Transcript Monopoly and Oligopoly

Monopoly and Oligopoly
MicroMod7
Objectives
• By the end of this module, SWBAT
– Compare and contrast monopolies and oligopolies
by their
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D, MR curves
ATC curves
Profit margins
Relative independence
Barriers to entry
Price controls
SLOs
• Social responsibility, life long learning
– Although rare scenarios, average Western household
does quite a deal of business with monopolies,
oligopolies
– Excessive profits of these structures can sometimes
dampen innovation and can compound negative
externalities
• Fracking  adverse effects on climate change
• Re-packaging  less innovation in smartphones
– How can the public benefit from markets with little or
no competition?
Define them
• monopoly - a market structure in which only
one seller dominates the production and sale
of a good or service
• oligopoly - a market structure in which only a
few sellers dominate the production and sale
of a good or service
• small difference in words but big difference in
application
Sources of Monopoly
• geographic - DeBeers diamond company - only a few
places on Earth have commodity needed for
production - fairly rare
• natural - DWP - more efficient for government to only
allow one firm to provide good or service
• technological - patents and copyrights - government
acts to protect intellectual property in order to
encourage innovation, creativity in market
• economic - one firm has such an economies of scale
advantage no other firm wants to waste time
challenging it
Natural Monopoly ATC
• think public utilities that
require a substantial
upfront investment in
infrastructure
• once project finished
both variable and fixed
costs minimized by
marginal use - hence ATC
curve looks like AFC curve
from last module constantly decreasing but
never quite reaching zero
Natural Monopoly ATC
• this huge upfront cost
discourages competition leads to monopoly
• eventually market may
grow - leading to more
infrastructure
development and then
more competition
• Brooklyn Bridge example
in New York, at one time
only bridge of its kind and
New York’s growth caused
more bridges to be built
Monopoly & Demand
• monopolies are price MAKERS, not price
takers
• not restricted to world price, can choose its
own combination of P of Q - therefore it uses
the normal demand curve for its market
• monopolists CANNOT defy the Law of Demand
like some people think
Monopoly & Demand
• remember last time that in perfect
competition, P = MR
• but in monopoly, P > MR due to the
downward sloping demand curve
• this allows for far more marginal revenue in
the monopoly structure than in the PC
structure
Monopoly & Demand
Monopoly & Demand
• Since MR is not D in a
monopoly scenario and
is a steeper curve than
D, it intersects with MC
before ATC does
• Therefore, cost
rectangle always
smaller than it would be
than in other market
structures, and profit
rectangle always larger
Monopoly & Demand
• Why is D so steep in a
monopoly scenario? Lack of
substitutes for the most
part
• Why are costs so low in a
monopoly scenario? Lack of
competition and economies
of scale advantage
• These firms have already
invested a massive upfront
cost to begin operations
and are not operating at the
lowest point of their fixed
costs
Monopoly & Revenue
• two choices for monopolist
– output effect - more Q = more TR
– price effect - less P = less TR
• want to avoid price effect so therefore lowest
P that monopolist will charge is the place on
graph where MR = MC (same as in perfect
competition)
• monopolistic profit much bigger than PC profit
as a result
Monopoly & Social Welfare
• market equilibrium principle indicates that
monopolist SHOULD sell products where
demand meets marginal cost
• why no supply curve here? because monopoly
IS the market supply and marginal cost is the
curve the monopolist uses to set Q - therefore
MC functions as the market demand curve
Monopoly & Social Welfare
• existence of a monopoly akin
to government intervention in
economy - charge an extra
“tax” to use product
• causes a deadweight loss
between the point where MC
and MR intersect and the
“equilibrium” point
• decreases consumer surplus,
increases producer surplus same difference to an
economist
• governments care more about
the distribution of surplus
than economists
Price Discrimination
• monopolist sees deadweight loss caused by her
pricing as lost profit opportunity
• engages in price discrimination - selectively
choosing to offer goods, services to different
customers at different prices
• aim isn’t to be unfair or provide more access for
consumers - attempting to convert consumer
surplus into profits
• examples include student discounts, senior
discounts, financial aid packages, etc.
