Monopoly Power

Question 1

Pure Monopoly

Answer 1

A pure monopoly is defined as a single seller of a product, i.e. 100% of market share.

Question 2

Monopoly power

Answer 2

In the UK a firm is said to have monopoly power if it has more than 25% of the market share. For example, Tesco @30% market share or Google 90% of search engine traffic.

Question 3

Problems with monopolies: Higher prices

Answer 3

Firms with monopoly power can set higher prices (Pm) than in a competitive market (Pc).

Question 4

Allocative inefficiency.

Answer 4

A monopoly is allocatively inefficient because in monopoly (at Qm) the price is greater than MC. (P > MC). In a competitive market, the price would be lower and more consumers would benefit from buying the good. A monopoly results in dead-weight welfare loss

Question 5

Productive inefficiency

Answer 5

A monopoly is productively inefficient because the output does not occur at the lowest point on the AC curve.

Question 6

X – Inefficiency

Answer 6

It is argued that a monopoly has less incentive to cut costs because it doesn’t face competition from other firms.Therefore the AC curve is higher than it should be.

Question 7

Supernormal Profit

Answer 7

A monopolist makes Supernormal Profit Qm * (AR – AC ) leading to an unequal distribution of income in society.

Question 8

Higher prices to suppliers

Answer 8

A monopoly may use its market power (monopsony power) and pay lower prices to its suppliers. E.g. supermarkets have been criticised for paying low prices to farmers. This is because farmers have little alternative but to supply supermarkets who have dominant buying power.

Question 9

Diseconomies of scale

Answer 9

It is possible that if a monopoly gets too big it may experience dis-economies of scale. – higher average costs because it gets too big and difficult to coordinate.

Question 10

Lack of incentives

Answer 10

A monopoly faces a lack of competition, and therefore, it may have less incentive to work at product innovation and develop better products.

Question 11

Lack of choice

Answer 11

Consumers in a monopoly market face a lack of choice. In some markets – clothing, choice is as important as price

Question 12

Advantages of monopolies: Economies of scale

Answer 12

If there are significant economies of scale, a monopoly can benefit from lower average costs. This can lead to lower prices for consumers.

Question 13

Research & Development

Answer 13

Monopolies make supernormal profit which can be invested in Research & Development. This is important for industries like medical drugs which require a lot of risky investment. In many industries which require substantial investment – a competitive industry with many small firms would be unsuitable.

Question 14

Global competition

Answer 14

A domestic monopoly may face competition from abroad, and therefore what may appear as a monopoly may still face competitive pressures. Also, a monopoly may face competition from related industries, e.g. Eurotunnel has a monopoly on train services from London to Paris, but faces competition from airlines.

Question 15

Advantages of Monopolies: Research and development.

Answer 15

Monopolies can make supernormal profit, which can be used to fund high-cost capital investment spending. Successful research can be used for improved products and lower costs in the long term. This is important for industries like telecommunications, aeroplane manufacture and pharmaceuticals. Without monopoly power that a patent gives, there may be less development of medical drugs. In developing drugs, there is a high risk of failure; monopoly profits give a firm greater confidence to take risks and fund research which may prove futile.

Question 16

Economies of scale

Answer 16

Increased output will lead to a decrease in average costs of production. These can be passed on to consumers in the form of lower prices. See: Economies of Scale This is important for industries with high fixed costs, such as tap water and steel production.

Question 17

International competitiveness

Answer 17

A domestic firm may have monopoly power in the domestic country but face effective competition in global markets. E.g. British Steel has a domestic monopoly but faces competition globally. With markets increasingly globalised, it may be necessary for a firm to have a domestic monopoly in order to be competitive internationally

Question 18

Monopolies can be successful firms

Answer 18

A firm may become a monopoly through being efficient and dynamic. A monopoly is thus a sign of success, not inefficiency. For example – Google has gained monopoly power through being regarded as the best firm for search engines. Apple has a degree of monopoly power through successful innovation and being regarded as the best producer of digital goods.

Question 19

Monopoly regulation

Answer 19

One possibility is for a firm to have a monopoly situation, but the government sets up a regulator to prevent the excesses of monopoly power. For example, utilities like water and gas are natural monopolies so it makes sense to have one provider. The regulator can limit price increases and ensure standards of service are met. In theory, this enables the best of both worlds – the monopoly firm can benefit from economies of scale, but the consumer is protected from monopoly prices.

Question 20

Subsidise loss-making services.

Answer 20

Another potential advantage of a monopoly is that they can use their supernormal profit to subsidise socially useful but loss-making services. For example, a train company can use its monopoly power to set high prices on peak services, but this allows the firm to subsidise unprofitable late-running services on Sat night, which is useful for people going out for the night.