under Monopoly

14.3
determination under monopoly (simple
as well as
explained.Finally, comparison between perfect competition discriminatorymonopoly2) have
and monopoly has been discussed.
ORIGIN OF MONOPOLY MONOPOLY)
monopoly may be legal or technological
Theorigin of or both. A firm can continue to enjoy the
monopoly pov,er, or competitive advantage, so long as, it can prevent
moment other the entry of other firms into
theindustry. The firms are able to enter into the
industry, the position changes
and the erstwhile monopoly loses its monopoly power
over pricing strategies. Following leading to a change in the market
formaffectingcheck factors are responsible for creating conditions
and growth of monopoly.
fortheemergence
Over Strategic Raw Materials
1.Control
ownershipand control ofentire or most ofthe supply ofbasic inputs and strategic raw materials
orexclusiveknowledge of production and distribution techniques by a single firm lead to monopoly
conditions.As this monopoly may arise due to regional factors like availability of some key localised
rawmaterials, climatic conditions or even possession of a rare talent, it may be called as a regional
monopoly.

2.SmallSize of Market
sometimes,the size of the market or technology is such that output ofonly one firm of optimum
sizeis sufficient to meet the demand ofthe entire market comfortably. Under these circumstances,
allthe firms except the largest and the most efficient one, will have to leave the industry.
Advantagesoflarge scale production make it possible for a single firm to produce the entire output
ofthe market at lower average cost (due to increasing returns to scale) than a number of firms each
producinga small quantity.
On account of technological development during the last few decades, the need for producing the
outputon a very large scale has been felt so as to reap the associated economies and keep the price
at a lowlevel. In other words, the production can be efficiently carried out only at a very large scale
ofoperation with huge investment. In such cases, more firms would mean that none of them
wouldbe able to exploit these economies of large scale. Moreover,the heavy investment itself
constitutesa deterring force for the entry of new firms. Sometimes this heavy investment requirement
iscoupledwith long-run gestation and low return, which make still more difficult for potential
entrantsin the field. Consequently, the monopoly of the existing firm continues.
Thepresence of economies in certain lines of production results in mass production by a single
firmOfthe optimum size. Either the optimum firm is so large or the market is so small that the
industrycan accommodate only one firm.
Thissingle firm produces and supplies technically most efficient level of output with the most
efficientproduction plant in relation to the size of the market. This single most important cause
responsiblefor the emergence and growth of monopoly creates natural monopoly,.since it is a
natural result of the operation of market forces in a given situation.

2' Under discriminatory monopoly, unlike simple monopoly, different (rather than uniform) prices are charged.
14.4 Economies •
I

3. Patents, Copy Rights and Licences

product through grantingof
Legal backing provided by the Government to produce a particular
period may create and perpetuate
patents, copy rights, trade marks, licences and quota for a given
work, innovation Of new
monopoly. These rights may be acquired through distinctive
expenditures on researchand
new processes, new devices through sustained efforts and enormous
imitation by rival producers.
development or otherwise. These rights are protected by law against
firm and no other can legally
The right to produce the product remain vested in the original person
by imposing tariffsand
produce it. A Foreign competition may be restricted by the Government
the risk of low
other foreign trade barriers. All this encourages invention and avoids
particularly, when the new processes can be learnt with less cost.
The right to use the invention can be sold through licencing for a limited period. Whateverbe the
way, this monopoly is termed as legal monopoly,since it arises as a result ofa legal privilegeor
support.

4. Limit Pricing
Sometimes, the existing firm adopts a limit price policy combined with other policies such as
heavy advertising or continuous product differentiation to prevent entry by potential firms. The
firm may even go to the extent of indulging in unfair competition with the new entrants to make
the entry of outside firms unattractive when it faces an effective threat to entry). This monopoly is
referred to as limit pricing monopoly.

5. Public Utilities
The Government generally undertakes the production of the product or of the essential services
like transportation, electricity, water, communications etc., to avoid the exploitation ofthe consumer8
We often find monopoly tendencies in these services on account ofeconomies of large scale. The
Government grants special charter or franchise to such monopolies, the entry of new
firms and hence competition by law. Public utility services are created by the Government taking
welfare in perspective. If these services are left open to the private sector, it will generate unnecessary
competition and wastage of resources. Since such services are undertaken by the Government in
the public or social interest, the monopoly so results is termed as welfare monopolyor public
monopoly or social monopoly. With privatisation, it may cease to be public monopoly on account
of competition.

