Select your language

Suggested languages for you:
Log In Start studying!
StudySmarter - The all-in-one study app.
4.8 • +11k Ratings
More than 3 Million Downloads
Free
|
|

All-in-one learning app

  • Flashcards
  • NotesNotes
  • ExplanationsExplanations
  • Study Planner
  • Textbook solutions
Start studying

Monopsonistic Markets

Save Save
Print Print
Edit Edit
Sign up to use all features for free. Sign up now
Monopsonistic Markets

Are there many job opportunities available in your region or state? Have you ever been to a town that only had one single employer? Many small towns are centered around one factory that employs the people of the town. . Would you like to live in this town? What if you didn't like working for that company or didn't think wages were high enough? What other options would you have? None! What do you think will happen in this situation? We call this kind of market monopsony or monopsonistic market. Read to find out what are

Monopsony and Monopsonistic Markets: Definition

First, let's address monopsony as a market structure, and then expand the idea to monopsonistic competition.

Monopsony

A monopsony is a market where only one firm buys a factor of production. This means that if the firm decides not to buy that factor of production, there will be no buyers. This gives the firm, the monopsonist, a high level of control over the price of that factor of production.

A monopsony is a factor market where there is only one buyer for the factor of production.

Now that you know the definition of a monopsony, let's explain what factors of production are and why the firm buys it in the first place. Factors of production are the resources used by firms in production. They are the inputs required to make goods and services.

Factors of production are the resources used by firms in production.

The factors of production are:

  • land
  • capital
  • labor
  • entrepreneurship

From the above, we can see why firms need the factors of production. Note that firms are the buyers in factor markets. To get these factors of production, firms need to buy them from the households who own them. Households are the suppliers in factor markets, which are markets for the factors of production.

Figure 1 shows the relationship between firms and households in the circular flow diagram.

Monopsonistic markets Circular flow diagram StudySmarterFigure 1. Circular flow diagram, StudySmarter Original

Monopsonistic Competition

While a monopsony is a factor market where only one firm buys a factor of production, monopsonistic competition is characterized by several small firms that buy similar but unidentical factors.

Monopsonistic competition is a market structure where there is a small number of small buyers that are buying similar but unidentical factors of production.

These small firms tend to have a lot of freedom when it comes to entering and leaving the market. They also have a significant amount of knowledge of prices and technology.

While monopsony can be considered a direct opposite of perfect competition, in which the firms have no control over factor prices, monopsonistic competition can be considered a blend of monopsony and perfect competition, as the firms have some control over prices.

Each small firm in monopsonistic competition has its own monopsony since the factor it buys is similar but not identical to others. This could be a geographic monopsony, where there is only one buyer in the local factor market.

Monopsony Characteristics

You should be able to identify a monopsony by looking out for certain key conditions. Let's help you do this.

A monopsony has three main characteristics:

  1. There is a firm that is a buyer for this factor of production.
  2. There are no alternative buyers for that factor of production in the market.
  3. The entry of other firms into the market is restricted.

Let's explain this some more using the following example.

Consider a small town where there is only one coffee processing firm. This coffee processing firm owns large farmlands and plants its own coffee. To operate the business, it employs people from the same small town. Since there are no other coffee processing firms in the town, only this firm employs people who can process coffee.

From the above example, let's check each characteristic to determine whether it is a monopsony.

  1. This firm employs people who can process coffee.
  2. There are no other companies employing people who can process coffee.
  3. The firm owns large farmlands and plants its own coffee. A new company will have to start from scratch while competing with the already established company, making this a restriction to the entry of a new company.

As we can see, the example satisfies all the three characteristics of a monopsony.

A monopsony is a factor market where only one firm buys a factor.

Characteristics of Monopsonistic Competition Market Structure

Now, let's help you identify monopsonistic competition. There are four main characteristics you should take note of:

  1. There are several small firms.
  2. The small firms buy similar but not identical factors.
  3. The firms know a lot about prices and technology, but they do not know all about them.
  4. The firms can leave and enter the market relatively easily. There are weaker barriers to entry.

