The Costs and Benefits of Monopoly
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0:00 - 0:05♪ [music] ♪
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0:09 - 0:11- [Alex] In our final talk
in monopoly, -
0:11 - 0:14we're going to discuss
the costs of monopoly, -
0:14 - 0:16but also the potential benefits.
-
0:21 - 0:25The major costs of monopoly
is that compared to competition, -
0:25 - 0:26monopoly is inefficient.
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0:26 - 0:30It leads to a loss in the gains
from trade or a deadweight loss. -
0:30 - 0:33Let's remind ourselves
about the gains from trade -
0:33 - 0:35under competition
and then we can compare -
0:35 - 0:37with monopoly.
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0:37 - 0:39Here we'll simplify
with a flat supply curve, -
0:39 - 0:41a constant cost industry.
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0:41 - 0:45In this case the total gains
from trade go to consumers -
0:45 - 0:47in this blue area right here.
-
0:47 - 0:50Now let's see what the total gains
from trade or total welfare -
0:50 - 0:51is under monopoly.
-
0:51 - 0:54We choose exactly
the same demand curve -
0:54 - 0:57and the same constant cost curve.
-
0:57 - 1:01We find the profit maximizing price
and quantity in the usual way. -
1:02 - 1:06Consumers, not surprisingly,
get less under monopoly -
1:06 - 1:08since the price is higher.
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1:08 - 1:13Now some of what the consumers lose
is transferred to the monopolist -
1:13 - 1:17in terms of profit, and as far
as an economist is concerned, -
1:17 - 1:20at least someone is getting
these gains from trade. -
1:20 - 1:22So the transfer is neutral.
-
1:23 - 1:27What's bad however,
is that total welfare falls -
1:27 - 1:30under monopoly
because no one gets this area, -
1:30 - 1:32the deadweight loss.
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1:32 - 1:37These are trades that from a social
point of view are beneficial. -
1:37 - 1:42The demanders are willing to pay
more than what would be the cost -
1:42 - 1:44of producing these goods.
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1:44 - 1:47These trades, however,
don't happen. -
1:48 - 1:51Even though they're socially
beneficial they don't happen -
1:51 - 1:55because they aren't profitable,
they aren't privately beneficial. -
1:56 - 1:58Think of a movie theater
that is half empty. -
1:58 - 2:01Surely there are some people
out there who would value -
2:01 - 2:05watching the movie at more
than its marginal cost, about zero. -
2:05 - 2:08So why doesn't the movie theater
lower the price to these people? -
2:09 - 2:13Because to do so it would have
to lower the price to everyone -
2:13 - 2:16and that would reduce
total profits. -
2:17 - 2:19So the basic lesson is this.
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2:20 - 2:23Consumers buy a good
so long as the value to them -
2:23 - 2:25exceeds the price.
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2:25 - 2:29Under competition, price
is equal to marginal cost, -
2:29 - 2:33so consumers will buy every unit
such that the value to them -
2:33 - 2:36is a greater
than the marginal cost. -
2:36 - 2:38That's efficient.
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2:38 - 2:41Under monopoly, consumers
also buy so long as the value -
2:41 - 2:45to them is greater than the price,
but since price is greater -
2:45 - 2:50than marginal cost,
we get too few units produced. -
2:50 - 2:53We get a loss
in the gains from trade. -
2:54 - 2:56Let's remind ourselves
what deadweight loss -
2:56 - 2:57looks like in practice.
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2:57 - 3:01GSK prices Combivir
at $12.50 per pill. -
3:01 - 3:04The marginal cost is 50 cents.
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3:04 - 3:08The deadweight loss is the value
of the trades that do not occur -
3:08 - 3:11because price is greater
than marginal cost. -
3:11 - 3:15Some people would be willing
and able to pay $10 per pill -
3:15 - 3:19or $4, or even $1 per pill
and those prices -
3:19 - 3:23would more than cover
the cost of producing those pills. -
3:24 - 3:26But those trades don't occur
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3:26 - 3:29because they aren't
profitable to GSK. -
3:29 - 3:34Many monopolies around the world
are born of government corruption. -
3:34 - 3:37In Indonesia, Tommy Suharto,
the president's son, -
3:37 - 3:41was given the highly profitable
clove monopoly. -
3:41 - 3:42He used the profits
from that monopoly -
3:42 - 3:44to buy Lamborghini.
