(See the graph of both a monopoly and a corresponding TR curve below).Definition: A natural monopoly occurs when the most efficient number of firms in the industry is one.Ī natural monopoly will typically have very high fixed costs meaning that it is impractical to have more than one firm producing the good.Īn example of a natural monopoly is tap water. In order for them to produce in the inelastic region, the government has to regulate them with a price ceiling or provide support through a subsidy. A monopoly will never willingly produce in the inelastic region because it would lower their profits (marginal revenue is negative, while marginal costs continue to increase. However, in the inelastic region, if they lower their price, they decrease their total revenue (remember the Total Revenue Test!). In the elastic region, a monopoly can lower the price and still increase their total revenue (TR). The section above this point is the elastic region of the demand curve, and the section below this point is the inelastic region of the demand curve. The point where it hits the demand curve is the unit elastic point. We first draw a line from the quantity where MR=0 up to the demand curve. We use the quantity where MR=0 to determine the difference. The demand curve on a monopoly graph have both elastic, inelastic, and unit elastic sections. The price is determined by going from where MR=MC, up to the demand curve. Their profit-maximizing profit output is where MR=MC. If the firm could charge your exact willingness, MR would equal D. Its additional revenue is always less than what you're willing to pay at that quantity because it's selling a higher quantity. This is kind of a tricky fact to wrap around your head, but in essence, MR < D because a monopoly cannot price-discriminate. For example, if you can sell 5 units for $10 each, but 6 units for $8 each, you have to sell each of those first 5 for $8, not $10, meaning your marginal revenue is always less than demand. Because demand is decreasing, a consumer's willingness to buy at a higher Q is lower, meaning the additional revenue you'll receive from each unit decreases.įor a monopoly, the marginal revenue curve is lower on the graph than the demand curve, because the change in price required to get the next sale applies not just to that next sale but to all the sales before it. This is known as the inability to price discriminate. This is because they have to lower their price in order to sell each additional unit. In a monopoly graph, the demand curve is located above the marginal revenue cost curve. Government regulation can help to promote competition and prevent monopolies from becoming too powerful.
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