Monopoly Market Structure: Characteristics, Advantages and Disadvantages

A monopoly is a type of market structure having many buyers and one seller selling a product which has no close substitute and there are barriers to entry preventing other firms from entering the market.

Characteristics of a Monopoly

  • A monopoly market structure has many buyers.
  • A monopoly is also characterized by one seller.
  • There are barriers to entry. For example trade licenses.
  • There is no direct competition from sellers since there is only one seller.
  • A Monopoly firm has total control of essential resources or strategic resources.
  • The government confers exclusive rights through issuance of ownership rights and especially through innovation / discovery.
  • The firm experiences economies of scale.
  • The government can grant one firm the exclusive right to operate – legal monopoly. E.g. water and electricity
  • The firm is the price maker.

Sources of Monopoly Power

  • Absolute ownership of raw material.
  • Control over the marketing channel
  • Economies of scale.ie low operating costs
  • Government licensing to only some firms to supply some commodities KPLC
  • High initial costs of starting the firm/industry. SAFARICOM
  • Patent rights issued as a result of innovations. MICROSOFT
  • Ownership of the rights of a well-known brand OMO, BLUEBAND
  • Elasticity of market demand – Inelastic demand promotes monopoly
  • Number of firms – monopoly decreases as no of firms increase
  • Interaction among firms – Aggressive interactions promotes monopoly for some firms
  • Legal barriers
  • Possession of knowledge or techniques

Monopoly Demand Curve

Since there is only one seller or the good, the firms demand curve is in effect to the industry’s demand curve. For example the monopolistic demand curve is the market demand curve which is normally downward sloping. Therefore the monopolistic is not a price taker he will charge different prices at different

Because he faces a downward sloping Qd curve (AR curve), the monopolistic has to reduce the prices of all units sold in order to sell an extra unit of output. This implies that the MR must be less than the price.

Short run equilibrium

The aim of the monopoly is to maximize profits and this will be achieved when MC = MR. During the short run period, the market demand and costs of production will dictate how much a monopolistic will produce. At equilibrium a monopolistic will produce at a point where the short run marginal cost equals marginal revenue.

The monopolist misallocates resources because he adheres to the principle of MR = MC; but restricts output and charges more price than a perfectly competitive market. He also does not produce at the lowest point of ATC therefore does not gain productive efficiency. Also the monopoly does not have a supply curve because the same quantity is sold at market at different prices.

The long run equilibrium

In the long run, the monopolist has enough time to adjust output with change price. He can do this by building another plant or a smaller one depending on price and demand. At the long run a monopolistic will produce at a point where long run marginal cost is equal to long run marginal revenue.

If the total demand for the product does not change, the demand for any product of the firm will fall. This shifts the demand curve shifts to the left until the abnormal profits are eliminated and this point there are no incentives for new firms to enter the market.

Long Run Monopoly Curve

Advantages of a Monopoly

  • There is stability of output and prices than under competitive conditions.
  • Enables the monopolist to spend on research and development. The invention of new techniques of production becomes possible.
  • It is helpful to provide some services more smoothly and efficiently e.g. the network of electricity or water supply demands monopoly organisations.
  • The establishment of monopoly is helpful to obtain the economies of scale
  • The firm can reduce costs by standardizing his/her product and avoiding advertising expenses.

Disadvantages of a Monopoly

  • There is no optimal allocation of resources-e.g. kplc hence lack of competition.
  • Consumers are likely to be overcharged in many cases because they lack any option.
  • There is dead weight loss
  • Price discrimination-ability of monopoly to charge different prices for the same good.
  • A problem of quality of goods i.e. poor quality and issues of efficiency are compromised.
  • The level of output is too low.it results in decrease in production and increase in unemployment.
  • The monopolist can use his powers to restrict the entry of new firms and discourage the fair competition
  • There is usually no freedom of choice as consumers are forced to get the product from producer and therefore have no freedom of choice.

Price discrimination under monopoly

A monopoly might charge different prices to different customer of similar goods and services in different markets in order to increase his profit levels and where price differences are not justified by cost differences.

Examples

  • Airline companies/ trains charging different price to classes.
  • Electricity utilities.
  • International trade.

Conditions for price discrimination

  • The seller must possess some degree of power in ability to control output and price.
  • The monopoly must segment the market into distinct classes and charge different prices to each class
  • The monopolistic must be aware of the willingness of the customers to pay for the products.
  • The monopolistic must be able to protect resale of the product by buyers.

The price to charge in each market is dependent on the price elasticity of demand. In the first market where demand is price inelastic, he charges a higher price while selling lower quantity. In the second market where demand is price elastic, the price is lower and the quantity sold is higher.

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