1) A monopoly is a market in which a single firm (the monopolist) is the sole producer
of a product / service for which there are no close substitutes. Unlike the competitive
producer, the monopolist is a price maker rather than a price taker. The monopoly
firm is the industry.
2) The definition of monopoly hinges on the definitions of product and market.
By definition, a firm has a monopoly when it is the sole producer of a product with no
close substitutes. However, the wider you define the product, the less likely it is to
have close substitutes and the more inelastic will be the demand. For example: the
subgroup cola is more likely to have close substitutes than the subgroup pop, which in
turn is more likely to have close substitutes than the subgroup of drinkable liquids.
The definition of market is also ambiguous in that the wider the market, in the sense of
accessibility for consumers, the less likely a single firm will be able to dominate.
3) Barriers to entry are obstacles which shelter the monopoly from new competitors by
making it difficult for new participants to enter a market.
The three types of barriers to entry are as follows:
i. Technical barriers are those that make it difficult for other firms to duplicate a
monopolist’s production methods because the monopolist is the sole owner of a
resource or technique. (For example: INCO once controlled most of the world’s
supply of nickel; and IBM for many years had a monopoly on computer expertise.)
ii. Legal barriers prevent, by force of law, other firms from competing in a particular
industry. (For example: crown corporations like Canada Post or LCBO; and private
firms who are granted protection from competition through government licenses,
patents, or copyrights.)
iii. Economic barriers are present whenever there are extensive start-up costs for new
firms. (For example: it is difficult to compete internationally with the major
automobile firms unless you are ready to invest billions of dollars in factory
buildings, machinery, equipment, distribution networks, marketing, and wages and
4) A natural monopoly is a market (usually with large economies of scale) where a
single producer is able to produce at a lower cost than competing firms could. They
come into existence when competing firms simply would not be profitable.
In most small urban areas, markets for public utilities such as water, electric and
natural gas supply, bus and rail transportation, and telecommunications tend to
develop into natural monopolies.
Chapter Ten (Cont’d)
Total, Average, and Marginal Revenues
The monopolist has much more power than the competitive producer, but it still
does not have unlimited power. The monopolist can determine either the price or the
quantity sold, but it cannot determine both.
If the producer sets the price, the consumers will decide how much they wish to
buy at that price.
If the producer determines the size of production, they would have to leave it
up to the market to determine the price at which that output could be sold.
A monopolist cannot sell all it wants at any given price; it is forced to decrease the price
in order to sell more. It is important to note as well, that the decreased price then applies
to the entire output. Because of this, the marginal revenue that the monopolist receives for
the sale of one more unit is not equal to the price. When one extra unit is sold, revenue is
gained to an amount equal to the price. But, revenue is also lost because to sell that extra
unit, the price has to be decreased not only for that unit but for every unit it sells.
Therefore, the marginal revenue is:
MR = Price of Next Unit of Product – Revenue lost per unit from decrease in price on
output up to that point
The marginal revenue then, decreases as output increases.
In a perfectly competitive market on the other hand, producers have no control over price.
Price is determined by market forces, and the producers’ entire quantity is sold at the
same market-set price. As such, price is equal to marginal revenue. Also, a competitive
firm, unlike a monopolist, is not faced with a maximum sales revenue.
For the monopolist, the average revenue curve is the same thing as the demand curve. The
marginal revenue curve is lower on the graph than the average revenue curve, and is
steeper. Where MR = 0, TR is maximized. Beyond that level of output, the monopolist
will not produce. This represents only those levels of output on the upper half of the AR
or demand curve. Since the top portion of any demand curve is elastic, it means that
monopolists will produce only where the demand is elastic.
Profit-Maximizing Output for the Monopolist
As with a perfectly competitive firm:
The profit-maximizing output for a monopolist occurs where the distance
between the TR curve and the TC curve is at its greatest. At this point, the T
curve is also at its peak.
The break-even points for a monopolist occur where TR and TC are equal.
The profit-maximizing (or loss-minimizing) output for a monopolist, occurs
where MR = MC.
The break-even points for a monopoly occur where AR = AC.
The difference between a monopoly and a perfectly competitive market is that in a
monopoly market, the marginal revenue is not the same thing as the price (or
average revenue). The price is actually often far greater than the marginal revenue.
Another difference between a monopoly and a perfectly competitive market is that
for the monopoly, there is no supply and therefore no supply curve.
The monopolist is the only provider of a given product. As such, the demand for
that product at any given price must be the amount supplied at that price.
On the axes provided below, sketch the graphs on pages 330 and 332 of your textbooks.
Chapter Ten (Cont’d)
1) Assuming production costs are similar, the profit-maximizing price will be higher and
the output will be lower in a monopoly than it will be in a perfectly competitive
market. The monopolist can make maximum profits by restricting the output, thereby
pushing up the price of the product.
2) The major benefits which a monopoly market might have over a perfectly competitive
one are as follows:
i. A monopolist may be able to achieve economies of scale. If costs are significantly
lower, the profit-maximizing price could be lower and the output higher than under
ii. Monopolists are generally quite large and therefore have the budgets for extensive
research and development. The scale and costs of research and development tend to
be prohibitive for small competitive firms.
iii. The monopolist can generally offer better salaries and conditions to their employees
and as a result attract a higher quality of staff.
3) The three major ways in which the government attempts to control monopoly are:
i. Taxation (a profits tax, or a monopoly sales tax)
ii. Price Setting, and
4) A lump-sum profit tax has no impact on either the price or output produced by a
monopolist. The tax represents a fixed cost to the monopolist and will increase the
average costs of production while leaving the marginal cost unaffected. The profit-
maximizing point occurs where the marginal cost and marginal revenue curves
intersect. Since neither of these curves are changed, the price and output remain
unaffected. Therefore, a lump-sum profit tax is not a particularly effective policy
except for in the sense that it does at least return some of the excess profits to society.
5) The extent to which an excise tax like a monopoly sales tax is passed on to the
consumer depends in good part on the price elasticity of demand. In most cases the
cost is shared between the producer and consumer, and as a result, the total profit of
the monopolist will be reduced. However, an excise tax is an abysmal failure in the
attempt to get the price reduced and the output increased since it has exactly the
6) The socially optimum price is the price which produces the best allocation of products
(and therefore resources) from society’s point of view. Therefore it is the most
allocatively efficient solution and occurs when the monopolist is forced to charge a
price which is equal to the marginal cost of production. This price is generally lower
than the unregulated monopolist’s price.
7) The problem with the socially optimum price is that it’s imposition often results in the
monopolist operating at a loss. This is true because it often occurs at a price which is
below the average costs of production regardless of what output is produced.
Therefore, governments are often forced to implement a fair-return price instead.
This is a price that allows a monopolist to earn a normal profit and no more. The price
is set at the point where the average cost curve cuts the demand curve. The fair-return
price is higher than the socially optimum price, but is still generally lower than the
unregulated monopolist’s price. From society’s point-of view, the socially optimum
price is preferable.