Summary
Monopoly in Practice
- 1. The key difference between a monopoly and a perfectly competitive industry is that a single, perfectly competitive firm faces a horizontal demand curve but a monopolist faces a downward-sloping demand curve. This gives the monopolist market power, the ability to raise the market price by reducing output.
- 2. The marginal revenue of a monopolist is composed of a quantity effect (the price received from the additional unit) and a price effect (the reduction in the price at which all units are sold). Because of the price effect, a monopolist’s marginal revenue is always less than the market price, and the marginal revenue curve lies below the demand curve.
- 3. At the monopolist’s profit-maximizing output level, marginal cost equals marginal revenue, which is less than market price. At the perfectly competitive firm’s profit-maximizing output level, marginal cost equals the market price. So in comparison to perfectly competitive industries, monopolies produce less, charge higher prices, and can earn profits in both the short run and the long run.
Monopoly and Public Policy
- 4. A monopoly creates deadweight losses by charging a price above marginal cost: the loss in consumer surplus exceeds the monopolist’s profit. This makes monopolies a source of market failure and governments often make policies to prevent or end them.
- 5. Natural monopolies also cause deadweight losses. To limit these losses, governments sometimes impose public ownership and at other times impose price regulation. A price ceiling on a monopolist, as opposed to a perfectly competitive industry, need not cause shortages and can increase total surplus.
Price Discrimination
- 6. Not all monopolists are single-price monopolists. Monopolists, as well as oligopolists and monopolistic competitors, often engage in price discrimination to make higher profits, using various techniques to differentiate consumers based on their sensitivity to price and charging those with less elastic demand higher prices. A monopolist that achieves perfect price discrimination charges each consumer a price equal to his or her willingness to pay and captures the total surplus in the market. Although perfect price discrimination creates no inefficiency, it is practically impossible to implement.