A monopoly exists when an industry contains only a single firm. If a firm can drive out competitors because its costs of production are lower, it enjoys a natural monopoly. Not all monopolies, however, are natural. Governments often award monopoly privileges. Cities grant exclusive franchises to firms providing cable television. The Federal government confers patents that give inventors a monopoly for a period of years. And even without government aid, a firm may possess monopoly power owing to entry barriers – for example, if banks believe that financing a new competitor in the industry would be too risky.

In perfect competition, as studied in Chapter 7, the number of firms is large enough to make product price substantially independent of any single firm's level of output. Each competitive firm is a “price-taker.” But a monopolist, facing the entire industry demand curve, must take account of its own influence upon price: it is a “price-maker.” Geometrically, a competitive firm faces a horizontal demand curve, whereas a monopolist faces a downward-sloping demand curve.

Actually, the number of firms is economically significant only as a clue to behavior. By forming a cartel, as will be seen later in the chapter, a number of firms can sometimes get together and behave like a collective monopolist. On the other hand, even if only a single firm is active in the industry, such a firm may be unable to exploit its market as a monopolist if outside potential competitors stand ready to enter.