Tuesday, October 15, 2013

Competition

NOTE: Since I was reposting old essays (see "Third Best Economy" and "The Case for Small Government"), I decided to reproduce two other old favorites, "Competition" and "The Basics". I am not going to bother trying to find links to archive.org for the old TH links, or do any other housekeeping, I am not even bothering with anything more than a few basic tags. I am simply reproducing these as a convenience, as I cite them often, and they cannot currently be read since TH is down.

Originally, I had intended this as two essays, one examining how the traditional simplistic views of competition obscured much of the true competition taking place in the economy, and a second examining the subject of natural monopolies, and asking how truly useful that concept was. Even in describing the two essays, I recognized that they were very closely linked, and, in truth, there is no reason to make two separate essays of them, other than length. As I am hardly scared of long essays, it makes more sense to make them into a single essay. In fact, it makes for a superior essay, as many of the best examples for the competition essay involved in some way natural monopolies.

I will grant that economic theorists, for the most part, recognized all the factors I am going to mention in a moment. That is, they recognized the role substitution played in competition, and the possibility of simple refusal to buy, and all the other things I am about to discuss. They would bring them up when discussing supply and demand curves, or price elasticity, and even when discussing matters such as the optimal pricing for cartels and monopolies. However, when it came to discussing actual monopoly, or cartels or oligarchies or other types of defective competition, it seems they forgot all about them and fell back on a simplistic model where only direct competition with identical products mattered. And so, though most economists seemed to have a very nuanced view of competition, many of the conclusions they drew about competition implied, or required, a much more basic view of competition. As a result, we have many laws and regulations, not to mention conventional wisdom and common sense understandings of economic matters, which, though based on accepted economic theories, are quite incorrect. And those are the matters which I hope to address here.

I recall during my brief stay in law school (during which I decided quite conclusively that -- though a very good law student -- I was not a lawyer), I was given a moot court case which involved antitrust law, specifically a certain apartment complex which had been wired for a cable television service different from the service providing cable television to most of the surrounding county. The county cable company sued the apartment owners and the cable company for a right to access the residents, claiming that the pre-wiring for their competitor violated antitrust laws1.

I mention this because it is a good example of a situation where most of us would think there is a natural monopoly, or, if not a complete monopoly, a situation where true competition would be very awkward, at the least, and regulatory involvement makes sense. Many would argue that it would be impossible to allow every possible cable competitor to bore holes into each apartment, or string their lines on poles, and thus it is inevitable that a single company would end up serving any given apartment2. Of course, since that time, electric deregulation has shown us that it is possible to provide multiple services through a single set of lines, either by having competitors lease them from the original monopoly, or by turning ownership over to a consortium of suppliers, or a neutral provider, who then is paid by lease fees from the providers. In the same way, even back in the early 90's, cable could have been competitive with only a single set of lines, and so the claims of natural monopoly were wrong even then. But, for the moment, let us forget about this possibility and imagine a single line can carry but a single signal and ask if that means there is a need for regulation. Or, on an even more basic level, ask if such a situation prevents competition.

Obviously, traditional competition is excluded in such a situation. With a single provider having physical access to the apartment, the residents are not free to contract with another cable provider, they are left with a single choice, the cable provider who wired their home. At least, for most of us with a common sense understanding of economics (and most politicians as well, it seems), that would be the obvious conclusion.

The only problem is it is wrong. Or, at the very least, it overlooks any number of other possible choices.

The most obvious problem is the assumption that one must buy. The situation, as stated above, seems to assume one must have cable television, and thus cannot choose to forgo service. I will grant, in some situations, economists are a bit more clever than this simplistic description, and do recognize consumers can do without, though mostly when they discuss topics such as optimal pricing for cartels and monopolies. However, in most discussions of monopoly among non-economists, and even among economists in some circumstances, there appears to be a implicit assumption that everyone will buy, regardless of circumstances, and that assumption leads to a lot of faulty conclusions.

Let us then start by recognizing that in every economic transaction, there is always the choice to not buy. And that means all transactions. Some will point to monopolies controlling health care, or food or water and argue one is not free to make such a decision in those circumstances, but, as I said, one can always choose not to buy. Admittedly, in some circumstances, the consequences of refusing to buy are severe, but the choice is always there. Even in circumstances such as present regulations which require the purchase of health care, one can still choose not to buy. Thus, in any circumstances, there are always at least two choices, and we must recognize that3.

