One supplier with no close substitutes
The firm is the industry, so the market demand curve is also the firm’s demand and average revenue curve.
7.6 · Interactive notes and practice
Monopoly and natural monopoly
Learn how market power, costs and entry conditions shape a monopoly’s price, output, profit and efficiency—then test each idea in the downloadable worksheet.
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- 42worksheet questions
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01
Syllabus 7.6.1 and 7.6.4 · Worksheet 1–4
Start with the market—not the diagram
The ability to influence price
A firm can possess substantial market power without being the only seller. Market definition and substitutes matter.
One firm can supply the market at lower total cost
Large infrastructure costs and economies of scale may make duplicated networks more costly than a single network.
Price setter does not mean price unlimited
A monopoly chooses one variable and accepts the other.
Choose a price→Accept quantity demanded
or
Choose output→Charge the demand price
It cannot independently choose both a very high price and a large quantity. Demand and cost still constrain profit.
Natural monopoly cost logic
Why one water network may cost less than two
Suppose a network has a fixed infrastructure cost of $1 million and a variable cost of $20 per household. One network serving 10,000 households spreads the fixed cost across every customer. Two complete networks would duplicate much of that infrastructure.
Key condition: average cost is falling over the relevant range of market demand, with marginal cost below average cost.
Quick checkDoes a cost advantage guarantee a low monopoly price?
02
Syllabus 7.6.2 and 7.6.3 · Worksheet 5–10
Characteristics and barriers
Sellers and buyers
One seller in a pure monopoly, usually serving many buyers.
Product and substitutes
No close substitutes means buyers have fewer realistic alternatives.
Entry and exit
Barriers protect the incumbent and may allow long-run supernormal profit.
Information
Buyers or entrants may have less information than the established supplier.
Price-setting power
Downward-sloping demand gives price-setting power, but not complete freedom.
Open each gate
Four syllabus barriers to entry and exit
A named example earns little unless you explain the mechanism that restricts a potential entrant.
Barrier→Entry becomes harder or costlier→Competitive pressure weakens→Market power may persist
03
Syllabus 7.6.4 · Worksheet 11–14
Read the revenue curves
Single-price monopolyAR slopes down and MR lies below it
AR is revenue per unit. With one price, AR equals price, so the demand curve is also the AR curve.
MR is the change in total revenue from selling one more unit—not the price of that unit.
The price cut gains revenue on the extra unit but reduces revenue on units that could already have been sold.
Try the calculation
How price cuts change total and marginal revenue
| Output | Price and AR | Total revenue | Marginal revenue |
|---|---|---|---|
| 1 | $20 | $20 | $20 |
| 2 | $18 | $36 | $16 |
| 3 | $16 | $48 | $12 |
| 4 | $14 | $56 | $8 |
MR falls from $20 to $8 because each lower price applies to every unit sold. For a straight-line AR curve, MR has the same vertical intercept and twice the slope.
04
Syllabus 7.6.4 · Worksheet 15–21
Profit loss and shutdown
1
→
Find output Qm where MR = MC, with MC crossing MR from below.
2
→
Move vertically from Qm to AR to find selling price Pm.
3
Compare price with AC at Qm to identify profit or loss.
P > AC at Qm
Revenue exceeds all economic costs, including normal profit. Barriers can prevent entry from competing this profit away in the long run.
P = AC at Qm
Total revenue equals total economic cost. The entrepreneur still receives the minimum return needed to remain in the activity.
P < AC at Qm
Monopoly status does not guarantee profit. Demand may be weak or costs may be high.
Short run: compare P with AVC · Long run: compare P with AC
If price covers AVC, operating contributes towards fixed cost and may reduce the short-run loss. If revenue cannot cover variable cost at any output, shut down. Persistent failure to cover total economic cost causes long-run exit.
Build the diagram
Move the curves to create each outcome
AR and MR move together. Compare the price on AR with AC and AVC at the output where MR = MC.
Drag the coloured handles on the diagram, or use the controls beside it.
At Qm
Move a curve, then check your diagram.
Target: create supernormal profit.
Worksheet question 17
500 units · price $18 · AC $12
Calculate total revenue, total cost and supernormal profit.
TR = 500 × $18 = $9,000
TC = 500 × $12 = $6,000
Profit = $9,000 − $6,000 = $3,000
05
Syllabus 7.6.4 · Worksheet 22–29
Efficiency and monopoly performance
Common demand and cost benchmarkMonopoly output compared with P = MC
Where P = MC, assuming no externalities. A profit-maximising monopoly normally chooses Qm where MR = MC, so P exceeds MC.
Production at minimum AC. A monopoly’s chosen output does not have to coincide with minimum average cost.
Units between Qm and Qe are valued above their cost but are not produced. The lost net benefit is not received by consumers or the producer.
Explore the inefficiencies
See why the two problems are different
Allocative inefficiency concerns the chosen output. X-inefficiency concerns avoidable cost at a given output.