6. Monopolistic Combinations
Monopoly may be the result ofcombinations. It is possible for a number of competing firms in an
industry to come to a voluntary agreementamong themselves to eliminate competition in the
matter of price, output and market share. It is called a voluntary monopoly, since, firms producing
the same product come together voluntarily through merger/amalgamation to earn more profits
Acquisition or purchase of one firm by the other may be other possibilities. Sometimes, potential
competitors are intimidated by threats ranging from sabotage to a price war.
3. A monopolist not facing effective threat to entry will charge a price that maximises the profits.
4. As against this, theprivate monopoly aims at maximisation ofprofits,
 Factor
t Ascal crqated by Government Printing eurrency noteu and
tome eumpln. nature ofthete wrvicen they be
to entetprise.g.It called enonopol»
types of nmopolies continue for long, It i' ponll'le for
the utAtket At*ome or the other. etpeclnlly when the market expandut However,
monopoly have a tendency to eontlnuet

OF MONOPOLIST
nxonopoly. the firm the Indil\try coincide by dent) Ilion. The output of the
tÄt•mshould, be witli thht of the induatry under perfect
the demnnd gupply of the competitive industry with the
apparatus of the theory ot the titm,
(ot losses) the case muy be FIB, where the murglnal colt (MC) curve Is
In this tigute, MC curve lies AboveMR curve upto level of output, livery unit of
pNduced in this range, thus, adds niQt•eto the cost thun to the revenue, Thnt ih point
b be the point ot'equilibt•ium. MC curve cut* MRcurve from Above.Rnther, at thia
the invariably obtains the net loss (negative pront). 8hown by helivlly*huded area
in t. A move in either direction froth point will help the firm either by reducing
mote than it cuts its revenue (a move to the tight) or by lidding to revenue Inore than
toits cost tnove to the left). There is an Incentive for the firm to continue product ion. since,
revenue exceeds marginal cost beyond point Hence, MCVMRequality (i.e., where
profit is zero) is merely necessarycondition, but, not sufficient condition for
equilibrium,

Fig. 14.1 : Equilibrium of Monopolist with U.shaped MC Curve

Foreveryadditional unit produced beyond point Eoithe firm can add to its profit by the excess of
themarginal revenue over marginal cost, until marginal revenue (MR) and marginal cost (MC) are
onceagain equalised at point After remaining below the MR curve, MC curve cuts the former
14.6 Economics
I
order condition (necessary condition)
from below at the equilibrium point With this, the second
also satisfied. At equilibrium, the
that slope of MR curve should be less than that of MC curve is
beyond OQ level ofoutput, as such
output produced is OQ. The firm has no incentive to produce
attempt would only reduce the total profits of the monopolist.
total revenue and total cost)
At equilibrium point 'E', total profit (which is the difference between
is given by the lightly shaded area between points Eoand 'E' minus the heavily shaded area DBE
i.e„ area under the MR curve minus area under the MC curve upto equilibrium point Stopping
production before OQ level of output would reduce the profit area, shown by the lightly shaded
area. While production of additional units beyond OQ level ofoutput would add more to the cost
than to the revenue, thereby reducing the total profit. Hence, only point 'E' is the point of
equilibrium, where both the equilibrium conditions are satisfied. A small increase or decrease in
quantity will reduce the total profit.
Given average cost curve, it is also possible to show net profit (or loss) as the case may be in terms
of the area of a rectangle. Such representation is now explained both for the short-run and long-
run. As a monopolist is the only producer, there is no need to have a separate theory of the firm
and the industry, as is necessary under perfect competition.

14.2.1 Short Run Equilibrium of Monopolist

A monopolist will produce an output that maximises his total profits or net monopoly revenue
(difference between total revenue and total cost). A monopolist gets maximum net monopoly
revenue at the point of equality of MC and MR, former cutting the latter from below. He will go on
producing additional units of output, so long as marginal revenue (MR) exceeds marginal cost
(MC). The reason is that it is profitable to produce an additional unit, if it adds more to revenue
than to cost. He would not like to forego profits by producing less (or more).
Fig. 14.2, Fig. 14.3 and Fig. 14.4 show the short-run equilibrium of the monopolist at point 'E',
where MC curve cuts MR curve from below. The equilibrium price is OP and the equilibrium
quantity is OQ.

