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CHAPTER 5: PERFECTLY
COMPETITIVE MARKET
AND MONOPOLY
Trương Thị Hoà, PhD

Objectives

By the end of this chapter student will be able to:

ü Distinguish between perfectly competitive market and
monopoly
ü Identify the characteristics of perfectly competitive and
monopolistic markets
ü Understand how firms behave in competitive and monopolistic
market

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Content
Some concepts
1. Perfectly competitive market
1.1. Attributes of perfectly competitive market
1.2. Attributes of firms
1.3. How do firm behave in short-run?
2. Monopoly
2.1. Attributes of monopolistic market
2.2. Attributes of firms
2.3. How do firm behave in short-run?
2.4. Government interventions

Some concepts
Total revenue (TR): the amount a firm receives for the sale of its
output
𝑇𝑅 = 𝑃×𝑄
Average revenue (AR): total revenue divided by the quantity sold
𝑇𝑅
𝐴𝑅 =
𝑄
Marginal revenue (MR): the change in total revenue from an
additional unit sold
∆𝑇𝑅
𝑀𝑅 = = 𝑇𝑅!
∆𝑄
Profit (Pr): total revenue minus total cost
𝑃𝑟(#) = 𝑇𝑅(#) − 𝑇𝐶(#)
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1. Perfectly competitive market

1.1. Attributes of a competitive market
Definition: a market with many buyers and sellers trading
identical products so that each buyer and seller is a price
taker
Attributes:
üThere are many buyers and many sellers in the market.
üThe goods offered by the various sellers are largely the
same.
üFirms can freely enter or exit the market.

1. Perfectly competitive market

1.2. Attributes of firms
ü Firms are price takers
ü Demand (D) (also MR and AR) curve of a firm is a horizontal line
at market price

P P

(D) (MR) (AR)

P*
P=MR=AR=P*

O Q O Q* Q 6

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1. Perfectly competitive market

1.2. Attributes of firms

TR
𝑇𝑅 = 𝑃×𝑄 TR

O Q

MR = P = AR

1. Perfectly competitive market

1.3. How do firms behave in short-run?
Objective: Maximizing
profit

Example: The case of

a milk farm

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1. Perfectly competitive market

1.3. How do firms behave in short-run?
Objective: Maximizing profit

Pr (Q) = TR(Q) – TC(Q)

Pr max ó Pr’ = 0

ó(TR – TC)’ = 0

ó TR’ – TC’ = 0

ó MR = MC (note: MR = P)

1. Perfectly competitive market

1.3. How do firms behave in short-run?
P MC ATC
Profit A
maximization P MR = P

C Decrease
B output

Increase
output

O Q1 Q* Q2 Q

MC=MR=P Prmax=(P-AC)Q*
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1. Perfectly competitive market

1.3. How do firms behave in short-run?

In which circumstances a firm faces losses?

If a firm faces losses, what will they do in short-run?

Continue operating?

Shut-down?

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1. Perfectly competitive market

1.3. How do firms behave in short-run?

MC
P
ATC
P1 = MR1=AR1
AVC
P2 = MR2=AR2
B
P3 = MR3=AR3

Q1 Qmax Q

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1. Perfectly competitive market

1.3. How do firms behave in short-run?

P
MC

Break even point

P2 B
AC

A Shut-down point
P1
AVC

Q
Q1 Q2
What is the short-run supply curve of a firm in competitive market? 13

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1. Perfectly competitive market

1.3. How do firms behave in short-run?
Shut-down price and supply curve in short-run

In the short
run, the
competitive
firm’s supply
curve is its
marginal cost
curve (MC)
above average
variable cost
(AVC).