If that were the only choice, clearly there would not be much point in discussing this topic, as it would make only a small difference when comparing the true situation to that predicted by economists. But the choice to not participate is not the only alternative open to consumers. There is also the choice of choosing a substitute, perhaps one very similar to the service refused, perhaps one quite different, but in some way a good or service which fulfills similar wants in another way. In this case, though the consumer cannot contract with another cable television provider, he could choose close substitutes such as broadcast television or satellite television, or more distant substitutes such as (at the time4) video tapes, or even more remote alternatives such as going to movies, watching plays or even reading books. While all differ in some way from cable, providing slightly different satisfaction of the want for entertainment and information, they all can be viewed as, in some way, in competition with this specific cable provider, as they can be used as an alternative to his service. Actually, the list is certainly even longer, though a number of alternatives would be acceptable only to specific buyers. However, if it is an acceptable substitute to even one potential customer, then it must be viewed as a competing product, as its cost and benefit will have some small impact upon the pricing curve of the cable service in question.

I should probably clarify that last statement, as it is the crux of my argument.

While economists implicitly accept all that I have said, recognizing that monopolies and cartels must still price according to demand and supply curves, they often do not make it explicit, and many seem to assume the demand curve is based on nothing more than marginal benefit of the product itself. In truth, when a monopolist chooses to raise his price, he makes each and every possible alternative slightly more attractive, and his product less. In other words, he is faced with the same situation he would face were he confronting a direct competitor offering an exactly comparable product. The only difference is that the substitutes in question may provide less satisfaction, or may be priced highly enough that the satisfaction per unit of price is lower, and thus the calculations are more complicated, and the competition is less obvious. However, it is no different in practice than competing with an identical product of lower quality, as there too the satisfaction per unit is less, but we more easily recognize it as competition. But make no mistake, whether the alternative is the same product or service, as easily identified substitute or some less easily recognized substitute, it is still competition, which makes many supposed monopoly situations much less clear cut than is generally assumed.

Before moving on to look at monopolies in general and natural monopolies in particular, let me deal with one objection that is sure to come up. In a situation such as I describe, where there is but a single provider of a given service, even when substitutes are available, the situation itself allows the seller to price above the market rate, and this should still be viewed as a situation with defective competition and demands government intervention. To which I reply that the argument contains two major errors, as well as an false conclusion.

First, the idea that there is a single market price, which exists independent of a given circumstance, which is the proper price at which a good should sell is a falsehood, akin to the idea that there is a way to distinguish between wants and needs5, that there is a proper amount of any good to be produced, a correct price during a crisis6, or many of the other technocratic assumptions which underlie the many efforts to establish a scientifically organized economy7. The market price is nothing more than the given price for a good at a moment in time, meaning that whatever the circumstances, the price charged is always the market price. Some may argue that the given price is not fair, or would be different given stronger competition, but that in no way makes the price wrong. Fair is a meaningless term8, and a bad foundation upon which to base economic reasoning. And as for the other argument, prices would obviously be different were circumstances to change, that is a truism, but that does not mean that those alternate circumstances are right, or the present ones wrong, it simply means that price varies given different market conditions.

The second error is to see limited competition as somehow rendering the market price invalid, or the competition defective.  I will grant that excluding competitors who provide identical, or closely similar, services is a tremendous benefit to a seller, but there are many such benefits. A good reputation, brand recognition, successful advertising, inept rivals, all can provide a competitor with a tremendous advantage, yet we accept some as part of competition and call other illicit and defective competition. The problem being no one knows precisely what proper and improper denote when it comes to competition9. And with good reason.  If our situation of an apartment owner providing only one cable service is illicit, then how does it differ from, say, a restaurant chain which provides only one brand of soft drinks? Or a car marker which ships from the factory with one only one -- or even only a few --brands of radio, or only a certain brand of tires? If one is allowable, then why not all? And, if none are allowed, why not? No one is being deceived or forced. The choice is to buy the package or not. One knows up front what he is getting, so where does the illicit competition arise?

