STUDY UNIT 5.

3
CHAPTER 11
Monopoly and Imperfect
Competition
Learning Outcomes
 Differentiate between different market forms (Table 10-1 on page 164)
 Explain (monopoly)
 SR equilibrium
 LR equilibrium
 Price discrimination
 Natural monopolies
 Disadvantages and advantages of bigness
 Compare the outcome under perfect competition with the outcome under
monopoly
 Briefly explain the purpose of competition policy
 Calculate & graph
 TR, MR, AR
 Equilibrium
 Natural monopolies
Review: Perfect Competition
 Perfect competition
 Profit max at …
 Shut down point…
 DEMAND curve is …
 Price determined by …
 P = AR = MR
 Supply Curve
 SR
 Economic profit, Normal profit, Economic loss
 LR
 Impact of entry and exit
 Normal profit
The main goal of a firm does not change
Profit max @ MR = MC
11.1) Monopoly
 Occurs when there is one seller of a good or service that has no close
substitutes
 Dominant seller in the market and are able to exert some control over the
market as a result
 DEMAND (Individual firm) = MARKET DEMAND (Industry)
 Negative sloping demand curve
 Price maker/setter BUT
 quantity sold still depends on principles of demand
 demand for highly price inelastic products creates scope for consumer
exploitation
 NB Further characteristics in Table 10-1 (pg. 164)
 A fundamental cause of monopoly is barriers to entry (NB see BOX 11-1)
Barriers to entry into monopoly
• Exist where there is something that prevents a firm from entering an
industry.
• These barriers give rise to monopoly or near-monopoly and may protect
existing monopolists from competition.
• Barriers to entry have the following sources:
o Natural monopoly (economies of scale)
o Limited size of the market
o Exclusive ownership of raw materials (e.g. De Beers Consolidated mines)
o Patents
o Licensing (e.g. MTN & Vodacom)
o Sole rights
o Import restrictions
o Firms can create their own barriers (e.g. Predatory pricing, excess capacity)
o Further reading in textbook page 181
 Pure monopolies are a relatively rare occurrence - Why?. Look at the definition of
a monopoly. Although most sellers would be the single seller in an industry, it would
sell products that have close substitutes, making them near monopolies and not pure
monopolies
 Examples of firms which may approximate conditions of a monopoly in South Africa
would be:
11.1.1) Profit maximisation of a Monopolist

 Profit maximisation is the same as that of any other firm

(remember profit max rule)
 A monopolist maximises profit by choosing a quantity at
which MR = MC (the profit maximising rule)
 It then uses the demand curve to find a price that will induce
the consumers to buy the quantity
 Since profit is maximised where MR=MC, this means a
monopolist sets a price greater than MC, which is allocatively
inefficient.
11.1.1.1) A Monopolist’s Revenue

Demand curve
 Table 11-1 & Fig. 11-1 pg 200
 Total Revenue (TR)
 P x Q … (AR x Q)

 Average Revenue (AR)

 TR ÷ Q
 Also Demand (monopolist can only sell
extra output by lowering the price)
TRmax@
 Marginal Revenue (MR) MR=0
 ∆TR ÷ ∆Q
 Negative slope
 Except for the 1st unit sold, MR ≠ AR !!!

 NB !!!
o P ≠ MR, AR ≠ MR
 Price NOT fixed
 For monopoly
o P > MR = MC
Table 11-1 & Fig. 11-1

 Fig. 11-1(a): MR & AR

 NB - Because a monopolist must
lower the price on all units in order
to sell additional units, MR is
always less than price
 Because MR < P, MR curve will lie
below the AR curve
 MR can even become negative

 Fig. 11-1(b): TR
 When MR is positive, TR increases;
 When MR is zero, TR remains
unchanged;
 When MR is negative, TR falls
 Box 13-2: Marginal Revenue & Elasticity

