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Flashcards in Monopoly Deck (23):

Why do monopolies arise?

Arise because of barrier to entry


What kinds of barriers to entry are there?

- Technical Barriers
- Possess some ownserhip of special knowledge or low cost production methods
- May own a unique resource
- Natural Monopolies

- Legal Barriers
- Legal protection provided by a patent
- Exclusive franchise or license


What are natural monopolies?

- If production of a good exhibits decreasing AC over wide range of output: IRTS, large scale firms will be more efficient
- Usually have some high fixed/set up cost


What is the operation of a monopoly?

- Set Q where MC = MR
- Face downward sloping demand curve with MR twice as steep


What is supply for a monopoly?

Equilibrium position changes as demand changes, therefore there is no supply curve but rather a supply decision


What is true of a monopolies profit?

- +π can persist because of barrier to entry
- π not guaranteed though
- Monopolist doens’t operate at minimum efficient scale (minATC)


What is wrong with a monopoly?

* Produce too little
* Higher prices than perf comp: redistribution of wealth


How can a monopoly lead to a redistribution of wealth?

- Redistribution of wealth relative to perf comp
- Consumer surplus is transferred to monopoly profits


What is the size of market power?

Ability of the firm to set P > MC


What does the degree of market power depend on and what does this imply?

- Depends on demand curve shape
- Elastic: limited market power
- Inelastic: more market power

- MC = MR( = p(1 + 1/E))
- P/MC = (1/(1-(1/|e|)))
- No other factors involved in degree of market power
- Implies that there are some monopolies with very little market power


What is the Lerner Index?

- (P-MC)/P
- (P-MC): Markup

- (P-MC)/P = 1/|e|
- Therefore, 0 ≤ L.I. ≤ 1
- 0: no power
- 1: complete power


What is first degree price discrimination and what are the results?

- Each individual consumer pays their own maximum willingness to pay
- Ends up producing the efficient level of output: productively efficient
- CS: 0
- IF AC=MC LONG RUN NO FC then CBQe0 is their costs
- PS: ABC = π if no FC


What is second degree price discrimination and what is required of it?

- May be able to seperate consumers into 2 or more groups - charge each group a different amount: geography, age etc
- Requires limits on arbitrage


What is third degree price discrimination?

- aka non-linear pricing
- Allows consumers to self select themselves into different groups
- Seeing different amounts of a good for different prices (changing average per unit cost)

* Version 1: Two Part Pricing
- Version 2: Quantity Discount LECTURE 29 NOTES


What is two part pricing and it's consequences?

- Entry fee + per unit price
- DWL disappears


What defines natural monopolies?

- Decreasing average costs over high quantities of output
- Not efficient to increase the number of firms - can’t increase competition, must regulate price


Broadly how can a natural monopoly be regulated?

* Price Regulation
* Rate of Return Regulation


What options are there for price regulation of a natural monopoly?

* MC Pricing
* ATC Pricing
* Two Tier Pricing System


What is MC pricing?

- P = MC is thought to be the best way to get the efficient level of output (Q*) and no DWL

- If regulated so that Pr = MC, monopoly will take PR (where MC=MB(D)), set = MC and produce Qr
- ATC > Pr, Loss incurred
- To maintain viability of production, monopoly will have to be subsidised


What is ATC pricing?

- Firm produces where MB(D) = ATC
- 0π, some DWL, higher quantity produced than Qm but lower than under MC pricing


What is a two tier pricing system in regards to regulating monopolies?

Monopoly price profits to subsidise MC pricing


What is rate of return regulation?

- Allow monopolies to recoup the opportunity cost of their capital investments
- Can change a price > MC and allows them to earn a ‘fair’ rate of return on investment
- Gives an incentive to overcapitalise


What is the Lerner/Elasticity Relationship?

(P-MC)/P = 1/|e|