Monopoly Case

In economics, a monopoly exists when a specific individual or an enterprise has sufficient control over a particular product or service to determine significantly the terms on which other individuals shall have access to it. Suppose that, instead of many sellers, there are only a few, or even one. Each seller provides a substantial part of the market supply. As a result, the market price will be affected whenever he varies the amount he supplies of the commodity. In other words, he is faced with a downward sloping demand curve.

Similarly, on the buying side, when any buyer takes a significant proportion of the total market supply, he will be faced by a rising supply curve. In both cases we have some elements of 'imperfect competition'.

Monopoly is always characterised by number of peculiarities:

1) One firm and many buyers, that is, a market comprised of a single supplier selling to a multitude of small, independently acting buyers;

2) A lack of substitute products, that is, there are no close substitutes for the monopolist's product;

3) Blockaded entry, that is, barriers to entry are so severe that is impossible for new firms to enter the market.

In static monopoly the monopolist is in a position to set the market price. However, unlike a perfectly competitive producer the monopolist's marginal and average revenue curves are not identical. The monopolist faces a downward-sloping demand curve and the sale of additional units of its product forces down the price at which all units must be sold.

The objective of the monopolist, like that of the competitive firm, is assumed to be profit maximisation and it operates with complete knowledge of relevant cost and demand date. Accordingly, the monopolist will aim to produce at that price-output combination which equates marginal cost and marginal revenue. Monopoly figure indicates the short-run equilibrium position for the monopolist. The monopolist will supply OQe output at a price of OPe. At the equilibrium price, the monopolist secures above- normal profits (PeXYZ). Unlike the competitive firm situation, where entry is unfettered, entry barriers in monopoly are assumed to be so great as to preclude new suppliers. There is thus no possibility of additional productive resources entering the industry and in consequence the monopolist will continue to earn above-normal profits over the long term (until such time as supply and demand conditions radically change). Market theory predicts that given identical cost and demand conditions, monopoly leads to a higher price and a lower output than perfect competition does.

Next diagram illustrates the monopolisation of a perfectly competitive industry.

Original competitive market demand and supply curves give equilibrium at E at the bottom of each firm's AC curve, with outputs Qc. After monopolisation of the industry the industry demand curve becomes the monopolising firm's demand curve with MR lying below it. Equilibrium of MR=MC is now at Em with output Qm, with price Pm and monopoly profit PmLCN. Output is lower and price higher after the industry have been monopolised.

My analysis however assumes that the cost structures remain unchanged, whereas in reality they may well change. The concentration of the production of many small competitive firms may produce such substantial economics of scale that costs will fall as a result.

In the next diagram the competitive industry output is Q with price P. Monopolisation could be expected to reduce output to Q1 and raise price to P1. If, however, monopolisation results in substantial economies of scale which shift costs down from MC to MCm, then the monopolist's output will be higher at Q2 with the price lower than the competitive price at P2 despite the existence of monopoly profits.

Whether monopoly is 'good' or 'bad' must also depend to some extent upon how the monopolist actually behaves and what he does with his monopoly profits. It is quite possible that the monopolist shares his profits with his workforce in the form of higher than average wage rates and working conditions.

Monopoly profits may also be reinvested within the firm in the form of research and development. An example of this is the drug industry where substantial profits are made, but at the same time the level of research and development into new drugs is high, and most new drugs are in fact introduced by firms with a high degree of market power. Monopoly also