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Monopoly Prices (Prices, Part 2)

July 3, 2009

Tags History of the Austrian School of EconomicsMonopoly and CompetitionPhilosophy and MethodologyPrices

[This article is excerpted from chapter 16 of Human Action. Robert Murphy has written a study guide for this chapter, available in HTML and PDF. This article follows "Chapter XVI. Prices, Part 1."]

Competitive prices are the outcome of a complete adjustment of the sellers to the demand of the consumers. Under the competitive price the whole supply available is sold, and the specific factors of production are employed to the extent permitted by the prices of the nonspecific complementary factors. No part of a supply available is permanently withheld from the market, and the marginal unit of specific factors of production employed does not yield any net proceed. The whole economic process is conducted for the benefit of the consumers. There is no conflict between the interests of the buyers and those of the sellers, between the interests of the producers and those of the consumers. The owners of the various commodities are not in a position to divert consumption and production from the lines enjoined by the state of supply of goods and services of all orders and the state of technological knowledge.

Every single seller would see his own proceeds increased if a fall in the supply at the disposal of his competitors were to increase the price at which he himself could sell his own supply. But on a competitive market he is not in a position to bring about this outcome. Except for a privilege derived from government interference with business he must submit to the state of the market as it is.

The entrepreneur in his entrepreneurial capacity is always subject to the full supremacy of the consumers. It is different with the owners of vendible goods and factors of production and, of course, with the entrepreneurs in their capacity as owners of such goods and factors. Under certain conditions they fare better by restricting supply and selling it at a higher price per unit. The prices thus determined, the monopoly prices, are an infringement of the supremacy of the consumers and the democracy of the market.

The special conditions and circumstances required for the emergence of monopoly prices and their catallactic features are:

1. There must prevail a monopoly of supply. The whole supply of the monopolized commodity is controlled by a single seller or a group of sellers acting in concert. The monopolist — whether one individual or a group of individuals — is in a position to restrict the supply offered for sale or employed for production in order to raise the price per unit sold and need not fear that his plan will be fruitrated by interference on the part of other sellers of the same commodity.

2. Either the monopolist is not in a position to discriminate among the buyers or he voluntarily abstains from such discrimination.[12]

3. The reaction of the buying public to the rise in prices beyond the potential competitive price, the fall in demand, is not such as to render the proceeds resulting from total sales at any price exceeding the competitive price smaller than total proceeds resulting from total sales at the competitive price. Hence it is superfluous to enter into sophisticated disquisitions concerning what must be considered the mark of the sameness of an article. It is not necessary to raise the question whether all neckties are to be called specimens of the same article or whether one should distinguish them with regard to fabric, color, and pattern. An academic delimitation of various articles is useless. The only point that counts is the way in which the buyers react to the rise in prices. For the theory of monopoly price it is irrelevant to observe that every necktie manufacturer turns out different articles and to call each of them a monopolist. Catallactics does not deal with monopoly as such but with monopoly prices. A seller of neckties which are different from those offered for sale by other people could attain monopoly prices only if the buyers did not react to any rise in prices in such a way as to make such a rise disadvantageous for him.

Monopoly is a prerequisite for the emergence of monopoly prices, but it is not the only prerequisite. There is a further condition required, namely a certain shape of the demand curve. The mere existence of monopoly does not mean anything. The publisher of a copyright book is a monopolist. But he may not be able to sell a single copy, no matter how low the price he asks. Not every price at which a monopolist sells a monopolized commodity is a monopoly price. Monopoly prices are only prices at which it is more advantageous for the monopolist to restrict the total amount to be sold than to expand his sales to the limit which a competitive market would allow. They are the outcome of a deliberate design tending toward a restriction of trade.

In calling the monopolist's conduct deliberate, it is not meant to suggest that he compares the monopoly price he is asking with the competitive price which a hypothetical nonmonopolized market would have determined. It is only the economist who contrasts the monopoly price with the potential competitive price. In the deliberations of the monopolist who has already got his monopolistic position, the competitive price plays no role at all. Like every other seller he wants to realize the highest price attainable. It is only the state of the market as conditioned by his monopolistic position on the one hand and the conduct of the buyers on the other that results in the emergence of monopoly prices.

4. It is a fundamental mistake to assume that there is a third category of prices which are neither monopoly prices nor competitive prices. If we disregard the problem of price discrimination to be dealt with later, a definite price is either a competitive price or a monopoly price. The assertions to the contrary are due to the erroneous belief that competition is not free or perfect unless everybody is in a position to present himself as a seller of a definite commodity.

The available supply of every commodity is limited. If it were not scarce with regard to the demand of the public, the thing in question would not be considered an economic good, and no price would be paid for it. It is therefore misleading to apply the concept of monopoly in such a way as to make it cover the entire field of economic goods. Mere limitation of supply is the source of economic value and of all prices paid; as such it is not yet sufficient to generate monopoly prices.[13]

The term monopolistic or imperfect competition is applied today to the cases in which there are some differences in the products of different producers and sellers. This means that almost all consumers' goods are included in the class of monopolized goods. However, the only question relevant in the study of the determination of prices is whether these differences can be used by the seller for a scheme of deliberate restriction of supply for the sake of increasing his total net proceeds. Only if this is possible and put into effect, can monopoly prices emerge as differentiated from competitive prices. It may be true that every seller has a clientele which prefers his brand to those of his competitors and would not stop buying it even if the price were higher. But the problem for the seller is whether the number of such people is great enough to overcompensate the reduction of total sales which the abstention from buying on the part of other people would bring about. Only if this is the case, can he consider the substitution of monopoly prices for competitive prices advantageous.

