THE DEADWEIGHT LOSS
We begin by considering what the monopoly firm would do if it were run by a
benevolent social planner. The social planner cares not only about the profit
earned by the firm’s owners but also about the benefits received by the firm’s consumers.
The planner tries to maximize total surplus, which equals producer surplus
(profit) plus consumer surplus. Keep in mind that total surplus equals the
value of the good to consumers minus the costs of making the good incurred by
the monopoly producer.
Figure 15-7 analyzes what level of output a benevolent social planner would
choose. The demand curve reflects the value of the good to consumers, as measured
by their willingness to pay for it. The marginal-cost curve reflects the costs
of the monopolist. Thus, the socially efficient quantity is found where the demand curve
and the marginal-cost curve intersect. Below this quantity, the value to consumers exceeds
the marginal cost of providing the good, so increasing output would raise total
surplus. Above this quantity, the marginal cost exceeds the value to consumers,
so decreasing output would raise total surplus.
If the social planner were running the monopoly, the firm could achieve this efficient
outcome by charging the price found at the intersection of the demand and
marginal-cost curves. Thus, like a competitive firm and unlike a profit-maximizing
monopoly, a social planner would charge a price equal to marginal cost. Because
this price would give consumers an accurate signal about the cost of producing the
good, consumers would buy the efficient quantity.
We can evaluate the welfare effects of monopoly by comparing the level of
output that the monopolist chooses to the level of output that a social planner
0 Quantity
Price
Demand
(value to buyers)
Efficient
quantity
Marginal cost
Value to buyers
is greater than
cost to seller.
Value to buyers
is less than
cost to seller.
Cost
to
monopolist
Cost
to
monopolist
Value
to
buyers
Value
to
buyers
Figure 15-7
THE EFFICIENT LEVEL OF
OUTPUT. A benevolent social
planner who wanted to maximize
total surplus in the market would
choose the level of output where
the demand curve and marginalcost
curve intersect. Below this
level, the value of the good to the
marginal buyer (as reflected in
the demand curve) exceeds the
marginal cost of making the
good. Above this level, the value
to the marginal buyer is le