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Monopoly affects how individual firms conduct their business in microeconomics by setting prices, forming barriers for new firms to enter the market, and creating sunk costs. Monopolies can be structural, strategic, or statutory, and competition serves as an effective tool for price regulation.
Microeconomics is a branch of economics that studies the way individual firms conduct their business in relation to the management and allocation of finance. Monopoly refers to a situation where one firm has cornered the market to the exclusion of other firms. The role of monopoly in microeconomics is the fact that monopoly affects how individual firms can effectively conduct their commercial and financial activities.
One of the roles of monopoly in microeconomics is the effect it has on the price of goods and services. Corporations that hold a monopoly on a given market can set the prices of goods and services in that market. For example, in some countries where certain government-backed companies have a monopoly on certain utilities and services such as gas and electricity, these companies are able to set prices for the use and consumption of these services. In a market without a monopoly, competition will lead to greater variety and serve as an effective tool for price regulation.
Another role of monopoly in microeconomics is that a monopoly forms a barrier for new firms to enter a market sector. This is due to the fact that monopolists aim to protect their interests in the market. The interests at issue vary and include the desire to preserve the power the monopolist wields in the market or the desire to maintain current high levels of profit. Such high profits will inevitably decrease if competition is introduced into the market.
These barriers may be structural in the sense that they are the result of a large gap in production costs. Barriers can be strategic or they can be statutory. The statutory barriers that create a monopoly are those that have been created due to the effect of the law. The effect of monopoly on microeconomics is augmented by the microeconomic concept of sunk costs.
Sunk costs occur when a new business decides to stay in an established market rather than take advantage of a new one. The reluctance to venture into a potentially lucrative new market is due to the cost of leaving the old one. For example, a company that sees a low profit in its current market may be reluctant to take advantage of the benefits offered by the new one after considering the costs that will result from such a move. These costs include lost investment in advertising, material facilities, research and market analysis.
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