The popular misunderstanding of the word “monopoly” (Part 2)
Reasons there may be a “single seller” in a market
There are a variety of reasons why there may be only one seller in a market at or over a given period of time. First of all, it may be because an entrepreneur has creatively developed a new or significantly different product, and as a result, he is the first and only supplier of this good on the market. After all, every new idea must begin in some individual’s mind and that person’s willingness to undertake the task of bringing it to market.
To the extent that he has correctly anticipated future consumer demand for this new or different product, the very profits that he may earn will attract the competitors who will enter his market and, over time, compete away the profits he has been earning by their devising ways to make similar versions of his new idea with more attractive features and offered at lower prices than the “monopolist” initially was charging.
If, on the other hand, this single seller has misjudged future market demand for his product and suffers losses, it would not be socially desirable for rivals to enter his market and waste more time and resources producing a loss-making product – unless, of course, if they see a way to make profitable that which the initial “monopolist” could not.
Second, there may be a single seller because the consumer demand is too limited to make it profitable for more than one seller to operate in that market. Imagine the small, rural town with one general store. The owner may be making a profitable go of it, but if a rival entered the area and opened a competing general store, the sales and revenues now divided between the two of them may not be enough to cover their respective costs of operations. The market is too limited to sustain more than one seller.
Third, there may be a single seller in a market due to their ownership or control of a vital resource or raw material without which a product cannot be successfully produced. This was a hypothetical possibility pointed out by Austrian economists Ludwig von Mises and Israel M. Kirzner.
The Dynamic Workings of Free Market Competition
However, if we look beyond the situation at a moment in time, we can see countervailing market forces that likely will be set in motion if there are potential profits to be made from selling this resource-specific product.
First, this situation would create incentives to prospect for and extract any possible alternative supplies of this resource outside the control of the “monopolist,” so competitors could enter this market at some point in the future.
Second, if this is a profitable product, there would be incentives for competitors to market substitutes to his product out of alternative types of resources and offer their substitute products at lower prices than the monopolist’s. Thus, over time, competitive market forces would either eliminate or weaken even a “monopoly” position of this type.
The Austrian-born economist Joseph A. Schumpeter argued that the essence of the dynamic market economy is the innovative entrepreneurs who introduce the new, better products as well as new methods of production. To understand what Schumpeter called the competitive process of “creative destruction,” it is necessary to look beyond any seemingly “monopoly” situation at a moment in time and take the longer historical perspective of the market.
Textbook conceptions of “perfect competition” and “monopoly” are of little relevance or help, therefore, for understanding how markets actually work. As Schumpeter explained it in Capitalism, Socialism and Democracy (1942):
“In dealing with capitalism we are dealing with an evolutionary process . . . that incessantly revolutionizes the economic structure from within, incessantly destroying the old one, incessantly creating a new one. This process of Creative Destruction is the essential fact about capitalism.
The fundamental impulse that sets and keeps the capitalist engine in motion comes from the new consumers’ goods, the new methods of production or transportation, the new markets, the new forms of industrial organization that capitalist enterprise creates.
In capitalist reality as distinguished from its textbook picture . . . The kind of competition which counts . . . [is] the competition from the new commodity, the new technology, the new source of supply, the new type of organization . . . The competition that commands a decisive cost or quality advantage . . .
It is hardly necessary to point out that competition of the kind we now have in mind acts not only when in being but also when it is merely an ever-present threat. It disciplines before it attacks. The businessman feels himself to be in a competitive situation even if he is alone in his field.”
Market Competition Is Best Understood as a Process Through Time
The market economy, to the extent that it has a noticeable degree of competitive freedom, is an arena of change, transformation, and creativity. But looking at the textbook diagram of a supposed monopoly situation easily misses all this by ignoring what preceded it or what may follow it.
Suppose you are shown a single frame of a motion picture, one that contains the image of a person hanging in midair just off the edge of a cliff. What conclusions are we to draw from this image? It all depends upon what preceded that frame and what follows it. Suppose that the person was cornered by an attacker who has thrown this unfortunate fellow off the cliff with the intention of killing him on the rocks below. But what if he saw his attacker coming, and this person chose to jump off the cliff to escape this aggressor, hoping to survive the fall by successfully landing in a river below and swimming to safety?
We do not know how to evaluate the situation captured in that single frame taken out of the motion picture. It all depends. And in the same way, we do not know how to evaluate a market situation of a single seller in the market unless we know the market processes before and after that diagram-depicted moment in time.
To show the relevance of taking this longer view of competitive and monopoly situations, we may draw upon an interesting article published on October 20, 2017, by economist Mark Perry on the website of the American Enterprise Institute. He compares the lists of Fortune 500 firms in 1955 with those six decades later in 2017.
Only 59 enterprises were on the list in both these years — less than 15 percent. Many of the companies on the 1955 Fortune 500 list were not only not on the 2017 list, but they no longer existed at all. Many of the companies on the list both of those years held different relative positions, with some higher and others lower in 2017 than in 1955. And a good number of companies on the 2017 list had not even existed sixty years earlier and therefore could not have been on the 1955 list.
Government Intervention as the Cause of Monopoly Problems
What, then, may be the cause behind a “monopoly” that may be considered as “anti-competitive” and “socially harmful?” This requires us to appreciate the role of the state in creating and perpetuating such a situation.
There may be a single seller in a market (or a small number of sellers) because of a legal privilege given by the government to be the only producer and/or seller of a good or service within a part or the whole of the geographical area over which the government has political authority. This is one of the oldest meanings of monopoly frequently used by economists since Adam Smith published The Wealth of Nations (1776).
In this case, the privileged monopolist may be in the position to limit supply and raise his price because he is protected from any direct market competition since the government has made it illegal for all others to compete in this market. This is the one case in which the “frozen picture” of the textbook monopoly diagram is most appropriate because market competition cannot change the “picture.” The government prevents any market process working over time from generating the competition that would likely emerge in a more open market.
However, it would be expected that potential competitors might still try to develop and offer various substitutes for the government-protected monopoly product to the extent they could do so without breaking the law. Also, it might still occur that illegal “black markets” might emerge if profits were sufficiently high to make it attractive to run the risk of being caught and imprisoned by the government.
In modern American history, it was the government that legally provided a monopoly position to AT&T in the provision of telephone services around the United States through most of the Twentieth Century. It was government regulation that limited market entry and controlled pricing and routes to a handful of passenger airline carriers from the mid-1930s to the end of the 1970s. It was government control of the airwaves that restricted radio and television broadcasting to a limited number of companies, again, until the late 1970s.
But once these government-created-and-protected monopoly or near-monopoly situations were abolished through legislative repeal, the markets for communication, travel, and information and entertainment exploded into the vibrant and diverse array of far more competitive providers and suppliers and offerings that we now happily take for granted.
Taking the market process long-view, the appearance of single sellers and seemingly “monopoly” or near-monopoly situations is easily shown to be limited moments in the wider horizon of dynamic and creative competition over time. As long as government secures and protects private property rights, enforces all contracts entered into voluntarily and through mutual agreement, and assures law and order under an impartial rule of law, “monopoly” as an economic or social problem is virtually non-existent. But introduce government intervention into the market system, and monopoly invariably becomes a social harm and an economic problem.
This article was first published by the Foundation for Economic Education (FEE).