Monopoly & Efficiency
Deadweight Loss Analysis
Efficiency Analysis• Allocative Efficiency is when P = MC
– No DWL, socially optimal
– Monopolies fail as P > MC Competitive Firms always pass P = MC
• Production Efficiency is when P = min. of ATC– Monopolies fail as P > min of ATC
– Competitive Firms achieve it only in long run
Quantity
Price
0
P1P1P1
ATCATCMCMC
Perfect Competition
P = MC (always)
P = min of ATC (long run)
QuantityQ QQ0
Costs andRevenue
DemandDemand
Average total costAverage total cost
Marginal revenueMarginal revenue
Marginalcost
Marginalcost
Marginalcost
Monopolyprice
QMAX
BMonopoly
price
QMAX
BB
AA
Monopoly
P > MCP > min of ATC
Deadweight Loss
• Deadweight loss is caused by a monopoly, a tax and a subsidy– Unless the tax or subsidy is correcting a market failure!
• There is never a deadweight loss when P = MC (MB = MC)
– If P > MC => market is too small • Example: misplaced tax or monopoly
– If P < MC => market is too big• Example: misplaced subsidy
Allocative Efficiency
Quantity0
Price
Demand(marginal benefit: value to buyers)
Marginal cost
Value to buyersis greater thancost to seller.
Value to buyersis less thancost to seller.
Costto
monopolist
Valueto
buyers
EfficientQuantity MC = MB
Welfare isMaximized!
MC = MB
Identical Market Demand Curve• The market demand curve for a good/service is exactly the same whether an
industry is a monopoly or a competitive industry.
• Therefore the market demand curve below for T-Shirts could be for a monopoly or a competitive industry
Market
1 Firm
In a competitive industry market demand = MR
Monopoly:market demand > MR
Inefficiency of Monopoly
Quantity0
Price
DWL P > MC
D = Market Demand Curve
MR
MC
Competitive quantity
Monopolyprice
Monopolyquantity
Allocative Efficiency P = MC
EM
ECCompetitive
PriceFor competitive industry P = D= MRMarket demand is MRSo @ Ec MR = MC
Deadweight Loss Analysis• Revenue from a tax is transferred from producer/consumer => to Government
• Revenue from a subsidy is transferred from Gov’t => to producer/consumer
• Monopoly excess profit is a transfer of consumer surplus => to private firm
QuantityQ QQ0
Costs andRevenue
DemandDemand
Average total costAverage total cost
Marginal revenueMarginal revenue
Marginalcost
Marginalcost
Marginalcost
--------------------------------------
PM
PC
-
------------------------
Excess profit => some consumer surplus turns into monopoly profit
QM
---------------------------
Deadweight Loss as P > MCMonopoly Price
Competitive Price
QC
Worksheet
• Monopoly & Deadweight Loss