Characteristics of Monopoly - Video Tutorials & Practice Problems
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Park Place, Boardwalk... I want it all! Let's talk about Monopolies.
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Characteristics of Monopoly
Video duration:
2m
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Alright, so now, let's discuss a different market structure. The monopoly. So let's start here by defining some of the key characteristics. Um First, we've got the nature of the good. So, when we were in perfect competition, remember we were selling identical goods, we couldn't tell one farmer's wheat from another. Farmers, we they were identical. Well, here in a monopoly, we've got unique goods. Okay, so, these products are gonna be unique. There's gonna be no close substitutes. Okay, so, that's a key feature of these monopoly, monopoly markets. Alright, so, next, how do they set the price? Well, we're gonna see here that the sellers are gonna be price makers. Alright, Remember, in perfect competition, we had the price takers, right? Everybody in the market was a price taker. The price was set by the market, we'll hear the monopoly is gonna have enough power to set the price itself. And this is because in a monopoly, we've got only one producer. Okay, there's only one producer of the product. So you can imagine that they're gonna have some influence over the price, and that's this term market power. Okay, So, that's market power, is when one person or a group in this case, the seller of, in the monopoly, um, is gonna have substantial, substantial influence on price. Okay, So, if you can have influence on the price of the product, we're gonna say, you have market power. Okay, so, next, let's talk about the entry and exit into the market, remember when we were talking about perfect competition, uh, firms could freely enter, or exit, right? If you wanted to sell, if you wanted to get into the wheat market, you get a farm and you start selling wheat well here, it's a little different. The entry to the market is going to be blocked by what we call barriers to entry. Okay, So we're gonna discuss the barriers to entry in more detail. Um but just, just for now, just know that if you wanted to get into this business in in a monopoly business, it's not easy. You're probably not gonna be able to start the business. So, imagine, for example, um, a good example of a monopoly would be a utility company, some sort of utility, I like to think of like electricity, Right? So, if we think of electricity, think about your town, there's probably not a whole slew of suppliers for electricity, there's probably just one supplier for electricity and you just kinda have to take it as it comes from that supplier. Right? So, if you wanted to start your own electrical company, it probably wouldn't be that easier. Easy. Right? You can just say, hey, I'm gonna start an elector. The company build a utility, build a generator, this and that. It's not as easy as with uh, something in a perfectly competitive market. Okay, So let's go ahead and in the next video, let's discuss those barriers to entry that would keep people out of a monopoly market. Alright, let's try that. Now
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Monopoly Barriers to Entry
Video duration:
6m
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Alright, so let's go ahead and discuss what some of those barriers to entry are. What's keeping other firms from joining a monopolies market. Okay. The first one here is the ownership of key resources. Really good example is this company de beers that provides diamonds, right? It's a it's a huge diamond seller um for a very long time, they owned almost all of the diamond mines in the world and they had very much control over the supply of diamonds. More recently, there's been other diamond mines found in different regions. So there are there is more competition now. But for for a very long time they had a monopoly because they owned all the diamond mines. So you could imagine if you wanted to start a diamond business, you would need a source of diamonds, right? But if this company controls all of the sources of diamonds, you can't get into the business, right? That would be a barrier to entry. So the next one here, government regulation, um the government can help an inventor uh secure a patent for their good for their invention. So the idea here is um that an inventor will create something and then a patent will give them the exclusive right to produce it. Right? So imagine you invented, I don't know, like an alarm clock radio or something. And you went to the government filled out the forms and you got a patent. Now, since you have the patent, you are the only one who's allowed to produce this alarm clock radio, right? If someone else were to produce it, you could file a lawsuit against them, right? They're not allowed to do it, you're the only one. And since you're the only one allowed to produce it, you have a monopoly over that Good. Right? So if I wanted to get in there and start producing alarm clock radios, I couldn't do it right, Because you're protected by that patent. Okay, So that's another barrier to entry is if the government issues out patents or some sort of protection to the supplier of the good. Cool. And the last one here is economies of scale, Right? So, remember when we talked about economies of scale, um, the idea here is that if you were to increase your quantity, right? This is what economies of scale are, is when you're increasing your quantity, you're the quantity, you're supplying your long run average total costs decrease, right? That's what economies of scale are. You can be increasing quantity, but your average costs are still decreasing. So you're getting economies of scale. So, what this leads to is a natural monopoly. A natural monopoly exists when there's large economies of scale, where there's huge quantities that can be produced and those economies of scale continue. Okay, So you can imagine like an electrical company, they're gonna have really high fixed costs, right? If you can imagine an electrical company to set up there, we're going to build these huge generators, right? They need to build an infrastructure throughout the city to supply the electricity. So all of that costs a lot of money. But then after that point, once it's all set up, it doesn't really cost very much, um, to add another customer, right? Think about the last time you set up electricity, you call the company and you're like, hey, I need electricity in my new apartment. And they're like, okay, give me one second. They flip a switch and the electricity's on, right? There's not really much of a cost to them. After those high fixed costs, we have very low variable costs, Right? The marginal cost of adding another customer, um, means that they want basically as many customers as they can, right? Because they've spent all this money on the fixed cost, and it doesn't cost them much to just add more customers and get more revenue. So, we see here on this graph is a long run average total cost curve. Right? And then this is a demand curve right here. So, you can imagine that, uh, A market that's gonna end up being a monopoly or a natural monopoly, um, would have some sort of situation like this. Okay, so let's say that this demand, this is a huge demand here. All right. This is for like the entire region for electricity. And let's say, this is, I don't know, like 30 million watts. I don't even know what's a good amount of electricity, right? But I'm trying to say it's a big number, right? It's some big number. And imagine if that 30 million watts, if two companies tried to supply it, if there was two companies in the market, right? 