Monday, January 5, 2009
Posted by D. Daniel Sokol
Jun Chen and Zhiqi Chen (both of Department of Economics, Carleton University) write on The Quiet Life of a Monopolist: The Efficiency Losses of Monopoly Reconsidered.
ABSTRACT: In this paper we study the efficiency losses of monopoly by analyzing a model where a firm's total costs of production decrease with the manager's effort to control costs. We consider two separate cases with regard to ownership and control: (1) the owner of the firm manages the firm himself; and (2) the owner hires a manager to operate the firm. We demonstrate that even in the case where the owner manages the firm, the level of effort exerted by the owner-manager of a monopoly is not first-best. Interestingly, the productive inefficiency of monopoly in this case may be caused by too much rather than too little effort. In such a situation, moreover, the separation of ownership and control can mitigate the productive inefficiency of monopoly, thus raising the intriguing possibility that managerial slack can actually improve the efficiency of monopoly equilibrium. To phrase our results in Hicks'(1935) terminology, a monopolist does not necessarily live a quiet life, and a quiet life is not necessarily a bad thing from the perspective of economic efficiency.