Chapter

16
Monopoly

Interactive PowerPoint Slides by:

V. Andreea Chiritescu
TENTH EDITION Eastern Illinois University
Mankiw, Principles of Economics, 10th Edition. © 2024 Cengage. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible
website, in whole or in part. 1
 IN THIS CHAPTER
• Why do monopolies arise?
• Why is MR < P for a monopolist?
• How do monopolies choose their P and Q?
• How do monopolies affect society’s well-being?
• What can the government do about monopolies?
• What is price discrimination? (price customization)

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 Why Monopolies Arise
• Monopoly
– A firm that is the sole seller of a product without close
substitutes
– Has market power: price maker
• The ability to influence the market price of the product it sells
– Arise due to barriers to entry
• Other firms cannot enter the market to compete with it

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 公平交易法 vs. 經濟學的定義

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 市場占有率 (Market Share)
• 要測度市場占有率就必須先界定相關市場、確認相關市場
中的廠商、選擇一定的期間（通常為一年）及採行適當的
測度格（metric）（例如：金額、產量、產能、儲量等）
測度廠商或市場的大小，最後再計算個別廠商在相關市場
之一定期間內，其銷售量或銷售值等變數（出口部分除外
）占該相關市場所有供應廠商總銷售量（值）的比率，此
即為市場占有率或稱市場份額。

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 Barriers to Entry – 1
1. Monopoly resources
– A single firm owns a key
resource required for
production.
• Single water provider in town
• DeBeers diamond company - “Rather than a
owns most of the world’s monopoly, we like
to consider
diamond mines (However, its ourselves ‘the only
market share dropped to 27.5% game in town.’”
in 2023.)
– Relatively rare in practice
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 Barriers to Entry – 2
2. Government regulation
– Government-created monopolies
– The government gives a single firm the exclusive right to
produce the good.
• Patents for new pharmaceutical drugs
• Copyright laws
• Lead to higher prices and higher profits (than under
competition)
• Also encourage some desirable behavior (provides incentives
for creative activity)
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 Barriers to Entry – 3
3. The production process: natural monopoly
– A single firm can produce the entire market Q at lower
cost than could several firms
– Arises when there are economies of scale over the
relevant range of output
– Distribution of water, electricity, etc.
– Club goods (excludable, not rival in consumption)

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EXAMPLE 1: Natural Monopoly
You live in a small town where 1,000 homes
need electricity.
• ATC is lower if one firm services all 1,000 homes
than if two firms each service 500 homes.
Cost Electricity

ATC slopes downward due

to huge FC and small MC
$80
$50 ATC (LR)
Q
500 1000
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 Monopoly versus Competition
• Competitive firm
– Price taker
– Small, one of many
– Faces individual demand at P: perfectly elastic demand
• Monopoly firm
– Price maker, market power
– Faces the entire market demand: downward sloping
demand

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 Profit-Maximization
• Like a competitive firm, a monopolist maximizes profit by
producing the quantity where MR = MC
– Think at the margin: Always compare the benefit and cost
of the last unit
– If MR>MC, continue producing until MR=MC
– If MR<MC, reduce production unit MR=MC

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 Understanding the Monopolist’s MR
• Increasing Q has two effects on revenue:
– Output effect: higher output raises revenue
– Price effect: lower price reduces revenue
• Marginal revenue, MR < P
– To sell a larger Q, the monopolist must
reduce the price on all the units it sells
– Is negative if price effect > output effect
• e.g., when Common Grounds increases Q
from 5 to 6
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 Demand Curves: Competitive Firm vs. Monopoly