Ep > 1 Elastic Ep =1 Ep <1 Inelastic

R200
 Monopolist produces
150
in the elastic zone
Price

100
 MR is positive when
50 ep>1, TR 
D
MR
0 2 4 6 8 10 12 14 16 18  MR = 0 when ep =1,
R750 Total-Revenue Curve
TR max
Total Revenue

500  MR is negative when

ep<1, TR
250
TR

0 2 4 6 8 10 12 14 16 18
11.1.2) A Monopolist Short-run Equilibrium
 Profit is max @ MR=MC
 Profit maximising output (Q1) will be sold at
the price which consumers are willing to pay
as indicated by the D-curve shown by M1
(P1)
 Q1 is being supplied at a cost of C1 shown by
K1
 Profit is still ...
MR=MC
 AR – AC
 Total economic profit is indicated by shaded
area
 Increasing output beyond Q1
 MC > MR
 At lower levels of output than Q1
 MR > MC
Why a Monopoly does not have a Supply Curve??

 First imagine what a supply curve is?.....A supply curve tells us the quantity
that firms choose to supply at any given price
 With a monopolist, there is no function of price that determines what
quantity a firm will offer given a price (i.e. there is no one-to-one
relationship between P & Q)
 Instead, the quantity that a monopolist offers is determined by the entire
demand curve it faces
 Also, there is an instance where the Law of Supply (Remember what it
is?....chapter 4) does not function and is violated (in a case of monopoly, the
↑P=↑Qs and vice versa might not always happen)
 Therefore, the concept of supply curve is relevant only when the firm has
no control over the price of the product and therefore takes it as given
(remember a monopoly sets the price…)
11.1.3) A Monopolist’s Long-run Equilibrium

 Because entry in a monopolistic market is blocked, economic

profits can still be earned in the long-run as long as the demand
for its product remains intact

 If it expands its plant size, AC curve will be flatter but the

rest of the long-run position is the same as in the short-run

 Only difference is that the firm will produce were MR = long-

run MC
11.1.4) Price Discrimination

 The practice of charging different prices to different consumers

for similar goods.

 Basic conditions to practice price discrimination (page 186)

 The firm must be a price maker or a price setter

 Consumers or markets must be independent, i.e. consumers

in low priced market must not be able to resell the product
at higher prices or in the high priced market
 1st Degree Price discrimination
(charging each customer her reservation price)
 2nd Degree Price discrimination
(charging different prices for different quantities of the same good or service)
 3rd Degree Price discrimination
(discrimination among buyers – "split" markets
and charge different prices to each market)
11.1.5) Natural Monopoly
 Natural monopoly - A situation
that occurs when it is most cost
efficient for a single firm to produce Qmax
all the output in an industry or
market LR:
 That one firm produces a product LRACmin
much cheaper than two or more
firms can produce that product (cost
advantages – economies of scale)
 Typically common in the case of
public utilities such as the supply of
electricity and water
 Figure 11-3 (pg. 205)
 AC is still declining when the
quantity demanded reaches a
maximum
EXAMPLE: Tap water provider
 It makes sense to have just one company
providing a network of water pipes and
sewers because there are very high capital
costs involved in setting up a national
network of pipes and sewage systems.
 Suppose the industry demand is 10,000 units.
 If one firm produces 10,000 units, it will
get the lowest possible AC – £9.
 If there were three firms producing 3,000
units. The firms would have AC of £17.
 Therefore, the optimal number of firms in the
industry will be one (one firm producing all
10,000 units)
 To have two different companies offering
water, wouldn’t make sense as the AC would
be very high compared to just one.
 There would also be the inconvenience of
having two firms dig up the road to lay a
duplicate set of water pipes.
11.1.5.1) Natural monopoly pricing

 Idyllically Produce where

 MR = MC (Q1 @ P1)

 Production efficiency:
 Where AC is @ minimum
(BUT not the case)
 Allocative efficiency : P = MC
 Results in loss AC > AR as
indicated by P3 and Q3

Further reading in pg. 187-188

Natural monopoly pricing?

