Imperfect Competition: Monopoly, Price Discrimination, and Monopolistic Competition

Monopoly

A market structure where a single firm is the only producer of a good/service with no close substitutes; the firm faces the entire market demand.

Market power

The ability of a firm to influence the price of its product (common when consumers cannot easily switch to competitors).

Barriers to entry

Obstacles that prevent new firms from entering a market and competing away long-run profits, allowing monopoly power to persist.

Legal barriers

Entry barriers created by laws (e.g., patents, copyrights, government licenses, exclusive franchises) that restrict competition.

Control of a key resource

A barrier to entry where a firm owns or controls an essential input needed to produce the product.

Economies of scale

Cost advantages where average total cost (ATC) falls as output increases, potentially making one large producer more efficient than many small ones.

Natural monopoly

A monopoly that arises when one firm can produce the entire market output at a lower ATC than multiple firms (ATC falling over the relevant output range).

Strategic barriers

Firm behaviors that deter entry (e.g., long-term contracts, limit pricing), helping maintain monopoly power.

Price maker

A firm that can choose the price of its product, but is still constrained by the downward-sloping market demand curve.

Average revenue (AR)

Revenue per unit sold; for a monopolist, AR equals the price on the demand curve at each quantity.

Marginal revenue (MR)

The change in total revenue from selling one additional unit; for a monopolist, MR lies below the demand curve because price must fall to sell more.

Linear-demand MR rule

If demand is linear, the MR curve has the same intercept as demand and twice the slope.

Profit-maximizing rule (monopoly)

A monopolist chooses the output where MR = MC, then sets the price by moving up to the demand curve at that quantity.

Economic profit

Profit including opportunity costs; calculated as π = TR − TC, and shown on a graph as (P − ATC) × Q at the chosen output.

Allocative efficiency

An efficient outcome where P = MC; under monopoly (and usually monopolistic competition), P > MC so the market is allocatively inefficient.

Deadweight loss (DWL)

Lost total surplus from mutually beneficial trades that do not occur (e.g., because a monopolist restricts output below the efficient level).

No supply curve (monopoly)

In AP Micro, a monopoly has no supply curve because its chosen quantity depends on the entire demand curve (via MR), not just the price.

Marginal cost pricing regulation

A regulation for natural monopolies where the regulator sets P = MC; achieves allocative efficiency but may require a subsidy if ATC > MC.

Average cost pricing regulation

A regulation where the regulator sets P = ATC so the firm breaks even (normal profit); typically results in P > MC, so it is not allocatively efficient.

Price discrimination

Charging different prices to different consumers for the same product (or units) when the price differences are not explained by cost differences.

Market power (condition for price discrimination)

A requirement for price discrimination: the firm must face a downward-sloping demand curve (some ability to set price).

Market segmentation (condition for price discrimination)

A requirement for price discrimination: the firm must be able to separate consumers into groups with different demand elasticities.

No arbitrage / limited resale (condition for price discrimination)

A requirement for price discrimination: low-price buyers cannot easily resell to high-price buyers, or price differences will collapse.

Third-degree price discrimination

Charging different prices to identifiable groups; the firm allocates output so MR1 = MR2 = MC, then charges each group’s price from its demand curve.

Monopolistic competition

A market structure with many firms selling differentiated products and free entry/exit in the long run; firms have some market power but long-run economic profit tends to be zero (P = ATC).