Monopoly and Product Selection

It is well known that if a monopolist serving a market of substitute products can perfectly price discriminate, the socially optimal set of products (or ‘characteristics’) will be supplied. This follows since the profits of the perfectly discriminating monopolist are equal to the consumers’ surplus. Thus the monopolist will provide the product selection that maximizes consumers’ surplus [see White (1977) Stewart (1979), Guasch and Sobel(1979)]. When the monopolist does not have the ability to discriminate, the presumption has been that fewer than the socially optimal number of products will be offered [see Lancaster (1975) Leland (1977) ‘I. The idea is that in the absence of discrimination the monopolist is concerned not only with the profitability of each additional product, but also with the effects a new product has on the profitability of the old ones. Since the introduction of a new product does not directly reduce the surplus generated by existing products, but may reduce the profitability of those products, it is tempting to conclude that the monopolist will provide fewer than the socially optimal number of goods. In fact, Lancaster (1975, p. 584) states the following theorem: ‘Under increasing returns to scale, monopoly control of a market sector will lead to a lesser degree of product differentiation over that sector than is socially optimal’. We claim that this need not be the case. In an earlier work, Guasch and Sobel(l979), we showed that it is possible for a profit maximizing monopolist to provide a strictly larger set of products than is socially optimal. However, that paper assumed a constant returns to scale technology. The purpose of this note is to show that even with fixed costs, i.e., increasing returns to scale, the monopolist may provide a larger number of products than is (including the) socially optimal.