51 supplying 15 million and another one supplying another 15 million. So, let's say something around here where two companies are trying to supply 15 million. Well, look what happens to the cost, right? Let's say they have the same cost just to keep it simple. The idea here is if there's two companies trying to each supply half of the amount, they can't be as efficient as one company selling the whole amount, Right? Because look at this higher cost right? Here, this is, um, let's say average total cost. Two companies, Right? And this is average total cost with one company. Right? So you can see it's a lower average total cost when just one supplier does it. Now, this isn't every market isn't gonna be like this, This is the market for a natural monopoly. And it's gonna be generally something where there's really high fixed costs and then very low variable cost for another customer. Right? Just like we explained with electricity. So in these cases, this is a special case where it actually is, it makes more sense for one company to supply to the market rather than a bunch of companies. Okay, so these are the barriers to entry. This, you can see how this could be a barrier to entry. Um, let's say so to, to make that point about the barrier to entry. Let's say there were two companies, right? There were two companies each providing 15 million. Well, what one company could do is expand, right? They could expand their production and lower their cost, Right? They could get to this point right here and keep expanding and expanding until they put the other company out of business. Right? So eventually it's just gonna make sense for there to be one company supplying the whole market. Right? So, these icons scale end up being a barrier to entry, especially once the firm is cemented into the business. Right? So once you know, your utility company that provides electricity, it's probably been around a long time. So, you can imagine they're already cemented their there's not gonna be another company that can come in and now start building new generators and stuff. It's just not gonna happen. All right, So that's gonna be um the barrier to entry there. Alright, So let's go ahead and move on to the next video. Let's do that. Now
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concept
Monopoly Demand Curve
Video duration:
4m
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Alright, let's finish discussing the characteristics of the monopoly by discussing what the demand curve is gonna look like. So, remember, in the monopoly, there's only one producer, right? There's only one producer of the good. So, you can imagine that the market demand all of the demand for that good goes to the individual firm, right? That one firm that's supplying the good has all of the demand for that good. So, what we're gonna see is that the demand curve facing the monopoly firm? So the firm's demand curve is equal to the demand curve for the entire industry, Right? So there's this whole demand for whatever this product is, let's say electricity, right? And then there's only one supplier of electricity. So they have the whole demand curve to themselves, right? So, remember when we were talking about perfect competition, they don't have the whole demand curve to themselves, right? They have such a small portion of demand that they have no influence. So, here, on top, I've got basically just a regular market demand curve, right? Nothing special here, just a downward demand. Right? And so we'll just say, this is the market demand. And then notice down here, the monopoly firm on the left has the same demand, right? They have the whole demand of the market, the downward sloping firms, demand is equal to the market demand. Right? Compare that to the perfect competition on the right, right? This is what we saw before. And in perfect competition, there was some sort of market demand and market supply here, right? And then there was gonna be some equilibrium price, And that at that equilibrium price is where the perfectly competitive firm was going to supply. Right? So let's note two things here real quick down at the bottom, we've got um first I want to talk about the shape of the demand curve, right? The monopoly firm is facing a downward sloping demand curve, right? But when we're talking about perfect competition, the demand curve was perfectly elastic, right? I'll put horizontal here, right? A perfectly elastic uh, demand curve, right? It was completely flat. Um So what is going to be the implications of having this downward sloping demand curve instead of the flat demand curve? Well, for one, for sure, if we increase output, right? Let's say we wanted to sell more units in this case. So let's go back to the graph here, let's say we were selling this amount at this price. Well, let's say we wanted to sell this amount way out here. Right, well, now we're gonna have to lower our price, right? This was price one here, and price too is lower. So, if you want to increase your output in a monopoly, you're going to have to decrease your price. Remember, in perfect competition, you could sell any quantity you wanted, right, Because your influence over the whole market wasn't gonna affect the price because you were such a small portion of the market. So you could you could increase your quantity and it would be the same price that you would sell the next unit. Okay, So that's going to have some implications when we start talking about revenue in another video. But what we see here is that when we increase output, we have to charge a lower price in a monopoly. Right? So this is going to change our marginal revenue right before our marginal revenue was just equal to the price. If we wanted to sell one more unit, the price didn't change. Now. If we want to sell one more unit, the price has to go down to increase that output. Okay, So, we'll see those implications once we start talking about revenue. But I just want to make that note, right? We still have that price equals average revenue, right? We prove that out. And that's gonna be true for every firm, um in any market structure. But in in in perfect competition, we had that special case where the price equaled the average revenue and also equal the marginal revenue. Right? So, in perfect competition we could increase output and keep the same price, right? But we're not seeing that case anymore here in monopolies. Alright, so, let's go ahead and do some practice problems to get us started and then we'll dive in to the next topic. All right, let's do that. Now
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Problem
Problem
Which of the following is NOT a defining feature of monopolies?
A
Diseconomies of scale
B
No close substitutes
C
Influence over price
D
Barriers to entry
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Problem
Problem
Which of the following is LEAST likely to operate as a monopoly?
A
A pharmaceutical company with a drug patent
B
The sole owner of an occupational license
C
A store in a large shopping mall
D
The holder of a public utility franchise
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Problem
Problem
A patent
A
Guarantees quality to consumers
B
Grants an exclusive right to an inventor of a product
C
Allows someone the right to practice a profession
D
Gives the owner legal control over a unique source or supply of raw materials
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Problem
Problem
A distinct characteristic of a natural monopoly is that
A
Legal barriers to entry form its existence
B
It has no close substitutes
C
Its average total cost curve slopes downward as it intersects the demand curve