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Monopoly

Monopoly. Introduction. Interpretation of monopoly definition Monopoly or market power Downward sloping demand curve Price setting and quantity Welfare consequences Sources of monopoly power Profitable pricing strategies. Competition recap. Introduction.

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Monopoly

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  1. Monopoly

  2. Introduction • Interpretation of monopoly definition • Monopoly or market power • Downward sloping demand curve • Price setting and quantity • Welfare consequences • Sources of monopoly power • Profitable pricing strategies

  3. Competition recap

  4. Introduction • Brotherhood for the Respect, Elevation, and Advancement of Dishwashers • Impact of achieving goal • SR life better for dishwashers • LR wages of dishwashers decrease by full amount of tips

  5. Introduction • Why wages bid down by full amount of tips • Who benefits from tipping • Tools for analyzing competitive industry

  6. Section 7.1 The competitive firm

  7. Competitive Firm • Firm sells any quantity wants at going market price • Classic example farm • Small part of market served by each firm • Horizontal demand curve • Products are interchangeable • Buyers can easily buy from another producer

  8. Revenue • TR = P X Q • MR ≡ P • MR curve is flat • Coincides with demand curve

  9. Firm’s Supply Decision • Produce good until MR = MC • Competitive firm produces a quantity where P = MC • Note: P ≡ MR • Supply curve • MC and supply are inverse functions • Supply curve looks like upward sloping portion of MC curve as long as MC curve upward sloping • SR and LR supply curves exist for the firm

  10. Shutdowns and Exits • Does the producer want to produce the good? • Two distinctions • Shutdown: firm stops producing the good but still pays fixed costs • Exit: firm leaves the industry entirely and no longer faces any costs • Firms, in SR, can shutdown but not exit • Remains operational if P > AVC • In LR, can exit

  11. Short-Run Supply Curve • Firms SR supply curve identical to part of SRMC curve that lies above AVC curve • Shutdown otherwise • Upward sloping due to AC and MC U-shape • Diminishing marginal returns to variable factors of production • Elasticity of supply • Percent change in quantity supplied resulting from a 1% change in price

  12. Section 7.2 The competitive industry in the short run

  13. Competitive Industry in the SR • All firms in industry competitive • SR is period of time in which no firm can enter or exit the industry • Number of firms cannot change • LR is period of time in which any firm can enter or leave the industry • Industry’s SR supply curve • Sum of SR individual firm supply curves • More elastic than individual supply curves

  14. Supply, Demand, and Equilibrium • Each firm operates where supply meets demand • Industry equilibrium consequence of optimizing behavior on part of individuals and firms • Intersecting industry wide supply and industry wide demand

  15. Competitive Equilibrium • Firms produces where supply (or MC) curve crosses horizontal line at market going price • Increase in FC • Price and quantity remain unchanged • Increase in VC • Raises firms MC curve • Causes some firms to shutdown • Higher market equilibrium price • Firm’s output could go up or down • Increase in industry demand • Higher market equilibrium price • Increase in firm’s output

  16. Change in Fixed Cost • Increase in FC • Price and quantity remain unchanged

  17. Change in Variable Cost • Increase in VC • Raises firms MC curve • Causes some firms to shutdown • Higher market equilibrium price • Firm’s output could go up or down

  18. Change in Industry Demand • Increase in industry demand • Higher market equilibrium price • Increase in firm’s output

  19. Industry’s Costs • Sum of total cost of all individual firms • To minimize cost of all firms, use equimarginal principle • Insure that MC same for all producers in industry • Automatic because all firms have same price

  20. Section 7.3 The competitive firm in the long run

  21. Competitive Firm in the LR • Some fixed cost in SR become variable cost in the LR • Firms can enter and exit in the LR

  22. Profit and the Exit Decision • Profit = TR – TC • Costs includes all foregone opportunities • SR versus LR supply response • Firm LR supply curve more elastic than SR supply curve • Shuts down if price of output falls below average variable cost • Exits if price of output falls below average cost

  23. LRMC and Supply • Firms operate where P = LRMC • Remain in industry, LR supply curve identical to LRMC curve • Exit decision is made at the point P=AC (note that there is no more fixed cost in the LR)

  24. Section 7.4 The competitive industry in the long run

  25. Competitive Industry in the LR • Firms wishing to enter or exit the market do so in the LR, flatting out the LR supply curve • So unlike the case in the SR, the LR supply curve is a horizontal line. • Important assumption: all firms are identical in costs • Break-even price plays an important role here (1) all firms produce at the break-even price; (2) it determines the level of LR supply curve

  26. Zero Profit Condition • Economic versus accounting profit • Accounting profit refers to total revenue minus total financial cost • Economic profit refers to accounting profit minus the value of the best foregone opportunity

  27. Industry’s LR Supply Curve • All firms identical • Industry supply curve flat at the break-even price • Break-even price and the LR supply • Break-even price (P = AC) at which a seller earns zero profit • LR supply curve identical with part of firm’s LRMC curve lying above LRAC curve

  28. Flat LR Supply Curve • Flatness based on entry and exit • P < AC, all firms exit • P > AC, unlimited number of firms enter • LR zero profit equilibrium almost never reached • Demand and cost curves shift so often that entry and exit never settles down • Approximation to the truth

  29. Equilibrium • LR same as SR between firm and industry • Market price determined by intersection of industrywide demand and supply • Firms face flat demand curves at market price • Analysis of changes to equilibrium • Changes in FC • Changes in VC • Changes in demand

  30. Application: Government as a Supplier • In SR, government policy to build and operate apartment complex increasing housing • In LR, supply curve does not shift • Determined by break-even price • Number of privately owned apartments withdrawn from the market equals number of apartments built by government

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