The confusion which led to the idea of imperfect or monopolistic competition stems from a misinterpretation of the term control of supply. Every producer of every product has his share in controlling the supply of all commodities offered for sale. If he had produced more a, he would have increased supply and brought about a tendency toward a lower price. But the question is why he did not produce more of a. Was he in restricting his production of a to the amount of p intent upon complying to the best of his abilities with the wishes of the consumers? Or was he intent upon defying the orders of the consumers for his own advantage? In the first case he did not produce more of a, because increasing the quantity of a beyond p would have withdrawn scarce factors of production from other branches in which they would have been employed for the satisfaction of more urgent needs of the consumers. He does not produce p + r, but merely p, because such an increase would have rendered his business unprofitable or less profitable, while there are still other more profitable employments available for capital investment. In the second case he did not produce r, because it was more advantageous for him to leave a part of the available supply of a monopolized specific factor of production m unused. If m were not monopolized by him, it would have been impossible for him to expect any advantage from restricting his production of a. His competitors would have filled the gap and he would not have been in a position to ask higher prices.

In dealing with monopoly prices we must always search for the monopolized factor m. If no such factor is in the case, no monopoly prices can emerge. The first requirement for monopoly prices is the existence of a monopolized good. If no quantity of such a good m is withheld, there is no opportunity for an entrepreneur to substitute monopoly prices for competitive prices.

Entrepreneurial profit has nothing at all to do with monopoly. If an entrepreneur is in a position to sell at monopoly prices, he owes this advantage to his monopoly with regard to a monopolized factor m. He earns the specific monopoly gain from his ownership of m, not from his specific entrepreneurial activities.

Let us assume that an accident cuts a city's electrical supply for several days and forces the residents to resort to candlelight only. The price of candles rises to s; at this price the whole supply available is sold out. The stores selling candles reap a high profit in selling their whole supply at s. But it could happen that the storekeepers combine in order to withhold a part of their stock from the market and to sell the rest at a price s + t. While s would have been the competitive price, s + t is a monopoly price. The surplus earned by the storekeepers at the price s + t over the proceeds they would have earned when selling at s only is their specific monopoly gain.

It is immaterial in what way the storekeepers bring about the restriction of the supply offered for sale. The physical destruction of a part of the supply available is the classical case of monopolistic action. Only a short time ago it was practiced by the Brazilian government in burning large quantities of coffee. But the same effect can be attained by leaving a part of the supply unused.

While there constantly prevails a tendency to make profits disappear, the specific monopoly gain is a permanent phenomenon and can disappear only with a change in the market data. While profits are incompatible with the imaginary construction of the evenly rotating economy, monopoly prices and specific monopoly gains are not.

5. The competitive price is determined by the state of the market. There prevails on a competitive market a tendency toward the disappearance of differences in prices and the establishment of a uniform price. With regard to monopoly prices things are different. If it is possible for the seller to increase his net proceeds by restricting sales and increasing prices per unit sold, then as a rule there are several monopoly prices which satisfy this condition. As a rule one of these monopoly prices yields the highest net proceeds. But it may also happen that various monopoly prices are equally advantageous to the monopolist. We may call this monopoly price or these monopoly prices most advantageous to the monopolist the optimum monopoly price or the optimum monopoly prices.

6. The monopolist does not know beforehand in what way the consumers will react to a rise in prices. He must resort to trial and error in his endeavors to find out whether the monopolized good can be sold to his advantage at any price exceeding the competitive price and, if this is so, which of various possible monopoly prices is the optimum monopoly price or one of the optimum monopoly prices. This is in practice much more difficult than the economist assumes when, in drawing demand curves, he ascribes perfect foresight to the monopolist. We must therefore list as a special condition required for the appearance of monopoly prices the monopolist's ability to discover such prices.

7. A special case is provided by the incomplete monopoly. The greater part of the total supply available is owned by the monopolist; the rest is owned by one or several men who are not prepared to cooperate with the monopolist in a scheme for restricting sales and bringing about monopoly prices. However, the reluctance of these outsiders does not prevent the establishment of monopoly prices if the portion pt controlled by the monopolist is large enough when compared with the sum of the outsiders' portions p2. Let us assume that the whole supply (p=p1 + p2) can be sold at the price c per unit and a supply of p−z at the monopoly price d. If d (ptz) is higher than c p1, it is to the advantage of the monopolist to embark upon a monopolistic restriction of his sales, no matter what the conduct of the outsiders may be. They may go on selling at the price c or they may raise their prices up to the maximum of d. The only point that counts is that the outsiders are not willing to put up with a reduction in the quantity which they themselves are selling. The whole reduction required must be borne by the owner of p1. This influences his plans and will as a rule result in the emergence of a monopoly price which is different from that which would have been established under complete monopoly.[14]

8. Duopoly and oligopoly are not special varieties of monopoly prices, but merely a variety of the methods applied for the establishment of a monopoly price. Two or several men own the whole supply. They all are prepared to sell at monopoly prices and to restrict their total sales accordingly. But for some reason they do not want to act in concert. Each of them goes his own way without any formal or tacit agreement with his competitors. But each of them knows also that his rivals are intent upon a monopolistic restriction of their sales in order to reap higher prices per unit and specific monopoly gains. Each of them watches carefully the conduct of his rivals and tries to adjust his own plans to their actions. A succession of moves and countermoves, a mutual outwitting results, the outcome of which depends on the personal cunning of the adverse parties. The duopolists and oligopolists have two objectives in mind: to find out the monopoly price most advantageous to the sellers on the one hand and to shift as much as possible of the burden of restricting the amount of sales to their rivals. Precisely because they do not agree with regard to the quotas of the reduced amount of sales to be allotted to each party, they do not act in concert as the members of a cartel do.

