Transcript Powerpoint Chapter 23 - McGraw Hill Higher Education

Chapter 23
Monopoly
Copyright 2002 by The McGraw-Hill Companies, Inc. All rights reserved.
23-1
Chapter Objectives
•
•
•
•
•
•
•
The graph of the monopolist
How monopolist’s profits are calculated
The monopolist in the short run and long run
Barriers to entry
Limits to monopoly power
Economies of scale and natural monopoly
What makes bigness bad?
Copyright 2002 by The McGraw-Hill Companies, Inc. All rights reserved.
23-2
Monopoly Defined
• A monopoly is the ONLY firm in an industry
– No one else sells what the monopolist is producing
– There are local monopolies
• Some examples are a hardware store, a dry cleaners, and a
drugstore
– There are national/regional monopolies
• Some examples are diamonds dealers, gas and electric
companies, and local phone companies
• A monopoly produces ALL the output in an
industry
• There are no close substitutes for the product
or service
Copyright 2002 by The McGraw-Hill Companies, Inc. All rights reserved.
23-3
The Graph of the Monopolist
• Monopoly is the first of three types of imperfect
competition
– The other two are monopolistic competition and
oligopoly
• The distinguishing characteristic of imperfect
competition is that the firm’s demand curve
slopes downward to the right
– This means the imperfect competitor has to lower
price to sell more
Copyright 2002 by The McGraw-Hill Companies, Inc. All rights reserved.
23-4
The Graph of the Monopolist
• The imperfect competitor has to lower
price to sell more
P1
P2
D
Q1
Q2
Copyright 2002 by The McGraw-Hill Companies, Inc. All rights reserved.
23-5
Hypothetical Demand & Cost
Schedule for a Monopoly
Output
Price
1
$16
2
15
3
14
4
13
5
12
6
11
7
10
TR
MR
TC
Copyright 2002 by The McGraw-Hill Companies, Inc. All rights reserved.
ATC
MC
23-6
Hypothetical Demand & Cost
Schedule for a Monopoly
Output
Price
TR
1
$16
$16
2
15
30
3
14
42
4
13
52
5
12
60
6
11
66
7
10
70
MR
TC
Copyright 2002 by The McGraw-Hill Companies, Inc. All rights reserved.
ATC
MC
23-7
Hypothetical Demand & Cost
Schedule for a Monopoly
Output
Price
TR
MR
1
$16
$16
$16
2
15
30
14
3
14
42
12
4
13
52
10
5
12
60
8
6
11
66
6
7
10
70
4
TC
Copyright 2002 by The McGraw-Hill Companies, Inc. All rights reserved.
ATC
MC
23-8
Hypothetical Demand & Cost
Schedule for a Monopoly
Output
Price
TR
MR
TC
ATC
1
$16
$16
$16
$20
$20
2
15
30
14
30
15
3
14
42
12
36
12
4
13
52
10
42
10.50
5
12
60
8
50
10
6
11
66
6
63
10.50
7
10
70
4
84
12
Copyright 2002 by The McGraw-Hill Companies, Inc. All rights reserved.
MC
23-9
Hypothetical Demand & Cost
Schedule for a Monopoly
Output
Price
TR
MR
TC
ATC
MC
1
$16
$16
$16
$20
$20
----
2
15
30
14
30
15
$10
3
14
42
12
36
12
6
4
13
52
10
42
10.50
6
5
12
60
8
50
10
8
6
11
66
6
63
10.50
13
7
10
70
4
84
12
21
Copyright 2002 by The McGraw-Hill Companies, Inc. All rights reserved.
23-10
The Monopolist Making a Profit
(This is the graph of the previous schedule)
20
18
MC
16
14
ATC
12
10
D
8
6
4
MR
2
0
0
1
2
3
4
Output
5
6
7
The monopolist will make a profit if for some range of output her ATC lies below
the demand curve
Copyright 2002 by The McGraw-Hill Companies, Inc. All rights reserved.
23-11
The Monopolist Making a Profit
(This is the graph of the previous schedule)
20
18
MC
16
14
ATC
12
10
D
8
6
4
MR
2
0
0
1
2
3
4
Output
5
6
7
In this instance, the monopolist maximizes her profit at five units of output
charging a price of $12
Copyright 2002 by The McGraw-Hill Companies, Inc. All rights reserved.