But all of that may be wasted effort, as whether or not one agrees with my first two arguments is irrelevant given that the conclusion drawn from them is invalid as well. Whether or not the basis of the argument is true -- though I argue it is not -- the conclusion simply does not follow. Or, at best, it follows only if one can prove a number of points, points which I fell have been shown time and again to be completely false. For, even if we could find an objective market price, and show that it differed from the price charged, and even if there were some way to rationally prove the situation fit some definition of defective competition, it simply does not follow that such a situation demands intervention, nor is it clear that government involvement would in any way ameliorate the situation.

The most obvious reason that regulation, most often found in the form of government established rate committees, at least where supposed natural monopolies are concerned, is not useful is, as stated above, there simply is no correct price. The market price is just that, the price on the market at a given moment, there is no fair market price, or true price. And so, when a rate committee is established, they do not set the rates at the market value, or at what the rates would be but for the existence of monopolies, they simply choose an arbitrary rate. Admittedly, they establish it based on pressure form both the industry and consumers, as well as any others concerned who might have some political pull, but it is still just an arbitrary number. It is no more or less fair than what the monopoly would charge.

Actually, it may be worse in one way. The monopoly would tend to charge a rate which would maximize profit, which considers both the costs involved in production, as well as the desires of consumers -- even including the implicit competition I mentioned earlier -- and so would tend to provide the service at a rate which both create a good rate of return while providing services at a cost the consumers considered satisfactory for services provided. Government rate bodies sometimes fail to take many of these factors into consideration, and due to political considerations, often set the rate too low, which results in numerous problems, such as inadequate returns to maintain physical plant requirements or, in extreme cases, even reducing returns so much that the monopoly can no longer function. And that ignores the fact that, by setting rate too low, the rate commission actually discourages any efforts to break the monopoly, as the returns will discourage potential competitors.

Which leads well into the bigger concern with government regulation. Once the government recognizes a natural monopoly and begins establishing rate commissions and the like, the government basically establishes the monopoly by force of law. After all, what firm wants to enter a market where prices are set by the state? And even if some did, are they able? In most areas of endeavor where prices are regulated, entry is regulated as well, making it difficult or impossible for new firms to compete. Not to mention that government regulated rates tend to produce substandard returns, discouraging anyone form competing, as mentioned before. All of these factors combine to make it unlikely that any firm would want to compete in a market deemed a natural monopoly, even if they found some way to do so10.

Which raises the question, how do we then deal with monopolies? Especially natural monopolies. But before answering that, I suppose we should answer an even more basic question, do we need to do anything at all? Can monopolies exist for long in the real world? And, if they do exist, and can persist, what are the consequences of such monopolies, and can they be eliminated? If so, at what cost? It sounds like a lot of questions, but, as we will see, they really boil down to just a few, essentially, how can monopolies exist, and, if they do, what harm do they do? After we have answered those questions, the rest will almost answer themselves.

We shall begin with the basics, that being how can monopolies exist. And I doubt it will surprise anyone for me to answer with the standard Austrian School, libertarian response that monopolies really cannot exist without government intervention. Of course, as with all my answers, I will have some qualifications added to that statement before too long, but, by and large, it is the correct answer. Barring government involvement, most monopolies are impossible. And those things the government defines as monopolies that can exist, often are simply not worth worrying about11,12. However, rather than dealing with such complexities first, why not start with the basics?

Let us start with a free market, that is one where entry ad exit from the market are uncontrolled, where goods and labor are exchanged freely, where contracts are enforceable, but may be created ad libitum13; in short, where the government limits itself to preventing force, theft and fraud, and enforcing contracts, and leaves the rest to the individuals. We start here, not because we are arguing it is the best economic system (though I will eventually do so), but because it is the most simple14, the easiest to understand, and thus a perfect place to start our analysis15.

