Table of Contents
What is a monopoly?
The word monopoly is derived from two words, Mono and Poly. Mono stands for single while Poly stands for the seller. Joining the two words means the single seller. In this situation, only one firm or a group of firms that are combined has control over the supply of the product. This implies the existence of only one seller of a commodity with barriers to entry of others. The product has no close substitutes. Here, the cross elasticity of demand with regard to every other product is very low.
Monopoly in its real context refers to a dominant position of an industry, that is a sector that is controlled by a single entity to a point of eliminating or excluding every other viable competitor. That is a single entity is in charge of the industry with the absence of any form of rivalry. In other words, no competitor can break into the market because of the fact that a single company is in control of the industry.
Also, they can concentrate wealth, power, and influence in the hands of a single or few individuals. On the other hand, the government can enforce and encourage monopolies of certain essential services such as utilities for certain reasons. A monopoly can as well develop naturally. Also, a company can gain or maintain a monopoly power or position through unfair practices that suppress competition thereby denying consumers of their choice. In other words, when a company dominates a business sector or an industry, it can use that monopoly power to its own advantage at the expense of its consumers.
Monopoly in economics
A monopoly is a market structure in which an individual or a group of individuals acting as a unit have control over the total output or the supply of goods and services without any close substitute. In other words, the term refers to a dominant position of an industry, that is a sector that is controlled by a single entity to a point of eliminating or excluding every other viable competitor. That is, a single company dominates the industry. In free-market economies, monopolies are usually discouraged. These economies see this market situation as a factor that leads to price gouging and deteriorating quality as a result of a lack of alternative choices for consumers.
Monopoly in business
In business, a monopoly refers to a company that dominates the entire sector or industry. This implies that it is in full control of the majority of the market share of its goods and services. This company has little or no competitors and its competitors do not have real substitutes for the goods and services that this dominant business provides.
A monopolist is a single or the only producer/seller of a particular commodity in the market. In reality, pure monopolies are non-existent because there are hardly any goods or services that do not have substitutes.
The monopoly market
This market structure is basically characterized by the absence of competition. In turn, this can amount to high costs for the buyers or consumers. The production of inferior products and corrupt business practices can result. A monopolistic firm can create artificial scarcities, fix its own prices, and outsmart or bypass the natural laws of supply and demand. In this case, a monopolist can hinder new firms from entering the industry and experimenting as well as new product development. This system however denies the consumer the recourse for choosing a competitor. Though monopolies vary across industries, they tend to share similar characteristics.
A monopoly market, therefore, becomes unfair, unequal, and inefficient. It is for this reason that mergers and acquisitions among companies in the same line of business undergo strict regulations and become subject to government review. In this case, the federal authority can modify or outrightly cancel merger agreements between companies. This happens especially if these authorities conclude that these companies violate anti-monopoly laws or eliminate consumer choice. These modifications by the government authority can include forceful dispossession of some assets to give room for competition. This dispossession can in monopoly include property, plant, and equipment assets and also existing customer lists.
The word monopoly originated in English law in order to describe a royal grant and such grant authorized a single merchant or a trading company in a specific good while no other merchant or company had the right to do so.
Tracing historically, monopolies arose emerged when single manufacturers obtained exclusive legal rights and privileges from the government authority such as the arrangement that was reached between the Federal Communication Commission (FCC) and AT&T between the years 1913 and 1984. In this time frame, there was no other telecommunications company that had the license to compete with AT&T. This is because the government believed that the market could only support a single producer.
More recently, short-run private companies or firms may engage in monopolistic practice when production has costs that are relatively fixed which will amount to the long-run average total costs to reduce as output increases. The effect that the practice has is that it is bound to temporarily allow a single producer to carry out its operation on a lower cost curve than other producers.
Characteristics of monopoly
- Single seller
- High barriers to entry
- Price maker
- No close substitutes
- Economies of scale
- Imperfect knowledge
- Unique cost structure
- Transportation costs
There is only one seller n the industry or a combination of firms under single management and there are many buyers on the other hand. The single seller does not have rivals or competitors. In other words, only one seller is available in the market. The products of this single seller are homogeneous.
High barriers to entry
Under this market structure, the entry of new firms is restricted and barred in the market. This implies that other firms or producers do not have the permission to enter the trade as they desire. By implication, competitors cannot break into the market as a single company is in control of the industry.
