18-08-2012, 12:27 PM
Pricing Under Monopoly
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MONOPOLY
MEANING:
The word monopoly has been derived from the combination of two words i.e,’mono’ and ‘poly’.Mono refers to a single and poly to control. In this way, monopoly refers to the situation in which there is only one seller of a commodity. There are no close substitutes for the commodity it produces and there are barriers to entry. The single producer may be in the form of individual owner or a single partnership or a joint stock company. Thus, in monopoly there is no difference between firm and industry. Monopolist has full control over the supply of commodity. Thus, as a single seller monopolist may be a king without a crown. If there is to be monopoly, the cross elasticity of demand between the product of the monopolist and the product of any other seller must be very small.
Explanation:
(a) Short Run Monopoly Equilibrium withSuper Normal Profits:
In the short period, if the demand for the product is high, a monopolist increases the price and the quantity of output. He can increase the, output by hiring more labor, using more raw materials, increasing working hours etc. However, he cannot change his fixed plant and equipment. In case, the demand for the product falls, he then decreases the use of variable inputs, (like labor, material etc.).
As regards the price, the monopolist is a price maker. There is a greater tendency for the monopolist to have a price which earns positive profits. This can only be possible if the price (AR) is higher than average total cost (ATC). The short run profit earned by the monopolist is now explained with the help of the diagram (16.3) below.
(b) Short Run Equilibrium with Normal Profit
There is a false impression regarding the powers of a monopolist. It is said that the monopolistic entrepreneur always earns profits. The fact, however, is that there is no guarantee for the monopolist to earn profit in the short run. If a monopolist firm produces a new commodity and attempts to change the taste pattern of the consumers through advertising campaigns etc., then the firm may operate at normal profit or even produce at a loss minimizing price in the short run (Covering variable cost only). The normal profit short run equilibrium of the monopoly firm is explained, in brief, with the help of the diagrams.
LONG RUN UNDER EQUILIBRIUM MONOPOLY
The monopolist creates barriers of entry for the new firms into the industry. The entry into the industry is blocked by having control over the raw materials needed for the production of goods or he may hold full rights to the production of a certain good (patent) or the market of the good may be limited. If new firms try to enter in the field, it lowers the price of the good to such an extent that it becomes unprofitable for new firms to continue production etc.
When there is no threat of the entry of new firms into the industry, the monopoly firm makes long run adjustments in the scale of plant. In case, the demand for the product is limited, the monopolist can afford to produce output at sub optimum scale. If the market size is large and permits to expand output, then the monopolist would build an optimum scale of plant and would produce goods at the minimum cost per unit. However, the monopolist would not stay in the business, if he makes losses in the long period. The long run equilibrium of a monopoly firm is now explained with the help of the following diagram.