Monopolies

Fact: Most big businesses are not monopolies and not all monopolies are big business. Take cranberry juice. How do we know that the price being charged is not far above their costs of production? We don’t. We actually have no idea of how much it costs to produce a bottle or can of cranberry juice. Competition makes it unnecessary for us to know. If the price of apple juice is higher than necessary to compensate for the costs incurred in producing it, the result is a high rate of profit. Only, this is never done in a vacuum. Word gets out that there is a lot of money to be made in cranberry juice. This automatically attracts more investment into the cranberry juice industry creating more competition. Eventually, these additional competitors will drive prices down to a level that compensates the costs with the same average rate of return on similar investment available elsewhere. When that happens, the in-flow of investments from other sectors of the economy stop. The incentive of a high rate of profit has evaporated and it doesn’t make sense to these investors to put any more money into it. They will now put there money in other high rate of profit opportunities until those, too come back to reality Let’s say there was a monopoly in the production of cranberry juice. One company had all the cranberries. The entire process would not take place. What adversely affects the total wealth in the economy as a whole is the effect of a monopoly on the allocation of scarce resources which have alternative uses. When a monopoly charges a higher price than it could charge if it had competition, consumers tend to buy less of the product than they would at a lower competitive price. In short, a monopolist produces less output than a competitive industry would produce with the same available resources, technology and cost conditions. The monopolist stops short at a point where consumers are still willing to pay enough to cover the cost of production (including a normal profit) of more output because the monopolist is charging more than the usual profit. Monopolies result in the economy’s resources being used inefficiently, because these resources would be transferred from more valued uses to less valued uses. Similar principles apply to a cartel – that is, a group of businesses, which agree among themselves to charge higher prices or otherwise avoid competing with one another. In practice, individual members of the cartel tend to cheat on one another secretly – lowering the cartel price to some customers in order to take business away from other members of the cartel. When this becomes widespread, the cartel becomes irrelevant. (OPEC is a perfect example.) Because cartels were once known as “trusts”, legislation designed to outlaw monopolies and cartels became known as “anti-trust” laws. Hence the Sherman Anti-Trust Act of 1890. Where a monopoly or cartel maintains prices that produce higher than normal profits, other businesses are attracted to the industry. This additional competition then tends to force prices and profits down. (No different than the cranberry juice producers.) When railroads were first built in the 19th Century, the Interstate Commerce Commission had to be created to regulate them. The same was true for the Federal Communications Commission regarding the telephone companies. The intent was to have a regulatory commission set prices where they would have been if there were a competitive marketplace. The reality of the situation is that there is no way to know what those prices would be. Only the actual functioning of a market itself could reveal such prices, resulting in the less efficient firms being eliminated by bankruptcy and only the most efficient surviving. The most that a regulatory agency can do is accept what appear to be reasonable production costs and allow the monopoly to make what seems to be a reasonable profit over and above such costs.