One must not confuse duopoly and oligopoly with the incomplete monopoly or with competition aiming at the establishment of monopoly. In the case of incomplete monopoly only the monopolistic group is prepared to restrict its sales in order to make a monopoly price prevail; the other sellers decline to restrict their sales. But duopolists and oligopolists are ready to withhold a part of their supply from the market. In the case of price slashing one group A plans to attain full monopoly or incomplete monopoly by forcing all or most of its competitors, the B's, to go out of business. It cuts prices to a level which makes selling ruinous to its more vulnerable competitors. A may also incur losses by selling at this low rate; but it is in a position to undergo such losses for a longer time than the others and it is confident that it will make good for them later by ample monopoly gains. This process has nothing to do with monopoly prices. It is a scheme for the attainment of a monopoly position.

One may wonder whether duopoly and oligopoly are of practical significance. As a rule the parties concerned will come to at least a tacit understanding concerning their quotas of the reduced amount of sales.

9. The monopolized good by whose partial withholding from the market the monopoly prices are made to prevail can be either a good of the lowest order or a good of a higher order, a factor of production. It may consist in the control of the technological knowledge required for production, the "recipe." Such recipes are as a rule free goods as their ability to produce definite effects is unlimited. They can become economic goods only if they are monopolized and their use is restricted. Any price paid for the services rendered by a recipe is always a monopoly price. It is immaterial whether the restriction of a recipe's use is made possible by institutional conditions — such as patents and copyright laws — or by the fact that a formula is kept secret and other people fail to guess it.

The complementary factor of production the monopolization of which can result in the establishment of monopoly prices may also consist in a man's opportunity to make his cooperation in the production of a good known to consumers who attribute to this cooperation a special significance. This opportunity may be given either by the nature of the commodities or services in question or by institutional provisions such as protection of trademarks. The reasons why the consumers value the contribution of a man or a firm so highly are manifold. They may be: special confidence placed on the individual or firm concerned on account of previous experience;[15] merely baseless prejudice or error; snobbishness; magic or metaphysical prepossessions whose groundlessness is ridiculed by more reasonable people. A drug marked by a trademark may not differ in its chemical structure and its physiological efficacy from other compounds not marked with the same label. However, if the buyers attach a special significance to this label and are ready to pay higher prices for the product marked with it, the seller can, provided the configuration of demand is propitious, reap monopoly prices.

The monopoly which enables the monopolist to restrict the amount offered without counteraction on the part of other people can consist in the greater productivity of a factor which he has at his disposal as against the lower productivity of the corresponding factor at the disposal of his potential competitors. If the margin between the higher productivity of his supply of the monopolized factor and that of his potential competitors is broad enough for the emergence of a monopoly price, a situation results which we may call margin monopoly.[16]

Let us illustrate margin monopoly by referring to its most frequent instance in present-day conditions, the power of a protective tariff to generate a monopoly price under special circumstances. Atlantis puts a tariff t on the importation of each unit of the commodity p the world market price of which is s. If domestic consumption of p in Atlantis at the price s + t is a and domestic production of p is b, b being smaller than a, then the costs of the marginal dealer are s + t. The domestic plants are in a position to sell their total output at the price s + t. The tariff is effective and offers to domestic business the incentive to expand the production of p from b to a quantity slightly smaller than a. But if b is greater than a, things are different. If we assume that b is so large that even at the price s domestic consumption lags behind it and the surplus must be exported and sold abroad, the imposition of a tariff does not affect the price of p. Both the domestic and the world market price of p remain unchanged. However the tariff, in discriminating between domestic and foreign production of p, accords to the domestic plants a privilege which can be used for a monopolistic combine, provided certain further conditions are present. If it is possible to find within the margin between s + t and s a monopoly price, it becomes lucrative for the domestic enterprises to form a cartel. The cartel sells in the home market of Atlantis at a monopoly price and disposes of the surplus abroad at the world market price. Of course, as the quantity of p offered at the world market increases as a consequence of the restriction of the quantity sold in Atlantis, the world market price drops from s to s1. It is therefore a further requirement for the emergence of the domestic monopoly price that the total restriction in proceeds resulting from this fall in the world market price is not so great as to absorb the whole monopoly gain of the domestic cartel.

In the long run such a national cartel cannot preserve its monopolistic position if entrance into its branch of production is free to newcomers. The monopolized factor the services of which the cartel restricts (as far as the domestic market is concerned) for the sake of monopoly prices is a geographical condition which can easily be duplicated by every new investor who establishes a new plant within the borders of Atlantis. Under modern industrial conditions, the characteristic feature of which is steady technological progress, the latest plant will as a rule be more efficient than the older plants and produce at lower average costs. The incentive to prospective newcomers is therefore twofold. It consists not only in the monopoly gain of the cartel members, but also in the possibility of outstripping them by lower costs of production.