 Idyllically Produce where

 MR = MC

 Production efficiency:
 Where AC is @ minimum
(BUT not the case as no
quantity is produced)
 Allocative efficiency : P = MC
 Results in loss AC>AR as
indicated by P3 and Q3
Natural monopoly pricing?

 Idyllically Produce where

 MR = MC

 Production efficiency:
 Where AC is @ minimum
(BUT not the case)
 Allocative efficiency : P = MC
 Results in loss AC > AR as
indicated by P3 and Q3

WHAT NOW??

Further reading in pg. 187-188

Natural monopoly pricing?

WHAT NOW??

 Government can self produce and

compensate for the losses using
tax income
 Privatise (and regulate) and then
subsidise losses
 Use average cost pricing
strategy where P = AC (i.e. @
P2 Q2) and incur normal profit
 Price discrimination
11.2) Monopolistic Competition
 Characterised by a large number of firms that produce similar but
slightly different products

 Each firm faces a downward sloping demand curve

 No barriers to entry or exit

 Each firm has a certain degree of monopoly power since it is the only
producer of a particular brand (e.g. Woolworths & Woolies products,
KFC is the only firm selling that kind of fried chicken)

 Use price or non price competition

 More characteristics (Table 10-1 textbook page 164)

11.2.1) Examples

South African Fast Food Industry

….these & many more….

Household Furniture e.g. these & many more….

Clothing Shops e.g. these & many more….

11.2.2) Non-price competition
1. Free deliveries and installations (McDelivery, Debonnairs..)
2. Longer opening hours
3. Heavy spending on advertising
4. Branding of products
5. Expanding into new markets
6. Sales promotions
7. Loyalty cards (P`nP smart shopper cards, Woolworth
reward card )
11.3) Oligopoly
 Oligopoly – a few (less than 10) large firms dominate the market
 Duopoly – there are only two firms in the market (e.g. VISA and
MASTERCARD in the electronic payment processing market)

 Oligopoly is the most common market in modern economies

 Barriers to entry into an oligopoly (e.g. expensive advertising, licensing,
uncertainty, collusion etc.)
 More characteristics (Table 10-1 textbook page 164)
 11.3.1) Examples of Oligopolies

The Banking Industry

The Mobile Cellular Network Industry

South African Domestic Airline Industry
Fuel Stations
TABLE 10-1: Summary of market structures
(Textbook page 164)
11.4) Comparing Monopoly
VS.
Perfect Competition
11.4.1) Monopoly vs. perfect competition

 AR = DEMAND
(Fig. 11-7 page 198)
 MC = SUPPLY
 Monopolist

 Pm, Qm @ MR = MC

 Perfect competitor

 Pc, Qc @ S = D

 When a perfectly competitive industry

is monopolised, the equilibrium price
rises from Pc to Pm and equilibrium
quantity falls from Qc to Qm.
 Summary: Monopolies tend... to
overprice and undersupply
 11.4.2) Social cost/Deadweight loss of monopoly
• Same as Fig. 11-7
Figure 11-9
• Area A - the monopoly's gain at the
expense of the consumers.
• Area B (like A), was part of the CS
under perfect competition, now
disappears.
• Area C, which formed part of PS under
perfect competition, also disappears.
• Summary: Under monopoly …
o Consumer loses A+B
o PC producer loses C
o Monopolist producer gains A
o Total dead-weight loss = B+C
11.4.3) Is a monopoly a bad thing?