P A competitive firm’s P A monopolist’s

demand curve demand curve

P = MR
D
The market
demand curve D
Q Q
The firm can increase To sell a larger Q, the
Q without lowering P, firm must reduce P.
so MR = P for the Thus, MR < P.
competitive firm.
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 Competitive Firms vs. Monopoly
𝑇𝑅1 = 𝑃𝑄1 𝑇𝑅1 = 𝑃1 𝑄1
𝑇𝑅2 = 𝑃𝑄2 𝑇𝑅2 = 𝑃2 𝑄2
Δ𝑇𝑅 𝑇𝑅2 − 𝑇𝑅1 𝐴 Δ𝑇𝑅 𝑇𝑅2 − 𝑇𝑅1 𝐴−𝐶
𝑀𝑅 = = = =𝑃 𝑀𝑅 = = =
Δ𝑄 𝑄2 − 𝑄1 𝑄2 − 𝑄1 Δ𝑄 𝑄2 − 𝑄1 𝑄2 − 𝑄1
Output effect: Area A
Price effect: None Output effect: Area A
Price effect: Area C
𝑃 𝐷

B A
𝐷
𝑄1 𝑄2
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 Monopolist’s MR and P
• If the demand curve is flatter
– Price effect is smaller
– Elasticity is greater
• The greater the elasticity, the smaller the distance
between MR and P
– Perfect competition: Elasticity = ∞ , MR = P
– Monopoly: Elasticity < ∞, MR < P

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 Elasticity & Marginal Revenue
• Marginal Revenue:
– Midpoint method:

𝑇𝑅2 − 𝑇𝑅1 𝑃1 + 𝑃2 1
𝑀𝑅 = = 1−
𝑄2 − 𝑄1 2 𝜀
– Differential method:

Δ𝑇𝑅 Δ𝑃 𝑄 Δ𝑃 1
𝑀𝑅 = =𝑃+𝑄 =𝑃 1+ =𝑃 1−
Δ𝑄 Δ𝑄 𝑃 Δ𝑄 𝜀

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 Elasticity & Marginal Revenue
𝑇𝑅2 − 𝑇𝑅1 = 𝐴 + 𝐵 − 𝐶 + 𝐵 = 𝐴 − 𝐶
= 𝐴+𝐷 − 𝐶+𝐷
1 1
= 𝑃1 + 𝑃2 𝑄2 − 𝑄1 − (𝑄1 + 𝑄2 )(𝑃1 − 𝑃2 )
2 2
1 𝑄1 + 𝑄2 𝑃1 − 𝑃2
= (𝑃1 + 𝑃2 )(𝑄2 − 𝑄1 ) 1 −
2 𝑃1 + 𝑃2 𝑄2 − 𝑄1
1 1
= (𝑃1 + 𝑃2 )(𝑄2 − 𝑄1 )(1 − )
2 𝜖
因此，
𝑇𝑅2 − 𝑇𝑅1 1 1
= (𝑃1 + 𝑃2 )(1 − )
𝑄2 − 𝑄1 2 𝜖

• Quantity effect: A
• Price effect: C

18 ELA
 Active Learning 1 A monopoly’s revenue
Common Grounds is
the only seller of
Q P TR AR MR
cappuccinos in town.
The table shows the 0 $4.50 n.a.
market demand for 1 4.00
cappuccinos.
2 3.50
Fill in the missing
3 3.00
spaces of the table.
What is the relation 4 2.50
between P and AR? 5 2.00
Between P and MR?
6 1.50
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service or otherwise on a password-protected website or school-approved learning management system for classroom use. 19
 Active Learning 1 Answers

• P = AR, Q P TR AR MR
same as for a 0 $4.50 $0 n.a.
$4
competitive firm. 1 4.00 4 $4.00
3
• MR < P, whereas 2 3.50 7 3.50
MR = P for a 2
3 3.00 9 3.00
competitive firm. 1
4 2.50 10 2.50
0
5 2.00 10 2.00
–1
6 1.50 9 1.50
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service or otherwise on a password-protected website or school-approved learning management system for classroom use. 20
Common Grounds’ D and MR Curves
P, MR
Q P MR
$5
0 $4.50
$4 4
Demand curve (P)
1 4.00 3
3
2 3.50 2
2 1
3 3.00
1 0
4 2.50
0 -1 MR
5 2.00 -2
–1 e>1 e=1 e<1
6 1.50 -3
0 1 2 3 4 5 6 7 Q