Here again institutions come to the aid of the old firms that form the cartel. The patents give them a legal monopoly which nobody may infringe. Of course, only some of their production processes may be protected by patents. But a competitor who is prevented from resorting to these processes and to the production of the articles concerned may be handicapped in such a serious way that he cannot consider entrance into the field of the cartelized industry.

The owner of a patent enjoys a legal monopoly which, other conditions being propitious, can be used for the attainment of monopoly prices. Beyond the field covered by the patent itself a patent may render auxiliary services in the establishment and preservation of margin monopoly where the primary institutional conditions for the emergence of such a monopoly prevail.

We may assume that some world cartels would exist even in the absence of any government interference which provides for other commodities the indispensable conditions required for the construction of a monopolistic combine. There are some commodities, e.g., diamonds and mercury, the supply of which is by nature limited to a few sources. The owners of these resources can easily be united for concerted action. But such cartels would play only a minor role in the setting of world production. Their economic significance would be rather small. The important place that cartels occupy in our time is an outcome of the interventionist policies adopted by the governments of all countries. The great monopoly problem mankind has to face today is not an outgrowth of the operation of the market economy. It is a product of purposive action on the part of governments. It is not one of the evils inherent in capitalism as the demagogues trumpet. It is, on the contrary, the fruit of policies hostile to capitalism and intent upon sabotaging and destroying its operation.

The classical country of the cartels was Germany. In the last decades of the nineteenth century the German Reich embarked upon a vast scheme of Sozialpolitik. The idea was to raise the income and the standard of living of the wage-earners by various measures of what is called prolabor legislation, by the much glorified Bismarck plan of social security, and by labor-union pressure and compulsion for the attainment of higher wage rates. The advocates of this policy defied the warnings of the economists. There is no such thing as economic law, they announced. The Hohenzollern Empire which had defeated the Emperors of Austria and of France and before which the nations of the world trembled was above any law. Its will was the supreme canon.

In stark reality the Sozialpolitik raised costs of production within Germany. Every progress of the alleged prolabor legislation and every successful strike disarranged industrial conditions to the disadvantage of the German enterprises. It made it harder for them to outdo foreign competitors for whom the domestic events of Germany did not raise costs of production. If the Germans had been in a position to renounce the export of manufactures and to produce only for the domestic market, the tariff could have sheltered the German plants against the intensified competition of foreign business. They would have been in a position to reap higher prices. What the wage earner would have profited from the achievements of the legislature and the unions, would have been absorbed by the higher prices he would have had to pay for the articles he bought. Real wage rates would have risen only to the extent the entrepreneurs could improve technological procedures and thereby increase the productivity of labor. The tariff would have rendered the Sozialpolitik harmless in preventing a spread of unemployment.

But Germany is, and was already at the time Bismarck inaugurated his prolabor policy, a predominantly industrial country. Its plants exported a considerable part of their total output. These exports enabled the Germans to import the foodstuffs and raw materials they could not grow in their own country, comparatively overpopulated and poorly endowed with natural resources as it was. As has been pointed out above, such a surplus production renders a protective tariff ineffective. Only cartels could free Germany from the catastrophic consequences of its "progressive" prolabor policies. The cartels charged monopoly prices at home and sold abroad at cheaper prices. The cartels are the necessary accompaniment and upshot of a "progressive" labor policy as far as it affects industries dependent on foreign markets. The cartels do not, of course, safeguard for the wage earners the illusory social gains which the labor politicians and the union leaders promise them. There is no means of raising wage rates for all those eager to earn wages above the height determined by the productivity of each kind of labor. What the cartels achieved was merely to counterbalance the apparent gains in nominal wage rates by corresponding increases in domestic commodity prices. But the most disastrous effect of minimum wage rates, permanent mass unemployment, was at first avoided.

Germany was not the first country that resorted to "prolabor" legislation and gave its labor unions a free hand to enforce minimum wage rates. Other countries had preceded Germany in this respect. But the oppositon which these policies had encountered on the part of economists, reasonable statesmen, and businessmen had for many years put a check upon the progress of these destructive methods of government. For the most part their alleged benefits did not grant the wage earners more than they had already won, without any interference on the part of the government, by the technological improvements which never cease under capitalism. When in some cases the government had gone a little farther, the propulsive evolution of business in a very short time made things even. But in later years, especially after the end of the First World War, all other nations adopted for their labor policies the thorough methods of the Germans. Again the cartel had to supplement the "prolabor" policies in order to conceal their futility and to postpone for a time their manifest fiasco.

With all industries which cannot content themselves with the domestic market and are intent upon selling a part of their output abroad the function of the tariff, in this age of government interference with business, is to enable the establishment of domestic monopoly prices. Whatever the purpose and the effects of tariffs may have been in the past, as soon as an exporting country embarks upon measures designed to increase the revenues of the wage earners or the farmers above the potential market rates, it must foster schemes which result in domestic monopoly prices for the commodities concerned. A national government's might is limited to the territory subject to its sovereignty. It has the power to raise domestic costs of production. It does not have the power to force foreigners to pay correspondingly higher prices for the products. If exports are not to be discontinued, they must be subsidized. The subsidy can be paid openly by the treasury or its burden can be imposed upon the consumers by the cartel's monopoly prices.

