On Monopolies

Earlier today, my friend Vanessa texted me the following question (small edits made for grammatical purposes):

So almost dr of economics- Am I correct in thinking monopolies are bad for consumers, thus must be bad for the economy?

Vanessa’s intuition on this question is good.  As Bastiat said, we must evaluate economics through the lens of the consumer.  Below is my response to her (sorry for the weird spacing.  I don’t know how to fix it):

“Are monopolies bad for consumers?”  This depends on what the meaning of the word “bad” means.  Monopolies are output restrictiors (that is, they get a higher price by reducing the output they make), and they produce not where price equals the marginal cost of output (ie the “zero profit” level), but the highest price they can get.  So, compared to “perfect competition,” the monopoly produces less at a higher price; they are inefficient compared to the perfect competition model.  Since “bad” is a judgment call. I’ll leave that up to you.

However, there are some situations where monopolies, as inefficient as they are compared to perfect competition, are the preferable option:
1) In economics, the only way a monopoly can naturally arise is if there are natural barriers preventing entry into the market (eg. high start-up costs, geographical barriers, that sort of thing).  We call these, shockingly enough, natural monopolies.  The implication of these conditions is that multiple forms of similar firms could not exist at the same time (ie, competition).  So, breaking up of this monopoly would not lead to lower prices and more output, but no output at all!
2) Imagine we have a firm who is a major polluter of the water.  For every item they produce, they dump a gallon of waste into the local river.  Further, assume (unlike the example in item 1 above), that this firm is not a natural monopoly.  If an effort to break up this company were undertaken, and output was to increase, then one would see an increase in the pollution dumped into the river!  From an environmental POV, this the monopoly is more efficient since it pollutes less!
Just like all economic questions, the answer is ‘as compared to what?”  It’s possible, as I explain here, that monopolies may be the preferable option.  A blanket statement like “monopolies are bad” or “monopolies are good,” depends on the context in which we’re speaking (and also what “good” and “bad” mean).

8 thoughts on “On Monopolies

  1. Jon

    Poor Vanessa! she may have gotten way more information than she wanted. 🙂

    It’s possible, as I explain here, that monopolies may be the preferable option.

    You said that, but you didn’t explain it.


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