Question

1) Describe the basic characteristics of the monopoly model and explain how these characteristics affect the ability of a monopolist to earn positive economic profits, both in the short run and over time. 2) Compare and contrast the outcomes with respect to price and output in a monopolistically competitive market and a perfectly competitive market. In which situation are consumers better off? Why?

Answer 1

1)

Monopoly is a form of market structure in which there exists only a single producer who is the sole producer of the good which has no close substitutes and the exit and entry of other sellers into/ out of the market is completely restricted.

Characteristics of Monopoly are :-

(a) Single Producer :-

Monopoly is a market situation where there is only one seller or producer called the monopolist of a commodity. It is a case of one firm or producer controlling the supply of the product. Since there is only one seller, any change in the amount of output produced by the monopolist would have significant influence over the market price. Because there is only one firm in monopoly, therefore the difference between the firm and the industry disappears.
   However, the number of buyers of the product is large. Consequently, no buyer can influence the price of the product under the monopoly market structure.

(b) Absence Of Close Substitutes :-

Second feature of monopoly is that the monopolist produces such a commodity which has no close substitutes. The goods which can be easily used for each other and are available at nearly the same price are known as close substitutes. An essential condition for the existence of monopoly is that no close substitutes should be available for the product or service that the monopolist offers. Monopoly is a market devoid of competition.
If there are some other producers who are producing close substitues for the product produced by the monopolist, there will be competition among them. Monopolist will not exist in case there is competition among the producers.

(c) Price Maker :-

A monopoly firm is a "price -maker" "price -setter" . It is the sole producer of a product. It can exercise considerable influence on the market supply of the commodity. Therefore, the price of the commodity is fully under the control of the monopolist. Monopolist represents a situation of a high market power. A firm with market power is called a price-maker. This is in contrast to a competitive firm, which is a price-taker with zero market power.

(d) Possibility of Price Discrimination :-

A monopolist may charge single price for the product he/she sells or in certain cases he/she may charge different prices for his/her product from different sets of consumers. The latter is the case of price discrimination.
Price discrimination refers to the situation when a producer  sells the same product to different buyers at two or more different prices for reasons not associated with difference in the cost of supplying the product to different consumers.
For example, Indian Railways charge different freight rates for transporting essential products like food products, coal, etc. as compared to transportation of other products.

* The extreme Case of monopoly does not exist in the real world. Therefore, it is an extreme model of market structure. Infact, monopoly is the opposite extreme of perfect competition.

Now, if we talk about monopolist earning positive economic profits both in the short run and long run then we've to look at the feature of :-

CLOSED ENTRY OF FIRMS- A monopoly market is characterised by closed entry of the prospective producers. Monopoly is characterised by very high barriers to entry, which exist when entrepreneurs find obstacles to join a profitable industry. There are some barriers or restrictions on the entry of new firms into the monopoly industry. The closed entry may result from natural, legal or man-made restrictions. These restrictions may take several forms such as patent rights, copy rights, government laws, economies of sales, etc.

In view of this, there is no competitor of a monopoly firm. Barriers to entry bring about the market power to the monopolist. As a result, the monopolist can earn a positive normal profit in the short run as well as in the long run.

Along with this we've seen from characteristic (c) that the monopolist the price setter, so the monopolist will always set the price higher than the total cost which would result in helping him to always earn positive economic profit in the short run as well as in the long run.