Bilateral Monopoly

A NOTE ON BILATERAL MONOPOLY(Refer Graph) 1. If there are competition at all stages, the solution is Xc Pc. 2. A monopsonist buyer who is also a monopolist seller of the product using input X: The monopsony power shows up in his operating on the curve marginal to the supply curve Sc, because his decision to buy one more unit makes the price of inputs rise. The impact of the decision to buy one more unit of X is the sum of two components: one, the new higher price on the additional unit which he decided to purchase, and two, the new higher price on all the earlier units. This makes the MMC rise faster than the supply curve. The monopoly Power in the product market shows up in his operating on the MR. This gets reflected in the market for input X as MRP. So his (the monopsonist-monopolist’s) optimum is XB PB. ‘PB’ is the price as indicated by the supply curve Sc, for quantity XB. 3. Seller of ‘X’ is a monopolist, and the buyer of X is a monopolist in the product market whose input is X. If the buyer of X, chooses not to exercise monopsony power, then the monopolist seller of X recognises that the buyer operates on MRP, and so MRP becomes the D facing him. He being a monopolist himself, will operate on a curve marginal to D, that is MMRP. He equates this to MC (Sc) and sells a quantity XM at price PM to the buyer of X. But if the buyer succeeds in exercising his monoposony power, he will be able to bring the price down to PB. So the price will range between PM and PB depending on who is able to exercise the power. 4. If the two firms decide to maximize joint profits, by acting as one firm, they would equate MRP to MC and operate at OX*, but the price they would agree upon could be anywhere between H (where the buyer gets no profit because the price at H is equal to the AVP) and L (where the seller gets no profit because at L, the price will be equal to the MC). 5. If the two firms integrate and become one, then OX* is the quantity and this would be, ‘transferred’ at a price equal to MC, which in ‘L’. From the society’s point of view the solution in situation (5) is better than all except that in situation (1). Situation 3(XM PM) is the worst where the quantity is most restricted. This has happened because the monopolist seller of X has exercised his monopoly power on the buyer of X who exercises monopoly power in the product market (which uses input X). This is called pyramiding of monopolies. If such monopolies integrated vertically, it would result in greater efficiency because the integrated Monopoly would then operate at OX* and transfer price of ‘L’(like in situation 5). Four propositions emerge from the above: a) Vertical integration can break bilateral monopoly stalemates and increase output. ) That Pyramiding of monopolies restricts output and reduces overall profits. c) That vertically integrating these will increase efficiency and profits. d) That if a firm has a monopoly over an input, the firm’s monopoly power cannot be enhanced by vertical integration into other competitive stages. That is, if the buyers of input X had no monopoly power in the product market, then the monopolist seller would operate on MRP and not on MMRP, because the relevant Dc facing this seller would be D and he being a monopolist would operate on the curve marginal to Dc (which is MRP). Propositions (b) and (c) have come to be known as “Chicago” propositions on vertical integration because they were invoked in a vigorous criticism of U. S. legal precedents that inhibited mergers between firms with strong position in vertically integrated markets. Thus Vertical Integration doesn’t enhance monopoly power (as measured by increased output restriction) when pyramiding of monopolies exist or when the situation in proposition (d)exists. Galbraith’s theory of countervailing buyer power: If the monopsonist buyer can exercise buyer power in the input market but has no seller power in the product market, then the solution will be at the intersection of MMC or MFC and D which takes the solution close to the most desirable competitive solution. Further if the upstream firm exhibits constant returns to scale and has a MC which is horizontally straight, then the solution would be the same as that of a competitive solution at all stages. An explanatory note: The demand curve is the reflection of the MB-marginal benefit -to the buyer which is translated into the price he is willing to pay for different quantities. This is what the seller FACES and is price(AR) he earns if he sells those Qs. Similarly, the Supply curve is a reflection of the MC to the producer of the  factor which is translated into the price he is willing to sell the different Qs. This is what the buyer of the  factor FACES and is the price (or AExp or AFC) he has to pay depending on the Qs that he wishes to purchase. So MB of the buyer of the product becomes the AR of the seller of the product. MC of the seller /Mfrer of the FACTOR becomes the AE or the AFC of the buyer of the factor who is the manufacturer of the product.

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