A monopolist determines the price of its products without the risk of any competitor coming in to undercut the price. A monopolist can raise the price as it wishes to. He can control either the price of his product or the output. He cannot control both simultaneously. In this case, he has the ability to raise the price if the demand for his commodity is high. Secondly, he can earn higher prices by truncating his output.
No close substitute
There is no perfect or close substitute for a monopolist’s products. Hs products are never identical to the products of other firms.
Economies of scale
It is very easy for a monopolist to achieve economies of scale where he can buy large quantities of raw materials it requires at a volume discount. This activity can lower prices such that smaller competitors will not be able to survive.
There s no perfect knowledge with regard to the market transactions. The flow of information in the market is not free, buyers are not aware of the commodity’s ruling price in the market.
Unique cost structure
A monopolist’s cost structure is unique. In other words, he does not have an identical cost structure with other sellers or producers.
The monopolist usually incurs transportation costs. There is no free mobility of factors of production and he incurs cost in the transportation of his goods and services for sale.
Causes of monopoly
Monopoly can be caused by the following factors;
- Voluntary decisions
- Technological development
- High capital requirement
- High tariffs
- Restriction of entry
- Geographical location and transportation costs
- Ownership and control
- Small market
- Natural endowment
This factor usually leads to what we call voluntary monopoly which comes about when firms willfully merge or combine. They may decide to merge either to achieve larger economies of scale or to wipe out the competition to secure more capital.
Technological development amounts to a monopoly known as a technological monopoly. A case whereby an improvement in a firm’s production technique can enable the firm to produce at lower average costs. In this case, the firm can afford to sell at lower prices than its rivals. This will in turn eliminate other competitors from the industry. Also, if this firm has a sound knowledge of other secret processes of production, it may turn out to be the sole supplier of a commodity.
Huge capital requirement
In this case, a monopoly may emerge when there is a large and specialized capital requirement to establish and run a business. When a business can only yield profits in the long run and the business requires a very large capital outlay, a monopolistic business will emerge. If a producer is able to set up a business that will not attract other entrepreneurs, he will have some monopolistic advantages. This keeps prospective investors out of the business due to inadequate capital.
When the government imposes high tariffs on imported goods, a monopoly can arise as well. There are times in which the government will want to infant industries at home. For this to be possible, the government sets up high tariffs to reduce competition with imported goods. By this action, the protected home, infant industry will enjoy some monopoly power.
Restriction of entry
If there is a high restriction of entry into a particular occupation or business, monopolies may arise. There are times that trade unions may restrict entry They can do this by insisting on long periods of apprenticeship and training or certificate acquisition. This is common with the medical and legal professions which require a high standard of training. This in turn places strong restrictions on entry.
Geographical location and transportation costs
A firm can gain advantages over others by setting up itself in a certain locality, this can amount to local monopolies. Outside firms may not be able to compete with this firm due to high transport costs. This firm will in turn be able to sell at lower prices than outside firms because of the relatively small transport or nil transport costs. Business owners that are located in remote areas can enjoy some levels of monopoly. Such businesses can charge higher prices than other sellers in other localities. This seller knows that people will still buy from him as they would incur higher costs if they travel to other places to purchase the commodity.
Ownership and control
If a firm has a right or sole ownership and control over the source of raw materials, it can cause a monopoly to emerge. This firm can prevent others from using these raw materials.
In a situation whereby, the market for the production of a particular commodity is small, monopolies can emerge. Here, the entry of many firms will lead to the wastage of resources. If a firm first enters into the industry or market, it will continually enjoy monopolistic advantages as it would be uneconomical for other firms to join.
The government can establish a monopoly by law by granting patent rights and copyrights to an individual or a firm to protect and give incentives to the invention.
There are certain natural resources that are not found in other parts of the world. This makes areas with certain endowments become monopolists in the production of certain resources.
Types of monopoly
- Natural monopoly
- Legal monopoly
- Social or government monopoly
- Pure monopoly
- Imperfect monopoly
- Voluntary monopoly
- Discriminating monopoly
- Simple monopoly
- Industrial or public monopoly
- Technological monopoly
A monopoly that came about as a result of natural factors, we refer to it as a natural monopoly. There needs not to be any form of unfair practices to suppress or cut off competition. Companies with patents on their products that prevent others from producing the same product can have a natural monopoly. In another sense, there is no even distribution of natural resources all over the earth. A region or nation possesses what another does not. So where such resources are available, such areas gain monopolistic power in the production of certain commodities.
