ECON1001 · Introductory Microeconomics
Monopoly, Price Discrimination & Monopolistic Competition
Weeks 7-8 give a firm market power. A monopolist faces the whole downward-sloping demand, so MR < P; for linear demand MR has the same intercept and twice the slope. Profit maximises at MR = MC, with price read off demand, and because output is restricted below the efficient level it creates a deadweight loss. Price discrimination (first-, second- and third-degree, plus two-part tariffs) lets a firm capture more surplus where it can prevent arbitrage. The chapter also covers natural monopoly regulation and monopolistic competition, where free entry drives P = ATC with markup and excess capacity.
What this chapter covers
- 01Sources of monopoly and the price-maker facing market demand
- 02Marginal revenue: MR = a − 2bq for linear demand; why MR < P
- 03Profit maximisation MR = MC; profit = Q(P − ATC)
- 04Monopoly deadweight loss from output restriction
- 05Price discrimination: first-degree, second-degree (self-selection), third-degree (MR_A = MR_B = MC)
- 06Two-part tariff: per-unit price = MC plus fixed fee = consumer surplus
- 07Natural monopoly and marginal-cost vs average-cost pricing
- 08Monopolistic competition: long-run tangency, markup and excess capacity
Two-part tariff versus single-price monopoly
- 3 marks · single-price q and PSingle-price: MR = 100 − 4q. Set MR = MC: 100 − 4q = 10 → q = 22.5, and P = 100 − 2(22.5) = 55.
- 3 marks · efficient quantityTwo-part tariff per-unit price = MC = 10. Efficient quantity sets demand = MC: 100 − 2q = 10 → q* = 45.
- 2 marks · fixed fee as CS triangleFixed fee = the consumer surplus at p = 10 = ½ × (choke price − 10) × q* = ½ × (100 − 10) × 45 = ½ × 90 × 45 = 2025.
- 1 mark · efficiency commentUnder the two-part tariff the efficient quantity (45) is produced, so deadweight loss is zero; the firm extracts all the surplus as the fixed fee plus zero per-unit margin.
Key terms
- Marginal revenue (MR)
- The change in total revenue from selling one more unit; for a monopolist facing linear demand P = a − bq it equals a − 2bq, and it lies below price because output expansion lowers price on all units.
- Deadweight loss of monopoly
- The surplus lost because a monopolist produces below the efficient quantity where marginal benefit equals marginal cost; it arises from output restriction, not from profit itself.
- First-degree price discrimination
- Charging each unit at the buyer's exact willingness to pay; demand becomes marginal revenue, the efficient quantity is produced, and all surplus is captured by the firm.
- Third-degree price discrimination
- Separating identifiable markets and setting MR equal across them and to MC, charging a higher price in the more inelastic market.
- Natural monopoly
- An industry where one firm can supply the whole market most cheaply due to large fixed costs and declining average cost, raising the question of how to regulate price.
- Excess capacity
- The result in long-run monopolistic competition where each firm produces below its efficient scale because demand is tangent to ATC at a quantity left of the ATC minimum.
Monopoly, Price Discrimination & Monopolistic Competition FAQ
Why is marginal revenue below price for a monopolist?
To sell one more unit the monopolist must lower the price on every unit, not just the last one. So MR equals the price of the extra unit minus the revenue lost on all previous units, which puts MR below the demand price at every quantity.
Where does monopoly deadweight loss come from?
From restricting output below the efficient quantity. Between the monopoly quantity and the competitive quantity, marginal benefit still exceeds marginal cost, so those mutually beneficial trades do not happen and that surplus is lost.
How can price discrimination be more efficient than single pricing?
Perfect (first-degree) price discrimination and the two-part tariff produce the efficient quantity, eliminating deadweight loss, because the firm no longer needs to restrict output to keep prices high. The catch is distributional: all the surplus is captured by the firm rather than shared with consumers.
Exam move
Make the MR = a − 2bq rule and the 'price off demand, not MR' habit second nature, since the single-price monopoly problem is the spine of the whole chapter. Practise the full Q, P, profit, DWL pipeline on varied numbers, then layer the discrimination cases on top: two-part tariff (per-unit = MC, fee = CS), third-degree (equate MRs to MC), and natural-monopoly pricing trade-offs. For monopolistic competition, focus on the long-run tangency diagram that simultaneously gives zero profit, P > MC and excess capacity.