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3:44 - 3:47Not a Lamborghini --
he bought the entire company. -
3:48 - 3:51These kinds of monopolies
are unredeemed. -
3:51 - 3:54They have costs
and no social benefits at all. -
3:55 - 3:59Some monopolies however,
do have countervailing benefits. -
3:59 - 4:02Consider what would happen
if the U.S. eliminated patents -
4:02 - 4:04for pharmaceuticals.
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4:04 - 4:06Competition, it's true,
would drive down the price -
4:06 - 4:11of existing drugs to marginal cost,
as happens today -
4:11 - 4:15as soon as patents expire,
usually within 10 to 15 years -
4:15 - 4:17after the drug first enters
the market. -
4:18 - 4:21But it costs about
a billion dollars -
4:21 - 4:25to bring the average new drug
to market in the United States, -
4:25 - 4:29and R&D costs are not included
in marginal cost. -
4:30 - 4:33As the saying goes,
it costs about a billion dollars -
4:33 - 4:38to create the first pill,
50 cents to create the second pill. -
4:39 - 4:4350 cents is the marginal cost,
the cost of an additional pill, -
4:43 - 4:45but to bring that first pill
to market costs -
4:45 - 4:47about a billion dollars.
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4:48 - 4:52If price were quickly pushed
down to marginal cost, -
4:52 - 4:56firms would not be able
to recover their R&D costs, -
4:56 - 4:59and the result would be
fewer new drugs. -
5:00 - 5:04Once the drug is created,
the patent, the monopoly, -
5:04 - 5:07creates inefficiency,
we get too few units produced. -
5:07 - 5:11But the patent increases
the incentive to produce -
5:11 - 5:13the new drugs in the first place.
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5:13 - 5:15So there's a trade-off.
-
5:15 - 5:18More monopoly
reduces static efficiency, -
5:18 - 5:20the quantity produced,
but can increase -
5:20 - 5:25dynamic efficiency, the incentive
to do research and development. -
5:27 - 5:29This trade-off applies
to other goods -
5:29 - 5:32with high development cost,
not just pharmaceuticals. -
5:32 - 5:35Information goods,
goods like music, movies, -
5:35 - 5:38computer programs,
new chemicals, new materials, -
5:38 - 5:39new technologies.
-
5:39 - 5:42These typically have high
development costs -
5:42 - 5:45and low marginal cost
of production. -
5:45 - 5:48And that suggests there may be
possible benefits to patent -
5:48 - 5:50or copyright protection.
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5:51 - 5:54More generally for these types
of goods there's a policy trade-off -
5:54 - 5:57which we always want
to keep in mind. -
5:57 - 6:02That is lower prices today
may generate fewer new ideas -
6:02 - 6:03in the future.
-
6:05 - 6:08Nobel prize winning
economic historian, Douglas North, -
6:08 - 6:12for example, has argued,
"The failure to develop -
6:12 - 6:14systematic property rights
in innovation -
6:14 - 6:18up until fairly modern times
was a major source -
6:18 - 6:21of the slow pace
of technological change." -
6:22 - 6:25Is there a better way
of navigating this trade-off? -
6:25 - 6:26Perhaps.
-
6:26 - 6:30Suppose that the government
bought up a pharmaceutical patent -
6:30 - 6:34for its total monopoly profits
and then they ripped the patent up. -
6:35 - 6:39Competitors would enter
and drive the price of the drug -
6:39 - 6:41down to marginal cost,
thus we would have -
6:41 - 6:43static efficiency.