A legal monopoly comes about as a result of legal provisions in the country. These legal provisions include copyrights, patents, and trademarks. By law, potential competitors are forbidden from imitating the product’s form and design being registered under the given brand names, patents, or trademarks. The government does this to protect the interests of those who have done adequate research and have taken risks of the innovation of a particular commodity.
Social or government monopoly
Governments may set up public monopolies to provide essential goods and services. This encompasses the establishment of public corporations and other government enterprises. For example, the government can set up a corporation that provides electric power supply to the nation.
A pure monopoly is also referred to as an imperfect monopoly where a single firm controls the supply of a commodity. There are no close substitutes for these commodities, not even in remote areas. Such a firm possesses absolute monopoly power and such is very rare.
An imperfect monopoly refers to a limited degree of monopolistic power. Though a single firm produces a commodity that has no close substitutes, the degree of monopoly is less than perfect. This usually relates to the availability of the closeness of a substitute. In practice, many cases of such imperfect monopolies exist.
This is a type of monopoly that comes about as a result of the willingness of firms to merge or combine for certain reasons. They can do this to either achieve economies of scale or to eradicate competition.
A discriminating monopoly is a situation whereby a firm charges different prices to different buyers for the same commodity. In this case, the act of selling at different prices and in different markets is referred to as price discrimination. Under certain conditions, price discrimination can be possible and profitable such as market segmentation, different price elasticities of demand, high transportation costs, etc. A discriminating monopoly does not operate in a single market, it operates in more than one market.
This is a case whereby a single firm producing a commodity charges a uniform price for its commodity to all buyers. This operates in a single market.
Industrial or public monopoly
This emerges when a government decides to nationalize certain industries in the public sector. In other words, the creation of this form of monopoly takes place through statutory measures.
This monopolistic market results from technological development. A firm can have the ability to produce at a lower cost per unit by improving its technique of production. This will make the firm afford to sell at lower prices than its competitors. In turn, other competitors will not be able to survive in the trade and industry, they will need to opt-out. Another factor is when a producer has a sound knowledge of certain secret processes of production. This will in turn make him become the sole supplier of a commodity.
The Industrial Policy Resolution, 1956 in the Indian government categorically lays down certain fields such as arms and ammunition, atomic energy, railway, and aviation transport to be the sole monopoly of the central government.
Another example of a monopoly is Google which has dominance over search engines. Google is the largest web searcher with more than 70 percent market share. This company has grown over time with interlinked services such as Google Maps, Gmail, etc.
Microsoft has monopolistic power because it holds more than 75 percent market share and it is the market leader and a virtual monopolist in the tech space, it is a computer and software manufacturing company.
Monopoly pros and cons
A) Advantages of monopolies
- Economies of scale
- Stability of prices
- Source of revenue
- Source of essential public utilities
- Potential to face depression
- Reduces inequality
Economies of scale
In an industry that incurs a high fixed cost, a single firm can gain lower average costs in the long run. Since there is only one seller of a particular commodity with many buyers, this single seller enjoys the entire demand. With this, a monopolist can maximize profits while he reduces his cost of production.
The existence of monopolies can stimulate research and development. This is because large-scale profits and production yield enough money for them to engage in research and make new discoveries. When patents and monopoly power are absent, a firm will not be willing to invest much in research with regard to its product. A monopolist usually has the incentive to develop new knowledge and technology that will be beneficial to society.
Stability of prices
Due to the absence of competitors in the market, the sellers themselves determine prices. They change prices at their own wish. It is unlike the normal competitive market where the forces of demand and supply determine the price of a commodity. In monopolistic markets, prices remain stable compared to a competitive market.
Source of revenue
Although monopolies are sources of restricted entry into the market and competition, they still earn good amounts of profits as the government encourages them. They can therefore become good sources of government revenue which will be beneficial to society as a whole.
Source of essential public utilities
Usually, monopolies are state-controlled. The state runs companies that are helpful in the production of goods that are essential for public utilities. This includes public transport facilities and electricity.
Potential to face depression
Because of the demands that keep popping up from consumers, a monopolist can survive even in situations like economic depressions and recessions.
A monopolistic market can facilitate more efficient use and utilization of resources. Wasteful duplication of resources and confusion is absent in the monopolistic market. The risk of overproduction is at its minimum because the monopolist can accurately estimate demands.
Discriminating monopolies in a way can reduce inequalities in the sense that they can charge higher prices to the rich than they charge to the poor.
