Diagram of Monopoly
- A Monopolist is a price maker because he does not face any competitors. Therefore demand is price inelastic.
- A monopolist will seek to maximise profits by setting output where MR = MC
- This will be at output Qm and Price Pm.
- If the market was competitive the price would be lower and output higher.
Disadvantages of a Monopoly
- Green area = Supernormal Profit (AR-AC) Q
- Pink area = Deadweight welfare loss (combined loss of producer and consumer surplus) compared to competitive market
- Higher Prices Higher Price and Lower Output than under Perfect Competition. This leads to a decline in consumer surplus and a deadweight welfare loss
- Allocative Inefficiency. A monopoly is allocatively inefficient because in monopoly the price is greater than MC. P > MC. In a competitive market the price would be lower and more consumers would benefit
- Productive Inefficiency A monopoly is productively inefficient because it is not the lowest point on the AC curve.
- X - Inefficiency. - 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.
- Supernormal Profit. A Monopolist makes Supernormal Profit Qm * (AR – AC ) leading to an unequal distribution of income.
- Higher Prices to Suppliers - A monopoly may use its market power and pay lower prices to its suppliers. E.g. Supermarkets have been criticised for paying low prices to farmers.
- Diseconomies of Scale - It is possible that if a monopoly gets too big it may experience diseconomies of scale. - higher average costs because it gets too big
- Worse products Lack of competition may also lead to improved product innovation.
- Charge Higher prices to suppliers. Monopolies may use their supernormal profits to charge higher prices to suppliers.
Essays and Revision Notes on Market Structure
- Perfect Competition
- Efficiency of Perfect Competition
- Monopoly Diagram
- Advantages of Monopoly
See also Competition Policy