For our purposes, let us start by assuming we are dealing with an industry which can be entered freely, not something such as mining, where there is an assumption that limited quantities of natural resources allow only a limited number of competitors. (We shall deal with those situations shortly.) Nor, given our opening assumptions, will there be any restriction on entry such as licensing or other government prohibitions. Given such a situation, there are a relatively few ways one can form a monopoly. The most obvious would be to provide one's good or service with such high quality, or such low price -- or a combination of the two -- that no competitor could stand against the firm in question.  A second option would be to be the sole provider of a unique good or service, which either through patent16 or simple trade secret, and thus exclude any competitors. Finally, the method most often postulated by those who worry about monopoly, a would be monopolist can undercut the prices of competitors, drive them from the market, and then return to higher prices once he has established a monopoly. All three are viable means to drive competitors from the market (though all are also quite difficult to carry out in practice), so, for the moment, let us not concern ourselves with which means is used17, but instead, ask what happens once the market is free of competition, what the effect will be of the monopoly established, and what its fate will be.

Ignoring for a moment monopolies established through trade secrets, let us point out that no one is worried about monopolies established through efficiency, quality or low prices, at least not if they continue in such practices18. If they continue to charge low prices, or provide above average quality, then there is no harm simply because it is a monopoly. What worries those who complain of such monopolies is the fear that, once they have cleared the market, they will give up on prior practices and begin charging prices above those that prevailed before the monopoly. That is, in the inaccurate terminology of the field,t hey will charge prices "above market"19.

The problem here is the open market. The moment a firm begins to charge prices high enough to raise profits above the prevailing rate of return, it will attract competition. Either the prior competitors will reopen, or new firms will appear on the market. Whatever the case, the higher profits rise, the more money will be attracted. Investors will flock to the market seeking a share of the high returns, and firms will proliferate.

Of course, the firm may try to resort to past practices, to clear the field of competitors again, but in the end that will not succeed. In the most often cited case, engaging in price wars every time a competitor arises will not only consume all the extra profits that monopoly might bring, but will in the end bankrupt the firm completely. After all, even when the price war is taking place, potential investors are aware the moment the market is clear, monopoly prices will prevail once more, and so funds will flow into the market ever more quickly, in ever greater quantities, making any possibility of maintaining a monopoly impossible.

The second situation is a bit more difficult. Competing by maintaining high efficiency or quality is harder to defeat, but also usually less harmful. If the firm originally cleared the market by out competing in terms of quality per unit of price, and then raised prices, while maintaining quality20, to take advantage of the monopoly, it will be more difficult to defeat them. However, there is still the fact that the rates of return will attract investors, and, given all that money, it is likely at least one competitor will stumble upon a mean to provide the same quality at a reduced price. It may take time, but eventually the attention drawn by such high returns will result in competitors capable of staying in the market and succeeding21.

A similar situation prevails where monopoly depends on trade secrets, though it is a bit more complex. If a product is in sufficient demand that a sole possessor of the secret can charge monopoly prices, then there will be enough profit to attract a lot of investment, and in short order it is likely the secret shall be discovered again. Or, if not, it is likely a close substitute will be found22. Even if we assume a patent prevent exact duplication, again, it is probably a substitute will be developed in short order, provided there is sufficient profit23.

This is running rather long, so let us just draw a brief conclusion here, as to standard monopolies. Without the power to legally exclude competition, in most fields a monopoly cannot be maintained. The higher profits will draw competition which will force the monopolist to either accept tremendous losses, or surrender monopoly status. Meaning, in the end, a monopoly cannot exist for long in a free market24.

However, there are some situations where a supposed "natural monopoly" exists. For example, some point to relatively rare minerals where one firm could "corner the market" and then charge monopoly prices. Or they look to industries such as electrical power or telephone service, though both of those have recently been proved to be nowhere near such a natural monopoly as was once believed, so we hear less about them than we once did. Regardless of the specific industry chosen, the argument is that there are some industries where competition simply cannot exist, and this the free market proves inadequate.

To rebut this, let us look at two very different examples, one which is often used and one which is rarely, but bother of which could be taken for natural monopolies, and show how neither has the freedom of pricing many suppose.

First, let us look at a relatively rare mineral and ask, what would happen if a single firm purchased all known reserves25.

