Question

Briefly explain why monopolists are neither productively nor allocatively efficient and briefly describe what results from these circumstances.

Answer 1

A monopolist isn't a price-taker, since it still sets the retail price as it chooses what quantity to make. Overall income for a monopolist is relatively small at low production levels, since not much is being sold. Total revenue at very high production volumes is often relatively low, as a very high quantity can only sell at a low price. So a monopolist's total revenue will begin low, increase, and then decline. The total income from the sale of additional units for a monopolist would decrease. Every additional unit sold by a monopolist would drive down the overall market price, and this lower price extends to more and more units, as more units are sold.

The monopolist chooses the profit-maximizing output level where MR = MC and then charges the price for that output quantity as determined by the curve of market demand. If that price is above average cost, the monopolist earns positive profits.

Monopolists are not competitive effective, since they do not achieve the average cost curve at the minimum. Monopolists are not productive allocatively, since they do not generate at the quantity where P = MC.

Consequently, monopolists produce less, at a higher average cost, and demand a higher price than a mix of companies in a highly competitive market would. Innovation opportunities could also be lacking for monopolists, as they don't need to fear entry.