Chapter 34: Monopoly
Updated: 1/13/20
Christian Economics: Teacher's Edition
The people curse him who holds back grain, but a blessing is on the head of him who sells it (Proverbs 11:26).Am I not allowed to do what I choose with what belongs to me? (Matthew 20:15a)
The fundamental principle of private ownership is found in Jesus’ parable of the vineyard. The employer has the legal right to offer any arrangement he chooses. At the same time, those who hear the offer are under no obligation to accept his offer. He offers money: the most marketable commodity. He has what most workers desire most in exchange. As a buyer, he is the more powerful party in the transaction. He therefore has greater responsibility in the eyes of God and men.
When customers come into a market with money to spend, they are in the strong position. They possess the most marketable commodity. Sellers of goods and services compete to gain ownership of money. The buyers therefore have greater responsibility than sellers with respect to the allocation of their money. Yet most people do not understand the market process in this way. They see buyers as weak and sellers as strong.
What about the seller of grain? Is he in the strong position? No, except in times of famine, which are rare. In the modern world, this does not happen in peacetime outside of sub-Saharan Africa. Agricultural productivity is high. Markets are well developed. International transportation is cheap: huge ships. Transportation from farm regions to port cities is cheap: long trains. Food prices are low. They have been falling ever since the mid-1800s.
The proverb does not indicate that there is a biblical civil law against withholding grain in a time of food shortage. The person who does this is cursed by the people, but there are no civil sanctions available to force him to sell grain. Similarly, there is a blessing on the person who sells food in a time of hunger. Presumably, this blessing is imputed. People hold the seller in high esteem. Perhaps God blesses him. But the state is not involved here, either.
The rule governing every auction is this: high bid wins. The rule for making a profit is this: buy low, sell high. These rules are foundational to every free society. They have produced wealth on a scale unknown before 1850. There is no doubt that someone who sells grain cheaply in a famine is charitable. But there will be far greater demand for his grain than there is supply. He will soon run out of grain to sell. Then what? Who will be helped then? The charitable impulse cannot be sustained for long. It will be beneficial only to a few participants in the market.
High food prices send a signal to food suppliers: there is demand in this market. If these high prices are above the costs of production, including transportation and marketing costs, then suppliers will shift production to meet this unforeseen demand. As new food supplies arrive in the region where there has been a food shortage, food prices will begin to fall. This is the result of forces known as supply and demand. This is what buyers want in the region with the food shortage. The auction process works. There has not been a famine in peacetime in the West since the Irish potato famine of the 1840s. The free market has solved this problem.
What has this to do with monopoly? It should encourage people to consider why the high prices gained by a monopolist do not produce a similar response. How can a monopolist maintain high prices far above his costs of production year after year? What is there in the marketplace that keeps the auction process from producing increased supplies and lower prices?
Economic logic tells us that there has to be a barrier to entry. This is obvious in the case of a water well in the Sahara desert. Someone who owns the well can charge a great deal of money. But there will be few buyers. There are few examples of this kind of geographical monopoly in the modern world. These are called natural monopolies. Usually, these are natural resources. Here is an example: a property with a spectacular view. The owner can restrict access. He sells tickets. No one else can offer this particular view. But there are other properties with spectacular views. There is no public clamor to force this person to open access free of charge or at low ticket prices. No one cares.
Water is a natural resource. Local civil governments create monopolies for water districts. These are usually privately owned, but there is a government agency that regulates prices and standards. The widespread assumption is that having five competing water/sewer companies would be wasteful. There would be too many pipes buried along the side of each street. Electricity is also assumed to be a natural monopoly, although falling prices for solar panels are calling this assumption into question. Low-priced batteries will make decentralized power economically feasible in some regions. Because there is bureaucratic control over these natural monopolies, the public pays little attention to them.
Consider that rare item, a natural monopoly over a unique raw material. The owner may be able to receive a high price per unit of resource. This is a form of resource conservation. Voters who think of themselves as environmentalists or as conservationists do not discuss these monopolists favorably as examples of resource conservation. They want conservation, but only by the state. They do not want private owners to profit from their policies of resource conservation. In terms of the principle of the rule of law, why isn’t it better that a private owner be allowed to benefit from his monopoly control rather than have a state bureaucracy gain power over its terms of use? What makes the legal claim of the state superior? Why should the state be allowed to confiscate the property from the owner, which is a violation of property rights? This is a violation of the rule of law.