Obviously, in such a situation, for a time, they could charge monopoly prices. However, there are several factors which make it almost impossible -- if not impossible -- to monopolize a mineral, or other good. First, there is substitution. It is almost impossible to name something for which no substitute exists. It may be a poor substitute, but as prices rise for the original good, the profits to be made will inspire inventors to find ways to make it a better fit. Second, there are other sources of the mineral. Minerals are distributed throughout the earth, though not evenly. What we consider viable deposits depend entirely on price. if a monopolist raises prices, then new deposits suddenly become viable, forcing him to buy them as well, which raises prices more, making new deposits viable and so on, in a never ending cycle. Not to mention that the higher profits also will spur innovation in mining techniques, as well as prospecting for new deposits, both of which will make new deposits available as well. And then there is the possibility of recycling old materials. If prices rise sufficiently it becomes viable to search for and reuse old materials. And, finally, there is the ability to economize on the use of a given mineral. In addition to finding substitutes, and searching for new sources, as a product becomes more expensive, industries become more careful in the use of a given substance. Where before they would accept certain amounts of waste, or becomes somewhat careless in the amounts they assigned for a given use. As prices increase, companies will invest more effort into using a given product more efficiently, which means that demand will fall more quickly at monopoly prices than one would anticipate26.

Let us look at a second situation which is a monopoly but which no one ever considers as such. Any given resort, or vacation destination, is a monopoly. There is only one Disney World, or Caesar's Palace, or whatever resort you choose. As such, it would seem that such resorts could charge "monopoly prices", and yet no one ever argues such natural monopolies overcharge, or should be regulated. And the reason is obvious, there are many imperfect substitutes for the same service. If Disney charges prices too great for the market to bear, visitors would go elsewhere. However, the situation is, viewed objectively, no different from many supposed natural monopolies. There is no exact substitute for Disney world, there is no direct competitor, so it should be seen as a monopoly, and yet it is not. Which shows how what is and is not a "natural monopoly" depends very often on what one chooses to define as such. And what is "true competition" and "defective competition" also depends on what axes a given economist or regulator has to grind.

In fact, we could even carry this over to many traditional natural monopolies. I have shown how cable service really has many imperfect substitutes and near competitors, in movies, books, DVDs, theaters, and so on. But what about electricity? Prior to many states deregulating and allowing various providers to deliver over jointly owned lines, this was supposedly the perfect example of a natural monopoly. But was it?

Obviously, doing without electrical service is inconvenient, but it is not impossible. (As my five day blackout this year proved to me.) Heat can be provided by wood stoves, fireplaces or other sources. Light can come from lamps, candles or other sources. One can even provide his own electricity via a generator if he chooses. Granted, all of these options have drawbacks, and the generator, while a near perfect substitute is costly. However, they are all competitors, and all keep the price of electricity in check. If the electric provider were to charge too much, then these alternatives would become attractive. And thus, while there was, at one time, no direct competitor for electrical providers, there were these many indirect competitors and substitutes, which, though maybe not as close substitutes as the resorts previously mentioned still meant that electrical power was not in the driver's seat to the degree most theories of monopoly suggest.

And all of these examples bring me to my point, which is, monopolies, for all the fear they inspire in regulators, are truly almost a fictional beast. As I showed with Disney World, or Coca Cola, it all depends on how one defines the market whether a firm is a monopoly or not. Coke has a monopoly on Coke, and Disney has a monopoly on Disney world, but we see them as competing with close substitutes. So why do we consider a cable TV provider a monopoly when we can also view him as competing with broadcast TV or satellite? It is just a matter of choice to make "cable TV" the market rather than "all televised media". Thus, what is often considered a monopoly may, when viewed in another light be nothing of the kind, which makes fears of "monopoly pricing" seem largely overblown.

In fact, they are completely absurd, as they are predicated upon the idea that there is some "ideal" price from which the monopoly deviates. This is largely thanks tot he convenient fiction of supply and demand curves, which tell us about a "market clearing price". However, such curves are in truth, useful fictions, or handy abstractions, the market does not have one ideal price, nor is there a "true market price". The market is what it is, and if there is a single competitor in a given field, that is the reality. We can hypothesize what would happen if there were more competitors, but if the market does not support them, then those hypotheses are as pointless as asking what would have happened if William of Normandy had lost at Hastings. The market is what it is. And if conditions are such that only a single firm can be supported, then that is the situation.

