Simple Monopoly in Commodity Market

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Simple monopoly refers to a situation where there is only one major producer of a certain product or bundle of products in the market. The product of a monopolistic firm is unchallenged in the market. So, the monopoly firm can set prices or make changes to the product as and when it wishes.

Also, the monopolistic product means that it is not substitutable in the market.

Types of Revenue: Total, Average, and Marginal Revenue

Enterprises usually tend to set a cost price for their products that equals the market requirements determined by supply and demand. However, this does not apply to monopolistic markets. In a monopoly, the prices are determined by the market-controlling company or the monopolistic company. This price setting is done keeping in mind the revenues that can be collected from the market.

Following are the different types of Revenue −

Total Revenue

It is the total amount of collection a vendor can accumulate from the sale of its products and services to the customers.

Total revenue can be obtained using the formula −

TR = p × q

Where,

p is the price of the commodity and q is the quantity.

Average Revenue

The average revenue is the revenue collected per unit of outputs sold. It greatly impacts the profitability of the enterprises and hence, monopolies tend to gain hold of average revenue more palpably.

Average revenue can be obtained from the formula −

$\mathrm{AR = \frac{TR}{q} = \frac{p \times q}{q} = p}$

Where,

p = the price of the commodity

q = the quantity

TR = Total revenue

AR = Average revenue.

Marginal Revenue

Marginal revenue is the amount of revenue earned by selling one more product. So, marginal revenue shows the earnings obtained after selling each additional unit of product. It is used by monopolies to check customer demands and set the prices of products because they can control them as they want.

Where,

$\mathrm{MR = \frac{Change\: in\: total\: revenue}{Change\: in \:quantity}}$

MR= Marginal Revenue,

TR = Total Revenue,

Q = Quantity.

Marginal Revenue and Price Elasticity of Demand

Price elasticity refers to the changes in usage patterns of a product due to changes in its price.

  • Price elasticity is concerned with the response of the demanded quantity or supply due to price changes in the product. It is calculated as the percentage change in demand or quantity supplied divided by the change in price (in percent).
  • Price elasticity, however, is not directly present in a monopolistic market. Price elasticity is a phenomenon that is obtained in a market with many products or products of various brands. Since there is a lack of presence of products or companies in a monopolistic market, price elasticity is hardly visible.
  • Monopolistic firms may also need to check the price elasticity of demand for their products in case consumers completely stop buying the products due to high price changes. In such cases, even monopolistic companies may need to adjust the product so that the elasticity remains intact.
  • In a monopoly, the marginal revenue is less than the product price because low prices are the drivers of monopolies. Therefore, price elasticity is directly related to marginal revenue in a monopolistic market.
  • In a competitive market price and marginal revenue are proportional. When marginal revenue goes up, the price must also go up. So, price elasticity is directly related to marginal revenue in perfectly competitive markets too.

Marginal revenue is the rate of change in total revenue as production increases by one unit at a time.

  • In perfect competition, marginal revenue will be equal to average revenue because firms can sell as much as the firm seeks at the market price.
  • In a monopoly, the firm will have to lower the prices to sell more of its products. So, monopolistic firms are price makers in the market.

Short-Run Equilibrium of Monopoly Firms

When the monopoly firms are meant to go through a short run, the profit maximization principle of the monopolistic firms faces scrutiny. In fact, when there is sudden competition arising due to various economic factors, the short-run equilibrium faces the threat of extinction. This occurs because when competition enters a market, its firm impacts could be seen on pricing and profitability.

Therefore, the short-run equilibrium is lost when monopolistic superiority ends in the market. This can be understood from the following two factors.

The Case of Zero Cost in Monopolistic Markets

Let’s presume that all the crude oil reservoirs of the world are situated only in UAE and there is no other location where crude oil is available in the world. In such scenarios, UAE can change the prices and conditions of sale at its will. It can increase the prices whenever wished and reduce the price as well.

Considering no other crude oil locations in the world, we can conclude that UAE can change the prices and conditions of sale at no cost. It will not suffer from any available and hidden cost when it changes the price of the oil it sells to the world.

The availability of zero cost will however be applicable only till no other country finds a reservoir of crude oil. Once, any other country finds a reservoir, competition will find its place in the market and UAE will be no longer available to sell oil at a price by changing it according to its will. Now, we can elucidate the condition of perfect competition when there is more than one producer of a product or commodity in the market.

The Case of Perfect Competition

Now, let’s presume that Russia also finds a large reservoir of crude oil. What will be the situation now? The monopolistic situation will now be replaced by competition. If Russia sells the oil by reducing the price of a barrel by $1, all of the crude oil buyers will start buying oil from Russia. This competition will increase even more when there are many suppliers of crude oil. In such a position, any supplier that sells the oil at a reduced cost can attract consumers without having to do anything else.

So, the short-run equilibrium of monopolistic behavior can pave the way to perfect competition when competition sets in the market.

Conclusion

Although monopoly is generally undesirable and shifts the control to the market leader, it may sometimes be beneficial too. If the quality of the products and prices are set well enough, a monopoly can offer better results than competitive markets. However, with a monopoly, most companies start to resort to profit maximization, and the quality of the products may also go down.

Therefore, it is usually believed that a monopoly is not good for the general consumers. Still, there are many monopolistic firms in the market and it is an available phenomenon in the real-world scenario. Knowing and maintaining the limits therefore should be the most desirable option.

FAQs

Q1. What is a monopoly? Give an example.

Ans. A monopoly is a situation in the market where only one firm is in the position of controlling the market. For example, the pharmaceutical company that produces the Covid vaccine can be considered a monopoly if there is no other company available.

Q2. What is the condition of marginal revenue in a monopolistic market?

Ans. The marginal revenue is less than the product price in a monopolistic market.

Q3. Why do firms sell products at lower prices in a monopoly?

Ans. Products are sold at lower prices in a monopoly because the companies want to maximize profits by selling more of the products.

raja
Updated on 13-Oct-2022 11:19:47

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