The Competitive Firm’s Short-Run Supply Curve

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1. Perfectly competitive market

In the long-run
Exit the market if: Enter the market if:

TR < TC TR > TC
TR TC TR TC
< >
Q Q Q Q
P < ATC P > ATC

The Competitive Firm’s decision to exit or enter market

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2. Monopoly
2.1. Attributes of a monopolistic market
Monopoly is a firm that is the sole seller of a product without
close substitutes
Attributes:
üThere are many buyers and one sole seller in the market.
üThere is no close substitute for the product
üOther firms cannot enter because of entry barriers
- Government regulations
- Monopoly resources
- Production process

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Why monopolies arise

Entry Barriers
§ Monopoly resources: A key resource required for production is owned
by a single firm.
§ Government regulation: The government gives a single firm the
exclusive right to produce some good or service
(Government-created monopolies)
§ The production process: A single firm can produce output at a lower
cost than can a larger number of producers.
(Natural monopolies)

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2. Monopoly
2.2. Attributes of firm
ü Its demand curve is the market P
demand curve and the firm is the
price maker
ü Marginal revenue of a monopoly is
always less than its good’s price
With demand function:
𝑃 = 𝑎𝑄 + 𝑏
Total revenue:
𝑇𝑅 = 𝑃×𝑄 = 𝑎𝑄 + 𝑏 ×𝑄 = 𝑎𝑄! + 𝑏𝑄 MR
D
Marginal revenue:
MR=TRQ’=2aQ+b
Q1 Q

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2. Monopoly
2.2. Attributes of firm
Quantity Price (P) Total Average Marginal
Example: of water revenue revenue revenue
(Q) (TR = P*Q) (AR = (MR =
TR/Q) ΔTR/ΔQ)
0 11
1 10
2 9
3 8
4 7
5 6
6 5
7 4
8 3

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2. Monopoly
2.2. Attributes of firm

Quantity of Price Total Average Marginal

water (Q) (P) revenue revenue revenue (MR
(TR = P*Q) (AR = TR/Q) = ΔTR/ΔQ)
0 11 0 -
1 10 10 10 10
2 9 18 9 8
3 8 24 8 6
4 7 28 7 4
5 6 30 6 2
6 5 30 5 0
7 4 28 4 -2
8 3 24 3 -4

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2. Monopoly
2.2. Attributes of firm
Demand curve

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2. Monopoly
2.3. How does firm behave in short-run?
Profit maximization
𝑃𝑟 = 𝑇𝑅 − 𝑇𝐶
$
Prmax ó (TR-TC)’(Q) =0
MC
P Pr ó MR = MC
A
P1 AC
P(Prmax)>MR=MC
D

c
B Prmax
𝑃𝑟 = 𝑇𝑅 − 𝑇𝐶 = (𝑃 − 𝐴𝐶)𝑄

0 Q1 MR Q
Monopoly does not have a supply curve 22

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2. Monopoly
2.3. How does firm behave in short-run?
If a monopoly want to maximize revenue, how will it behave?

P Maximizing revene
TRmax ó TR’=0 ó MR=0

P1
MR
D

Q1 Q

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2. Monopoly
2.3. How does firm behave in short-run?
If a monopoly want to maximize product sale without loss, how will it
behave?
$
MC
P

AC

P1 A
D

MR
0 Q1 Q

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Ví dụ:

Thị trường chỉ có công ty A độc quyền với hàm cầu

thị trường: P = -1/4 Q + 280. Hàm chi phí của A: TC =
1/6 Q2 + 30Q+15000

Doanh nghiệp sẽ sản xuất và bán ra như thế nào để tối đa

hóa lợi nhuận? Để tối đa hoá doanh thu?

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2. Monopoly
2.3. Government interventions?
Sales tax (t/1product)

P
MC2 = MC + t
MC2
MC1
AC2=AC1+t
E
P2 A
P1
D
E2 Sales tax (t/1product)
E1 à P tăng, Q giảm à
MR người tiêu dùng bị
thiệt hại
0
Q2 Q1 Q

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2. Monopoly
2.3. Government interventions?

P
AC2 = AC + T /Q

MC1
A AC1
AC2 Khi chính phủ khoán
P1 1 mức thuế Tà P,Q
D
không đổi à người
tiêu dùng không thiệt
hại, người sản xuất
MR bị giảm lợi nhuận
0 bằng T.
Q1 Q

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