Lecture 10 Monopoly

1. Definition of Monopoly Market. Causes of monopoly.

2. Monopoly Demand and Marginal Revenue

3. Monopoly Profit Maximization

4. Monopoly Inefficiency

5. "Natural" Monopoly

1. Definition of Monopoly Market. Causes of monopoly.

A P-competition defines an ideal market structure in two senses: 1) in P-competition, price competition dominates all other forms of competition and forces the price to the supply-and-demand equilibrium, and 2) at that price and the corresponding output, marginal benefit is equal to marginal cost, so the allocation of resources is efficient – net benefits are maximized.

But it seems unlikely that all industries are P-competitive, even approximately. Now we consider the opposite extreme: a monopoly. By definition, a monopoly is the only seller of a product for which there is no close substitute. It is an industry in which there is only one firm – or, conversely, a firm that has the whole industry to itself.

In an economy populated by alert profit-seekers, it seems that any profitable monopoly would quickly attract competitors. For a monopoly to be stable, there must be some "barrier to entry." Thus, we ask what might "cause" a monopoly, what the "barrier to entry" might be.

Most texts give five causes of monopoly:

• patents and other forms of intellectual property

• control of an input resource

• capital-consuming technologies

• decreasing cost

• government

Patents and Other Forms of Intellectual Property

Patent law is designed to increase the incentive to invent new methods of production and new goods. The inventor is granted a temporary monopoly on the use of the invention. The idea is that the patent makes the invention more profitable, during the term of the patent, and that these profits encourage inventors and so increase the rate of technical progress.

For example, the Polaroid company has owned the basic patents on instant cameras. When the Kodak company produced instant cameras in competition with Polaroid, a court found that this violated Polaroid's patent rights, and Kodak had to cease and desist and pay a penalty to Polaroid.

Other forms of "intellectual property" include copyrights on books and works of art and such, trade-marks, and trade secrets. Copyrights and trade-marks probably do not create monopolies in and of themselves. There may be close substitutes for copyrighted books, and close or even perfect substitutes can be offered for trade-marked goods, provided they do not falsify the trade-mark. However, it is possible that trade secrets might create monopolies. The formula for Coca-Cola, for example, is a trade secret. While Coca-Cola probably is not a monopoly, this is a matter of degree – Coca-Cola is a distinctive product. Whether other colas are close substitutes or not we leave to the judgment of the reader.

Control of an Input Resource

Products which require a natural-resource input may be monopolized if one supplier can get control of all known supplies of the natural resource. For example, at one time all known supplies of nickel were controlled by a single company. Aluminum ore, too, was at one time controlled by a single supplier.