3 1 4
PA R T F I V E
F I R M B E H AV I O R A N D T H E O R G A N I Z AT I O N O F I N D U S T R Y
been to provide California refiners with crude oil
cheaper than oil on the world market. . . . The ban
created a subsidy for California refiners that had not
been passed on to consumers.” Let’s
use our analysis of
firm behavior to analyze these claims.
a.
Draw the cost curves for a California refiner and for
a refiner in another part of the world. Assume that
the California refiners have access to inexpensive
Alaskan crude oil and that other refiners must buy
more expensive crude oil from the Middle East.
b.
All of the refiners produce gasoline for the world
gasoline market, which has a single price. In the
long-run
equilibrium, will this price depend on the
costs faced by California producers or the costs
faced by other producers? Explain. (Hint: California
cannot itself supply the entire world market.) Draw
new graphs that illustrate the profits earned by a
California refiner and another refiner.
c.
In this model, is there
a subsidy to California
refiners? Is it passed on to consumers?
3 1 5
I N T H I S C H A P T E R
Y O U W I L L . . .
S e e w h y m o n o p o l i e s
t r y t o c h a r g e
d i f f e r e n t p r i c e s t o
d i f f e r e n t c u s t o m e r s
S e e h o w t h e
m o n o p o l y ’ s
d e c i s i o n s a f f e c t
e c o n o m i c w e l l - b e i n g
L e a r n w h y s o m e
m a r k e t s h a v e o n l y
o n e s e l l e r
A n a l y z e h o w a
m o n o p o l y
d e t e r m i n e s t h e
q u a n t i t y t o p r o d u c e
a n d t h e p r i c e t o
c h a r g e
C o n s i d e r t h e
v a r i o u s p u b l i c
p o l i c i e s a i m e d a t
s o l v i n g t h e p r o b l e m
o f m o n o p o l y
If you own a personal computer, it probably uses some version of Windows, the
operating system sold by the Microsoft Corporation.
When Microsoft first de-
signed Windows many years ago, it applied for and received a copyright from the
government. The copyright gives Microsoft the exclusive right to make and sell
copies of the Windows operating system. So if a person wants to buy a copy of
Windows, he or she has little choice but to give Microsoft the approximately $50
that the firm has decided to charge for its product. Microsoft is said to have a
mo-
nopoly
in the market for Windows.
Microsoft’s business decisions are not well described by the model of firm
behavior we developed in Chapter 14. In that chapter, we analyzed competitive mar-
kets, in which there are many firms offering essentially identical products, so each
firm has little influence over the price it receives. By contrast, a monopoly such as
Microsoft has no close competitors and, therefore, can influence the market price of
its product. While a competitive firm is a
price taker,
a monopoly firm is a
price maker.
M O N O P O L Y
3 1 6
PA R T F I V E
F I R M B E H AV I O R A N D T H E O R G A N I Z AT I O N O F I N D U S T R Y
In this chapter we examine the implications of this market power. We will see
that market power alters the relationship between a firm’s price and its costs. A
competitive firm takes the price of its output as given by the market and then
chooses the quantity it will supply so that price equals marginal cost. By contrast,
the price charged by a monopoly exceeds marginal cost. This result is clearly true
in the case of Microsoft’s Windows. The marginal cost of Windows—the extra cost
that Microsoft would incur by printing one more copy of the program onto some
floppy disks or a CD—is only a few dollars. The market price of Windows is many
times marginal cost.
It is perhaps not surprising that monopolies charge high prices for their prod-
ucts. Customers of monopolies might seem to have little choice but to pay what-
ever the monopoly charges. But, if so, why does a copy of Windows not cost $500?
Or $5,000? The reason, of course, is that if Microsoft set the price that high, fewer
people would buy the product. People
would buy fewer computers, switch to
other operating systems, or make illegal copies. Monopolies cannot achieve any
level of profit they want, because high prices reduce the amount that their cus-
tomers buy. Although monopolies can control the prices of their goods, their prof-
its are not unlimited.
As we examine the production and pricing decisions of monopolies, we also
consider the implications of monopoly for society as a whole. Monopoly firms, like
competitive firms, aim to maximize profit. But this goal has very different ramifi-
cations for competitive and monopoly firms. As we first saw in Chapter 7, self-
interested buyers and sellers in competitive markets are unwittingly led by an
invisible hand to promote general economic well-being. By contrast, because
monopoly firms are unchecked by competition, the outcome in a market with a
monopoly is often not in the best interest of society.
One of the
Ten Principles of Economics
in Chapter 1 is that governments can
sometimes improve market outcomes. The analysis in this chapter will shed more
light on this principle. As we examine the problems that monopolies raise for so-
ciety, we will also discuss the various ways in which government policymakers
might respond to these problems. The U.S. government, for example, keeps a close
eye on Microsoft’s business decisions. In 1994, it prevented Microsoft from buying
Intuit, a software firm that sells the leading program for personal finance, on the
grounds that the combination of Microsoft and Intuit would concentrate too much
market power in one firm.
Similarly, in 1998, the U.S. Justice Department objected
when Microsoft started integrating its Internet browser into its Windows operat-
ing system, claiming that this would impede competition from other companies,
such as Netscape. This concern led the Justice Department to file suit against
Microsoft, the final resolution of which was still unsettled as this book was going
to press.
W H Y M O N O P O L I E S A R I S E
A firm is a
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