Microeconomics: A Very Short Introduction by Avinash Dixit

Author:Avinash Dixit [Dixit, Avinash]
Language: eng
Format: epub
ISBN: 9780199689378
Publisher: Oxford University Press
Published: 2014-01-15T00:00:00+00:00

Chapter 5

Market and policy failures

Monopoly and oligopoly

The efficient outcome at the intersection of the demand and supply curves requires price to be outside the control of any one producer. If a firm is large enough to influence the market price, it can profit by curtailing supply to drive up the price along the demand curve. Several firms may be able to collude and achieve the same result. Exactly how much the supply is curtailed will depend on the context, and the details of that analysis are not important in this brief introduction. But the consequences are.

Figure 17 reproduces Figure 10 with some modification. Suppose monopoly or oligopoly reduces quantity to a point such as X, less than Q. Then the social surplus contributed by quantities between X and Q, namely the excess of the willingness to pay over the marginal cost of these quantities, amounting to the area CDE, is lost. This measures the inefficiency of the monopoly or oligopoly (the technical term is dead-weight loss).

If all the buyers of the quantity X pay the same price, namely C along the demand curve, then an amount equal to the area of the rectangle MCYP, which would have been part of the consumer surplus under perfect competition, now becomes a part of the firms’ profits. Any successful price discrimination can extract even more surplus from the consumers. This raises the possibility that firms may expend resources to facilitate acquisition of monopoly power—deter entry of competitors, pay political contributions or even bribes to obtain and sustain their monopoly power, sometimes in the guise of ‘national champions’. These resource expenditures also do not contribute to overall social welfare, and must count as inefficiencies.

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