Restrict output away from P = MC
The price-cost gap and deadweight loss grow as output moves further below Qe.
Move the firm away from its cost frontier
Held constant: output, technology and input prices. Drag the coral point vertically, or use the control below.
The firm uses more resources than necessary at Q*. The vertical gap is X-inefficiency, not a change in technology over time.
X-inefficiency
Weak competitive pressure may allow avoidable waste, poor management or costs above the lowest attainable level at a given output.
Economies of scale
A large supplier may spread infrastructure and specialist costs across more output, lowering average cost.
Do consumers receive the gain?
Lower cost creates the possibility of a lower price or better service. Market power means the benefit is not automatic.
Possible monopoly strength
How one large supplier can have lower average cost
These diagrams isolate the cost effect. They assume the same total market output and a long-run average cost curve that is still falling over the relevant range.
Perfectly competitive industry
Higher AC per firmThe market’s total output is divided among several suppliers, so each firm operates at a smaller scale and fixed costs are duplicated.
Monopoly industry
Lower AC at greater scaleOne supplier produces the whole market output. If economies of scale are substantial, it spreads indivisible infrastructure and specialist costs across more units.
Same total market output→Greater output per firm→Fixed costs spread further→ACm < ACc
Evaluation: this result is possible, not automatic. It is the economies-of-scale or natural-monopoly case in which dividing market demand prevents each smaller firm from reaching the lower cost. The standard long-run perfect competition model normally assumes firms can operate at minimum AC. A lower monopoly AC also does not guarantee a lower price because the firm may retain some of the saving as profit.
Quick checkWhich example is specifically X-inefficiency?
06
Syllabus 7.6.1–7.6.4 · Worksheet 30–37
Contestability and comparisons
One seller can still face pressure
Contestability is about credible entry—not the current number of firms.
- Entry and exit are relatively easy.
- Sunk costs are low.
- Entrants can access comparable technology and inputs.
- Customers can switch and entry can occur quickly enough to matter.
A credible threat of entry may encourage a monopoly to moderate price, control cost or improve service even if no rival actually enters.
ScenarioWhich one-supplier market is more contestable?
Comparison checkpoint
Change the benchmark
| Basis | Monopoly | Perfect competition |
|---|---|---|
| Number of firms | One in a pure monopoly | Many small firms |
| Product | No close substitutes | Homogeneous |
| Entry | Significant barriers | Free entry and exit |
| Firm AR and MR | Downward sloping; MR below AR | Horizontal; AR = MR = price |
| Long-run profit | Supernormal profit can persist | Normal profit in the standard model |
| Efficiency | Usually P > MC and not minimum AC | Long-run P = MC and minimum AC |
| Non-price competition | Possible, despite no close rival | Little role with a homogeneous product |
| Basis | Monopoly | Monopolistic competition |
|---|---|---|
| Number of firms | One in a pure monopoly | Many firms |
| Product | No close substitutes | Differentiated products with substitutes |
| Entry | Significant barriers | Relatively free entry and exit |
| Firm AR and MR | Downward sloping; MR below AR | Also downward sloping because of differentiation |
| Long-run profit | Supernormal profit can persist | Entry removes supernormal profit in the standard model |
| Efficiency | Usually neither allocatively nor productively efficient | P > MC and excess capacity can remain in the long run |
| Non-price competition | May protect demand or reputation | Important through branding, quality and service |
For price and output, first hold market demand and costs constant. Economies of scale or product differences can change the ranking in real markets.
07
Syllabus 7.6.5 · Worksheet 38–42
Concentration ratios and essay judgement
Interactive calculator
Calculate CR1 and CR4
An n-firm concentration ratio is the combined market share of the largest n firms.
CR1 —
CR4 —
Enter the market shares, then calculate.
20-mark essay practice
“Monopoly always produces a worse outcome for consumers.”
Build the case
Use MR = MC, restricted output, P > MC, possible X-inefficiency or poor service. Explain the consumer consequence.
Qualify it
Consider economies of scale, natural monopoly and contestability. Compare with perfect and monopolistic competition.
Set conditions
Use costs, entry conditions, product differences and time periods to explain when each argument is strongest.
Judge “always”
Reach a direct conclusion. Market structure creates incentives and constraints; observed performance supplies the final evidence.
Printable practice
Monopoly and natural monopoly worksheet
Complete the 42 questions away from the screen. The PDF contains diagram space, comparison tables, calculations and essay planning.
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Worked-answer support
7 focused video slots
The videos will explain reasoning and diagrams by question group instead of reading out isolated answers.
Monopoly and natural monopoly
Questions 1–4
Characteristics and barriers
Questions 5–10
Revenue profit and shutdown
Questions 11–21
Efficiency and performance
Questions 22–29
Contestability
Questions 30–33
Market comparisons
Questions 34–37
Concentration and essay planning
Questions 38–42
Suggested-answer guide
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Once the approved guide is published, registered students can request it and receive the answer PDF automatically by email.