A-Level Economics Notes on Market Power and Monopoly

Definitions

1. Market Power: The ability of a firm to influence the price of a good or service in the market.
2. Monopoly: A market structure characterized by a single seller or producer that excludes viable competition.
3. Pure Monopoly: A situation where a single firm controls 100% of the market.
4. Monopoly Power: The extent to which a firm can influence the market, not necessarily having 100% control.
5. Price Maker: A firm with the ability to set the price of a good, usually associated with monopolies.
6. Customer Loyalty: The degree to which customers continue to buy from a particular brand or company.
7. Abnormal Profit: Profit above the normal expected return, often seen in monopolies.
8. Barriers to Entry: Factors that prevent new competitors from entering a market easily..
9. Demand Elasticity: How sensitive the quantity demanded of a good is to a change in price; it’s a source of market power.
10. Regulations: Rules set by the government to control the behavior of monopolies.

Diagrams

The Monopoly diagram is a graphical representation used to illustrate how a monopoly operates in the market. The diagram typically includes the following components:

1. Price (P): The vertical axis represents the price of the good.
2. Quantity (Q): The horizontal axis represents the quantity of the good produced and sold.
3. Demand Curve (D): This curve shows the relationship between price and quantity demanded.
4. Marginal Revenue (MR): This curve lies below the demand curve and represents the additional revenue gained from selling one more unit.
5. Average Revenue (AR): This is usually the same as the demand curve in a monopoly.
6. Average Cost (AC): This curve shows the average cost of producing each unit.
7. Marginal Cost (MC): This curve shows the cost of producing one more unit.

In a monopoly, the firm maximizes profit where MR = MC. The price is then determined by extending a vertical line up to the demand curve. The area between the price and the AC curve represents supernormal profits. Monopolies can sustain these profits because the price (AR) is greater than AC.

Market Power

Market power refers to a firm’s ability to influence the price of a product in the marketplace. This power comes from manipulating supply, demand, or both.

Market power arises due to factors like brand loyalty, barriers to entry, and control over resources.

Firms with market power can set prices higher than in competitive markets, affecting consumer choices.

Factors Determining Market Power

1. Number of Competitors: Fewer competitors usually mean more market power.
2. Elasticity of Demand: Firms with inelastic demand for their products have more power.
3. Product Differentiation: Unique products grant more control over pricing.
4. Information Imperfections: Lack of consumer knowledge can increase a firm’s power.

Market Structures

1. Perfect Competition: Many firms, no market power.
2. Monopolistic Competition: Many firms with some differentiation.
3. Oligopoly: Few firms with significant market power.
4. Monopoly: Single firm with high market power.

Monopoly

Definition and Characteristics

1. Definition: A monopoly is a market structure where a single supplier dominates, often due to high barriers to entry and limited competition.
2. Price Influence: Monopolies have the power to set and influence prices, making them “price makers” rather than “price takers”.
3. High Prices: Monopolistic markets often feature high prices due to the lack of competition.

Types of Monopolies

1. Natural Monopoly: Occurs when long-run average costs are falling or at a minimum, making it inefficient for multiple firms to operate.

Factors Enabling Monopoly

1. Barriers to Entry: High costs or other obstacles prevent new competitors from entering the market.
2. Product Differentiation: Unique or specialized products can contribute to a monopoly’s power.

Barriers to Entry

Barriers to entry are obstacles that make it difficult for new companies to enter a market. These barriers can include various factors such as technology challenges, strong brand identity, and customer loyalty.

Types of Barriers

1. Special Tax Benefits: Existing firms may receive tax advantages that new entrants don’t have.
2. Patent Protections: Intellectual property rights can prevent new competitors.
3. Strong Brand Identity: Established brands can deter new entrants.
4. Predatory Pricing: Firms may lower prices to push new entrants out.
5. Natural Barriers: Includes network effects and economies of scale.

Real-World Examples

1. Alphabet (Google): Dominates the search engine market, protected by regulatory scrutiny and high technological requirements.