Which points out the problem with government intervention. Government intervention generally tries to work against the conditions produced by the free market. For example, the famous GE "conspiracy". In the early 60's many electrical manufacturers worried that the smaller firms were being driven from the market and the few remaining firms would be charged with monopolistic practices. So, they "conspired" to keep the small firms afloat, and, as a result, were then charged with conspiracy.

This shows precisely the problem with intervention. In most cases it tries to force more firms to exist than the market would support, and thus requires either subsidies, or competing firms to intentionally under-compete, providing goods at a higher price than they could, and thus harms the consumer and destroys the efficiency of the economy. In others, it prevents merges based entirely on the market share they would possess, without any thought of increased efficiency or other factors27.

Worst of all, the government tends to create market inertia. When it becomes involved, in deciding what is a competitive price, in choosing which firms need to remain to keep a market competitive, and so on, it freezes conditions as they are28, making change more difficult. And that is a massive problem, as the rapidity with which it changes is the strength  of the free market. The free market does not automatically produce the best outcome29, what it does, and does well, is ruthlessly remove failed attempts, while inspiring countless more. It is not so much the invisible hand pushing us in the right direction, it is the lure of wealth driving a slew of new attempts to get rich coupled with the "invisible scythe" brutally removing all those that fail. Those few survivors are what push us toward improved efficiency. However, as they proliferate, they also drive the scythe to remove ever more competitors, meaning not only does the market remove those who fail to measure up, but as more and more succeed, the bar is raised ever higher, and in that way, the free market moves toward the optimal solution30.

And I suppose in the end that is the best argument against government efforts against monopoly. As I have shown most such monopolies are largely illusory, or, if not, will be cleared by market forces in short order. Granted, for a time prices may be elevated, but the more they are, the less time the monopoly will survive. However, once the government becomes involved, the market becomes rigid, unable to respond, and efficiency suffers31. Thus, to cure a small and temporary ill, we often introduce a permanent and much more dangerous problem. That makes little sense.

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1. I was representing the Goliath, the county cable company suing the smaller competitor and apartments for keeping me out. Admittedly, it seems funny that a company owning 99% of the market could claim being kept out of 1% could constitute a restraint of trade, but the antitrust law actually was somewhat in my favor. (I forget the details, but recall tying agreements, cases about flour mills and a few other fuzzy details.) Unfortunately, while we were preparing briefs, the federal government issued new cable regulations which went entirely against us and, in real life, would have ruined our case. Fortunately, moot court rules prevented our opponents from using that ruling. Unfortunately, my opponents were bad at following rules, and used the new ruling anyway. I never found out whether their violation of rules would work against them or not, as I departed law school a few weeks before our arguments were to be presented.

2. In fact, some such arguments appeared in the legislative history for the older cable act which we had to read in preparation for our case. For the most part, the act was intended to allow cable into apartments when owners tried to prevent tenants from obtaining access, but there was some talk of competition, and, though conducted in the stuffy legalisms of congress, it was otherwise little different from the mundane arguments I have presented here.

3. Obviously, legally forcing someone to buy will distort the market horribly. I do not mean to imply in any way that, because one can choose to accept the consequences of breaking a bad law, that they are free or such laws are not dreadful ideas. All I am saying here is, when considering the economic situation, the buyer or seller always has the choice not to involve himself, and thus it is impossible to create a situation with but a single possible choice. It is possible to raise the costs so high that no one will choose the alternative, but the choice remains, and should the costs on the other side change, at some point the high costs may not be as unthinkable as they once were.

4. I was in law school in 1990, and the case itself had been appealed in 1988. Thus, home video was almost exclusively video tapes (with a handful of 12 inch laser disks still lingering about from several years before), and satellite television existed, though the dishes were massive by today's standards. (And probably not feasible for apartment residents, though that only changes my argument a little, as there are plenty of other alternatives.)

5. See "The Most Misleading Word" and "Luxury and Necessity".

6. See "Saving Us From Lower Prices", "Put Your Money Where Your Mouth Is, Or The Logical Implications of Price Gouging Laws", "Capitalism and Its Consequences" and "People Prove My Point".

7. See "The Inherent Disappointment of Authoritarianism", "The Limits of "Scientific" Management" and "Government Quackery".

