Question

Discuss how x-inefficiencies arise and how they explain why the measure of the deadweight loss of a monopoly (i.e., Harberger’s) may be too low? Include a graph in your answer that shows the increase in deadweight welfare loss due to x-inefficiencies.

Answer 1

X - inefficiency occurs when there is a rise in the cost of production owing to the absence of competition. a great deal of competition in the market reduces the cost of production since firms seek to stay in the market by reducing the cost of production. But over here, there is no competition in the monopoly market, thus the firm does not have the incentive to reduce the cost of production.

Following is the diagram:

In the above diagram, lack of competition causes the cost of production to rise to the level of AC2, the competition among the firms can reduce the cost of production to the level of AC1.

Some economists such as the Harbeler contends that Monopoly tends to make an investment in technical innovation that helps to increase the welfare of people in the society. Thus the deadweight loss that is driven by the monopoly is not as high as being told by economists. It is minimum due to the innovation that is pursued by the monopoly firm to stay in the market,