-
6:43 - 6:45At the same time,
since the government -
6:45 - 6:48was paying firms
their monopoly profits, -
6:48 - 6:51we would still have lots
of incentive to do research -
6:51 - 6:53and development --
dynamic efficiency. -
6:53 - 6:56Thus we could have
the best of all worlds. -
6:56 - 6:59Of course, there may be
some downsides as well. -
6:59 - 7:01Higher taxes to pay
for the patent also have -
7:01 - 7:04their own deadweight loss,
and it might be difficult -
7:04 - 7:07to say exactly
how much a patent is worth. -
7:07 - 7:09And there could be
possible corruption. -
7:09 - 7:12Nevertheless, this is an idea
we're thinking about, -
7:12 - 7:14and perhaps worth
experimenting with. -
7:15 - 7:18Prizes are another way
of navigating the trade-off. -
7:18 - 7:21As with patent buyouts,
the idea is that a firm -
7:21 - 7:24is offered up front its R&D costs.
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7:24 - 7:27But the government
only pays the firm -
7:27 - 7:29if it achieves a certain goal.
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7:29 - 7:32And if that goal is achieved,
the technology goes -
7:32 - 7:35into the public domain
and could be used by anyone. -
7:36 - 7:38SpaceShipOne, for example,
won $10 million -
7:38 - 7:42for being the first privately
developed manned rocket -
7:42 - 7:44capable of reaching space
and returning -
7:44 - 7:46in a short period of time.
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7:46 - 7:48And prizes are being used
more often. -
7:48 - 7:50The government set up a prize
for better light bulbs, -
7:50 - 7:53for example,
and that worked quite well. -
7:54 - 7:57There's also a third way
of navigating the trade-off. -
7:57 - 8:01You may have noticed, for example,
that so far we've assumed -
8:01 - 8:04that the monopolist
must charge the same price -
8:04 - 8:05to everyone.
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8:05 - 8:07Is this necessarily true?
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8:07 - 8:09In some cases,
the monopolist can charge -
8:09 - 8:11different prices
to different people -- -
8:11 - 8:13price discrimination.
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8:13 - 8:16As we'll see in the next chapter
and set of lectures, -
8:16 - 8:20price discrimination explains a lot
about how products are priced -
8:20 - 8:23and it also has some costs
and some benefits -
8:23 - 8:25which we'll be discussing.
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8:25 - 8:26See you then, thanks.
-
8:28 - 8:29- [Narrator] If you want
to test yourself, -
8:29 - 8:31click "Practice Questions."
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8:31 - 8:35Or if you're ready to move on,
just click "Next Video." -
8:35 - 8:39♪ [music] ♪
- Title:
- The Costs and Benefits of Monopoly
- Description:
-
In this video, we explore the costs and benefits of monopolies. We cover how monopolies and patents breed deadweight loss, market inefficiencies, and corruption. But we also look at what would happen if we eliminated patents for industries with high R&D costs, such as the pharmaceutical industry. Eliminating patents in this case may result in less innovation and, specifically, fewer new drugs being created. We also consider some of the tradeoffs of patents and look at alternative ways to reward research and development such as patent buyouts and using prizes to foster innovation.
Microeconomics Course: http://mruniversity.com/courses/principles-economics-microeconomics
Ask a question about the video: http://mruniversity.com/courses/principles-economics-microeconomics/costs-benefits-monopoly-pharmaceutical-companies#QandA
Next video: http://mruniversity.com/courses/principles-economics-microeconomics/introduction-price-discrimination
- Video Language:
- English
- Team:
- Marginal Revolution University
- Project:
- Micro
- Duration:
- 08:40
Martel Espiritu edited English subtitles for The Costs and Benefits of Monopoly | ||
Martel Espiritu edited English subtitles for The Costs and Benefits of Monopoly | ||
Martel Espiritu edited English subtitles for The Costs and Benefits of Monopoly | ||
MRU2 edited English subtitles for The Costs and Benefits of Monopoly | ||
MRU2 edited English subtitles for The Costs and Benefits of Monopoly |