ECONOMICS

Imperfect Competition

MONOPOLY: Monopoly is a kind of an imperfect competition in which there

exists only one firm. The single firm which controls the total market supply and has
no close substitute. Monopoly earns super normal profit and average revenue curve in
monopoly is same as total market demand curve. Examples of monopolies are KESC,
Pakistan railways, SSGC etc.
The monopoly firm maximizes profits where MR = MC

Characteristics of monopoly are:

1. SINGLE SELLER: In monopoly, there is only one firm which controls the total
market supply and has no close substitute.

2. MARKET POWER: Unlike perfect competition, Monopoly has a power to

influence the market conditions and the price of the product.

3. PRICE DISCRIMINATION: The term price discrimination refers to the

situation in which a firm sells the same product at different prices in different
markets.
Since the monopoly has the control over the supply of the product, they are able to
exercise price discrimination.

CONDITIONS FOR PRICE DISCRIMINATION:

a) The seller must be able to control the supply of the product.
b) The seller must be able to prevent the resale of the product from one buyer to
another.
c) There must be significant difference in willingness to pay among the different
classes of the buyers.

EQUILIBRIUM OF FIRM UNDER MONOPOLY:

1. EQUILIBRIUM UNDER SHORT RUN

2. EQUILIBRIUM UNDER LONG RUN

EQUILIBRIUM UNDER SHORT RUN: Monopolist maximizes his short run profit
and achieves equilibrium under the following conditions:
a) Marginal revenue is equal to marginal cost
b) At the point of intersection, slope of marginal revenue is greater than slope of
marginal cost.
In the following diagram, monopolist is in equilibrium at point E where he sells OQ
level of output at price OP. At this point MR and MC are equal.
In a diagram, average cost is OC and average revenue is OP and therefore the per unit
profit is CP.
Total profit = TR TC i.e. OQMP OQNC = CNMP

Prepared by Muhammad Umer Farooq

0345-2993351
 ECONOMICS
Imperfect Competition

EQUILIBRIUM UNDER THE LONG RUN: In the long period, all the factors of
production are variable. The monopolist firm would adjust the scale of production in
such a manner so they may earn maximum profit. The firm would adjust the size of
plant in accordance with demand so that the short run and long run marginal cost may
be equalized.
In the following diagram, the firm is in equilibrium at point E where OQ output is
produced at price OP. the firm earns the profit of CNMP.

Prepared by Muhammad Umer Farooq

0345-2993351
 ECONOMICS
Imperfect Competition

MONOPOLISTIC COMPETITION: It is a form of imperfect competition in

which firms compete with each other through advertisements and through product
differentiation. Suppliers tend to create differences between products which might be
real or imaginary. The examples for product differentiation are shampoos, washing
powders and tooth pastes.
The Monopolistic competition firm maximizes profits where MR = MC

SHORT RUN EQUILIBRIUM: Under short run, firm attains equilibrium when MR
= MC. In the diagram below, MC intersects MR at point E which is equilibrium point.
Average revenue at this point is MQ and average cost is NQ. The firm is earning
supernormal profit because AR>AC. The profit earned by the firm is shown by
CNMP.

LONG RUN EQUILIBRIUM: Firm cannot earn supernormal profits in the long run
since the new firm would enter the industry and the extra profits would be competed
away. The entry of the new firms would increase the supply which will bring down
the prices. Similarly, there cannot be subnormal profits since the firms facing losses
will exit from the industry and the profits will be restored to normal again.
In the figure below, MC = MR at the point of equilibrium and the firm is earning
normal profits. In long run there are two conditions for equilibrium i.e. MR = MC and
AR = AC

Prepared by Muhammad Umer Farooq

0345-2993351
 ECONOMICS
Imperfect Competition

OLIGOPOLY: An oligopoly is an imperfect competition in which

a market or industry is dominated by a small number of sellers (oligopolists). Because
there are few sellers, each oligopolist is likely to be aware of the actions of the others.
The decisions of one firm influence, and are influenced by, the decisions of other
firms. Oligopoly faces a kinked demand curve.
In the diagram below, above point F is the area where the demand is high elastic and
there is the kink in the demand curve. Below point F demand is inelastic and the curve
falls vertically.
If a price will be increased above point F, the producer will lose the customers since
the demand is high elastic. However, if the producer decreases the price below point
F, the competitors will do the same to protect their sales.
By shifting the MC curve at any point between A and B, there will be no effect on
price and output. OQ is the optimum level of output at price OP. this explains the
rigidity of price under oligopoly despite changes in cost and demand.

Prepared by Muhammad Umer Farooq

0345-2993351