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service or otherwise on a password-protected website or school-approved learning management system for classroom use. 21
MR vs. P
Q P e MR = P (1 - 1/e)
e=price
0 4.5 elasticity of
17 4.25(1-1/17)=4 demand
(midpoint
1 4 method)
5 3.75(1-1/5)=3
2 3.5
2.6 3.25(1-1/2.6)=2
3 3
11/7 2.75(1-7/11)=1
4 2.5
1 2.25(1-1/1)=0
5 2
7/11 1.75(1-11/7)=-1
6 1.5

22 MONO
POLY
 Monopoly Profit Maximization
• Produce Q where MR = MC
• Sets the highest price consumers are willing to pay for that
quantity
• Finds this price on the D curve
• P > MR = MC
• If P > ATC, the monopoly earns a profit

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 Profit-Maximization for a Monopoly
Costs and
Revenue MC

At this Q, find P on P
the demand curve.

The profit-maximizing D
Q is where MR = MC. MR

Q Quantity

Profit-maximizing output

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 The Monopoly’s Profit
Costs and
Revenue MC
As with a
P
competitive firm, ATC
the monopolist’s ATC
profit equals
D
(P – ATC) x Q
MR

Q Quantity

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 A Monopoly Does Not Have a S Curve
• A competitive firm takes P as given
– Has a supply curve that shows how its Q depends on P
• A monopoly firm is a “price-maker”
– Q does not depend on P
– Q and P are jointly determined by MC, MR, and the
demand curve
– Hence, no supply curve for monopoly.

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P
MC

B
P2
A
P1

b
D2
a

MR2 D1
MR1

Q1 Q2 Q
 CASE STUDY: Monopoly vs. Generic Drugs

The market for

Price a typical drug
Patents on new
drugs give a temporary
monopoly to the seller: PM
PM, QM.
PC = MC
D
When the patent
MR
expires, the market
becomes competitive, QM QC
generics appear: PC, QC. Quantity

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 The Welfare Cost of Monopolies
• Competitive market equilibrium:
– At P = MC and maximizes total surplus
• Monopoly equilibrium: at P > MR = MC
– The value to buyers of an additional unit (P) exceeds the cost
of the resources needed to produce that unit (MC)
– The monopoly Q is too low – could increase total surplus with
a larger Q.
– Monopoly results in a deadweight loss

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 The Deadweight Loss of Monopoly

Price Deadweight
Competitive equilibrium: loss MC
• quantity = QC
PM
• PC = MC PC = MC
• total surplus is MC
maximized
D
Monopoly equilibrium: MR
• quantity = QM
QM QC Quantity
• PM > MC
• deadweight loss
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 The Monopoly’s Profit: A Social Cost?
• Monopoly profit is not in itself necessarily a problem for
society
– Greater producer surplus for monopoly
– Smaller consumer surplus
– Transfer of surplus from consumers to monopoly
• The inefficiency:
– Monopoly produces Q < efficient quantity
– Deadweight loss

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 Price Discrimination
• Price discrimination (price customization):
– Sell the same good at different prices to different
customers
– A firm can increase profit by charging a higher price to
buyers with higher willingness to pay
– Requires the ability to separate customers according to
their willingness to pay
– Can raise economic welfare, but not always.

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Active Learning 2: At the Movies
You are the manager of the only movie theater in
town. The price you charge is $18 per ticket, and
you sell Q = 1,000 movie tickets each week.
Assume that you incur only a fixed cost of
$10,000 in a week.
A. How much profit is the movie theater making?
B. If you are dropping the price to $5, you will be able
to sell Q = 2,500 movie tickets. Calculate the
profit.
C. Suggest a way you can price discriminate when
selling movie tickets. Calculate the profit if you
price discriminate, with P1 = $18 and P2 = $5.