One way to think of monopsonistic competition is a small town with two or three big employers. Thus, the workers have a few options. The firms cannot keep their wages too low or they will lose their employees to the other firms. However, the wage rate will still be lower than if there had been an unlimited supply of employment opportunities.

Graph of Monopsonistic Competition

How does a profit-maximizing firm in a monopsonistic factor market decide how much of the resource to demand at each given price? The firm's demand curve is the quantity that the firm would like to purchase for any given price. We can generally expect that the firm operates in the range where each additional unit provides a benefit--it increases the total revenue that the firm receives.

All else being equal, an increase in revenue is an increase in profit, and we will address costs later on. Just as the demand curve in a goods market reflects the marginal benefit of the next consumer, the monopsonistic firm's demand curve (D) for a resource is the marginal increase in revenue from using an additional unit of that resource. This is called the marginal revenue product (MRP).

In monopsony, D = MRP

Let's consider a local labor market with very few employers. The firm's marginal revenue from hiring additional workers is called the marginal revenue product of labor (MRPL). This is the firm's demand curve. For a given wage rate, the firm would like to hire workers as long as the marginal worker has a non-negative effect on profit.

Now, notice that the firm in this monopsonistic labor market faces an upward sloping supply curve given by the market. As the firm's wage rate increases, more people are willing to leave one of the other companies and seek jobs from this company. As the wage rate decreases, people are incentivized to quit and go work at one of the other companies.

Also, notice that the firm must offer one wage rate for all of its employees. If the firm is struggling to hire new workers and must increase its wage rate, it must do so for all employees. The wage increase for existing labor is necessary because the existing employees will want their wage rate to match that of any new employee. Otherwise, they have an incentive to quit their job and get rehired! So the firm ends up having to give everybody a raise!

Since the firm has paid the existing supply price of labor and now has to give everybody a raise in order to hire an additional employee, the firm spends more in hiring the new employee than the wage paid to that one employee--that is, the firm pays more than the supply price of labor.

This means that the marginal factor cost to the firm of hiring an additional worker is higher than the labor supply curve.

The marginal factor cost is the cost of purchasing one more unit of the factor, such as hiring one additional worker.

Consider the graph in Figure 3. This is a firm in a monopsonistic labor market. Labor supply is given by the market. It is the supply curve faced by this individual firm. When the firm is employing Qm workers at wage Wm, we are on the labor supply curve. This means that Qm is precisely the number of workers willing to work for Wm, and the next marginal hiree would require a higher wage rate.

monopsonistic competition labor marketFigure 2. Monopsony labor market, StudySmarter Original

The firm can hire additional workers at wage rate Wc, and we can see that there are in fact Qc workers who will be incentivized to work at that rate. However, the marginal cost to the firm is not just Wc for the new workers but also includes Wc - Wm for all of the existing workers! Thus, we see that the marginal factor cost curve (MFC) for the firm is increasingly higher than the labor supply curve (S), which reflects the marginal cost of the new labor alone.

The profit maximizing firm hires labor up to the point where MC = MB. Specifically, this is where the firm's marginal revenue product of the new labor equals the marginal cost of that new labor combined with the wage increase for all existing labor. This is the intersection of MFC and D. The profit-maximizing behavior of the firm in a monopsony is to make sure the marginal factor cost equals the firm's demand (D). It is equivalent to say that the firm makes sure the marginal factor cost (MFC) of labor equals the marginal revenue product of labor (MRPL).

In monopsony, profit maximization means setting D = MFC or MFC = MRPL.

In equilibrium, the firm ends up employing fewer workers (Qm instead of Qc) and paying a lower wage (Wm instead of Wc) than it normally would have done if the factor market had been perfectly competitive. The firm ends up at point Y instead of point X. This is an inefficient outcome relative to perfect competition.

Advantages and Disadvantages of Monopsonistic Competition

While monopsonistic competition mostly benefits the firms in such a market, the suppliers (households) in the same market bear some unwanted conditions. Let's look at the advantages and disadvantages of monopsonistic competition.