8. See "A Question of Fairness". Also "Protean Terminology", "Semantic Games" and note 5, above, as the problem with the term "fair" is similar to the problem with the term "need", both try to smuggle in individual valuations as universal constants, and thus produce a term every individual thinks he understands completely, while every person using it has a different definition.

9. This is ignoring for the moment the question of the use of government power in the market. We will discuss that later in looking at the many monopoly situations.

10. We have seen this in the real world. For example, it was long technically feasible for multiple phone carriers to compete on the same lines. However, government regulations seemed stuck int he era of manual operator transfers of calls, and thus prevented any competition until the government itself broke up AT&T. By regulating a one time natural monopoly, the government perpetuated that monopoly long after it could have begun facing competition. (Whether phones were ever a true natural monopoly, or if it would have been feasible to allow multiple services even in the earlier stages is a question we can discuss another time. For the time being, let us assume they were a natural monopoly.)

11. For example, illegal tying agreements. If one firm wants to predicate sales upon the customer buying products of a second vendor as well, that is not something about which we need worry. If consumers do not like the agreement, they can simply say no. This is only a monopoly because the government calls it such. In practice, it is nothing of the kind. (Cf "The Difference Between Public and Private, Or, The Real Monopolies and Cartels", "Saving Us From Lower Prices", "The Endless Cycle of Intervention", "Bad Economics Part 3", "A Perfect Example" and "The Consumption Curve".)

12. I will leave it for another day to ask whether patent and copyright law is a rightful protection of creators' intellectual product, or a form of government created monopoly. As it is largely a legal fiction, it is possible to argue either position, and I have heard good arguments on both positions. However, for the time being I will ignore that question and focus on more obvious government formed monopolies and cartels. (See "Amusing Comment on Intellectual Property" and "Some Thoughts on Copyright, IP and the Law", if only to see how little I have written on the subject, mostly due to the difficulty I find deciding between the two, very different, positions.)

13. For the importance of the freedom of contracts, as well as the need for enfroceable contracts see "In Praise of Contracts".

14. I suppose some would argue a totally lawless environment would be an even more basic starting point, but actually, it would be more complex, as the inhabitants of such a lawless environment would need to individually create ad hoc methods for protecting themselves and their rights. Anarchy may seem less complex than a minimal government, but in practice, some assuming basic government actually simplifies analysis. (See "The State of Nature and Man's Rights". Also "The Benefit of Society".)

15. The arguments presented here are essentially the same as found in"Saving Us From Lower Prices", "The Little Guy Can't Compete" and "The Difference Between Public and Private, Or, The Real Monopolies and Cartels".

16. It is arguable that patent and copyright may be viewed as government interference, so we can, if we wish, limit ourselves to trade secrets protected solely by secrecy, and thus avoid muddying the water with government enforced patents.

17. There is one way the situation differs depending upon which approach is used, and we shall discuss it in its proper place.

18. Admittedly, some opponents of monopoly seem to find monopoly itself objectionable, but few economists do. Economic opposition seems to universally arise from increased prices, reduced quality and the like. An absence of competitors is no reason to oppose a given firm.

19. As discussed before, this is a meaningless phrase as there is no "market price" independent of what is being charged by the market at a given moment.

20. As mentioned before, if the firm does not raise prices, but simply maintains high quality or production efficiency, while charging the same prices as before, then there is no rational objection to such a monopoly. If consumers get the same goods at the same price, then who cares if they come from one firm or fifty?

21. Such monopolies seem less likely in real life, as a firm which spent so much time and effort to develop a degree of efficiency capable of driving off all competition is unlikely to then try to make a quick killing by raising prices. Far more likely, the firm will take the long view and cash in over the long term by charging modest prices while making additional profits due to increased production efficiency.

22. A good example would be in our brand name colas. Though Pepsi and Coca Cola are hardly identical, for most people they are adequate substitutes for one another. Were one to try to charge monopoly prices, the other would likely reap the benefits.

23. Recent intellectual property law has made a shambles of this, with cases based on similar "look and feel" in computer technology, or the ability to patent "business processes". This massive expansion of patents to cover many substitutes makes it far more likely a patent holder will be able to wield monopoly power, but that just proves my point, that government meddling can create monopolies, the free market rarely allows them to exist.

