Are monopolies always bad?

Readers Question: If monopoly is always bad, why do firms seek to become monopolists and why does government tolerate monopoly?

It is true that monopolies have many disadvantages for society:

  1. Higher prices than in competitive markets
  2. Decline in consumer surplus
  3. Monopolies have fewer incentives to be efficient.
  4. Possible diseconomies of scale.
  5. Monopsony power in paying a lower price to suppliers.
  6. Monopolies can gain political power and the ability to shape society in an undemocratic and unaccountable way – especially with big IT giants who have such an influence on society and people’s choices.

In the late nineteenth-century, large monopolist like Standard Oil gained a notorious reputation for abusing their power and forcing rivals out of business. This led to a backlash against monopolists. But, in the Twenty-First Century, there are new monopolies which have an increasing influence on people’s lives.

For more detail see: Disadvantages of Monopoly

Monopoly Diagram 

monopoly-diagram

Most of these disadvantages are, of course, for the consumer and society. Firms benefit from monopoly power because:

  1. They can charge higher prices and make more profit than in a competitive market.
  2. The can benefit from economies of scale – by increasing size they can experience lower average costs – important for industries with high fixed costs and scope for specialisation.
  3. They can use their monopoly profits to invest in research and development and also build up cash reserves for difficult times.

Why government tolerates monopolies

  1. It is difficult to break up monopolies. The US government passed a lawsuit against Microsoft, suggesting it should be split up into three smaller companies but it was never implemented.
  2. Governments can implement regulation of Monopolies e.g. OFWAT regulates the prices of water companies. In theory, regulation can enable the best of both worlds – economies of scale, plus fair prices. However, there is concern about whether regulators do a good job – or whether there is regulatory capture with firms gaining generous price controls.

    economies-of-scale-growth-in-firm

  3. Monopolies can be more efficient because of the advantages of economies of scale. This is particularly important for firms operating in a natural monopoly. For example, it wouldn’t make sense to have many small companies providing tap water. The large-scale infrastructure makes it more efficient to just have 1 firm
  4. Innovation. With patents and monopoly power, drug companies would be unwilling to invest so much in drug research. The monopoly power of patent provides an incentive for firms to develop new technology and knowledge, that can benefit society.
    • However, this can also have downsides with drug companies able to charge excessively high prices for life-saving drugs. It also gives drug companies an incentive to push pharmaceutical treatments rather than much cheaper solutions of promoting good health and avoiding the poor health in the first place.
  5. Firms with monopoly power are not necessarily bad. Google has monopoly power on search engines – but can we say Google is an inefficient firm who don’t seek to innovate?
  • On the other hand, the dominance of the big IT firms Apple, Facebook and Google raises concerns over their undemocratic influence on society.

See also: Advantages of Monopolies

16 thoughts on “Are monopolies always bad?

  1. Hi, I’m a first year economics student and just thought I’d add the theory of contestable markets to this discussion, as it provides another view on why monopolies might not always be ‘bad’.

    The theory of contestable markets suggests that if barriers to entry and exit are practically non-existent (or totally non-existent in the case of a perfectly contestable market), firms can freely enter and exit the market at will. Therefore, there is a constant threat of so-called ‘hit and run’ competition, where rival firms can enter the market as soon as they see an opportunity to make supernormal profits.

    So if a monopolist attempted to exploit its position in a perfectly contestable market, e.g. by raising prices, it would be undercut and would lose profit.

    But there are few contestable markets in existence. I believe my A-level teacher said that local bus or taxi industries are two examples.

    Source: John Sloman, “Economics” 6th Edition, p172

  2. Very Good Point John, this would definitely get a few evaluative marks at A Level.

    It is true, there are few perfectly contestable markets. But it is always helpful to think in terms of degrees of contestability.

    e.g. I think you could say Online advertising has more contestability than say tap water

  3. I think the formation of monopoly is very important , especially during the time of recession. They can push out infant firms and became internationally competetive.
    The fact that they have an EOS can reflect cheaper prices of their products.
    However they have to earn abnormal profits , therefore they have to minimise total costs , to do that they have to pay less to their employees. That is the only disadvantage.

  4. The reason that governments tolerate monopolies is because they are also one themselves. They have ultimate monopolistic control an the legitimate use of power and force. Wether it’s criminal justice, police, military or mail almost all government agencies function as a monopoly. They also like to give out monopoly favor to some of their well connected friends. 😉

  5. Equal standards suggests that if monopolies are bad for private industry, they are also bad for public industry. Holding AT&T and Microsoft to one standard, and allowing it for others isn’t a fair administration of justice.

    Further, capitalism that invokes competition as the reason for price controls and price reductions has been traditional in economics. Exclusive control isn’t competitive, and cannot therefore produce competitive pricing.

    Government holding itself to the same standards expected of private industry with regard to competition for lower cost potential seems logical, but isn’t practiced, in a hypocrisy of sorts that should not be failed to be recognized as detrimental to democracy.

  6. d) in a monopolised industry the demand conditions, together with the firm’s cost structure, determine the market price and traded quantity in both the long and the short run. explain this

  7. A big firm dominating a market isn’t a real bad thing.monopoly power improve R&D ( as making Supernormal profit)

  8. I present insurance coverage as an example of a service where a government regulated monopoly can provide more efficient service than a competitive market of private insurers can, for the following reasons:

    – Insurance is a commodity service ( it provides cash in exchange for cash).

    – Insurance is by its nature conservative and not subject to much innovation. Policies can be varied and complex, but the service provided is not essentially changed.

    – A fair price for an insurance policy can be arrived at by a good mathematician (actuary).

    The business of insurance is to redistribute wealth to those less fortunate. Redistribution of wealth sounds like a bad thing, but that’s exactly what insurance is all about: people pooling their resources together in order to equally distribute risk and redistribute wealth to those that suffer misfortune. In this system, the larger the pool of insured, the more efficient the redistribution.

    This is why having the federal government (not state and local government or a private company) provide insurance makes so much sense. FDIC, Social Security benefit from a large single provider. The same would be true of halth insurance.

  9. Technically speaking, I think monopolies are good and bad, but mostly bad.especially since the government does not intervene in their affairs of running their company unless they violate the consumers’ rights ,so they do what ever they like and that’s what make it a bad thing.

  10. Regulate, regulate, regulate! Monopolies may have benefits, but he government should regulate price gouging and unfairness to consumers.

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