1. What is monopoly?

Monopoly is the market structure at the other extreme from perfect competition. Instead of many firms, there is only one supplier of a product for which there are no close substitutes. The U.S. Postal Service is a monopolist in the market for letter mail; your electricity, water, natural gas, and cable TV also probably are provided by monopolies.

2. How is a monopoly created?

For a monopoly to be able to stay a monopoly, there usually has to be something that serves as a barrier to entry—something that keeps potential competitors out of the monopolist’s market. Three types of barriers exit: natural barriers, such as economies of scale; actions taken by firms that create barriers, such as ownership of an essential resource; and actions taken by governments that create barriers, such as patents and licenses.

3. What does the demand curve for a monopoly firm look like, and why?

Because the monopolist is the only producer of a good or service, the monopolist’s demand curve is the entire industry demand curve. Like market demand curves in general, the monopolist’s demand curve is downward sloping: the monopolist must lower prices to increase sales. And the monopolist’s marginal-revenue curve lies below the demand curve. Price and marginal revenue are not the same for a monopoly firm.

4. Why would someone want to have a monopoly in some business or activity?

In some ways, monopolies are like the perfectly competitive firms we looked at in the last chapter: they can earn normal profits, make economic profits, or take economic losses. Just having a monopoly on a process to make ordinary rocks at a cost of $5 million a pound does not mean that you will get rich. In perfect competition, economic profits are only temporary because new entrants soon eliminate them. If you are fortunate enough to have a profitable monopoly, barriers to entry let you keep making profits for a long time.

5. Under what conditions would a monopolist charge different customers different prices for the same product?

The simple answer is that a monopolist uses price discrimination whenever it adds to the monopolist’s profits. There are some conditions that are necessary for price discrimination to be profitable for a monopolist: the firm cannot be a price taker; the firm must be able to separate buyers according to their price elasticities; and the firm must be able to prevent resale of the product. Price discrimination does not work for many products.

It is easier for electric companies and telephone companies to discriminate among different groups of buyers. They can just look and see whether it’s a large business, a small business, or a family using the electricity or the telephone line, and set the price accordingly.

6. How do the predictions of the models of perfect competition and monopoly differ?

Unlike perfect competition, monopoly is inefficient. Moreover, it imposes costs on society by producing less output and selling it at a higher price.