First, the social advantages of monopsonistic competition:

  • The firms exercise higher control over factor prices and factor demand
  • The firms are able to drive down factor prices to reduce their production costs
  • The firms gain larger profits due to the ability to drive down factor prices
  • Weaker barriers to entry

Economists refer to the second bullet point above as monopsonistic discrimination.

Monopsonistic discrimination is when a monopsonist or monopsonistic firm sets a factor price that is below the market factor price.

Now, the social disadvantages of monopsonistic competition:

  • Households have no choice but to sell to the only firm willing and able to buy their factors of production
  • Workers face significantly lower wages in a monopsonistic market

Notice how all the advantages are for the firms and households only get disadvantages? That is because the firms, which are the buyers, are more powerful in monopsonistic competition!

Monopsonistic Markets and Monopsony Examples

One example of a monopsony market is the coal mining towns that used to exist in the U.S. when the coal mining industry was flourishing. A coal town was created around each coal plant, and the coal plant was the only employer around. These towns were known for also having a company store where the employees could buy goods and services. However, because the company was a monopsonist in the labor market and a monopolist in the goods and services market, it could keep wages down and goods prices high, and these situations were disastrous for the employees caught up in them.

Another more modern example of monopsony is a small town with an Amazon warehouse. If Amazon is the only employer in the town, it is a monopsonist in the labor market.

Let's end this article with a scenario involving companies you may already know. Google and Apple! Consider the following example of monopsonistic competition.

Apple and Google are very large employers of people with very specific technical skillsets. If they are essentially the only companies hiring people with these skills, then they are in monopsonistic competition only with each other. If they were to enter a non-compete agreement with each other for the labor market, they could control workers' salaries without fear of losing their workers to higher-paying companies! Fortunately, there are other smaller technology firms springing up all the time to help put some upward pressure on these salaries.

Well done! You made it to the end of this article and you now know how companies can have an unfair advantage over workers in a monopsony. Read our article on the Imperfectly Competitive Labor Market to understand what really goes in in a monopsony. We have some interesting graphs over there!

Monopsonistic Markets - Key Takeaways

  • A monopsony is a market structure with one big buyer of a factor of production.
  • In monopsonistic competition, there are several small buyers of similar but unidentical factors of production.
  • Monopsony power and monopsonistic competition benefit the firms buying the factor of production and disadvantage the households selling their factors of production to a very limited number of buyers.
  • Monopsonistic discrimination is when a monopsonistic firm sets a factor price below the market factor price.

Frequently Asked Questions about Monopsonistic Markets

A monopsony is a market where there is only one buyer, typically in the market for a factor of production.

Monopsonistic discrimination is when a monopsonistic firm sets a factor price below the market factor price.

Broadly speaking, the word "monopsony" means one buyer. Here, it refers to a market for a resource (factor of production) where there is only one firm as a buyer in the market.

There is a firm that is a buyer for this factor of production. There are no alternative buyers for that factor of production in the market. The entry of other firms into the market is restricted.

The single buyer controls the market and can drive down the price of that factor of production. This is an advantage to the firm, but it is a disadvantage to the households.

A modern example of monopsony is a small town with an Amazon warehouse. If Amazon is the only employer in the town, it is a monopsonist in the labor market.

Yes, a monopsony has a demand curve given by the marginal revenue productivity of the factor. 

Final Monopsonistic Markets Quiz

Question

What is a monopsony?

Show answer

Answer

A monopsony is a factor market where there is only one buyer of the factor of production. 

Show question

Question

What are factors of production?

Show answer

Answer

Factors of production are the resources used by firms in production. They include land, capital, labor, and entrepreneurship.

Show question

Question

There are multiple buyers in a monopsony.

Show answer

Answer

False

Show question

Question

Both monopsony and monopsonistic competition have a single buyer.

Show answer

Answer

False

Show question

Question

What is monopsonistic competition?

Show answer

Answer

Monopsonistic competition is a market where there are several small buyers buying similar but unidentical factors.

Show question

Question

Monopsonistic competition is not the same as a monopsony.

