COMM1100 Chap.7 Market Power and Monopoly Pricing
Market Power and Monopoly Pricing
The Week 3 lecture asks what happens when the conditions of perfect competition fail. If a seller has market power, its own demand curve slopes down, so selling one more unit means cutting the price on every unit.
Marginal revenue then falls below price, and the profit-maximising firm produces less and charges more than a competitive market would.
This chapter contrasts a price taker with a monopolist, builds the marginal revenue column from a demand schedule, applies the MR equals MC rule, reads the price off demand, and measures the surplus lost to market power.
It also covers the continuum between the two extremes and a policy case in which a government licenses a single provider and caps its price.
Market power is where economics and law meet most directly in COMM1100. Competition law exists largely to stop firms from creating or exploiting it, and the Week 4 airline case shows a regulator connecting weak competition to higher prices and worse service.
The diagram in this chapter is the economic half of that argument.
What this chapter covers
- 01
The three conditions of perfect competition
- 02
Market power, differentiated goods and barriers to entry
- 03
Firm demand for a price taker and for a monopolist
- 04
Total and marginal revenue from a demand schedule
- 05
Profit maximisation where MR equals MC, with price from demand
- 06
The market-power continuum
- 07
Lost surplus and the case for regulating a sole provider
Worked example · free
A sole tour operator's best price
- +1Total revenue is 90, 160, 210 and 240, so marginal revenue is 90, 70, 50 and 30.
- +1Marginal revenue is at least the $35 marginal cost for the first three groups, but the fourth adds only $30.
- +1The operator runs 3 tours at $70 each; a competitive market would expand to where the price falls to $35.
Key terms
- Market power
- A seller's ability to raise its price without losing all its customers, because buyers lack close substitutes.
- Monopoly
- A market with a single seller whose demand curve is the whole downward-sloping market demand.
- Marginal revenue
- The change in total revenue from selling one more unit; below price when the price must fall to sell more.
- Barrier to entry
- Anything that stops new sellers from entering a market, allowing existing sellers to keep prices above cost.
- Differentiated goods
- Products that buyers see as different from rivals' versions, giving the seller some control over price.
Market Power and Monopoly Pricing FAQ
Why is marginal revenue below price for a monopolist?
To sell one more unit the monopolist must lower its price, and the lower price applies to every unit it sells, not just the extra one. The revenue lost on earlier units is subtracted from the price of the new unit.
Where does a monopolist set its price?
It chooses the quantity where marginal revenue equals marginal cost, then charges the highest price buyers will pay for that quantity, which is read off the demand curve, not off the marginal cost curve.
Is every firm either a price taker or a monopoly?
No. The lecture places most firms on a continuum. The more easily customers can switch to a close substitute, the closer the firm is to a price taker; one firm selling a differentiated good sits near the monopoly end.
Why might a government allow only one provider of a service?
When costs are mostly fixed, as with a tunnel or a terminal, one provider can serve the market more cheaply than several, so duplicating facilities would waste resources. Regulators may then cap the price to limit the cost of market power.
How is the lost surplus from monopoly calculated?
Find the competitive quantity, where demand meets marginal cost, and the monopoly quantity, where marginal revenue meets marginal cost. The lost surplus is the triangle between them, bounded by demand above and marginal cost below; with straight lines it is half of the quantity gap times the price gap.
Assessment move
Practise monopoly tables until you can fill total and marginal revenue columns without errors, and always state the rule before the answer. Draw the monopoly diagram from memory: demand, a steeper marginal revenue line, marginal cost, the monopoly point and the lost-surplus triangle. Then write the three-sentence explanation of why market power reduces surplus. This topic is a likely focus of the second in-tutorial test.
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