[MUSIC] I'd like to present the model of a natural monopoly. A natural monopoly is a situation where we'd naturally only want one firm. Because one firm can provide the good at a lower cost than two firms would be able to provide. Good examples may be utilities where we want to have one transportation system. Or a water system, where we really only want to have one company providing us with water, to each of the households. Or maybe an electric supplier, where we only want to have one set of wires coming to each of our homes, supplying electricity. Let's think what this implies about the cost curves. Here is an example of a typical natural monopoly average total cost curve. And we can see that the average total cost is falling for a very large region. What this means is that it's cheaper to have one firm produce the good than to divide the firm into two. Let's work through a numeric example. So suppose we had two firms and each of the firms were producing 10 units. We can read off the average total cost curve and we can see that the average cost per unit is $10. So if we have two firms and each is producing 10 units, we have 2 times 10 units, times the average total cost of 100, or we get a total cost of $2000 to produce 20 units. Now suppose we combined this firm, these two firms into one, so that now, what would we have? We would have one firm, and that one firm would, instead of producing 10 units, it would be producing 20 units. We can read off the average total cost curve, and we can see that the average cost of production is less than 100. Maybe it is $80 per unit. So what is the total cost of production? We now only have one firm. This 1 firm is producing 20 units, each of these units cost $80 to produce, and so the total cost is $1,600. Now notice that in both options, we're producing 20 units. It's just a question of how we're producing these 20 units and clearly we can see that option two is better. Because option two allows us to produce the same quantity at a lower cost. So, this is an example of a natural monopoly because bigger is better. A bigger firm is producing at a lower average cost.