23-12
The Monopolist Making a Profit
(Calculating the Monopolist’s Profit)
20
18
MC
16
14
ATC
12
10
D
8
6
4
MR
2
0
0
1
2
3
4
Output
5
6
7
In this instance, the monopolist maximizes her profit at five units of output
charging a price of $12 This is where MC=MR
Copyright 2002 by The McGraw-Hill Companies, Inc. All rights reserved.
23-13
The Monopolist Making a Profit
(Calculating the Monopolist’s Profit)
20
18
MC
16
14
Price
ATC
ATC
12
10
D
8
6
4
MR
2
0
0
1
2
3
4
Output
5
6
7
The ATC at five units of output is about $9.90
Copyright 2002 by The McGraw-Hill Companies, Inc. All rights reserved.
23-14
The Monopolist Making a Profit
(Calculating the Monopolist’s Profit)
20
18
MC
16
14
Price
ATC
ATC
12
10
D
8
6
4
MR
2
0
0
1
2
3
4
Output
5
6
Total Profit = (Price – ATC) X Output
= ($12 - $9.90) X 5 ($2.10 X 5)
= $10.50
Copyright 2002 by The McGraw-Hill Companies, Inc. All rights reserved.
7
23-15
The Monopolist Making a Profit
(Calculating the Monopolist’s Profit)
20
18
MC
16
14
Price
ATC
ATC
12
10
D
8
6
4
MR
2
0
0
1
2
3
4
Output
5
6
7
Every firm produces where MC=MR. The perfect competitor produced at the
most profitable output, which in the long run always happened to be the most
efficient output
Copyright 2002 by The McGraw-Hill Companies, Inc. All rights reserved.
23-16
The Monopolist Making a Profit
(Calculating the Monopolist’s Profit)
20
18
MC
16
14
Price
ATC
ATC
12
10
D
8
6
4
MR
2
0
0
1
2
3
4
Output
5
6
7
The monopolist has no competition and does not have to produce where output is
at its most efficient level (the minimum point on the ATC).
Copyright 2002 by The McGraw-Hill Companies, Inc. All rights reserved.
23-17
The Monopolist Making a Profit
(Calculating the Monopolist’s Profit)
20
18
MC
16
14
Price
ATC
ATC
12
10
D
8
6
4
MR
2
0
0
1
2
3
4
Output
5
6
7
The perfect competitor will produce at the most efficient output level which is the
minimum point on the ATC
Copyright 2002 by The McGraw-Hill Companies, Inc. All rights reserved.
23-18
The Monopolist Making a Profit
(Calculating the Monopolist’s Profit)
20
18
MC
16
14
Price
ATC
ATC
12
10
D
8
6
4
MR
2
0
0
1
2
3
4
Output
5
6
7
The perfect competitor’s P=MR=D=$9.80 and its ATC is equal to price.
Copyright 2002 by The McGraw-Hill Companies, Inc. All rights reserved.
23-19
The Monopolist Making a Profit
(Calculating the Monopolist’s Profit)
20
18
MC
16
14
Price
ATC
ATC
12
10
D
8
6
4
MR
2
0
0
Perfect competitor
Price $9.80
Output $5.45 units
ATC $9.80
1
2
3
4
Output
5
Copyright 2002 by The McGraw-Hill Companies, Inc. All rights reserved.
6
7
Monopoly
Price $12.00
Output 5 units
ATC 9.90
23-20
Summary
• The monopolist makes a profit (economic),
whereas in the long run the perfect competitor
makes no profit (economic)
• The monopolist operates at less than peak
efficiency, while the perfect competitor operates
at peak efficiency (the lowest point on the ATC)
• The perfect competitor(s) charges a lower price
and produces a larger output than the
monopolist
Copyright 2002 by The McGraw-Hill Companies, Inc. All rights reserved.
23-21
The Monopolist Making a Profit
24
MC
22
20
18
Price is $17
D
16
ATC is $14
14
ATC
12
TP = (P – ATC) X Output
TP = ($17 – $14) X 5
TP = ($3) X 5
TP = $15
MR
10
8
0
1
2
3
4
5
6
Output
Output is 5
Copyright 2002 by The McGraw-Hill Companies, Inc. All rights reserved.