Price Discrimination
Price Discrimination
• The monopolist has
decided to charge
whatever the market will
bear for her product,
essentially creating a
“world price” scenario
like in PC and thus
merging MR and D
• In theory, it is possible for
a monopolist to “perfectly
price discriminate” by
converting all possible
consumer surplus into
Price Discrimination - Airlines
• Airline companies can charge
whatever they like for seats on
the same airplane
• Not just related to first class,
business class, coach sections
• Every empty seat is a loss of
revenue
• Therefore, it is their best
interest to put offers for those
seats all over the internet and
travel agencies to fill it and
gain revenue, accepting
whatever P the “world” will
pay for it
Oligopolies Defined
• few sellers control market, offer same or
highly similar products
• are not price TAKERS (PC) or price MAKERS
(monopoly) but price SETTERS
• rationale for price oligopolistic firms set
derived from game theory
Playing the Game
• every game has object, rules and strategy
• object of the game is to maximize profit
• rules are Law of Demand, marginal revenue &
cost
• strategy is collusion - acting together to form a
cartel - group of companies cooperating to
form an effective monopoly
Jack and Jill Example (pg. 351)
• start with duopoly (only two sellers in a given
market) as easy example
• examination of the table on page 351 yields
that 60 gallons at 60 dollars maximizes TR
(and profit since example is that ATC = 0)
• seems easy at first - divide water production in
half - 30 and 30 - 1800 dollars profit each
Jack and Jill Example Continued
• no collusion is perfect
• both Jack and Jill are
conscious of the production
of the other
• there is more profit to be
made at 40 gallons of
production vs. 30 gallons so
each player will reach Nash
equilibrium - economic
actors choosing their best
strategy in light of all other
strategies other players
have chosen their strategies
Conclusions from Jack and Jill
• Oligopolies always
produce more quantity
and sell for lower prices
than monopolies
• As more and more
producers enter
oligopolistic markets and
collude, their ability to set
prices decreases eventually this leads to a
perfect competition price
taker scenario
The Difficulty of Cooperation
• Oligopolistic firms should be able to collude
perfectly but self interest and profit maximization
are too tempting
• causes an economic “prisoners’ dilemma”
scenario
• in short, one player assumes other players will act
in self-interest and therefore she decides to act in
her self-interest as well even when cooperation
among all parties is the best outcome
The Difficulty of Cooperation
• Often the oligopolist is
stuck in a Catch-22
involving D
• When he is faced with a
scenario where TR can’t
grow if he raises or
lowers the price,
demand is said to be
“kinked”
The Difficulty of Cooperation
• This does not mean,
however, that oligopolists
never change their prices
• They often shift prices due
to other demand
determinants
• Examples – gas prices
increase during the summer
months, produce prices
change because of health
fads, video game console
prices bundles change due
to holiday season
Prisoners’ Dilemma & Social Welfare
• while stressful for oligopolists, dilemma is great
for consumers as it leads to lower prices, more
output
• this is the aim of much of government’s antitrust
(or anti-monopoly) legislation - split monopolies
into smaller pieces that will act as a oligopoly and
then subsequently do more to promote the
common good
• for example AT&T when it became 8 different
regional companies
Antitrust Laws
• Price fixing - discussion between competing
companies for the purpose of raising prices
• deemed a federal offense by the Sherman &
Clayton antitrust laws
• Can be tricky when applied to situations
involving MSRPs, price wars, and tying
Side by Side Comparison
Monopoly
• One seller
• Steepest D, MR curves
• Price maker
• Largest profit margin
• Independent
• Strongest barriers to entry
Oligopoly
• Few sellers
• Steep D, MR curves
• Price setter
• 2nd largest profit margin
• Interdependent
• 2nd strongest barriers to
entry