competitive firm is equal to the product price and is constant. The
monopolist’s demand curve is different from that of a competitive one.
MR=MC RULE
- A profit-seeking monopolist has no difference with a
competitive one in terms of the rationale. If producing
is preferable to shutting down, then it will produce up
to the output at which marginal revenue is equal to
the marginal cost. (MR=MC)
Using the previous table, the table indicates that the
profit-maximizing output is 5 units because the 5th unit
is the last unit of output of which the marginal revenue
exceeds the marginal cost. The only price that these 5
units can be sold is P130.
THE MONOPOLIST IS A PRICE MAKER
- Pure monopolists, oligopolists, and
monopolistic competitors face a downward
sloping demand curve. Firms in those
industries can decide on the degree of supply
with their output decisions. In varying market
supply, they can also influence product price.
- For a monopolist, in deciding on the quantity of
output to produce, it is also indirectly
determining the price that it will charge.
POSSIBILITY OF LOSSES BY MONOPOLIST
- A pure monopolist has a greater possibility of making
economic profit as compared with a purely competitive firm.
A competitive firm is destined to have a normal profit in the
long run, in contrast a pure monopolist can enjoy economic
profit, for the barriers block the rivals from increasing supply
then drive down the price which will soon remove economic
profit. But pure monopoly never guarantees profit, it is not
exempted from changes in consumers’ preference that
lessen the demand for its product. It is not also exempted
from increasing costs of resources which will result with
losses for the monopolist in the short run. Despite of the
firm’s dominance in the market, it still suffers from losses.
PRICE DISCRIMINATION
- Selling a specific product at several prices not justified by cost
differences.
- When the monopolist increase their profits further by charging different
prices to different buyers.
- The monopolist is engaging in price discrimination for doing so.
- Because the monopolist is the industry itself, the demand curve is the
market demand curve. The demand curve is not perfectly elastic, the
monopolist’s demand curve is down sloping.
- 3-forms of price discrimination:
1. Charging the market the minimum price that a consumer is willing to pay.
2. Charging a specific price for the first set of purchase and then reducing it
for subsequent purchases.
3. Charging some customers a certain price and then another price for other
customers.
Conditions:
- It is not possible fall all firms to engage in price discrimination, it can only
exist when the following conditions are met:
1. Monopoly power – the firm must be a monopolist or, at least possess
monopoly power at some degree, giving them the ability to control its
price and output.
2. Market segregation – the market must be able to segregate its consumers
into unique classes, each having different ability and willingness to pay for
a product. This is usually based on different price elasticities of demand.
3. No resale – the original purchaser cannot resell the product that he
bought. If the monopolist who sells a product at a low-price then the
resale of this product at a higher price is easy, then it creates competition
in the high-price segment. Then this will result in a decrease of price in
the high-price segment. The monopolist, then, cannot have the price
discrimination policy.
SOCIALLY OPTIMAL PRICE P = MC
- A regulatory commission must set a legal ceiling price if they aim to
regulate the monopoly and then achieve an allocative efficiency, the
monopolist must charge a price which equals its marginal cost.
- With the legal ceiling price, the monopolist will maximize profit by
producing Q, units of output because at this output MR = P = MC. By
charging higher prices than those set by the regulatory body makes it
illegal. So a firm cannot set high prices to obtain higher profit.
- Simply, the regulatory commission can drive competition by imposing
legal ceiling prices, which will result for a monopolist’s decision to
produce a specific quantity where price equals the marginal cost. This
equality shows an efficient allocation of resources, which results in a
socially optimal price.
 THANK YOU!!
GOD BLESS US ☺
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