Show answer

Answer

True

Show question

Question

The households or suppliers have the upper hand in a monopsonistic competition.

Show answer

Answer

False

Show question

Question

Households cannot choose who they sell their factors to in a monopsony.

Show answer

Answer

True

Show question

Question

All the disadvantages in monopsonistic competition go against households.

Show answer

Answer

True

Show question

Question

One of these is a characteristic of monopsonistic competition.

Show answer

Answer

Several small firms

Show question

Question

In monopsonistic competition, the factors are similar but not ___?

Show answer

Answer

identical

Show question

Question

The firm in a monopsony significantly controls the price of a factor.

Show answer

Answer

True

Show question

Question

What is monopsonistic discrimination?

Show answer

Answer

Monopsonistic discrimination is when a monopsonistic firm sets a factor price below the market factor price.

Show question

Question

The factors of production include land, labor, capital, and ___ ?

Show answer

Answer

entrepreneurship

Show question

Question

Workers face significantly lower wages in a monopsonistic market.

Show answer

Answer

True

Show question

Question

A market where only one firm buys a factor of production.

Show answer

Answer

monopsony

Show question

Question

In a monopsony, if the firm does not buy a factor of production, then

Show answer

Answer

no one will buy it

Show question

Question

The resources used by firms in production.


Show answer

Answer

factors of production

Show question

Question

Which of the following is NOT a factor of production

Show answer

Answer

none of the above

Show question

Question

_______ are the suppliers of factors of production.

Show answer

Answer

households

Show question

Question

A market structure where there is a small number of small buyers that are buying similar but unidentical factors of production.


Show answer

Answer

monopsonistic competition 

Show question

Question

Which of the following is not a characteristic of monopsony?

Show answer

Answer

none of the above

Show question

Question

There is only one grocery store in a small town that employs the entire town. This is an example of:

Show answer

Answer

a monopsony

Show question

Question

There is only one grocery store in a small town that sells its products to the entire town. This is an example of:

Show answer

Answer

a monopoly

Show question

Question

There is a small town with 3 grocery stores that employ the entire town. This is an example of:

Show answer

Answer

monopsonistic competition

Show question

Question

In a monopsony, marginal revenue product equals:

Show answer

Answer

demand

Show question

Question

The marginal factor cost to the firm of hiring an additional worker is _____ than the labor supply curve


Show answer

Answer

higher

Show question

Question

True or False: There are no disadvantages to a monopsony

Show answer

Answer

False

Show question

Question

True or False: Weaker barriers to entry are a social benefit of a monopsonistic market.

Show answer

Answer

True

Show question

Question

True or False: Workers face lower wages in a monopsonistic market.

Show answer

Answer

True

Show question

Question

True or False: Monopsonistic discrimination is when a monopsonistic firm sets a factor price below the market factor price.

Show answer

Answer

True

Show question

Question

True or False: In a monopsony, there are several small buyers of similar but unidentical factors of production.

Show answer

Answer

False

Show question

Question

True or False: Monopsony power and monopsonistic competition benefit the firms buying the factor of production and disadvantage the households selling their factors of production to a very limited number of buyers.

Show answer

Answer

True

Show question

60%

of the users don't pass the Monopsonistic Markets quiz! Will you pass the quiz?

Start Quiz

Discover the right content for your subjects

No need to cheat if you have everything you need to succeed! Packed into one app!

Study Plan

Be perfectly prepared on time with an individual plan.

Quizzes

Test your knowledge with gamified quizzes.

Flashcards

Create and find flashcards in record time.

Notes

Create beautiful notes faster than ever before.

Study Sets

Have all your study materials in one place.

Documents

Upload unlimited documents and save them online.

Study Analytics

Identify your study strength and weaknesses.

Weekly Goals

Set individual study goals and earn points reaching them.

Smart Reminders

Stop procrastinating with our study reminders.

Rewards

Earn points, unlock badges and level up while studying.

Magic Marker

Create flashcards in notes completely automatically.

Smart Formatting

Create the most beautiful study materials using our templates.

Sign up to highlight and take notes. It’s 100% free.