What is meant by monopoly? Discuss the short run and long run equilibrium of firms under monopoly. ( 2016 )
Meaning of Monopoly:- “Monopoly is that market situation in which there is a single seller. There is no close substitute for the commodity that it produced. And there are barriers to entry. “
According to the prof. Ferguson, “Monopoly exists when there is only one producer in a market. There is no other direct competitors”.
In other Words:- It is that market where there is only one seller and he/she has full control over the price. There are close substitute products.
Characteristics of Monopoly
- One Seller and Large Number of Buyers:- Under monopoly there is only one Single producer of the commodity.
- Monopoly is also an industry:- There is no difference between the study of industry and firm.
- Barrier to entry for new Firms:- There are some restrictions on the entry of new firms.
- No Close Substitute:- There is no close substitute of a commodity which is produced by a Monopoly firm.
- Price Maker:- Monopolistic is a price maker. Who has got control over the supply of the product.
- Price Discrimination:- A monopolist may charge different prices for the same products from different customers.
EQUILIBRIUM OF MONOPOLY
A monopolistic may be in equilibrium in two periods through which any business has to go through. As following periods.
SHORT RUN EQUILIBRIUM
LONG RUN EQUILIBRIUM
1.Short Run Equilibrium:- Short run refers to that period in which monopolies cannot change fixed factors, like machinery, plant, etc. Monopolies can increase his output in response to an increase in demand by changing his variable factors. Like Capital, Labour and time.
A monopolistic will be in equilibrium when he produced that amount of output at which
- Marginal Cost is equal to marginal revenue
- Marginal Cost curve cuts marginal revenue curve from below.
A Monopolistic in equilibrium may face three situation in short period
( 1 ) Super Normal Profit
( 2 ) Normal Profit
( 3 ) Minimum Loss
( 1 ) Super Normal Profit:-
- If the price fixed by the monopolist, Then he will be in equilibrium is more than his average cost ( AC ). Then he will get a super Normal Profit.
- If the price of equilibrium output is more than average cost ( AR> AC ) then the monopolist will earn supernormal Profit.
SUPER NORMAL PROFIT = AR > AC
However, it can be understand with the help of following figure
- The Monopolistic is in equilibrium at point E.
- Because at this point marginal cost is equal to marginal revenue.
- The monopolist will produce OM units of output and Sell it at AM price.
- Which is more than average cost BM by AB per unit ( AM – BM = AB ).
- In This situation Monopolists will earn Supernormal Profit as ABCP.
( 2 ) NORMAL PROFIT:- IN this situation Monopolistic price ( AR ) is equal to its average cost. Then he will only earn normal profits.
Normal Profit = AR = AC
However, we can understand with the following figure.
- In this figure, the Firm is equilibrium at point E.
- Where MC = MR and OM is the equilibrium output.
- At this point AC curve touches average revenue AR curve at point A.
- At this point ‘A’ price OP ( = AM ) is equal to the average Cost ( = AM ) of the commodity.
- Monopoly firms, therefore, earn only normal profit in equilibrium situations.
- As at equilibrium output its AC = AR.
( 3 ) Minimum Loss:- Monopolies may also incur loss. As if price falls due to depression or fall in demand. Because in such a short period he may bear loss. Because he can cover his AVC only. But he can bear the loss for fixed costs.
In this situation, equilibrium price is equal to average variable cost ( AVC ) and the Monopolistic bears the loss of fixed costs.
However, we can understand from the following figure.
- The monopolistic is in equilibrium at point E. Where MR = MC and produces OM output.
- The price of equilibrium output OM is Fixed at OP1 ( = BM ).
- At this price, the Average variable cost (AVC) curve touches the AR Curve at point B.
- It means the firm will cover only the Average Variable Cost from the prevailing price. The firm will bear the loss of fixed costs.
- The firm will bear total loss equivalent to ABP1P as shown by the shaded area.
- Even though monopolisation will fix prices lower than OP1, he would prefer to discontinue Production.
LONG RUN EQUILIBRIUM OR PRICE DETERMINATION UNDER LONG RUN
IN THE LONG RUN, Monopolistic will be in equilibrium at a point where marginal cost is equal to the marginal revenue as ( LMC = MR ) IN the Long Run. In the long run supply of fixed assets of production can be increased due to which production can be increased. Whereas variable factors of production are also increased in both Long Period and Short Period.
Normally in the monopoly in the long run the price is more than the long run average cost. Due to not close substitute monopolies will earn supernormal profit.
Monopolies will fix the price in such a way to earn SuperNormal Profit.
From the following figure we will understand how to earn supernormal profit in the long run.
- Point E indicates the equilibrium of the monopoly. Where MR = LMC.
- Om is the output and ON is the equilibrium price.
- BM is the average cost.
- Price Average Revenue AM being more than long run average Cost BM.
- The monopolist will get Super Normal Profits.
- The monopolist earns supernormal Profit by AB = AM – BM per unit.
- Total Super normal profit will be ABPN as shown by shaded area.
Conclusions:- Under monopoly a producer will earn Supernormal profit or Normal Profit or Minimum Loss in the Short Run. But in the long run monopolisation will earn SuperNormal Profit. Thus, throughout these two period monopolistic will face above mentioned situation in the ongoing market.
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