Lecture 16
MONOPOLY

• Barriers to entry
• Optimal price-output combination

1. Features

• One firm in an industry (cable service)
• The firm's output has no close substitutes
• There may be barriers to entry due to:
  • Legal restrictions (U.S. Postal Service)
  • Patent protection (computer software)
  • Large advertising expenditures
• The firm may have cost advantages due to:
  • Technical superiority
  • Economies of scale:
        - Decreasing AC curve
        - May lead to a natural monopoly
    

2. Demand curve for a monopolist

• The DD curve is downward-sloping
• The firm can choose any price-output combination on the DD curve

3. Marginal revenue (MR) curve

• Is downward-sloping
• Lies below the demand curve
• Twice as steep as the demand curve
  

4. Firm's objective To maximize profits: Profits = TR - TC Optimal price-output combination Big Question #1: How does the monopolist decide how much output to produce? Big Answer #1: Optimal output level is obtained at the point where MR = MC Big Question #2: What price will the firm charge for the output? Big Answer #2: The price given by the DD curve at the optimal output level 5. Profit maximization - The graphical approach 5.1 Graphs needed DD, MR, MC and AC curves 5.2 Steps involved Obtain optimal value of Q by setting MR=MC Obtain price from the demand curve Indicate the TR and TC rectangles Obtain Total Profit