 Some of the misperceptions

 Can charge any price it wants

 Can charge the highest price

 Guaranteed an economic profit

 Has absolute economic power, thus no competition

 Textbook page 199

11.4.4) The case against monopoly

 Lower output
 Higher price
 Little or no incentive for innovation and technological improvement
 Managerial inefficiency
 Questionable quality of products or service
 Gives rise to unfair or socially unacceptable income and wealth distribution
 Engage in rent-seeking behaviour
 Have significant economic power and are politically powerful
 Textbook page 199-200
6) POLICY: Monopoly & Imperfect Competition
 Taxation
 Government ownership
 Regulation
 Laws, rules and regulations
 Competition policy
 Aims (very important)
 Monopoly policy
 Merger policy
 Restrictive practice policy
 Competition commission
 Textbook page 202
Competition Policy In South Africa

The Competition Commission

 Its purpose is to promote and maintain competition in order to achieve equity
and efficiency in the South African economy.
 There are an investigative and enforcement agency.

The Competition Tribunal

 Accepts or rejects the investigation and recommendation of the Competition
Commission.

The Competition Appeal Court

 Considers appeals against decisions of the Competition Tribunal.
 Illegal Collusion: South African Case
Bread Cartel (1999 – 2007)
 Premier Foods (Blue ribbon bakeries), Immunity
 Tiger Consumer Brands (Albany bakeries), R98m
 Pioneer Foods (Sasko & Duens), R196m
 Foodcorp (Sunbake Bakeries) R45m
South African Banks (2007 – 2015)

“3 South African banks face massive fines for price-fixing and

collusion” - February 15, 2017

https
://businesstech.co.za/news/banking/157915/sa-banks-face-massive-fines-over-pri
ce-fixing-and-collusion
/
South African Broadcasting (2011-2019)

“SABC, Primedia, Ster-Kinekor fined millions for

price-fixing”- February 27, 2019

https://www.fin24.com/Companies/sabc-primedia-ster-
kinekor-fined-millions-for-price-fixing-20190227
Competition Commission South Africa
Summary: Chapter 11
 Differentiate between different market forms (Table 10-1 on page 164) 
 Explain (monopoly) 
 SR equilibrium
 LR equilibrium
 Price discrimination
 Natural monopolies
 Disadvantages and advantages of bigness
 Compare the outcome under perfect competition with the outcome
under monopoly 
 Briefly explain the purpose of competition policy 
 Calculate & graph 
 TR, MR, AR
 Equilibrium
 Natural monopolies
 Chapter 11 Review questions
1. What is the relationship between marginal cost and marginal revenue
when a single-price monopoly maximises profit?
2. How does a single-price monopoly determine the price it will charge its
customers?
3. What is the relationship between price, marginal revenue, and marginal
cost when a single-price monopoly is maximising profit?
4. Why can a monopoly make a positive economic profit even in the long
run?
5. Can a monopoly make a loss in long run?
6. Using the table on the next slide, draw a graph showing the monopoly's
output & profit
Answer to no.6
Semester test reflections…..
 Your success in Economics 112 depends on your inputs, through active
self-study.
 Independent study and preparation of the learning material before
each lecture are both essential. There is however a vast difference
between the reading of economic texts and studying and understanding
economics.
 When you study economics, you need to learn actively. Reading is not
enough. You will need to question and analyse the text critically and
evaluate yourself with self-testing and assignments, on a regular basis.
 Do not merely memorise, but ensure that you also understand the
work. Make it a game. For instance, when a graph shows what happens
when prices increase, try to sketch a graph in which it declines and
determine what the results are going to be. When an equation is used in
the work, make your own calculation and try to apply it.
Cont…..
 Also, try to establish where the subsection fits into the entire picture. At
the end, you need to ask yourself what have you learnt and how does it
link up with the rest of the total module material.
 Ensure that you are able to define each term that you met along the way.
It is often best to learn definitions by heart, word for word, but you
should also be able to translate it in your own words in order to
understand and apply it
 Try to study some of this module every day. A little bit of work, each
day has much more value than a crash course the night before a test.
(It just does not work that way and you will be sure to fail!)

Remember this is one year past matric and you are

supposed to work just that extra bit harder.
Thank You