Explain, using a diagram, the effects of the monopolisation of a perfectly competitive market.

Overall, the monopolisation of a perfectly competitive market can be expected to reduce total welfare. Under perfect competition, the supply curve represents the sum of the individual firms' marginal cost (MC) curves whilst demand represents the total consumer demand. For the whole market, therefore, the equilibrium under perfect competition is where demand = supply and so price = marginal cost (diagram would accompany this with references). This equilibrium is allocatively efficient. It is also worth noting that competitive pressures lead to x-efficiency and productive efficiency under perfect competition.

After the monopolisation of a perfectly competitive market, the supply curve represents the monopolist's individual MC curve. The demand curve is equal to the average reveue (AR) of the firm. A marginal revenue (MR) curve can also be added (again, all in reference to a diagram). The monopolist is able to determine price and output, unlike a firm under perfect competition, and thus an equilibrium is reached where profits are maximised at MR = MC. Price at this output is shown by the AR curve. At this new equilibrium, the price is higher and output is lower. This higher price leads to a reduction in consumer surplus (represented by area... in diagram 1 etc.) and an increase in producer surplus. Yet this increase in producer surplus cannot be not large enough to offset the reduction in consumer surplus and therefore there is a welfare loss (of area... in diagram 1). Moreover, since price is always greater than MC under a monopoly, there is a loss of allocative efficiency. There is also x-inefficiency due to the loss of competitve pressure (and it is unclear whether there is productive efficiency or not -- this depends on the firm's average cost curve which is not analysed). Thus, under the traditional theoretical assumptions and analysis of economics, the monopolisation of a perfectly competitive market has negative effects.

Whole answer would also contain a fully labelled and referenced diagram of the monopolisation of a perfectly competitive market.

Answered by Hannah M. Economics tutor

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