Question

2. Consider a monopolistic market a) One of the reasons for monopoly lies in the production process. What cost structure of a firm constitutes an entry barrier to the market that can result in a monopoly? b) Suppose that the reason for a monopoly is a patent issued by the government. What is an argument for issuing such a patent? c) Can perfect price discrimination by a monopolist increase welfare? Argue why, or why not it is the case?

Answer 1

a) Monopoly is a market structure wherein there is a single producer and many buyers. Now in the context how does it arises, it can be attributed to the facts like the producer has access to the raw materials producing a product that only he has or rather one could say has cheap access to a larger market of raw materials. And thus the product he produces does not have substitutes, also, the price in which he can produce cannot be produced by some other seller. Sources of Monopoly Power: Monopoly power comes from markets that have high barriers to entry. This can be caused by a variety of factors:

• Increasing returns to scale over a large range of production
• High capital requirements or large research and development costs
• Production requires control over natural resources
• Legal or regulatory barriers to entry
• The presence of a network externality – that is, the use of a product by a person increases the value of that product for other people
  Price MC P - 416 Economic profit 2 D=AR=P MR Quantity Monopoly: In a monopoly market, the marginal revenue curve and the demand curve are distinct and downward-sloping. Production occurs where marginal cost and marginal revenue Intersect.
  

b) Another major reason for monopoly is innovation or invention finding something new and unique. Thus, it will patent by the government to keep the idea original and make most of it. the government allows producers to become regulated monopolies, to insure that an appropriate amount of these products is provided to consumers. Additionally, legal monopolies are often subject to economies of scale, so it makes sense to allow only one provider. When a firm enjoys economies of scale the price is lower and beneficial to the consumers itself.

c) Price Discrimination is a situation where the monopolist charges different prices to different consumers depending upon various factors. Like a monopolist is a sole buyer of the raw materials for his product he will buy a large quantity of it and as a result will buy them at a lower price. Same way the monopolist can charge a consumer higher price for buying a single product and lower for buying for more products. While buying higher no. of products could be beneficial to consumers because it will save their cost but most people who buy products in bulk would be rather rich and those buying single would be poor thus, it would not be beneficial in increasing consumer welfare.