In almost all cases, a large monopoly is established by a legal barrier to entry. Politicians pass a law that blocks access to a market by sellers. One seller benefits from this grant of immunity from competition. He gains a profitable monopoly. The politicians who pass the law demand some kind of payment, either in quiet payoffs in money or in special pricing for the state. The classic example of this kind of monopoly is a national central bank. I will cover this topic in chapter 36.
There are also the monopolies enjoyed briefly by professional athletes. There are few of them. Most sports do not have paying crowds. The star players in a few popular sports can command high wages for short periods of time. They are paid fortunes to make product endorsements. There are no replacements for them. There are no government-established barriers to entry. No one cares. They are rarely discussed in the media as examples of monopoly power. The same is true of celebrity entertainers and artists. The public will pay high ticket prices to gain access to these entertainers’ performances. Rich art collectors pay high prices for certain signed works of art. The number of these suppliers is always highly limited. They are able to generate monopoly returns from their unique features and abilities. But this causes no cursing by the public.
The most common form of monopoly is the monopoly created either by a patent or copyright. A government agency issues patents to inventors who meet certain bureaucratic requirements. The inventors are granted immunity from competition for several years. Copyright is easy to obtain. All it takes is for someone to publish an article online. This can be done virtually free of charge. Someone sitting in a free public library in the United States can post an article on a free public blog host, such as WordPress. Automatically, his words belong to him and then his heirs 75 year after his death. He or his heirs can get a court in the United States to enforce legal title. But almost nothing published in this way will ever be stolen for commercial purposes. Most of the words online have no market value. There is vastly more supply than demand.
Some monopolies are enjoyed by products that are priced low. One such product in the United States is Arm and Hammer baking soda. There is no other competing brand whose name is known to anyone except supermarket managers. The company controls an estimated 95% of the market. It is a widely used product, although few families go through more than one box of the product in a year. Its bright yellow boxes are instantly recognizable. The box’s logo never changes. But no one cares that the firm has such control in the market. The product is not vital to anyone except the owners of the company. Almost no one is aware that the seller of this inexpensive product has maintained an almost complete monopoly for several generations.
There have been companies that have enjoyed a large market share. The question is this: has the public been harmed? If so, why are these firms so large? Because they have so many customers. Technological innovation can replace these firms. Kodak, the camera company, had a huge monopoly in 1900 and throughout most of the twentieth century. In 1976, the company controlled 90% of film sales and 85% of camera sales in the United States. Today, film no longer exists as a popular consumer product. Digital cameras have replaced film cameras. Kodak went bankrupt in 2012. Yet Kodak invented the first digital camera in 1975. The company failed to develop the invention.
When a customer buys something that he would have paid twice as much for, he reaps what economists call a consumer surplus. He retains more money to spend on other items. Every buyer would like to enjoy a consumer’s surplus every time he purchases something. But this is not possible. There is always some buyer who pays exactly the maximum price he was willing to pay. He reaps no consumer’s surplus. Another would-be buyer decides that he just cannot afford to buy. These last two people are the marginal participants in the market. Every sale involves a marginal buyer and a marginal non-buyer.
On what moral basis does the state intervene and demand that the state change the market’s arrangements? On what basis is a company broken up by the state? It is done in the name of competition. Consumers will benefit, we are told. Yes, some consumers will benefit: marginal buyers and marginal non-buyers at some price. But there will always be marginal buyers and marginal non-buyers. Some people will enjoy a consumer’s surplus, but most people will not. There will still be scarcity after the monopoly is broken up or regulated. At zero price, there will still be more demand than supply.
A buyer takes home the item he buys. He offered the highest price. He won. This is the auction principle in action.
He would like to have more sellers competing for his money. He would benefit from this competition: greater supply, same demand. He would like more auctions going on. This would give him more opportunities to spend his money. He would have a greater range of choices. This would make him richer. So, he is in favor of having the government break up a monopoly. After the break-up, there will be more firms seeking his money. They will offer better deals. So, he chooses to organize politically with others who seek such a break-up.
There is a problem with his political plans. If the politicians respond to this political pressure by breaking up a firm, and if the courts accept this as legal, then this will send a message to businessmen: do not gain too great a share of the market. The government may enter and break up the company. Therefore, the company’s senior managers conclude, they should not offer deals so good that the company gets too large a share of the market. Consumers suffer as a result. They are offered fewer terrific bargains.
When the principle of the rule of law is violated by the state, this sends a message to successful businessmen: “Invest more money in politics, and invest less in product development.” The politicians and bureaucrats are in a position to impose severe negative sanctions. These sanctions are a greater threat than customer sanctions, i.e., customers’ refusal to buy all of the output of the businesses. This shifts economic authority from customers to bureaucrats.
