Bell Work 4 2 Monopolies Airlines compete for

Bell Work – 4. 2 Monopolies Airlines compete for customers. That means customers choose from different airlines when flying. Long-distance passenger train service in the United States, however, does not have any real competition. It is run by one company, which is publicly funded, with prices regulated by the federal government. Customers who ride these trains do not choose between different companies. How does competition affect the prices that airlines charge for fares? How does a lack of competition affect the prices that the train company charges for fares? Why do you think the government regulates the prices of train fares?

Answer Competition requires airlines to keep their prices in the same range as competitors. Amtrak does not have competition for their fares so the government has to regulate.

[ 4. 2 ] Monopolies Write the section # and title only

[ 4. 2 ] Monopolies Learning Objectives • Describe the characteristics and give examples of a monopoly. • Describe how monopolies, including government monopolies, are formed. • Explain how a firm with a monopoly makes output decisions. • Explain why monopolists sometimes practice price discrimination.

[ 4. 2 ] Monopolies Key Terms • • • monopoly Economies of scale natural monopoly government monopoly patent franchise license price discrimination. Market power

Characteristics of a Monopoly Unfortunately, you have been diagnosed with a rare and serious infection. The doctor prescribes a ten-day supply of a new medication. At the pharmacy, you discover that the medicine costs $97. 35—nearly ten dollars per pill! There are no substitutes, so you buy the medicine. Later, you learn that only one company has the right to produce that drug. The company says that revenue from the medicine pays for the research and development costs of producing it.

Characteristics of a Monopoly • Monopoly – forms when barriers prevent firms from entering a market that has a single supplier • One seller but any number of buyers • Usually a unique product • No close substitutes • Often take advantage of their market power and charge high prices • Examples: Water, electricity, diamonds

Some scientists believe the average cost of developing a new drug is about $1 billion. High development costs such as these are a barrier to entry that can lead to monopolies.

In a monopoly, one company controls the entire market. What are some barriers to entry that might allow a monopoly to exist?

Economies of Scale • Economies of Scale – characteristics that cause a producer’s average cost to drop as production rises • Initial start-up costs are offset as production increases • Production costs fall as output increases

With economies of scale, production costs continue to fall as output increases. Describe the cost curve for a firm without economies of scale.

Natural Monopolies • Natural Monopoly – a market that runs most efficiently when one large firm provides all of the input – Examples: public water, electricity, mass transit – Government controlled

The Role of Government • Government Monopoly – a monopoly created by the government (government creates the barriers)

The Role of Government • Patent – gives a company exclusive rights to sell a new good for 20 years • Guarantee that companies can profit from their own research without competition • Encourages innovation • Can have positive and negative effects on industries like pharmaceuticals (more research/treatment, but potentially higher prices)

The patents shown here have given their inventors monopolies for a limited period of time. How do patents such as these encourage new ideas?

The Role of Government • Franchise – a contract issued by a local authority that gives a single firm the right to sell its goods within an exclusive market • The government can also grant a franchise • Example: Blackman HS only sells coke products or a national park using one food vendor

These souvenirs are sold at a shop in Yellowstone National Park. The National Park Service often grants franchises, a kind of monopoly, to companies that run these shops.

Pro Sport Teams are an Example of Monopolies

Output Decisions If you had severe asthma, which can be fatal, what would Breathe. Deep be worth to you? You would probably want the medicine no matter how much it cost. So Leland, the company that invented and patented the drug, could charge a very high price for its new medication. The resulting profits would give the company a reason, or incentive, for inventing the new medication in the first place. But could Leland sell as much medication as it wanted to at whatever price it chose?

Output Decisions • In general, a monopolist produces fewer goods at a higher price.

In what year do the prices of prescription drugs diverge from the prices of the general price index?

Output Decisions A company that has a monopoly on a particular product, such as a new drug, may find that increasing output lowers its marginal revenue.

Price Discrimination • Price Discrimination – the division of consumers into groups based on how much the will pay for a good • In other words, a monopolist may set the price geared toward the consumer who will pay the most for the good or vice versa • Some customers could be excluded • Examples: travel industry, drug industry

Would a monopolist benefit from setting the same price for every person? Why or why not?

Price Discrimination • Market Power – the ability to control prices and total market output –Can also practice price discrimination

Targeted Discounts • Examples: – Discounted airline fares – could charge less for vacationers willing to endure layovers vs. business travelers – Manufacturer’s rebate – some people will take the time to send it in – Senior citizen discounts – Children are free promotion

Price Discrimination What is this political cartoon saying about the usefulness of price discrimination for airfares?

Why are distinct customer groups an essential component of price discrimination?

Quiz: Characteristics of a Monopoly What do all types of monopolies have in common? A. B. C. D. economies of scale a single seller that controls an entire market government action to ensure that prices don’t get too high a unique product to sell

Quiz: The Role of Government How does having a patent give a company a monopoly? A. A patent is a contract issued by a local authority that gives a single firm the right to sell its goods within an exclusive market. B. A patent gives firms the right to operate a business, especially where scarce resources are involved. C. A patent gives a company exclusive rights to sell a new good or service for a period of time. D. A patent allows the companies in an industry to restrict the number of firms in a market.

Quiz: Output Decisions What happens if a monopolist increases the price of a good? A. B. C. D. The monopolist will sell less. The monopolist will sell more. Sales will not change. Government intervention will be required.

Quiz: Price Discrimination Price discrimination can only work if A. B. C. D. a group of firms determines the highest maximum price. customers can resell the good for a lower prices are discounted by the age of the customer. firms have some control over the price.