Chapter 25 - 25.6 Natural Monopoly

Chapter 25 - 25.6 Natural Monopoly: draw a graph showing natural monopoly

- refer to book

what other natural monopolies are usually regulated on the local level?

cable TV

what is the main problem facing regulators?

determining just what the true costs of the firm are.

natural monopoly graph: if it is required to produce an output where price equals average cost, yAC, then it will cover its cost, but will produce too little output relative to the .......................

efficient amount

at the natural operating position for a regulated firm, (PAC,YAC), the firm is selling its product at the average cost of production, so it covers its costs, but it is producing too little output relative to the ...............

efficient level

typically which industries are regulated in such a way?

electricity natural gas telephone services

if allowing a natural monopolist to set the monopoly price is undesirable due to the pareto inefficiency, and forcing the natural monopoly to produce at the competitive price in infeasible due to negative profits, what is left?

for the most part natural monopolies are regulated or operated by governments

natural monopoly graph: even though the level of output yMC is efficient, it is not profitable. If a regulator set this level of output, the monopolist would prefer to do what?

go out of business

at the natural operating position for a regulated firm, (PAC,YAC), the firm is selling its product at the average cost of production, so it covers its costs, but it is producing too little output relative to the efficient level this solution is often adopted as a reasonable pricing policy for a natural monopolist. what do government regulators do?

government regulators set the prices that the public utility is allowed to charge ideally, these prices are supposed to be prices that just allow the firm to break even - produce at some point where price equals average costs

a monopolist produces where .............................

marginal revenue equals marginal cost (and thus produces too little output)

when there are large fixed costs and small marginal costs, you can easily get what situation?

natural monopoly

if the regulated firm is to require no subsidy, it must make nonnegative profits, which means it must operate where? if it is to provide service to all who are willing to pay for it, it must also operate on ............. thus, the natural operating position for a regulated firm is what point on the previous graph?

on or above the average cost curve the demand curve (PAC, YAC)

one solution to the problem of natural monopoly is to let the government operate it what is the ideal solution?

operate the service at price equals marginal cost and provide a lump-sum subsidy to keep the firm in operation

the pareto efficient amount of output in an industry occurs where ..........................

price equals marginal cost

government regulatory commissions that oversee the operations of public utilities often subject them to what?

probing hearings to require them to justify cost data

natural monopoly graph: even though the level of output yMC is efficient, it is not profitable. If a regulator set this level of output, the monopolist would prefer to go out of business this kind of situation often arises with what industry?

public utilities

lump-sum subsidies may not reflect inefficient operation per se but rather simply reflect what?

reflect the large fixed costs associated with such public utilities

in the US these regulatory boards operate at what levels?

state and local

who might turn out to be less accountable to the public than those who run the regulated monopolies?

the government bureaucrats

public utility commissions often investigate what?

they often investigate the costs of the monopoly in an attempt to determine the true average cost and then sets a price that will cover costs (one of these costs is the payment that the firm has to make to its shareholders and other creditors in exchange for the money they have loaned to the firm

natural monopoly graph: even though the level of output yMC is efficient, it is not profitable. If a regulator set this level of output, the monopolist would prefer to go out of business this kind of situation often arises with the public utilities industry Explain for a gas company

here the technology involves very large fixed costs - creating and maintaining the gas delivery pipes - and a very small marginal cost to providing extra units of gas - one the pipe is laid, it costs very little to pump more gas down the pipe.

government regulatory commissions that oversee the operations of public utilities often subject them to probing hearings to require them to justify cost data what might escape such intense scrutiny?

internal government bureaucracy

natural monopoly graph: even though the level of output yMC is efficient, it is not profitable. If a regulator set this level of output, the monopolist would prefer to go out of business this kind of situation often arises with the public utilities industry explain for a telephone company

involves very large fixed costs for providing the wires and switching network, while the marginal costs of an extra unit of telephone service is very low

what is a big problem with government run monopolies?

it is almost as difficult to measure their costs as it is to measure the costs of regulated public utilities

it would seem that regulating a monopoly to eliminate the inefficiency is easy, all the regulator has to do is to set price equal to marginal cost and profit maximization does the rest unfortunately, this analysis leaves out what one important aspect of the problem?

it may be that the monopolist would make negative profits at such a price

what is the other solution to the problem of natural monopoly?

let the government operate it

natural monopoly graph: where is the intersection of demand and marginal cost?

lies underneath the average cost curve

natural monopoly graph: in the graph where is the minimum point of the average cost curve?

to the right of the demand curve

natural monopoly graph: if a natural monopolist operates where price equals marginal cost, then it will produce an efficient level of output, yMC, but it will be unable to do what?

will be unable to cover its costs