Monopsony Power

Much more common than pure monopsony are markets with only a few firms competing among themselves as buyers, so that each firm has some monopsony power. For example, the major U.S. automobile manufacturers compete with one another as buyers of tires. Because each of them accounts for a large share of the tire market, each has some monopsony power in that market. General Motors, the largest, might be able to exert considerable monopsony power when contracting for supplies of tires (and other automotive parts).

In a competitive market, price and marginal value are equal, but a buyer with monopsony power can purchase the good at a price below marginal value. The extent to which price is marked down below marginal value depends on the elasticity of supply facing the buyer.15 If supply is very elastic (E5 is

Monopsony Power

FIGURE 10.15 Elastic Versus Inelastic Supply, and Monopsony Power. Monopsony power depends on the elasticity of supply. When supply is elastic, as in (a), marginal expenditure and average expenditure do not differ by much, so price is close to what it would be in a competitive market The opposite is true when supply is inelastic, as in (b).

15 The exact relationship (analogous to equation (10.1)) is given by (MV - P)/P == VEs. This follows because MV = ME and ME = A(PQ)/AQ = P + Q(AP/AQ).

large), the markdown will be small, and the buyer has little monopsony power. If supply is very inelastic, the markdown will be large/ and the buyer has considerable monopsony power. Figures 10.15a and 10.15b illustrate this.

Sources of Monopsony Power

What determines the degree of monopsony power in a market? Again, we can draw analogies with monopoly and monopoly power. We saw that monopoly power depends on three things: the elasticity of market demand, the number of sellers in the market, and how those sellers interact. Monopsony power depends on three similar things: the elasticity of market supply, the number of buyers in the market, and how those buyers interact.

First consider the elasticity of market supply. A monppsonist bene fits because it faces an upward-sloping supply curve, so that marginal expenditure exceeds average expenditure. The less elastic the supply curve, the greater is the difference between marginal expenditure and average expenditure, and the more monopsony power the buyer has. If only one buyer is in the market-a pure monopsonis-its monopsony power is completely determined by the elasticity of market supply. If supply is highly elastic, monopsony power is small, and there is little gain in being the only buyer.

Most markets have more than one buyer, and the number of buyers is an important determinant of monopsony power. When the number of buyers is very large, no single buyer can have much influence over price. Thus,each buyer faces an extremely elastic supply curve, and the market is almost completely competitive. The potential for monopsony power arises when the number of buyers is limited.

Finally, monopsony power is determined by the interaction among buyers. Suppose three or four buyers are in the market. If those buyers compete aggressively, they will bid up the price close to their marginal value of the product, and thus they will have little monopsony power. On the other hand, if those buyers compete less aggressively, or even collude, prices will not be bid up very much, and the buyers' degree of monopsony power might be nearly as high as if there were only one buyer.

So as with monopoly power, there is no simple way to predict how much monopsony power buyers will have in a market. We can count the number of buyers, and we can often estimate the elasticity of supply, but that is not enough. Monopsony power also depends on the interaction among buyers, which can be more difficult to ascertain.

The Social Costs of Monopsony Power

Because monopsony power results in lower prices and lower quantities purchased, we would expect it to make the buyer better off and sellers worse off. But suppose we value the welfare of buyers and sellers equally. How is aggregate welfare affected by monopsony power?

We can find out by comparing the consumer and producer surplus that results from a competitive market to the surplus that results when a monop-sonist is the sole buyer. Figure 10.16 shows the average and marginal expenditure curves and marginal value curve for the monopsonist. The monop-sonist's net benefit is maximized by purchasing a quantity Q m at a price Pm such that marginal value equals marginal expenditure. In a competitive market, price equals marginal value, so the competitive price and quantity, Pc and Qc, are found where the average expenditure and marginal value curves intersect. Now let's see how surplus changes if we move from the competitive price and quantity, Pc, and Qc, to the monopsony price and quantity, Pm and Qm.

With monopsony, the price is lower, and less is sold. Because of the lower price, sellers lose an amount of surplus given by rectangle A. In addition, sellers lose the surplus given by triangle C because of the reduced sales. The total loss of producer (seller) surplus is therefore A + C. The buyer gains the surplus given by rectangle A by buying at a lower price. However, the buyer buys less, Qm instead of Qc, and so loses the surplus given by triangle B. The total gain in surplus to the buyer is therefore A - B. Altogether, there is a net loss of surplus given by B + C. This is the deadweight loss from monopsony power. Even if the monopsonist's gains were taxed away and redistributed to the producers, there would be an inefficiency because output would be

Monopsony Power

FIGURE 10.16 Deadweight Loss from Monopsony Power. The shaded rectangle and triangles show changes in consumer and producer surplus when moving from competitive price and quantity, Pc and Qc, to monopsonist's price and quantity, Pm and Qm. Because both price and quantity are lower, there is an increase in buyer (consumer) surplus given by A-B. Producer surplus falls by A + C, so there is a deadweight loss given by triangles B and C.

lower than under competition. The deadweight loss is the social cost of this inefficiency.

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  • Jesse
    How to derive monopsony at MV = ME?
    3 years ago
  • Kathrin
    How to figure marginal revenue in monopsonist?
    1 year ago

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