There are three characteristics of monopoly:

• There is only one firm in the industry, the monopolist.
• There are substantial barriers to entry.
• The monopolist is a short run profit maximiser.

In reality the government and other agencies call firms who have more than 25% of any particular market a monopoly.

Monopolies can be

• National, e.g., royal mail
• Regional, e.g., water companies
• Local, e.g., petrol station

The downward sloping demand curve for the industry must also be the demand curve for the firm (as the monopolist is the only firm in the industry). The gives the monopolist the power to be a price maker, he can set the price and then sell whatever quantity consumers are willing to buy at that price.  Rather than setting the price, he can set the quantity he wishes to sell and then accept the price the market is willing to pay. Show this on the diagram below.  It is because of this we say that the monopolist is constrained by the demand curve.

This is very different to the situation that occurs when there is competition in the market place (e.g., perfect competition and monopolistic).  When competition exists the equilibrium quantity and price will be higher and lower respectively; it can be argued that this is better for consumer welfare.  It is due to this reason that governments will intervene in the market in order to prevent monopolies from existing.

The monopolist however is better off as it will be able to earn abnormal profits due to the lack of any competitors in the markets.

Monopoly and Productive Efficiency

The monopolist will more than likely produce at the lowest possible cost for the level of demand.  Breaking up the monopoly will lead to an increase in average costs as output per firm falls.

Monopoly and Allocative Efficiency

The monopolist will charge a price above the marginal cost as it will drive up prices in order to earn abnormal profits.

Monopoly and Dynamic Efficiency

It can be argued that monopolists will be dynamically efficient as there is an incentive to invest in research and development, as they will reap the future profits.  In perfect competition firms will be unwilling to invest due to the presence of perfect knowledge; any innovation will quickly become general knowledge to all firms in the industry, thereby removing any future rewards.

Government Regulation of Monopoly

Governments will use a number of policies in order to regulate monopolies. 

Taxes

Governments could attempt to tax away abnormal profits, however this is unlikely to improve efficiency.  There would be no incentive for firms to reduce prices or costs.  The tax may even discourage research and development due to the high level of taxes of any future profits.

Subsidies

Subsidies could be used to lower the equilibrium price and increase quantity, in an attempt to achieve efficiency.  This is only likely to occur if the monopoly is loss making (e.g., railways) as increasing a profit making company’s profits will be politically unacceptable.

Price Controls

Many regulating bodies have been set up in order to ensure that monopolists don’t exploit consumers, e.g.,

·        OFTEL (Office of Telecommunications)

·        OFGEM (Combined Office Of Gas & Electricity Regulation)

·        OFWAT (Office of Water Regulation)

·        OFGAS (Office of Gas Regulation).

Setting maximum price increases in industries it will encourage monopolists to reduce their costs in order to increase profits, thereby improving productive efficiency.  Monopolists argue that they need to increase prices in order to be able to sustain dynamic efficiency, e.g., water companies need to earn high profits so they can invest in better water treatment plants etc.. 

Privatisation and Deregulation

The Thatcher government embarked on a policy on privatisation through the 1980s, when many previously state owned companies were sold to the private sector in the hope improving efficiency, e.g.,

·        British Gas

·        British Rail

·        British Telecom

·        Water Boards

·        Sealink Ferries

·        Jaguar Cars

·        British Airways

·        Rolls Royce

Privatisation may or may not accompany deregulation.  Deregulation is the process of allowing competitors to enter markets that were previously protected by legal barriers to entry.  Competition would hopefully drive down the price.

Breaking up the Monopolist

This was done in an attempt to introduce competition into markets, however it more than often simply led to regional monopolies, e.g., railways and water companies.

Notes on the internet
Monopoly PowerPoint Presentation
Monopoly
Produced by Drexel University
Monopoly Interactive Test
Produced by Oklahoma State University
Monopoly Worksheets
Competition Commission
OFT (The Office of Fair Trading)
F DTI (The Department of Trade and Industry)
OFTEL (Office of Telecommunications)
OFGEM (COMBINED OFFICE OF GAS & ELECTRICITY REGULATION)
For further information on electricity and gas regulation
OFWAT (Office of Water Regulation)
OFGAS (Office of Gas Regulation)
ORR (Office of the Rail Regulator)
Civil Aviation Authority visit:
Financial Services Authority
Independent Television Commission
Radio Authority
Competition Policy section of the European Commission
US Federal Trade Commission
United States Department of Justice
United States Department of Justice (Anti-Trust Division)