The advocates of government interference with business ascribe to the "State" the power to benefit certain groups within the framework of the market by a mere fiat. In fact this power is the government's power to foster monopolistic combines. The monopoly gains are the funds out of which the "social gains" are financed. As far as these monopoly gains do not suffice, the various measures of interventionism immediately paralyze the operation of the market; mass unemployment, depression, and capital consumption appear. This explains the eagerness of all contemporary governments to foster monopoly in all those sectors of the market which are in some way or other connected with export trade.

If a government does not or cannot succeed in attaining its monopolistic aims indirectly, it resorts to direct action. In the field of coal and potash the Imperial Government of Germany established compulsory cartels. The American New Deal was prevented by the opposition of business from organizing the nation's great industries on an obligatory cartel basis. It succeeded better in some vital branches of farming with measures designed to restrict output for the sake of monopoly prices. A long series of agreements concluded between the world's most prominent governments aimed at the establishment of world-market monopoly prices for various raw materials and foodstuffs.[17] It is the avowed purpose of the United Nations to continue these plans.

It is necessary to view this promonopoly policy of the contemporary governments as a uniform phenomenon in order to discern the reasons which motivated it. From the catallactic point of view these monopolies are not uniform. The contractual cartels into which entrepreneurs enter in taking advantage of the incentive offered by protective tariffs are instances of margin monopoly. Where the government directly fosters monopoly prices we are faced with instances of license monopoly. The factor of production by the restriction of the use of which the monopoly price is brought about is the license which the laws make a requisite for supplying the consumers.

Such licenses may be granted in different ways:

  1. An unlimited license is granted to practically every applicant. This amounts to a state of affairs under which no license at all is required.

  2. Licenses are granted only to selected applicants. Competition is restricted. However, monopoly prices can emerge only if the licensees act in concert and the configuration of demand is propitious.

  3. There is only one licensee. The licensee, e.g., the holder of a patent or a copyright, is a monopolist. If the configuration of the demand is propitious and if the licensee wants to reap monopoly gains, he can ask monopoly prices.

  4. The licenses granted are limited. They confer upon the licensee only the right to produce or to sell a definite quantity, in order to prevent him from disarranging the authority's scheme. The authority itself directs the establishment of monopoly prices.

Finally there are the instances in which a government establishes a monopoly for fiscal purposes. The monopoly gains go to the treasury. Many European governments have instituted tobacco monopolies. Others have monopolized salt, matches, telegraph and telephone service, broadcasting, and so on. Without exception every country has a government monopoly of the postal service.

10. Margin monopoly need not always owe its appearance to an institutional factor such as tariffs. It can also be produced by sufficient differences in the fertility or productivity of some factors of production.

It has already been said that it is a serious blunder to speak of a land monopoly and to refer to monopoly prices and monopoly gains in explaining the prices of agricultural products and the rent of land. As far as history is confronted with instances of monopoly prices for agricultural products, it was license monopoly fostered by government decree. However the acknowledgment of these facts does not mean that differences in the fertility of the soil could never bring about monopoly prices. If the difference between the fertility of the poorest soil still tilled and the richest fallow fields available for an expansion of production were so great as to enable the owners of the already exploited soil to find an advantageous monopoly price within this margin, they could consider restricting production by concerted action in order to reap monopoly prices. But it is a fact that physical conditions in agriculture do not comply with these requirements. It is precisely on account of this fact that farmers longing for monopoly prices do not resort to spontaneous action but ask for the interference of governments.

In various branches of mining conditions are often more propitious for the emergence of monopoly prices based on margin monopoly.

11. It has been asserted again and again that the economies of big-scale production have generated a tendency toward monopoly prices in the processing industries. Such a monopoly would be called in our terminology a margin monopoly.

Before entering into a discussion of this topic one must clarify the role an increase or decrease in the unit's average cost of production plays in the considerations of a monopolist searching for the most advantageous monopoly price. We consider a case in which the owner of a monopolized complementary factor of production, e.g., a patent, at the same time manufactures the product p. If the average cost of production of one unit of p, without any regard to the patent, decreases with the increase in the quantity produced, the monopolist must weigh this against the gains expected from the restriction of output. If on the other hand cost of production per unit decreases with the restriction of total production, the incentive to embark upon monopolistic restraint is augmented. It is obvious that the mere fact that big-scale production tends as a rule to lower average costs of production is in itself not a factor driving toward the emergence of monopoly prices. It is rather a checking factor.

What those who blame the economies of big-scale production for the spread of monopoly prices are trying to say is that the higher efficiency of big-scale production makes it difficult or even impossible for small-scale plants to compete successfully. A big-scale plant could, they believe, resort to monopoly prices with impunity because small business is not in a position to challenge its monopoly. Now, it is certainly true that in many branches of the processing industries it would be foolish to enter the market with the high-cost products of small, inadequate plants. A modern cotton mill does not need to fear the competition of old-fashioned distaffs; its rivals are other more or less adequately equipped mills. But this does not mean that it enjoys the opportunity of selling at monopoly prices. There is competition between big businesses too. If monopoly prices prevail in the sale of the products of big-size business, the reasons are either patents or monopoly in the ownership of mines or other sources of raw material or cartels based on tariffs.

