Monopoly Efficiency and Deadweight Loss: Study with Video Lessons, Practice Problems & Examples

In a monopoly, the quantity produced is always less than the efficient quantity, leading to deadweight loss. Consumer surplus decreases due to higher prices, while producer surplus may increase, but not without losses in potential trades. Monopolies lack both productive efficiency, as they do not produce at minimum average total cost, and allocative efficiency, since marginal benefits exceed marginal costs. Understanding these concepts is crucial for grasping market structures and their implications on economic surplus and efficiency.

Monopoly Efficiency and Deadweight Loss

Alright. So now let's discuss the idea of consumer and producer surplus in a monopoly as well as the ideas of efficiency, productive and allocative efficiency or the lack thereof. Let's check it out. So what we're going to see is that a monopoly always produces less than the efficient quantity, right? The efficient quantity is something like what we saw in perfect competition where they were reaching efficiency, well here they produce less, okay? So we'll see that on the graph and what happens? We're not producing the efficient quantity, we're producing less than that efficient quantity. Well, when we're not producing the efficient quantity, we're going to have a deadweight loss. Okay? So there's going to be a deadweight loss in the market for a monopoly. Okay? So let's go down here on the graph and let's discuss this producer and consumer surplus under perfect competition first. So we'll see how it is efficient and then we'll move on to a monopoly and see where the deadweight loss

An unregulated monopoly will sell: 

• A. 30 tickets
• B. 50 tickets
• C. 60 tickets
• D. 100 tickets

If the monopolist's fixed cost is $25, the monopoly's total costs when maximizing profit is: 

• A. $35
• B. $45
• C. $85
• D. $145

If the monopolist's fixed cost is $25, the monopoly's total economic profit when maximizing profit is: 

• A. $0
• B. $20
• C. $45
• D. The monopoly is incurring a loss

The deadweight loss created by the monopoly is: 

• A. $0
• B. $22.5
• C. $45
• D. $90

Here’s what students ask on this topic:

What is deadweight loss in a monopoly?

Deadweight loss in a monopoly refers to the loss of economic efficiency that occurs when the equilibrium quantity of a good is not produced. In a monopoly, the firm restricts output to maximize profits, producing less than the efficient quantity. This results in a higher price and a reduction in consumer surplus. The trades that do not occur due to this restricted output represent the deadweight loss. Mathematically, deadweight loss can be visualized on a graph as the area between the demand and supply curves, from the monopoly quantity to the efficient quantity.

How does a monopoly affect consumer and producer surplus?

In a monopoly, consumer surplus decreases because the monopolist sets a higher price and produces a lower quantity compared to a perfectly competitive market. Consumer surplus is the area above the price and below the demand curve, and this area shrinks in a monopoly. Producer surplus, which is the area below the price and above the supply curve, may increase because the monopolist can charge a higher price. However, the total economic surplus (consumer surplus + producer surplus) decreases due to the deadweight loss, which represents the trades that do not occur.

Why do monopolies lack productive efficiency?

Monopolies lack productive efficiency because they do not produce at the minimum average total cost (ATC). Productive efficiency occurs when a firm produces at the lowest possible cost, which is at the minimum point of the ATC curve. In a monopoly, the firm produces at a quantity where the ATC is not minimized, often on the downward-sloping part of the ATC curve. This results in higher production costs and inefficiency compared to a perfectly competitive market where firms produce at the minimum ATC.

What is allocative efficiency and why don't monopolies achieve it?

Allocative efficiency occurs when the production of goods and services aligns with consumer preferences, meaning the marginal benefit to consumers equals the marginal cost of production. In a monopoly, allocative efficiency is not achieved because the monopolist produces less than the efficient quantity. The marginal benefit to consumers exceeds the marginal cost, indicating that more of the good should be produced to meet consumer demand. This misalignment results in a deadweight loss and a loss of economic welfare.

How does a monopoly create deadweight loss?

A monopoly creates deadweight loss by producing less than the efficient quantity of a good. The monopolist restricts output to raise prices and maximize profits, leading to a quantity that is lower than what would be produced in a perfectly competitive market. This restriction results in some mutually beneficial trades not occurring, which is represented by the deadweight loss. On a graph, deadweight loss is the area between the demand and supply curves from the monopoly quantity to the efficient quantity, indicating the loss of total economic surplus.