In the long run, few monopolies maintain their market dominance. Customer tastes change. New technologies disrupt market patterns. Dominant firms lose market share. They may even go bankrupt. They are replaced. This is the auction process in action. Customers retain their authority if they are allowed to buy in terms of the auction’s principle: high bid wins.
Prices are set by this process: sellers vs. sellers, buyers vs. buyers. When buyers decide to seek lower prices through political action, they transfer power to the state. The state may break up a dominant seller into smaller companies, but in doing so, it undermines the commitment of sellers to compete for the customers’ money in an open market. Established sellers will begin to focus on political advantage rather than market advantage. In the name of increasing competition through anti-monopoly legislation, politicians reduce competition in the long run. They remove the threats from rivals. Large producers seek profits by influencing the permanent regulatory agencies in their sector of the market. This is called industry takeover, and it is widespread. Firms pay high salaries to retired employees of the agencies in their market sector. This benefits established firms in the industry at the expense of innovative firms that have no indirect influence over the regulatory agencies. Large firms recommend forms of regulation that undermine newer firms.
A seller who enjoys a monopoly is protected from competitors, who are for some reason unable to enter the market and bid against him. This barrier to entry protects the seller from the normal price pressures in an open market. Among sellers, low price wins, meaning a low monetary price. This in effect means the highest bid in terms of units for sale at a specified price.
A seller has options of how to take advantage of his special situation. He can charge a high price. The difference between his cost of production and the selling price constitutes his profit. Under normal competitive conditions, this profit gets smaller. More competitors enter the market and make competing bids. Only when the cost of production equals the net return, minus whatever the prevailing interest rate is, do producers cease to add production. Obviously, if the cost of production equals total revenue, the seller should leave the market and invest in low-risk bonds. Why work hard and bear uncertainty if you can sit back and collect interest on your capital? A monopolist can generate monopolistic returns, but a high profit is a lure for competitors to find ways around the monopolist. They may find a substitute product. Digital cameras are a classic example. They replaced film cameras.
A seller may choose to keep the selling price low. This way, competitors do not enter the market. This is the strategy adopted generations ago by Arm and Hammer for its baking soda. The company enjoys a steady return on its investment of capital.
A seller may keep the wholesale price low, thereby allowing retailers to keep the money in between costs and revenues. This makes the retailers responsible for most of the marketing responsibility. This creates almost automatic income for the manufacturer. The high profit margin for retailers keeps out competing manufacturers.
If the sellers’ monopoly is dependent on government intervention into the free market, it is at risk. A new political administration may replace the existing one. It may change the law so as to remove the barrier to entry that protects a monopolist. There is also a possibility that the bureaucracy that enforces the law may change its interpretation of the law. It may impose new regulations. But this is unlikely. Bureaucracies rarely change apart from pressure from the legislature. The legislature usually ignores the bureaucrats.
The pencil is a good example of a monopoly that lasted for almost two centuries. The heart of a pencil is what we call lead, but which in fact is graphite. A single graphite mine in Borrowdale, England, controlled the supply from at least 1565 until the late 1700s. Eventually, the mine’s output fell. Other mines were discovered in Ceylon and Siberia in the first half of the 1800s. Pencil prices fell steadily throughout the nineteenth century.
There is no question that tight controls by the Borrowdale mine’s owners kept production low and prices high for two centuries. This was a form of resource conservation. The British government did not interfere. It did not break up the mine into competing businesses. The pencil nevertheless became a tool used all over the West.
The fear of monopoly is misplaced. There are a handful of goods that cannot be distributed to large local markets because of physical restrictions imposed by municipally owned streets: water/sewer lines, phone lines, and power lines. These services and goods are not large components of Westerners’ budgets.
Most monopolies are harmless. They enable owners to extract higher-than-normal rates of return on physical or intellectual capital. But the public is willing to pay high prices because of the value of the services rendered. Buyers would like lower prices, but there is no biblical justification for the state’s intervention in order to break up the ownership of resources. This is a violation of the judicial principles of private ownership and the rule of law. It creates uncertainty. It reduces people’s confidence in the rule of law, which undermines public trust in the political system.
The market’s principle of high bid wins is undermined when politics changes the rules. Normally, no one forces buyers with money to spend to spend it with any seller. The transactions are made only because both the buyer and the seller agree on the terms of exchange. Each expects to achieve his goals. Otherwise, no transaction would take place.
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