Monopoly: features, price and output determination, and discriminating monopoly

1. Meaning and features

Monopoly (Greek monos, single; polein, to sell) is a market with a single seller of a product that has no close substitute, and with barriers that keep rivals out.

1. Single seller: the firm is the industry.
2. No close substitutes: cross elasticity of demand with other goods is very low.
3. Barriers to entry: legal, technical or natural.
4. Price-maker: the monopolist fixes either price or output, but not both; the demand curve decides the other.
5. Downward-sloping demand: to sell more he must lower price, so AR slopes down and MR lies below it.
6. Possibility of price discrimination.
7. Supernormal profit can persist even in the long run.

Sources of monopoly power: patents, copyrights and trademarks; government licences and statutory monopolies (Indian Railways for rail passenger transport); control of an essential raw material; natural monopoly, where one firm can supply the whole market at lower cost than two (water supply, electricity transmission); large capital requirements; mergers and cartels.

2. Revenue curves of a monopolist

AR is the demand curve and slopes downward; MR is below AR. For a straight-line AR, MR falls twice as fast. Since MR = AR × (e − 1)/e, MR is positive only where e > 1, so a monopolist always produces on the elastic part of the demand curve.

3. Equilibrium: conditions

1. MR = MC.
2. MC cuts MR from below (or MC is rising faster than MR). Under monopoly MC may be falling, constant or rising at equilibrium, as long as it cuts MR from below.

Price is then read off the AR (demand) curve above that output. Because AR > MR, the monopoly price is above marginal cost, unlike competition where P = MC.

4. Worked schedule

Fixed cost Rs. 10, marginal cost constant at Rs. 8.

MR = MC = Rs. 8 at 4 units. The monopolist sells 4 units at Rs. 14, and makes the maximum profit of Rs. 14 (the 4th unit adds exactly as much to revenue as to cost, so profit is the same at 3 and 4 units; MR = MC marks the last unit worth producing). Price Rs. 14 is well above MC of Rs. 8. A competitive industry with the same costs would produce where P = MC = 8, selling more at a lower price.

5. Short-run and long-run equilibrium (described)

Short run: draw downward-sloping AR and MR, with U-shaped SAC and SMC. SMC cuts MR from below at E; output OQ. Go up to AR for price OP. If AR at OQ is above SAC, the monopolist earns supernormal profit (rectangle between price and AC); if AR equals SAC, normal profit; if AR is below SAC but above AVC, a loss, which he bears in the short run.

Long run: the monopolist adjusts the plant and produces where LMC = MR. Because entry is barred, supernormal profit persists; a monopolist who cannot earn at least normal profit in the long run leaves. He need not produce at the minimum of LAC, and usually operates with some excess capacity.

6. Price discrimination

Joan Robinson: price discrimination is “the act of selling the same article, produced under a single control, at different prices to different buyers”. Examples: railway fares by class, doctors’ and lawyers’ fees by the client’s means, electricity tariffs for domestic and industrial users, matinee and evening cinema tickets, export prices lower than domestic ones.

Degrees (A.C. Pigou):

• First degree (perfect): each unit sold at the maximum the buyer will pay; the whole consumer’s surplus goes to the seller.
• Second degree: buyers are divided into groups by quantity bought (block tariffs), each block priced differently.
• Third degree: the market is split into sub-markets (domestic and foreign, students and adults) with a different price in each. This is the commonest form.

Conditions: (i) the seller has monopoly power; (ii) the markets can be kept separate, so that no resale from the cheap market to the dear one is possible (because of distance, tariffs, the personal nature of a service, or consumer ignorance); (iii) the elasticity of demand differs between the markets.

7. Equilibrium of the discriminating monopolist

The monopolist decides (a) the total output and (b) its division between the markets.

• Total output is where aggregate MR (MR₁ + MR₂ added horizontally) = MC.
• That output is divided so that MR₁ = MR₂ = MC. If MR were higher in one market, shifting a unit there would raise revenue.
• Price is then read off each market’s AR curve: it is higher in the market with the less elastic demand.

Worked figure: MC = Rs. 30. Market 1 has e = 2, market 2 has e = 4. Since MR = P(1 − 1/e): in market 1, 30 = P₁(1 − 1/2), so P₁ = Rs. 60; in market 2, 30 = P₂(1 − 1/4), so P₂ = Rs. 40. The less elastic market pays more.

Dumping is international price discrimination: selling abroad, where demand is elastic because of competition, at a price lower than at home, where the market is protected.

Is it justified? Discrimination can be beneficial where a service would not be produced at all at a single price (a doctor in a rural area, a railway serving thin routes), or where it lets the poor be charged less. It is harmful where it simply extracts consumer’s surplus. In Indian law, a dominant enterprise that imposes an unfair or discriminatory price is abusing its dominant position under section 4(2)(a)(ii) of the Competition Act, 2002.

Principles of Economics covers the degrees and conditions in price discrimination and pricing.

How this is examined

February 2025 set “What is monopoly? Explain how price and output are determined under it” (16 marks); January 2026 set “Features of monopoly” as a 10-mark part of Q.9 (100-mark paper) and “Price discrimination” as a 6-mark note (80-mark paper). For the long answer: definition, features, AR and MR, conditions, the schedule, short-run and long-run diagrams described, and the no-supply-curve point. For price discrimination: definition, degrees, conditions, MR₁ = MR₂ = MC and the worked figure.