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Active Learning 2: Answers
A. Single price monopoly P = $18, Q = 1,000, TC =
$10,000
➢Total revenue TR = P × Q = $18,000
➢Profit = TR – TC = $8,000
B. Single price monopoly P = $5, Q = 2,500, TC =
$10,000
➢Total revenue TR = P × Q = $12,500
➢Profit = TR – TC = $2,500
C. Price discrimination: P1 = $18 and P2 = $5.
➢Sell Q = 1,000 at P1, so TR1 = $18,000
➢Sell Q = (2,500 – 1,000) at P2, so TR2 = $7,500
➢Profit = TR1 + TR2 – TC = $15,500
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 Perfect Price Discrimination
• Perfect price discrimination
– Charge each customer a different price
• Exactly his or her willingness to pay
– Monopoly firm gets the entire surplus (Profit)
– No deadweight loss

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 Perfect Price Discrimination
Derive the
P (price
demand who buys Qd
of iPod)
schedule:
$301 & up nobody 0

name WTP 251 – 300 Flea 1

Anthony $250 176 – 250 Anthony, Flea 2

Chad 175 Chad, Anthony,
126 – 175 3
Flea 300 Flea
John, Chad,
John 125 0 – 125 4
Anthony, Flea

CONSUMERS, PRODUCERS, AND THE EFFICIENCY OF MARKETS 36

 Perfect Price Discrimination: P=WTP
P
Flea’s WTP
$350
$300 Anthony’s WTP

$250 Chad’s WTP

$200 John’s
WTP
$150
$100
$50
$0 Q
0 1 2 3 4
CONSUMERS, PRODUCERS, AND THE EFFICIENCY OF MARKETS 37
 Perfect Price Discrimination: P=WTP
P
$350 Firm’s profits
$300
$250
$200
𝑀𝐶
$150
$100
$50
$0 Q
0 1 2 3 4
CONSUMERS, PRODUCERS, AND THE EFFICIENCY OF MARKETS 38
 Single Price Monopoly

Here, the Consumer

Price
monopolist surplus
charges the Deadweight
same price (PM) PM loss
For simplicity,
to all buyers. assume MC
MC is constant
Monopoly
profit D
MR
A deadweight
loss results. QM Quantity

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Perfect Price Discrimination vs. Single Price Monopoly

Here, the monopolist

produces the competitive Price
quantity, but charges each Monopoly
profit
buyer his or her WTP.
This is called perfect price
discrimination.
MC
The monopolist captures all
D
CS as profit.
MR
But there’s no DWL.
Quantity
Q
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 Price Discrimination in the Real World
• Perfect price discrimination
– Not possible in the real world
• No firm knows every buyer’s WTP
• Buyers do not reveal it to sellers
• Price discrimination
– Firms divide customers into groups
based on some observable trait
that is likely related to willingness to pay (WTP), such as
age

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 Second-Degree Price discrimination (nonlinear pricing)
Quantity discounts
– A buyer’s WTP often declines with additional units,
so firms charge less per unit for large quantities than
small ones.
– Example: A movie theater charges $7 for
a small popcorn and $9 for a large one that’s twice
as big

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 Third-Degree Price Discrimination
• Based on buyers’ observable characteristics
• Movie tickets
– Discounts for seniors, students, and people who can
attend during weekday afternoons.
• Lower WTP than people who pay full price on Friday
night

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product or service or otherwise on a password-protected website or school-approved learning management system for classroom use.
EXAMPLE 3: Price discrimination – 1
A. Movie tickets
– Discounts for seniors, students,
and people who can attend during
weekday afternoons.
– Lower WTP than people who pay
full price on Friday night “Would it bother
B. Airline prices you to hear how
little I paid for
– Discounts for Saturday-night this flight?”
stayovers: business travelers
(higher WTP) vs. more price-
sensitive leisure travelers
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EXAMPLE 3: Price discrimination – 2
C. Discount opportunities
– Discount coupons; online savings on special
days
– Separate customers: willingness to spend
the time to seek discounts
D. Financial aid based on family income
– Students from wealthy families: higher
willingness to pay
– Charge high tuition and selectively offer
financial aid

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 Public Policy Toward Monopolies – 1
1. Increasing competition with antitrust laws
– Sherman Antitrust Act, 1890
– Clayton Antitrust Act, 1914
– Prevent mergers
– Break up companies
– Prevent companies from coordinating their activities to
make markets less competitive
– Especially wary of horizontal mergers, less likely to block
vertical mergers.
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 Mergers and Competition

“If regulators had not approved mergers in the

past decade between major networked airlines,
travelers would be better off today.”

