Monopoly.pptx for MBA students basics of MS

Type of Market Structure- Monopoly

1. Types of Market Structure

2. Monopoly At the opposite extreme of perfect competition , there is imperfect competition. Single producer who dominates the production of a unique product, which has no close substitute . A monopolistic firm can enjoy earning supernormal profits in the long run because entry is blocked. Information for the economic agents on production, cost, price, and quality is not perfect .

3. Monopoly The cross elasticity of demand with every other product is very low. The monopolist has market power and can change the price of the good. However, as the price increases the quantity demanded decreases. Thus, the firm must take consideration both the positive and negative effects of increase in prices. Firm and the industry are one and the same.

4. Monopoly Firm and Market demand

5. Summary on Characteristics of Monopoly Single Seller: There is only one seller; it can control either price or supply of its product. Many Buyers Price setter: The monopolist has control over the supply so as to increase the price. No close Substitutes: Buyers have no alternatives or choice. Firm and Industry are the same: Imperfect information No Entry: Strong barriers for new firms to enter such as legal, technological, economic and natural obstacles.

6. Causes for Monopoly Natural resources: Technical: Legal:  patent rights, copyright and trade marks of the producers. Large Amount of Capital: State: Government will have the sole right of producing and selling some goods. They are State monopolies.

7. Marginal Revenue MR = ∂TR/∂Q = ∂PQ/∂Q = P ∂Q /∂P + Q ∂P/∂Q MR= P + Q ∂P/∂Q , where ∂P/∂Q is the slope, it must be negative since it is downward sloping, MR = P − Q∂P/∂Q . MR = P − Q∂P/∂Q shows that MR<P for any given positive level of output Q. For any linear demand curve, the MR curve would be linear too , but with a slope that is twice as the slope for the demand curve.

8. Marginal Revenue MR curve steeper than the demand curve (located closer to the origin) and have an x-intercept equal to half of the x-intercept of the demand curve. Let us take an inverse linear demand function , such as P = a − b Q . TR = PQ = (a − bQ )Q = aQ − bQ 2 , and MR = ∂TR/∂Q = a − 2b Q, where −2b is slope of the MR curve, twice the slope of the demand curve (−b).

9. Marginal Revenue

10. Example

11. Elastic and Inelastic Demand

12. Monopoly’s Equilibrium in the Short Run A monopoly would reach its equilibrium level of output that maximizes its profits when its MR=MC. A profit-maximizing manager of a monopoly should continue to expand output when MR > MC and revenues increase more than it would increase costs. If MC > MR , a reduction in output would reduce costs by more than it would reduce revenue. A profit-maximizing manager thus is motivated to produce where MR=MC. The average revenue curve is the product’s market demand curve.

13. Monopoly’s Equilibrium in the Short Run Profit P>SAC Loss P<SAC MR=MC is profit maximizing MR=MC is loss minimizing

14. Example A monopoly has the following total cost function: TC = 80 − 8Q + Q 2 . Find its equilibrium output and price and calculate its maximum profits, given that the market demand function is Q = 32 − 1/3P. Solution: Equilibrium output and price is at MR=MC and 96-3Q=P Differentiating TC: MC=-8+2Q and TR=PQ= (96-3Q)Q=96Q-3Q 2 Differentiating TR: MR=96-6Q MR=MC  96-6Q = -8+2Q  104=8Q  Q=13. 96-3Q=P  P=96-3(13)=57 and Profit = 596.

15. Monopoly’s Equilibrium in the Long Run As in short-run equilibrium situation, the same will apply in the long run since barriers to entry will prevent new firms from entering. In the long run, a monopolist will earn profit , as entry to the industry remains difficult. The equilibrium point occurs when the firm MR=LMC.

16. Example Consider a monopoly with a cost function: TC = 120 + 6Q + Q 2 /270. Market demand is expressed by Qd = 4500 − 90P. Find the equilibrium quantity and price. Calculate the firm’s maximum profit in the long run. Answer: Q=1485 P=33.5 Profit=32,550

17. Pros: 1. Stability of prices 2. Economies of Scale: LAC decline as output increases. 3. Research and Development Pros and Cons of Monopoly Cons: 1. Higher prices 2. Price discrimination 3. Inferior goods and services  

18. Example A monopoly face an inverse market demand of P=100-0.375Q, and it Total cost is given by TC= 1200+0.125Q 2 Solve for the monopolist profit maximization price, quantity and profit