[Joseph_E._Stiglitz,_Carl_E._Walsh]_Economics(Bookos.org) (1)

PRICE (p )
p m
p c
Marginal
revenue
curve
Q m Q c
FIGURE 13.1
QUANTITY (Q )
Marginal
cost
curve
Demand
curve
WHY MONOPOLY OUTPUT IS INEFFICIENT
With perfect competition, price is set equal to marginal
cost: output is at quantity Q c , and price at p c . A monopolist
will set marginal revenue equal to marginal cost,
and will produce at quantity Q m and price p m , where the
market price exceeds marginal cost.
A monopolist who sets marginal revenue equal to marginal cost
produces at a lower level of output than a corresponding competitive
industry—an industry with the same demand curve and costs but in
which there are many producers rather than one—where price equals
marginal cost. Figure 13.1 shows that the monopoly output, Q m , is
smaller than the competitive output, Q c , where the price under
competition, p c , equals marginal cost. The price under monopoly, p m ,
is higher than p c .
The price of a good, by definition, measures how much an individual
is willing to pay for an extra unit of it. It measures, in other words,
the marginal benefit of the good to the purchaser. With perfect competition,
price equals marginal cost, so that in equilibrium the marginal
benefit of an extra unit of a good to the individual (the price) is just
equal to the marginal cost to the firm of producing it. At the monopolist’s
lower level of output, the marginal benefit of producing an extra
unit—the price individuals are willing to pay for an extra unit—exceeds
marginal cost.
By comparing the monopolist’s production decision with the collective
decisions regarding output made by firms in a competitive
market, we can estimate the value of the loss to society incurred by a
monopoly. To simplify the analysis, in Figure 13.2 marginal cost is
assumed to be constant, the horizontal line at the competitive price
p c . The monopolist produces an output of Q m , at the point where marginal
revenue equals marginal cost, and finds that it can charge p m ,
the price on the demand curve corresponding to the output Q m .
Two kinds of loss result, both related to the concept of consumer surplus introduced
in Chapter 5. There we saw that the downward-sloping demand curve implies
a bounty to most consumers. At points to the left of the intersection of the price line
and demand curve, people are willing to pay more for the good than they have to.
With competition, the consumer surplus in Figure 13.2 is the entire shaded area
between the demand curve and the line at p c .
The monopolist cuts into this surplus. First, it charges a higher price, p m , than
would be obtained in the competitive situation. This loss is measured by the rectangle
ABCD, the extra price multiplied by the quantity actually produced and consumed.
It is not a loss to society as a whole but a transfer of income, as the higher
price winds up as revenues for the monopoly. But the monopolist also reduces the
quantity produced. While production in a competitive market would be Q c , a monopoly
produces the lower amount, Q m . This second kind of loss is a complete loss
to society, and is called the deadweight loss of a monopoly. Consumers lose the
surplus to the right of Q m , denoted by triangle ABG, with no resulting gain to
the monopolist.
Some economists, such as Arnold Harberger of UCLA, have argued that these
costs of monopoly are relatively small, amounting to perhaps 3 percent of the monopolist’s
output value. Others believe the losses from restricting output are higher.
Whichever argument is right, output restriction is only one source of the inefficiencies
monopolies introduce into the economy.
290 ∂ CHAPTER 13 GOVERNMENT POLICIES TOWARD COMPETITION