23-22
The Monopolist Making a Profit
24
MC
22
20
18
Price is $17
D
16
ATC is $14
14
ATC
The perfect competitor would charge
12
TP = (P – ATC) X Output
TP = ($17 – $14) X 5
TP = ($3) X 5
TP = $15
MR
10
8
0
1
2
3
4
5
6
Output
The output at which the firm would produce most efficiently is 5.1
Output is 5
The perfect competitor would produce at an output of 5.1
Copyright 2002 by The McGraw-Hill Companies, Inc. All rights reserved.
23-23
The Monopolist in the Short
Run and the Long Run
• There is no distinction between the short
run and the long run for the monopolists
– If there is a demand for their product or
service they make a profit (economic profits)
– If there is not enough demand for their
product for them to make a profit they go
out of business
–
Copyright 2002 by The McGraw-Hill Companies, Inc. All rights reserved.
23-24
Demand and Supply under Monopoly
24
The monopolist’s supply curve is her
MC curve. Her supply curve begins
at the break-even point (that is, the
minimum point of the ATC)
MC
22
20
18
D
16
14
ATC
12
MR
Break even point
10
8
0
1
2
3
4
5
6
Output
Because the monopolist is the ONLY seller in the industry, her
individual demand curve is also the Market Demand curve.
Likewise her supply curve is the Market Supply curve.
Copyright 2002 by The McGraw-Hill Companies, Inc. All rights reserved.
23-25
Are All Monopolies Big
Companies
• No . . . many monopolies are tiny firms
operating in a very small market
– What matters is size relative to the market - the
proverbial big fish in a small pond
– Chances are there is only one book store on your
campus
• It is not nearly as big as Barnes and noble
– The only video store in a very small community
would be a monopoly
• There are tens of thousands of gas stations, convenience
stores, restaurants, cleaners, and repair shops that have
monopolies in their communities
Copyright 2002 by The McGraw-Hill Companies, Inc. All rights reserved.
23-26
Barriers to Entry
• Control over an essential
resource
• Economies of scale
• Legal barriers
• Required scale for innovation
• Economies of being established
Copyright 2002 by The McGraw-Hill Companies, Inc. All rights reserved.
23-27
Control over an Essential
Resource
• In economics the basic resources are land, labor
and capital
• Some examples are
– The Metropolitan Opera has most of the world’s
opera stars under contract
– The NFL had virtually all the top football stars
under contract until the early 1960s
– DeBeers Diamonds own four fifths of the world’s
diamond mines
– The International Nickel Company of Canada owns
ninety percent of the world’s nickel reserves
Copyright 2002 by The McGraw-Hill Companies, Inc. All rights reserved.
23-28
Economies of Scale
• Typically, heavy industry - iron, steel, copper,
aluminum, and automobiles - has high start up cost
– Once the plant and equipment are in place, you can take
advantage of economies of scale with high volumes of output
75
70
65
60
55
50
45
40
35
30
25
20
15
10
ATC
5
1
2
3
4
5
6
7
Output (in hundred thousands)
Copyright 2002 by The McGraw-Hill Companies, Inc. All rights reserved.
23-29
Legal Barriers
• Legal barriers include licensing,
franchises, and patents
– Licensing prevents just anybody from
driving a taxi, cutting hair, peddling on the
street, practicing medicine, burying bodies,
etc
• Often the licensing procedure is designed
to hold down the number of people going
into the field
• This tends to keep prices high in that field
Copyright 2002 by The McGraw-Hill Companies, Inc. All rights reserved.
23-30
Legal Barriers
• Legal barriers include licensing,
franchises, and patents
– Government franchises are the most important legal
barrier
– When the number is large, for example radio stations,
usually there is no big problem
– However, government franchises can be, (illegally)
obtained through bribes
– The most important form of local franchise is the
public utility gas and electric companies
Copyright 2002 by The McGraw-Hill Companies, Inc. All rights reserved.
23-31
Legal Barriers
• Legal barriers include licensing,
franchises, and patents
– Patents are granted to investors so they can
have a chance to get rich before some one
else can use their ideas (Patents are granted
for 17 years)
• Some times firms buy up patents to prevent
competition
• Some times, just before the 17 years are up, a
firm makes a slight improvement and gets a
patent for another 17 years
Copyright 2002 by The McGraw-Hill Companies, Inc. All rights reserved.
23-32
Required Scale for Innovation
• Most inventors don’t have the wherewithal to
produce and market their ideas
• Most inventors would probably be quite happy
to hand their ideas and innovations over to one
of the big guys for a share of the profits
• While individuals come up with all the great
ideas, only large firms have the money and
know-how to bring them to the marketplace
Copyright 2002 by The McGraw-Hill Companies, Inc. All rights reserved.