o x o x o

Fig. 14.2 : Short Run Equilibrium of Fig. 14.3 : Short Run Equilibrium Fig. 14.4 : Short Run
Monopolist Earning SuperNonnal ofMonopolist IncurringLoses Equilibrium Earning
Profits (Positive Economic Profits) (Negative Economic Profits) Normal Profits

In the short-run, a monopolist earns super normal profits (Fig. 14.2), when the equilibrium price
(AR) exceeds the corresponding average cost. The difference between the two is profit per unit
(BQ - CQ = BC in Fig. 14.2). Total profits are given by the shaded area DPBC, which are equal to
the difference between total revenue (area OPBQ) and total cost (area ODCQ).
 under Monopoly
priding
nwnopolist generally earns profit' even in the rum but the of in
cannot be ruled out. In tho Incurn hie
is lower than the cone8pondIng avcrnge (CQ). The Ion per unit
to the monopoli8t
BC, the told losses bhownby 'haded area
I)PBC in which
the difference between toti\l cost (ArenODCQ) and total revenue (area ()PISQ).The
continues production with 108808 the short period, NO
long he able to cover At
variable cost, i.e„ the firm incurring 108808 which are not greater than fixed
leastthe
monopolist may earn Just normfll prontA,111
theshort-ton, the the average cod curve
the average revenue curve eorrcapondlng to equilibrium level of output making
willpassthrough
average cost und hence zero economic prom (Fib. 14.4),
priceequal to
Run Equilibrium of Monopolist
14.2.2Long
one form or the other allow the profit8 of a monopolist to continue even in
Thebatt•iersto entry in
long-run, the monopolist has time to expand his plblit or to unc existing
thelong-run. In the
plantat any level, which will maximise his profits. However, the monopoliit need not reach for an
optimalscale of plant where the long-run average cost minimum, With entry blocked. he need
even use his existing plant at un optimal capacity. The Bizeof plant and the extent of utilitaUon
ofexistingplant of a monopolist depend upon the size of the market dcnutnd (i.e., quantity of
demandin the tnarket) and long-run average costs. Accordingly,he may remain lit sub„optimui
scale(falling part of his LAC) or surpass the optimal scale (expand beyond the minimum LAC) or
reachthe optimal scale (minimum point of LAC). Since, long-run equilibrium also implies shore
LMC = SMC.
runequilibrium, hence, MR =
Fig.14.5depicts the most usual case, where the size ofthe market is too small to permit the monopolist
is operating
to expand his output upto the minimum point of the LAC. In this case, the monopolist

AR

o Q O, output

Underutiliscd Sub Optimal Plant)

Fig. 14.5 : Long Run Equilibrium of Monopolist (Operatingwith

not only with the plant of size, but also is under utilising the given plant.
reaches equilibrium at point
Here,the economies of scale are not fully exhausted. The firm
firm decides to use thc plant size
whereLMC as well as SMC curve cut MR curve from below.The
maximising price and OQ is the profit
represented by cost curves SAC and SMC. OP is the profit
maximisingoutput.
14.8 Economiq I

The plant used in this case is less than sub-optimal, since short run average cost (curve is to
long-run average cost (LAC) curve at its falling part at point 'C', which is to the left of the minimtnn
point 'F' of LAC curve. The monopolist can push down the long-run average cost to a minimum
and also achieve the optimum size ofthe plant. But, on account of limited market demand, it
not be in the interest of the firm to produce more than OQ quantity ofoutput. Further, even this
sub-optimal sized plant SAC is under utilised and is operated at point 'C', while full capacity
utilisation would have taken place at point 'G' (the minimum point of SAC). This implies tha
there is an excess capacity of QQI as shown in Fig. 14.5. Even with limited market demand, t}.e
monopolist earns profit shown by shaded area DPBC in this figure.
Unlike perfect competition, the monopolist need not always operate at the optimal capacity (i 4
minimum point of the LAC curve in the long run), even when he earns only normal profits in
extreme possibility. But, he will not remain in the business, if he suffers losses in the long run.
Actually, no firm under any market form will stay to produce in the long run, if it incurs losse&