B) Disadvantages of monopolies
- Higher prices than in competitive markets
- A decline in consumer surplus
- Fewer incentives
- Possible diseconomies of scale
- Consumer exploitation and price discrimination
- Quality of goods
Higher prices than in competitive markets
A monopolist has the tendency of facing inelastic demands. Because of this, he can increase prices. In this case, consumers have no other alternative.
A decline in consumer surplus
Usually, consumers pay higher prices and only a few consumers can afford to make purchases. This amounts to a decline in consumer surplus. Also, this amounts to inefficiency in allocation because the price supersedes marginal costs.
There are fewer incentives for monopolists to be innovative. This is because of the absence of competition. Since competition is absent, a monopolist can make profits without putting in much effort. It can therefore lead to organizational slack.
Possible diseconomies of scale
The fact that it is harder to coordinate production activities and communicate in a large firm, may become inefficient.
Consumer exploitation and price discrimination
The entire power of availing goods at certain prices remains in the hands of a single firm. There is no competition to keep the quality and price of a monopolist in check. These factors can cause this market structure to be highly exploitative in nature. Also, price discrimination can exist under this market structure as the seller or producer can charge different prices to different sets of buyers.
Quality of goods
The absence of competition in a monopolistic market can amount to the production of inferior goods/low quality. They usually do this to save their costs of production just to generate more profits at the expense of the consumers.
The abuse of monopoly power
Monopoly means when a firm has dominant power in the industry. The abuse of monopoly power is a situation whereby a firm that has dominance in an industry engages in immoral practices to secure more profits and patronage simultaneously. This comes in different forms such as;
- Consumer exploitation
- Suppression of consumer choice
- Inefficiency and lack of enterprise
- Retardation of progress
- Exertion of political influence
- Predatory pricing
As a firm that is dominant in the industry, it can charge high prices for its commodity with the motive of increasing profit. The monopolistic price is usually higher than a competitive market.
A monopolist can restrict output thereby creating artificial scarcity of the commodity he produces. The creation of artificial scarcity is being done with the purpose of selling at higher prices. Some immoral monopolists can go to the extent of destroying a part of their products in order to limit the quantity that enters the market.
Suppression of consumer choice
Under monopolistic conditions, consumers tend to lose some of their freedom of choice. Unlike a perfect market where the consumer is sovereign and their demand determines the quantity, a monopolist is likely to produce few goods which tend to restrict the range of consumer choice.
Inefficiency and lack of enterprise
Because a monopolist has no rival, he lacks incentives towards efficiency. He has no urge to improve his method of production or engage in research and development to gain a competitive edge. In this case, the monopolist becomes less innovative and less enterprising. In turn, they operate under conditions of inefficiency.
Retardation of progress
A monopolistic firm can retard progress by delaying the application of its discoveries and inventions. It can ensure that no other firm uses the result of its discovery in producing goods and services.
Exertion of political influence
Usually, large monopolistic firms command economic and political power. They can sometimes pressurize the government to pass laws to protect their interests. These laws may be at the detriment of consumers.
A monopolist can cut down prices and sell below the average cost just to force competitors out of business.
Control of monopoly
The government can control the abuse of monopoly power by taking the following actions;
- Nationalization of private enterprises that are monopolistic in nature
- Encouragement of competitors as well as the growth of more manufacturing firms. This helps in reducing excessive local monopolies.
- The production of more substitute products. This will force the price of commodities to go down.
- Price control is important in preventing or reducing the rate of consumer exploitation.
- The government can improve transport systems as well as set up information machinery for the market. This is to create awareness about the current market price of commodities.
- Other legislation such as antitrust laws helps to curb illegal forms of business organizations.
Frequently asked questions
What is meant by a monopoly?
The word monopoly is derived from two words, Mono and Poly. Mono stands for single while Poly stands for the seller. Joining the two words means the single seller. In this situation, only one firm or a group of firms that are combined has control over the supply of the product.
What is the definition of monopoly in economics?
A monopoly is a market structure in which an individual or a group of individuals acting as a unit have control over the total output or the supply of goods and services without any close substitute.
What is monopoly and example?
A monopoly is a market situation whereby a single firm/producer or seller is in charge of the production and distribution of a commodity in the market. For example, Google has monopoly power over search engines.
What are the characteristics of monopoly?
The following are the characteristics of monopoly;
- There is only one seller in the industry
- A monopolist has no close substitutes
- There is a high barrier to entry into the industry
- There is no perfect knowledge about the market
- It is usually easy to achieve economies of scale
- The monopolist determines the price of his commodity