24. I am ignoring one situation which has been raised sometimes by protectionists, the idea that a nation may attempt to monopolize a strategic material, such as steel, not in order to profit -- they may even accept considerable losses -- but in order to easily cripple a rival in time of war. I won't discuss it here, as it is a very different topic, but the short answer is, in past wars many nations have been caught unprepared, and yet, in those cases, the ones with more free economies have quickly addressed such shortages. In other words, freedom and wealth make for quick response, and that comes from trade, which is why I argue strongly against such protectionist theories. (Not to mention that if a nation provides steel at near or below cost to corner the market, it is pretty cheap and easy to stockpile, making the threat pretty remote, and giving much time to develop a domestic industry should war come. For a little discussion on this see "Protectionism", "Free Trade, Employment, Outsourcing, and Protectionism", "Cheap Lighters, Overseas Dumping and Monopolies", "Jobs, Jobs, Jobs, and More Jobs", "The Inevitable Corruption of Protectionism", "Fear of Trade", and "Protectionism Right and Left".)

25. Both OPEC and the failed attempts to corner the silver and wheat markets come to mind when discussing this topic, though the latter are better examples, as the OPEC cartel has the power it does not because of the free market, but because of foolish policy in the US, especially in the 1970's. (See "Why I Doubt Peak Oil Predicitons", "Rejecting "Peak Oil"", "A Thought on Oil Reserves", "Why Peak Oil is Laughable", "Forget Hope, Try Realism" and "Memories of Jimmy". I would also recommend "Running an Economy on Compost, Saw Grass and Solar Cells" as a good analysis not only of oil reserves, but indirectly of substitution and opening previously uneconomical reserves when prices rise.)

26. Technically, this should be included in the demand curve and thus be figured into monopoly pricing, but in truth, it rarely is. If prices are fluid, going up and down, an increase probably will not spur such cost cutting measures, as the price will probably fall again. However, in a monopoly, if the firm anticipates continued higher prices, then they will do so. In short, the demand curve is different if the price increase is anticipated to be long term versus short term, but, until a long term price increase takes place, it is impossible to know what the result will be, making it very difficult to set a rational optimal monopoly price. And that is yet another reason monopolies work much better in theory than in practice.

27. Most regulators of course pay lip service to considering all factors when approving or denying such mergers, but the truth is, no one can know in advance how such a merger will fare. The only way to know is to allow it to happen and let the market sort out the results. Instead a combination of personal bias, pressure politics, corruption and arbitrary decisions, sometimes with a fig leaf of academic guesswork, is substituted for the market.

28. We discussed this earlier when talking about price setting committees for public utilities.

29. See "Third Best Economy". Also "Cutting "Costs"", "Misunderstanding Profits" and  "Two Examples of "Inefficiency" in Capitalism".

30. Of course, the free market never reaches the optimum, because our ever changing desires, as well as the satisfaction of certain needs mean the optimal set of goods is in constant flux as well, and we are always chasing a moving target. But there again the speed with which the free market adapts (as opposed to the glacial pace of regulated or command economies) means it is better at chasing a very rapidly moving target.

31. For a more general examination of this lack of flexibility, see "Inflexibility and Bureaucracy", "Adaptability and Government", "Best Practices and Resistance to Change, Bureaucracy and the Free Market" and "Redundancy as a Protective Measure". It may also be beneficial to examine  "A New Look At Intervention", "The Threat of Perfection", "Utopianism and Disaster", "Greed Versus Evil" and "The Inevitability of Bureaucratic Management in Government Enterprises", as well as my recent "The Secret of Success, or, Why Government Fails". In addition, some parts of "An Examination of the Economics and Sociology of Government Spending " may prove relevant as well.

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POSTSCRIPT

Two points to address following this essay. First, my apologies once again for my lengthy silence and I promise before next Monday I will post both my essay on small government and the other on the use of psychology and pop psych as a substitute for volition. Second, after writing this essay I think my next essay following those will be a look at how the free market's ability to respond rapidly is its greatest strength, and how the slow pace of change necessitated by government involvement prevents command economies from coming close to efficiency. However, given my slow pace of posting I don't know when to expect that essay.

Originally posted in Random Notes on 2012/08/29.

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