23-33
Economies of Being Established
• Companies that have been in business for a
number of years have certain advantages
– Recognizable brand names
– The sales reps have established territories
– The sellers and buyers have long-standing
relationships
• Sometimes these companies can set the
standard for the industry, i.e.,
– Microsoft in software, Matsushita-VCR format
Copyright 2002 by The McGraw-Hill Companies, Inc. All rights reserved.
23-34
Limits to Monopoly Power
• The ultimate limit to monopoly power
may come from the government or from
the market itself
– If a firm gets too big or too bad, or both, the
government may decide to step in using
antitrust laws
– The market limits monopoly power basically
through the development of substitutes
Copyright 2002 by The McGraw-Hill Companies, Inc. All rights reserved.
23-35
Economies of Scale and Natural
Monopoly
• There are only two justifications for
monopoly
– Economies of Scale justify bigness because
sometime only a firm with the capability of a
very large output can produce anywhere
close to the minimum point of its ATC
– Natural Monopoly is a situation where one
firm is able to provide a service at a lower
cost than could several competing firms
Copyright 2002 by The McGraw-Hill Companies, Inc. All rights reserved.
23-36
One electric Company Is Better than Four
A
B
Panel A shows a single electric transmission feeder cable serving all the homes in
one block. Panel B shows four cables serving that same block. It is a lot more
efficient (and cheaper) to have one cable than four.
Copyright 2002 by The McGraw-Hill Companies, Inc. All rights reserved.
23-37
The Rationale for Natural
Monopoly
• Today the rationale for natural monopoly is
disappearing
– In more than half the states the electric power
industry has been deregulated, so that local electric
monopolies are getting a great deal of competition
– Once the transmission cables had been laid, it
became possible under deregulation for competition
to develop, and the rationale for monopoly no longer
was valid
– The original local phone or electric company was a
natural monopoly, but once we’re all connected,
then let the competition begin
Copyright 2002 by The McGraw-Hill Companies, Inc. All rights reserved.
23-38
When Is Bigness Bad?
• Monopolies tend to be inefficient because they
do not produce at the minimum point on their
ATC
– This prevents resources from being allocated in the
most efficient manner
• Big business always has great political power
– Economic power is easily converted into political
power
• The monopolist may engage in price
discrimination
Copyright 2002 by The McGraw-Hill Companies, Inc. All rights reserved.
23-39
When Is Bigness Good?
• Natural monopolies can take advantage
of economies of scale and deliver services
much more cheaply than a multitude of
competing firms
• It is probably all right if a firm is big
because it is very good
• If a firm is big because it is bad is another
story
Copyright 2002 by The McGraw-Hill Companies, Inc. All rights reserved.
23-40
The Corporate Hierarchy
es
at
St
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Un ezu
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Ve zil
a
Br ico re
ex o
M gap a
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Si enti
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Ar ays ng
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M gK
n
Ho ain
it d
Br ilan
a ia
Th tral frica
s A
Au th
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So
ly a
It a a d
n
Ca gium
l
Be in nds
a la
Sp her
t
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Ne nce lan
a a
Fr Ze
w n
Ne de y
e n
Sw ma nd
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G tzer orea
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Swuth
So an
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23-41
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475
Chief executives
Õpay
As a multiple of manufacturing employeesÕpay, 1999
50
40
30
20
10
0
The Economic Case Against Bigness
• Because there is no competition, there is
no great incentive to control cost or to use
resources efficiently
• There is no need to spend much money
on research and development, to improve
processes, to develop new products, or to
be responsive to customer needs
• A monopolist can charge higher prices
and provide poorer quality and service
Copyright 2002 by The McGraw-Hill Companies, Inc. All rights reserved.
23-42
Two Policy Alternatives
• Two ways to prevent public
utilities from charging
outrageous prices
– government regulation
– government ownership
Copyright 2002 by The McGraw-Hill Companies, Inc. All rights reserved.
23-43
Conclusion
• Natural Monopolies are probably all
right, but only if they do not abuse their
power
• Monopolies based on other factors must
be looked on with suspicion
– They may be up to no good
– They may even be illegal
• Any monopoly must pass the test of
whether or not there are close substitutes
Copyright 2002 by The McGraw-Hill Companies, Inc. All rights reserved.
23-44