Natural monopoly definition11/13/2023 ![]() ![]() With profit (loss), and that there is no deadweight loss since Notice that the area of consumer surplus overlaps that corresponding On the graph below, these values and the areasįor consumer surplus and profits are illustrated. Set Demand, or P, equal to MC and solve for Q* How much will the firm produce when P = MC? In this case, that means setting P = $15. When the regulating agency forces this firm to set its price at marginal cost, we have what is called marginal cost pricing. Might step in and force the monopolist to set its price at marginal cost. To get rid of the DWL, a government regulator Under perfect competition, there is some deadweight loss (shaded blue on the graph) - which represents the value of output not produced as a result of P > MC. Is that since the natural monopolist produces less output than what is possible This high price makes consumer surplus (shaded yellow in the graph) rather small. To make these kind of profits (the area represented on the graph by the striped rectangle), the monopolist sets a price exceeding what might occur within a more competitive market. The value for AC is found by plugging Q* into the AC equation to get AC = $24.41 (i.e. Before plugging things into this equation though, we must find AC. To do that, we use the formula (P - AC)Q. Suppose we also want to find the monopolist's If allowed to decide herself, how much will this natural monopolistĪnd price, this natural monopolist will produce where MR = MC:įind price by plugging Q* into the demand equation: We'll calculate the values for P* and Q* below, and also explain the meaning of the shaded areas. In general then, for a natural monopoly, AC is said to decrease (as Q increases) through "some relevant range of market output". Remembering the relationship between marginal and average values, AC will be declining as long as MC is below it. ![]() Taking a closer look at these equations, you'll see that AC is always going to be greater than MC. The relative position of the AC and MC curves give the natural monopolist a cost advantage over its competition. The answer stems from the monopolist's natural (cost-related) barriers to entry. Assume that a certain natural monopolist has the following demand and cost related curves: ![]()
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