One must not confuse the notions of monopoly and of monopoly prices. Mere monopoly as such is catallactically of no importance if it does not result in monopoly prices. Monopoly prices are consequential only because they are the outcome of a conduct of business defying the supremacy of the consumers and substituting the private interests of the monopolist for those of the public. They are the only instance in the operation of a market economy in which the distinction between production for profit and production for use could to some extent be made if one were prepared to disregard the fact that monopoly gains have nothing at all to do with profits proper. They are not a part of what catallactics can call profits; they are an increase in the price earned from the sale of the services rendered by some factors of production, some of these factors being physical factors, some of them merely institutional. If the entrepreneurs and capitalists in the absence of a monopoly price constellation abstain from expanding production in a certain branch of industry because the opportunities offered to them in other branches are more attractive, they do not act in defiance of the wants of the consumers. On the contrary, they follow precisely the line indicated by the demand as expressed on the market.

The political bias which has obfuscated the discussion of the monopoly problem has neglected to pay attention to the essential issues involved. In dealing with every case of monopoly prices one must first of all raise the question of what obstacles restrain people from challenging the monopolists. In answering this question one discovers the role played in the emergence of monopoly prices by institutional factors. It is nonsense to speak of conspiracy with regard to the deals between American firms and German cartels. If an American wanted to manufacture an article protected by a patent owned by Germans, he was compelled by the American law to come to an arrangement with German business.

12. A special case is what may be called the failure monopoly.

In the past capitalists invested funds in a plant designed for the production of the article p. Later events proved the investment a failure. The prices which can be obtained in selling p are so low that the capital invested in the plant's inconvertible equipment does not yield a return. It is lost. However, these prices are high enough to yield a reasonable return for the variable capital to be employed for the current production of p. If the irrevocable loss of the capital invested in the inconvertible equipment is written off on the books and all corresponding alterations are made in the accounts, the reduced capital working in the conduct of the business is by and large so profitable that it would be a new mistake to stop production altogether. The plant works at full capacity producing the quantity q of p and selling the unit at the price s.

But conditions may be such that it is possible for the enterprise to reap a monopoly gain by restricting output to q/2 and selling the unit of p at the price 3 s. Then the capital invested in the inconvertible equipment no longer appears completely lost. It yields a modest return, namely, the monopoly gain.

This enterprise now sells at monopoly prices and reaps monopoly gains although the total capital invested yields little when compared with what the investors would have earned if they had invested in other lines of business. The enterprise withholds from the market the services which the unused production capacity of its durable equipment could render and fares better than it would by producing at full capacity. It defies the orders of the public. The public would have been in a better position if the investors had avoided the mistake of immobilizing a part of their capital in the production of p. They would, of course, not get any p. But they would instead obtain those articles which they miss now because the capital required for their production has been wasted in the construction of an aggregate for the production of p. However, as things are now after this irreparable fault has been committed, they want to get more of p and are ready to pay for it what is now its potential competitive market price, namely, s. They do not approve, as conditions are now, the action of the enterprise in withholding an amount of variable capital from employment for the production of p. This amount certainly does not remain unused. It goes into other lines of business and produces there something else, namely, m. But as conditions are now, the consumers would prefer an increase of the available quantity of p to an increase in the available quantity of m. The proof is that in the absence of a monopolistic restriction of the capacity for the production of p, as it is under given conditions, the profitability of a production of the quantity q of s would be such that it would pay better than an increase in the quantity of the article m produced.

There are two distinctive features of this case. First, the monopoly prices paid by the buyers are still lower than the total cost of production of p would be if full account is taken of the whole input of the investors. Second, the monopoly gains of the firm are so small that they do not make the total venture appear a good investment. It remains malinvestment. It is precisely this fact that constitutes the monopolistic position of the firm. No outsider wants to enter its field of entrepreneurial activity because the production of p results in losses.

Failure monopoly is by no means a merely academic construction. It is, for instance, actual today in the case of some railroad companies. But one must guard against the mistake of interpreting every instance of unused production capacity as a failure monopoly. Even in the absence of monopoly it may be more profitable to employ variable capital for other purposes instead of expanding a firm's production to the limit fixed by the capacity of its durable inconvertible equipment; then the output restriction complies precisely with the state of the competitive market and the wishes of the public.

13. Local monopolies are, as a rule, of institutional origin. But there are also local monopolies which originate out of conditions of the unhampered market. Often the institutional monopoly is designed to deal with a monopoly which came into existence or would be likely to come into existence without any authoritarian interference with the market.

A catallactic classification of local monopolies must distinguish three groups: margin monopoly, limited-space monopoly and license monopoly.

A local margin monopoly is characterized by the fact that the barrier preventing outsiders from competing on the local market and breaking the monopoly of the local sellers is the comparative height of transportation costs. No tariffs are needed to grant limited protection to a firm which owns all the adjacent natural resources required for the production of bricks against the competition of far distant tile works. The costs of transportation provide them with a margin in which, the configuration of demand being propitious, an advantageous monopoly price can be found.

So far local margin monopolies do not differ catallactically from other instances of margin monopoly. What distinguishes them and makes it necessary to deal with them in a special way is their relation to the rent of urban land on the one hand and their relation to city development on the other.

