Monopoly. A monopoly is a single seller (or the most dominant firm with at least 25% market share), is a price-maker, a profit maximizer and has significant entry/exit barriers.
A monopoly maximizes profit at , sets a price P*, produces Q* and makes super-normal profit because AR > AC.
⦁ Allocatively Inefficient. Monopolies are allocatively inefficient because they earn super-normal profit by restricting output to raise price. As they do not produce what consumers want or the desired quantities.
⦁ Productively Inefficient. Monopolies are productively inefficient because they do not produce at the lowest point on their AC curve.
⦁ Pareto Inefficient. Monopolies are Pareto inefficient because they cause a welfare loss. Market failure happens because the price mechanism breaks down and resources are allocated by the monopoly and not free markets. The monopoly restricts output to raise price and maximize profit. Because the monopoly only produces Q* and not Q’ there is lost consumer surplus and lost producer surplus, a welfare loss, and society loses out.
⦁ X-Inefficient. Monopolies could be X-inefficient. A monopoly in an uncompetitive and incontestable market has no current or potential threat to its market power and super-normal profit. Workers and managers will put in less effort at work because they know the monopoly will not go bankrupt if they do not minimize costs since profits are high. So the monopoly may be disincentivized to minimize costs, will use its technology inefficiently, squander resources, let costs spiral upwards and become X-inefficient.
⦁ Dynamic Efficiency. Monopolies may be dynamically efficient, that is, invest in Research and Development (R&D), innovate and produce new and better products/technologies for consumers. A monopoly does this to stay ahead of any potential competition. Consumers and society benefit because new and better quality goods are invented. Microsoft devotes a lot of resources to R&D to produce new and better quality products/technologies for example, Windows 7. Similarly, Apple innovated to develop the iPod.