• A monopoly is a market structure in which there is a?single seller
• There are no?substitute products
• The firm has?complete market power?& is able to set prices & control output
  • This allows the firm to?maximise supernormal profit?in the short-run
  • There is no long-run erosion of supernormal profit as competitors are unable to enter the industry
• High barriers to entry exist
  • One of the main barriers is the ability of the monopoly to?prevent any competition?from entering the market
    • E.g. by purchasing companies who are a potential threat
• The?UK Competition & Markets Authority?defines a monopoly as any firm having more than 25%?market share
  • It acts to?prevent?this from happening in most industries

• As a single seller of goods/services, the firm in a monopoly market is also the?entire market
  • There is no differentiation between the firm & the industry
• It is a?price maker
  • This means that its revenue curves are downward sloping
• In order to?maximise profits,?it produces at the point where marginal cost (MC) = marginal revenue (MR)

A diagram illustrating a monopoly making supernormal profit in the short-run & long-run as the AR > AC at the profit maximisation level of output (Q1)

Diagram Analysis

• The firm produces at the?profit maximisation level of output?where?MC = MR (Q1)
  • At this level the?AR (P1) > AC (C1)
  • The firm is making?supernormal profit

• Price discrimination?occurs when a firm charges a?different price?for the?same good/service?in order to maximise its revenue
  • There are different?types (degrees) of price?discrimination
• Third degree price discrimination?occurs when a firm charges?different prices to?different consumers?for the?same good/service?e.g. rail fares are priced differently depending on the time of travel
• Markets?are often?sub-divided?based on time, age, income & geographic location
  • Some airline ticket portals?charge higher prices?to customers?using an?Apple computer?as they are likely to have higher income

The Following Conditions Must Be Met for Third Degree Price Discrimination to Occur

Illustrating Third Degree Price Discrimination

• In order to illustrate?third degree price discrimination?diagrammatically, the different sub-market diagrams are placed side by side
• The total market diagram is a combination of the sub-market diagrams
  • The?total profit?is a combination of profits from the sub-markets
• The diagram below illustrates the?market for rail travel?in the UK where inelastic demand is?'peak'?hour demand & elastic demand is any other time of the day i.e.?'off-peak'

A third-degree price discrimination diagram demonstrates a market that has been divided based on price inelastic (peak travel) & price elastic demand (off-peak travel). Following the?revenue rule, prices are raised for peak demand & lowered for off-peak demand

Diagram Analysis

• Each train route has an effective?monopoly provider
• The overall firm is producing at the?profit maximising level of output?where?MC=MR
  • This point is?extrapolated to both sub-markets?on the left by using the lower dotted line
  • The average cost is extrapolated across both sub-markets using the?upper dotted line (C1)
• A?higher price for peak travel?has been set at Pa?& a?lower price for off-peak travel?has been set at Pb
• Following the revenue rule,?total revenue increases?in both markets
• The profit for?sub-market A = (Pa-C1) * Q1
• The profit for?sub-market B = (Pb-C1) * Q2
• The firm's total profit is the average selling price - the average costs
  • Total profit = (Pt-C1) * Q3
• The firms'?total profits are higher?than if they had charged a single price to all customers

Costs & Benefits of Third-Degree Price Discrimination

Costs & Benefits of Third-Degree Price Discrimination to Consumers & Producers

• In several instances where the?Competition & Markets Authority?has acted to?decrease/limit monopoly power, the firms have taken the Regulator to court to attempt to convince them that the?firms market power will benefit consumers
  • Theoretically this is possible, however in many cases the desire to?maximise profits?would prevent this from happening

The Advantages & Disadvantages Of Monopoly Power

• A?natural monopoly?occurs when the?most efficient number of firms in the industry is one
  • This is often due to?associated infrastructure issues?e.g. delivery of utility services like water where it does not make sense to have multiple pipelines
  • It can also be due to the?significant cost?that is generated when entering the industry e.g. the?sunk costs
  • It can also be due to the ability of?economies of scale?to lower prices for consumers e.g. it makes sense to have one firm building five nuclear power stations as opposed to five firms as average costs will be lower with one firm producing
• Natural monopolies?usually occur in utility industries & are?regulated by the Government?to ensure that consumers are not charged higher monopoly prices
  • This regulation is often in the form of a?maximum price