Let us assume that an area A offering favorable conditions for the aggregation of an increasing urban population is subject to monopoly prices for building materials. Consequently building costs are higher than they would be in the absence of such a monopoly. But there is no reason for those weighing the pros and cons of choosing the location of their homes and their workshops in A to pay higher prices for the purchase or the renting of such houses and workshops. These prices are determined on the one hand by the corresponding prices in other areas and on the other by the advantages which settling in A offers when compared with settling somewhere else. The higher expenditure required for construction does not affect these prices; its incidence falls upon the yield of land. The burden of the monopoly gains of the sellers of building materials falls on the owners of the urban soil. These gains absorb proceeds which in their absence would go to these owners. Even in the — not very likely — case that the demand for houses and workshops is such as to make it possible for the owners of the land to attain monopoly prices in selling and leasing, the monopoly prices of the building materials would affect only the proceeds of the landowners, not the prices to be paid by the buyers or tenants.

The fact that the burden of the monopoly gains reverts to the price of urban employment of the land does not mean that it does not check the growth of the city. It postpones the employment of the peripheral land for the expansion of the urban settlement. The instant at which it becomes advantageous for the owner of a piece of suburban land to withdraw it from agricultural or other nonurban employment and to use it for urban development appears at a later date.

Now arresting a city's development is a two-edged action. Its usefulness for the monopolist is ambiguous. He cannot know whether future conditions will be such as to attract more people to A, the only market for his products. One of the attractions a city offers to newcomers is its bigness, the multitude of its population. Industry and commerce tend toward centers. If the monopolist's action delays the growth of the urban community, it may direct the stream toward other places. An opportunity may be missed which never comes back. Greater proceeds in the future may be sacrificed to comparatively small short-run gains.

It is therefore at least questionable whether the owner of a local margin monopoly in the long run serves his own interests well by embarking upon selling at monopoly prices. It would often be more advantageous for him to discriminate between the various buyers. He could sell at higher prices for construction projects in the central parts of the city and at lower prices for such projects in peripheral districts. The range of local margin monopoly is more restricted than is generally assumed.

Limited-space monopoly is the outcome of the fact that physical conditions restrict the field of operation in such a way that only one or a few enterprises can enter it. Monopoly emerges when there is only one enterprise in the field or when the few operating enterprises combine for concerted action.

It is sometimes possible for two competing trolley companies to operate in the same streets of a city. There were instances in which two or even more companies shared in supplying the residents of an area with gas, electricity, and telephone service. But even in such exceptional cases there is hardly any real competition. Conditions suggest to the rivals that they combine at least tacitly. The narrowness of the space results, one way or another, in monopoly.

In practice limited-space monopoly is closely connected with license monopoly. It is practically impossible to enter the field without an understanding with the local authorities controlling the streets and their subsoil. Even in the absence of laws requiring a franchise for the establishment of public utility services, it would be necessary for the enterprises to come to an agreement with the municipal authorities. Whether or not such agreements are to be legally described as franchises is unimportant.

Monopoly, of course, need not result in monopoly prices. It depends on the special data of each case whether or not a monopolistic public utility company could resort to monopoly prices. But there are certainly cases in which it can. It may be that the company is ill-advised in choosing a monopoly-price policy and that it would better serve its long-run interests by lower prices. But there is no guarantee that a monopolist will find out what is most advantageous for him.

One must realize that limited-space monopoly may often result in monopoly prices. In this case we are confronted with a situation in which the market process does not accomplish its democratic function.[18]

Private enterprise is very unpopular with our contemporaries. Private ownership of the means of production is especially disliked in those fields in which limited-space monopoly emerges even if the company does not charge monopoly prices and even if its business yields only small profits or results in losses. A "public utility" company is in the eyes of the interventionist and socialist politicians a public enemy. The voters approve of any evil inflicted upon it by the authorities. It is generally assumed that these enterprises should be nationalized or municipalized. Monopoly gains, it is said, must never go to private citizens. They should go to the public funds exclusively.

The outcome of the municipalization and nationalization policies of the last decades was almost without exception financial failure, poor service, and political corruption. Blinded by their anticapitalistic prejudices people condone poor service and corruption and for a long time did not bother about the financial failure. However, this failure is one of the factors which contributed to the emergence of the present-day crisis of interventionism.[19]

14. It is customary to characterize traditional labor-union policies as monopolistic schemes aiming at the substitution of monopoly wage rates for competitive wage rates. However, as a rule labor unions do not aim at monopoly wage rates. A union is intent upon restricting competition on its own sector of the labor market in order to raise its wage rates. But restriction of competition and monopoly price policy must not be confused. The characteristic feature of monopoly prices is the fact that the sale of only a part p of the total supply P available nets higher proceeds than the sale of P. The monopolist earns a monopoly gain by withholding Pp from the market. It is not the height of this gain that marks the monopoly price situation as such, but the purposive action of the monopolists in bringing it about. The monopolist is concerned with the employment of the whole stock available. He is equally interested in every fraction of this stock. If a part of it remains unused, it is his loss. Nonetheless he chooses to have a part unused because under the prevailing configuration of demand it is more advantageous for him to proceed in this way. It is the peculiar state of the market that motivates his decision. The monopoly which is one of the two indispensable conditions of the emergence of monopoly prices may be — and is as a rule — the product of an institutional interference with the market data. But these external forces do not directly result in monopoly prices. Only if a second requirement is fulfilled is the opportunity for monopolistic action set.

It is different in the case of simple supply restriction. Here the authors of the restriction are not concerned with what may happen to the part of the supply they bar from access to the market. The fate of the people who own this part does not matter to them. they are looking only at that part of the supply which remains on the market. Monopolistic action is advantageous for the monopolist only if total net proceeds at a monopoly price exceed total net proceeds at the potential competitive price. Restrictive action is always advantageous for the privileged group and disadvantageous for those whom it excludes from the market. It always raises the price per unit and therefore the total net proceeds of the privileged group. The losses of the excluded group are not taken into account.

