What is a monopoly?
A monopoly is a market structure where a single firm is the sole supplier of a good or service. Levels of competition in a marketplace exist on a spectrum, and monopolies can be contrasted with duopolies (2 firms control the market), oligopolies (a few firms have a significant influence on the market), and cartels (several firms agree to fix prices above what they would normally be). For simplicity’s sake, I will treat all these examples of uncompetitive markets as monopolies. Monopolies can arise in various ways, such as:
- Natural monopoly: A market structure where the most efficient scale of production is achieved by a single firm, making it economically infeasible for additional firms to enter the market.
- Legal monopoly: A monopoly created by government intervention, such as the grant of a patent or a utility company designated by the government to provide essential services.
- Innovation: A monopoly on a brand-new product or technology that a company developed.
Monopoly vs monopoly power
A monopolist does not necessarily have monopoly power. Just because a single company is producing all of a particular good or service does not mean they have the ability to manipulate the market. In fact, monopoly power and a competitive market are generally considered to be conflicting concepts. In a perfectly competitive market, many companies are capable of offering similar products or services, and no single company can control prices or restrict output.
Even if a monopoly does arise in a free market, there is an incentive to keep prices low and product quality high. If the monopolist were to use their power to start gouging prices, rival entrepreneurs would start companies to compete with that monopolist, or consumers would find alternatives to the monopolist’s product. A simple thought experiment can illustrate this point.
Suppose a company had a monopoly on beef production in the United States. What would happen if they decided to arbitrarily double the price of beef or restrict production to the same end? In a free market, nothing would stop entrepreneurs from starting farms and undercutting the monopolist. Prices would soon return to pre-monopoly levels or lower as market competition picked up. The monopolist would be forced to lower their prices or go bankrupt as competing firms took away their customers.
Additionally, consumers would find alternate foods to replace beef until the price dropped. Chicken, pork, and fish producers would get an unexpected windfall as consumers reacted to the extreme beef prices and switched their meat preferences. Some consumers may even go vegetarian out of necessity. Prices in those markets would also increase until the market reached a new equilibrium.
In reality, many markets exist somewhere between perfect competition and monopoly, and there are situations where companies can have some degree of monopoly power. For example, a company may have a patent on a unique product, which gives it the exclusive right to sell that product and temporarily limits competition. This is an excellent example of a government-enforced monopoly.
Another example is a natural monopoly, where the structure of a market makes it economically efficient for a single dominant firm. This is often the case in businesses that require massive capital or infrastructures to enter the market, such as a utility company providing electricity or telecommunications to a specific geographic area. In the instance of a natural monopoly, prices may actually be lower than if there were competing firms, as economies of scale allow a single company to operate more efficiently than multiple competing companies.
The myth of predatory pricing
Proponents of anti-trust laws often use the example of predatory pricing to argue for the breakup of large companies. Predatory pricing is a purely hypothetical situation in which a monopolist lowers prices so much that competing firms are forced to declare bankruptcy. The monopolist is then free to raise prices as they wish and rake in profits.
The problem with predatory pricing is that it is an incredibly hazardous business practice. If a company were to lower its prices to the point that competing companies went out of business, chances are the monopolist would also be losing money. If the market were truly free, once that company achieved a monopoly and raised its prices again, new competition would immediately form to take business away from the monopolist.
Additionally, “predatory” prices would be a good thing from the point of the consumer. More people would have access to the good or service that is being sold at such a low price.
Conclusion
It is difficult to think of a scenario where monopoly power could arise naturally in a free market. Most monopolies are due to government privileges that allow companies to manipulate the market. Once government protections are removed, competition ramps up, and the market inevitably becomes more efficient.
I am currently reading Basic Economics by Thomas Sowell, and I drew heavily from his arguments in this essay. His and Dr. Bylund’s ideas make a lot of sense to me, but just doing a google search of “monopolies in the United States” brings up a whole slew of articles claiming current monopolies like Google and Microsoft are jacking up prices for consumers. Is there some merit to these articles? Or are they mistaken? What are some examples of monopolies, government-enforced or otherwise, affecting prices in the United States?
Sowell, T. (2015). Basic economics. Basic Books.
Image from reddit