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 Public Policy Toward Monopolies – 2
2. Regulation
– Set the monopolists’ price (common in case of natural
monopolies)… but where?
– If P is set at MC, but MC < ATC at all Q
• Marginal-cost pricing would result in losses (and exits in the LR)
• Regulator might subsidize the monopolist or set P = ATC for
zero economic profit
• Problem: no incentive to reduce costs

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 D P1, Q1=MC-pricing regulation
P2, Q2= AC-pricing regulation

P2 B
A
AC1
Loss AC
P1 MC

Q2 Q1
 Public Policy Toward Monopolies – 3
3. Public ownership: a government unit can run the
monopoly itself
– If it does a bad job, losers are the customers and
taxpayers
– Public ownership is usually less efficient since there is no
profit incentive to minimize costs

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 Public Policy Toward Monopolies – 4
4. Above all, do no harm
– Some economists argue that the government should be
careful not to make matters worse when dealing with
monopoly pricing
– Determining the proper role of the government in the
economy requires judgments about politics as well as
economics

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 The Prevalence of Monopolies
• Pure monopoly – rare in the real world
• Many firms have market power, due to:
– Selling a unique variety of a product
– Having a large market share and few significant
competitors
• In many such cases, most of the results from this
chapter apply, including:
– Markup of price over marginal cost
– Deadweight loss
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 Competition versus Monopoly
Competition Monopoly
Similarities
Goal of firms Maximize profits Maximize profits
Rule for maximizing MR = MC MR = MC
Can earn economic profits in SR? Yes Yes
Differences
Number of firms Many One
Marginal revenue MR = P MR < P
Price P = MC P > MC
Produces welfare-maximizing Yes No
level of output?
Entry in the LR? Yes No
Can earn economic profits in LR? No Yes
Price discrimination possible? No Yes
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 Mergers and Competition

“Americans pay too much for broadband, cable

television, and telecommunications services, in
part because of a lack of adequate competition.”

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 THINK-PAIR-SHARE
A consumer advocate is discussing the airline
industry on the news. He says, “There are so many
rates offered by airlines that it is technically possible
for a 747 to be carrying a full load of passengers
where no two of them paid the same price for their
tickets. This is clearly unfair and inefficient.” He
continues, “In addition, the profits of the airlines
have doubled in the last few years since they began
this practice, and these additional profits are clearly
a social burden. We need legislation that requires
airlines to charge all passengers on an airplane the
same price for their travel.”

Mankiw, Principles of Economics, 10th Edition. © 2024 Cengage. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 55
 THINK-PAIR-SHARE

A. List some of the ways airlines divide their

customers according to their willingness to
pay.
B. Is it necessarily inefficient for airlines to
charge different prices to different
customers? Why or why not?
C. Is the increase in profits generated by this
type of price discrimination a social cost?
Explain.

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 CHAPTER IN A NUTSHELL
• Monopoly: the sole seller in its market.
• Monopoly arises when:
– A single firm owns a key resource
– The government gives a firm the exclusive right to produce a good
– A single firm can supply the entire market at a lower cost than
many firms could.
• Monopoly faces a downward-sloping demand curve for its product:
MR < P

Mankiw, Principles of Economics, 10th Edition. © 2024 Cengage. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 57
 CHAPTER IN A NUTSHELL
• Monopoly maximizes profit
– Produce Q where MR = MC, but Q is not efficient
– For this Q, the price is on the demand curve.
– So, P > MR = MC
– Causes deadweight loss
• Price discrimination: charge different prices for the same good based
on a buyer’s willingness to pay.
– Can raise economic welfare by getting the good to some
consumers who would otherwise not buy it.

Mankiw, Principles of Economics, 10th Edition. © 2024 Cengage. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 58
 CHAPTER IN A NUTSHELL
• Perfect price discrimination
– No deadweight loss
– The entire surplus in the market goes to the monopoly producer.
• Policymakers can:
– Use the antitrust laws to try to make the industry more competitive.
– Regulate the prices that the monopoly charges.
– Turn the monopolist into a government-run enterprise.
– Do nothing at all.

Mankiw, Principles of Economics, 10th Edition. © 2024 Cengage. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 59