14.2.3 Monopolist Equilibrium with Zero Marginal Cost

Under certain exceptional cases, the cost of additional units of output, i.e., marginal cost (MC)
may be equal to zero. With constant value 'zero' of marginal cost, the value of average cost is also

x
o

Fig. 14.6 : Monopolist Equilibriumwith Zero Cost of Production

constant and is equal to zero. Its graph coincides with the X-axis. Yiüthzero cost of production, the
monopolist has only to decide at which output, the total revenue will be maximum. And total
revenue is maximum, at the output level at which marginal revenue is equal to zero. Further, with
zero marginal cost, the condition of profit maximisation, i.e., the equality of marginal cost (MC)
and marginal revenue (MR) can be achieved, where the latter is also equal to zero.
Fig. 14.6 shows the equilibrium of the monopolist, where marginal cost is equal to zero. 'E' is the
point of monopolist equilibrium, where MC cuts MR from below. The equilibrium price and the
equilibrium quantity at this equilibrium are OP and OQ respectively.Here, total revenue and
hence total profits (area OPBE in Fig. 14.6)of the monopolist are maximum. Beyond OQ levelOf
output, MR becomes negative and total revenue starts declining. As explained in
Chapter 12 on
Revenue Analysis, Sub-section 12.2.2,under heading 'Relation among AR, MR
and Price Elasticity
of Demand', elasticity ofdemand on the AR curve corresponding to zero marginal
revenue is
 Monopoly
under
pricing 14.9
cost of production,
Therefore, with zero monopolist equilibrium
elasticity of demand is unitary. will be established at a
where
level, that the monopolist will never
isimportantto note produce the output at
If he does so, his total revenue will fall as output any level, where MR is
It increases.
pegative. output. In other words, the He can increase total revenue
byreducingthe monopolist can earn
larger profits by restricting the
since MC cannot be negative, equality
output.Further, of MC and MR (equilibrium
achieved, where MR is negative. condition)
cannot be
relationship among average revenue
weknowfrom the (AR), marginal revenue (MR) and elasticity
demand5 that when marginal revenue is negative,
of elasticity ofdemand is less than one. Therefore,
monopolist will produce on that portion
norational ofthe demand curve, where MR is negative,
i.e.,the elasticity of demand is less than one. That is why, no monopolist ever operates on the
inelastic portion of the average revenue curve or the demand curve.
Withthe positive marginal costs (which is most usually the case), the monopolist fixes his level of
outputfor which MR is also positive, i.e., total revenue rises with increase in the level ofoutput. In
otherwords,the equilibrium will always lie, where elasticity ofdemand is greater than one.
InFig.14.6,ifthe price is fixed at point 'B' (middle point ofthe demand curve), where the elasticity
ofdemandis equal to one, the MC (whether straight line or U-shaped) curve will pass through the
MRcurveat zero point. Here, both the MC and the MR are zero. It is a rare possibility. Further,
below the middle point 'B' of the demand curve, elasticity ofdemand is less than one. Ifthe price
isfixedin this inelastic portion of the demand curve, both the MC and the MR assume negative
values,asthe point of intersection between them is below point 'Q' on the MR curve in Fig. 14.6.
However, MC can never be negative. Given positive costs, MC curve must cut the MR curve from
below at a point, where both the MC and the MR are positive.The equilibrium in this case will be
established at a point above 'Q' on the MR curve in the figure and the price will be fixed in the
portion of the demand curve, i.e., above the middle point of the AR curve in Fig. 14.6
elastic

14.3 SUPPLY CURVE OF MONOPOLIST

Asdiscussedin the previous chapter, a perfectly competitive firm has a unique relationship between
priceand quantity supplied. It equates marginal revenue and hence price (Price = AR = MR under
perfectcompetition) with marginal cost (MC) at equilibrium.Therefore, marginal cost curve
portraysthe various quantities of the product that will be produced and offered for sale in the
marketat various corresponding prices. In other words, marginal cost curve under perfect
Ompetitionassociates price with quantities supplied. Thus, the marginal cost curve under perfect
Ompetitionfunctions as the supply curve of the firm, which by aggregation gives rise to the
supplycurve of the industry.
Whatistrue under perfect competition is not applicableunder a monopoly since the monopolist
doesnot equate marginal cost with price under equilibrium. In this situation, like other profit
maximising firms, the monopolist makes marginal cost equal to marginal revenue. But, this marginal
revenuestands lower than price. That is why, the marginal cost for the monopolist will be less than
thePrice.Thus, the marginal cost curve of the monopolist does not associate price and quantity
supplied.It only relates marginal cost and quantity produced as well as supplied.
5• Discussed
in detail in Chapter 12 on Revenue Analysis, Section 12.2.2.