It may happen that the benefits which the privileged group derives from the restriction of competition are much more lucrative for them than any imaginable monopoly price policy could be. But this is another question. It does not blot out the catallactic differences between these two modes of action.

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The prevailing labor-union policies are restrictive and not monopoly price policies. The unions are intent upon restricting the supply of labor in their field without bothering about the fate of those excluded. They have succeeded in every comparatively underpopulated country in erecting immigration barriers. Thus they preserve their comparatively high wage rates. The excluded foreign workers are forced to stay in their countries in which the marginal productivity of labor, and consequently wage rates, are lower. The tendency toward an equalization of wage rates which prevails under free mobility of labor from country to country is paralyzed. On the domestic market the unions do not tolerate the competition of nonunionized workers and admit only a restricted number to union membership. Those not admitted must go into less remunerative jobs or must remain unemployed. The unions are not interested in the fate of these people.

Even if a union takes over the responsibility for its unemployed members and pays them, out of the contributions of its employed members, unemployment doles not lower than the earnings of the employed members, its action is not a monopoly price policy. For the unemployed union members are not the only people wronged by the union's policy of substituting higher rates for the potential lower market rates. The interests of those excluded from membership are not taken into account.

The Mathematical Treatment of the Theory of Monopoly Prices

Mathematical economists have paid special attention to the theory of monopoly prices. It looks as if monopoly prices would be a chapter of catallactics for which mathematical treatment is more appropriate than it is for other chapters of catallactics. However, the services which mathematics can render in this field are rather poor too.

With regard to competitive prices mathematics cannot give more than a mathematical description of various states of equilibrium and of conditions in the imaginary construction of the evenly rotating economy. It cannot say anything about the actions which would finally establish these equilibria and this evenly rotating system if no further changes in the data were to occur.

In the theory of monopoly prices mathematics comes a little nearer to the reality of action. It shows how the monopolist could find out the optimum monopoly price provided he had at his disposal all the data required. But the monopolist does not know the shape of the curve of demand. What he knows is only points at which the curves of demand and supply intersected one another in the past. He is therefore not in a position to make use of the mathematical formulas in order to discover whether there is any monopoly price for his monopolized article and, if so, which of various monopoly prices is the optimum price. The mathematical and graphical disquisitions are therefore no less futile in this sector of action than in any other sector. But, at least, they schematize the deliberations of the monopolist and do not, as in the case of competitive prices, satisfy themselves in describing a merely auxiliary construction of theoretical analysis which does not play a role in real action.

Contemporary mathematical economists have confused the study of monopoly prices. They consider the monopolist not as the seller of a monopolized commodity, but as an entreprenuer and producer. However, it is necessary to distinguish the monopoly gain clearly from entrepreneurial profit. Monopoly gains can only be reaped by the seller of a commodity or a service. An entrepreneur can reap them only in his capacity as seller of a monopolized commodity, not in his entrepreneurial capacity. The advantages and disadvantages which may result from the fall or rise in cost of production per unit with increasing total production, increase or diminish the monopolist's total net proceeds and influence his conduct. But the catallactic treatment of monopoly prices must not forget that the specific monopoly gain stems, with due allowance made to the configuration of demand, only from the monopoly of a commodity or a right. It is this alone which affords to the monopolist the opportunity to restrict supply without fear that other people can frustrate his action by expanding the quantity they offer for sale. Attempts to define the conditions required for the emergence of monopoly prices by resorting to the configuration of production costs are vain.

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It is misleading to describe the market situation resulting in competitive prices by declaring that the individual producer could sell at the market price also a greater quantity than what he really sells. This is true only when two special conditions are fulfilled: the producer concerned, A, is not the marginal producer, and expanding production does not require additional costs which cannot be recovered in selling the additional quantity of products. Then A's expansion forces the marginal producer to discontinue production; the supply offered for sale remains unchanged. The characteristic mark of the competitive price as distinguished from the monopoly price is that the former is the outcome of a situation under which the owners of goods and services of all orders are compelled to serve best the wishes of the consumers. On a competitive market there is no such thing as a price policy of the sellers. They have no alternative other than to sell as much as they can at the highest price offered to them. But the monopolist fares better by withholding from the market a part of the supply at his disposal in order to make specific monopoly gains.

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This article is excerpted from chapter 16 of Human Action. Robert Murphy has written a study guide for this chapter, available in HTML and PDF. This article follows "Chapter XVI. Prices, Part 1."

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Notes

[12] Price discrimination is dealt with below, PP. 385–388.

[13] Cf. the refutation of the misleading extension of the concept of monopoly by Richard T. Ely, Monopolies and Trusts (New York, 1906), pp. 1–36.

[14] It is obvious that an incomplete monopoly scheme is bound to collapse if the outsiders come into a position to expand their sales.

[15] Cf. below, pp. 376–380, on good will.

[16] The use of this term "margin monopoly" is, like that of any other, quite optional. It would be vain to object that every other monopoly which results in monopoly prices could also be called a margin monopoly.

[17] A collection of these agreements was published in 1943 by the International Labor Office under the title Intergovernmental Commodity Control Agreements.

[18] About the significance of this fact see below, pp. 676–678.

[19] See below, pp. 851–853.


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