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Monopolies November 5, 2008

Posted by petrarcanomics in Imperfect Competitors.

Monopolies have an ability to make prices by holding back on the supply of the good they produce. The fact that “marginal revenue = demand = average revenue = price” only holds true for perfect competition. In he monopoly model, marginal revenue separates itself from demand, average revenue and price because changes in the supply of monopoly goods actually change the price of existing product already on the market. So the marginal revenue curve is steeper and inside the demand curve of the product.

The monopolist operates where marginal revenue is equal to marginal cost as the perfect competitor does, but he operate sin the elastic portion of the demand curve when his price is greater than his marginal cost. After we find the output at MR=MC, we must go up to the demand curve to get the monopolist price. In this way the graph reflects how it is in the monopolist’s interest to hold back his production quantity in order to inflate his price. The monopolist can charge a higher price than a competitive firm, but he cannot charge any price he wants, as many students incorrectly assume.

The ultimate profit-making monpolist is one who can price discriminate and make each consumer pay the maximum price he/she is willing to pay for the good. The price discriminator can literally eliminate all consumer surplus.

In the long run, the monopolist can in fact make economic profit.

Natural monopolies also exist caused by economies of scale. Government often times will allow for natural monopolies to exist but regulate them, much like they do with public utilities. Government will regulate them to the socially optimal price, which is found at P=MC and they regulate it to the fair return or average cost pricing price which is found at P=ATC.

In the monopolist model, MR=0 will identify unit elasticity in the monopolist demand curve. MR=0 also identifies maximum total revenue. The monopolist does not achieve allocative efficiency, where P=MC, and it does not achieve productive efficiency, which occurs when the firm operates at minimum ATC.

For a more in-depth look at monopolies, check out this interactive monopoly lesson from Reffanomics.



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