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CHAPTER

12
Monopoly and Antitrust Policy

Prepared by: Fernando


Quijano and Yvonn Quijano

2002 Prentice Hall Business Publishing

Principles of Economics, 6/e

Karl Case, Ray Fair

Imperfect Competition
and Market Power
An imperfectly competitive industry is
an industry in which single firms have
some control over the price of their output.
Market power is the imperfectly
competitive firms ability to raise price
without losing all demand for its product.

2002 Prentice Hall Business Publishing

Principles of Economics, 6/e

Karl Case, Ray Fair

Defining Industry Boundaries


The ease with which consumers can
substitute for a product limits the extent to
which a monopolist can exercise market
power.
The more broadly a market is defined, the
more difficult it becomes to find
substitutes.

2002 Prentice Hall Business Publishing

Principles of Economics, 6/e

Karl Case, Ray Fair

Pure Monopoly
A pure monopoly is an industry with a
single firm that produces a product for
which there are no close substitutes and in
which significant barriers to entry prevent
other firms from entering the industry to
compete for profits.

2002 Prentice Hall Business Publishing

Principles of Economics, 6/e

Karl Case, Ray Fair

Barriers to Entry
Things that prevent new firms from
entering and competing in imperfectly
competitive industries include:
Government franchises, or firms that

become monopolies by virtue of a


government directive.

2002 Prentice Hall Business Publishing

Principles of Economics, 6/e

Karl Case, Ray Fair

Barriers to Entry
Things that prevent new firms from
entering and competing in imperfectly
competitive industries include:
Patents or barriers that grant the exclusive

use of the patented product or process to


the inventor.

2002 Prentice Hall Business Publishing

Principles of Economics, 6/e

Karl Case, Ray Fair

Barriers to Entry
Things that prevent new firms from
entering and competing in imperfectly
competitive industries include:
Economies of scale and other cost

advantages enjoyed by industries that


have large capital requirements. A large
initial investment, or the need to embark in
an expensive advertising campaign, deter
would-be entrants to the industry.

2002 Prentice Hall Business Publishing

Principles of Economics, 6/e

Karl Case, Ray Fair

Barriers to Entry
Things that prevent new firms from
entering and competing in imperfectly
competitive industries include:
Ownership of a scarce factor of

production: If production requires a


particular input, and one firm owns the
entire supply of that input, that firm will
control the industry.

2002 Prentice Hall Business Publishing

Principles of Economics, 6/e

Karl Case, Ray Fair

Price: The Fourth Decision Variable

Firms with market power must decide:


1. how much to produce,
2. how to produce it,
3. how much to demand in each input

market, and
4. what price to charge for their output.

2002 Prentice Hall Business Publishing

Principles of Economics, 6/e

Karl Case, Ray Fair

Price and Output Decisions in Pure


Monopoly Markets
To analyze monopoly behavior we assume
that:
Entry to the market is blocked
Firms act to maximize profit
The pure monopolist buys in competitive input

markets
The monopolistic firm cannot price discriminate
The monopoly faces a known demand curve
2002 Prentice Hall Business Publishing

Principles of Economics, 6/e

Karl Case, Ray Fair

Price and Output Decisions in Pure


Monopoly Markets
With one firm in a monopoly market, there
is no distinction between the firm and the
industry. In a monopoly, the firm is the
industry.
The market demand curve is the demand
curve facing the firm, and total quantity
supplied in the market is what the firm
decides to produce.

2002 Prentice Hall Business Publishing

Principles of Economics, 6/e

Karl Case, Ray Fair

Collusion and Monopoly Compared


Collusion is the act of working with other
producers in an effort to limit competition
and increase joint profits.
When firms collude, the outcome would be

exactly the same as the outcome of a


monopoly in the industry.

2002 Prentice Hall Business Publishing

Principles of Economics, 6/e

Karl Case, Ray Fair

Public Choice Theory


The idea of government failure is at the
center of public choice theory, which
holds that public officials who set
economic policies and regulate the players
act in their own self-interest, just as firms
do.

2002 Prentice Hall Business Publishing

Principles of Economics, 6/e

Karl Case, Ray Fair

Remedies for Monopoly:


Antitrust Policy
A trust is an arrangement in which
shareholders of independent firms agree
to give up their stock in exchange for trust
certificates that entitle them to a share of
the trusts common profits. A group of
trustees then operates the trust as a
monopoly, controlling output and setting
price.

2002 Prentice Hall Business Publishing

Principles of Economics, 6/e

Karl Case, Ray Fair

Landmark Antitrust Legislation


Congress began to formulate antitrust
legislation in 1887, when it created the
Interstate Commerce Commission (ICC)
to oversee and correct abuses in the
railroad industry.
In 1890, Congress passed the Sherman
Act, which declared every contract or
conspiracy to restrain trade among states
or nations illegal; and any attempt at
monopoly, successful or not, a
misdemeanor.
2002 Prentice Hall Business Publishing

Principles of Economics, 6/e

Karl Case, Ray Fair

Natural Monopoly
A natural monopoly is an
industry that realizes such
large economies of scale in
producing its product that
single-firm production of that
good or service is most
efficient.

2002 Prentice Hall Business Publishing

Principles of Economics, 6/e

Karl Case, Ray Fair