The United States Postal Service is another example of a government monopoly. It was created through laws that ban potential competitors from offering certain types of services, such as first-class and standard mail delivery.
Around the world, government monopolies on public utilities, telecommunications systems, and railroads have historically been common. Postal Service : The postal service operates as a government monopoly in many countries, including the United States.
The government creates legal barriers through patents, copyrights, and granting exclusive rights to companies. In some cases, the government will grant a person or firm exclusive rights to produce a good or service, enabling them to monopolize the market for this good or service. Intellectual property rights, including copyright and patents, are an important example of legal barriers that give rise to monopolies. Copyright gives the creator of an original creative work such as a book, song, or film exclusive rights to it, usually for a limited time, with the intention of enabling the creator to be compensated for his or her work.
The intent behind copyright is to promote the creation of new works by providing creators the opportunity to profit from their works. The copyright holder receives the right to be credited for the work, to determine who may adapt the work to other forms, who may perform the work, and who may financially benefit from it, along with other related rights.
When the copyright on a work expires, the work is transferred to the public domain, enabling others to repurpose and build on the work. Copyright : Copyright is an example of a temporary legal monopoly granted to creators of original creative works. A patent is a limited property right the government gives inventors in exchange for their agreement to share the details of their invention with the public. During the term of the patent, the patent holder has the right to exclude others from making, using, or selling the patented invention.
The patent provides incentives 1 to invent in the first place, 2 to disclose the invention once it is made, 3 to make the necessary investments in research and development, production, and bringing the invention to market, and 4 to innovate by designing around or improving upon earlier patents. When a patent expires and the invention enters the public domain, others can build on the invention. For example, when a pharmaceutical company first markets a drug, it is usually under a patent, and only the pharmaceutical company can sell it until the patent expires.
This allows the company to recoup the cost of developing this particular drug. After the patent expires, any pharmaceutical company can manufacture and sell a generic version of the drug, bringing down the price of the original drug to compete with new versions.
It is also possible that there is a monopoly because the government has granted a single company exclusive or special rights. The water utility company, for example, is a monopoly in your area because it is the only organization granted the right to provide water.
Another example is that the Digital Millenium Copyright Act the proprietary Macrovision copy prevention technology is required for analog video recorders. Natural monopolies occur when a single firm can serve the entire market at a lower cost than a combination of two or more firms.
Natural monopolies occur when a single firm is able to serve the entire market demand at a lower cost than any combination of two or more smaller firms. The total cost of the natural monopoly is lower than the sum of the total costs of two firms producing the same quantity. Along with this, the average cost of production decreases and then increases. In contrast, a natural monopoly will have a marginal cost that is constant or declining, and an average total cost that drops as the quantity of output increases.
Natural monopolies tend to form in industries where there are high fixed costs. A firm with high fixed costs requires a large number of customers in order to have a meaningful return on investment.
As it gains market share and increases its output, the fixed cost is divided among a larger number of customers. Therefore, in industries with large initial investment requirements, average total costs decline as output increases.
Once a natural monopoly has been established, there will be high barriers to entry for other firms because of the large initial cost and because it would be difficult for the entrant to capture a large enough part of the market to achieve the same low costs as the monopolist. Examples of natural monopolies are water and electricity services. For both of these, fixed costs of building the necessary infrastructure are high. There are several different types of barriers to entry.
The supply of natural resources such as precious metals or oil deposits is limited, giving their owners monopoly powers. Some production processes require large investments in capital or large research and development costs that make it difficult for new companies to enter an industry. Examples include steel production, pharmaceuticals, and space transport.
Monopolies exhibit decreasing costs as output increases. Decreasing costs coupled with large initial costs give monopolies a cost advantage in production over would-be competitors. Market entrants have not yet achieved economies of scale, so their output simply costs so much more than the incumbent firms that market entry is difficult. The use of a product by other people can increase its value to a person. One example is Microsoft spreadsheet and word processing software, which is still used widely.
This is because when a person uses software that is used by so many others, he or she is less likely to run into compatibility problems in the course of work or other activities. This tendency to use what everyone else is using makes it difficult for new companies to develop and sell competing software.
Legal rights can provide an opportunity to monopolize a market for a good. Intellectual property rights, such as patents and copyright, give the rights holder exclusive control over the production and sale of certain goods. Property rights may give a company exclusive control of the materials necessary to produce a good. The granting of permits or professional licenses can also favor certain firms, while setting standards that are difficult for new firms to meet.
There are cases in which a government agency is the sole provider of a particular good or service and competition is prohibited by law.
When barriers to entry exist, perfect competition is no longer a reasonable description of how an industry works. When barriers to entry are high enough, monopoly can result.
Barriers to entry prevent or discourage competitors from entering the market. These barriers include: economies of scale that lead to natural monopoly; control of a physical resource; legal restrictions on competition; patent, trademark and copyright protection; and practices to intimidate the competition like predatory pricing.
Intellectual property refers to legally guaranteed ownership of an idea, rather than a physical item. The laws that protect intellectual property include patents, copyrights, trademarks, and trade secrets. A natural monopoly arises when economies of scale persist over a large enough range of output that if one firm supplies the entire market, no other firm can enter without facing a cost disadvantage. Return to Figure 1. Suppose a new firm with the same LRAC curve as the incumbent tries to break into the market by selling 4, units of output.
If the incumbent continues to produce 6, units, how much output would be supplied to the market by the two firms? Estimate what would happen to the market price as a result of the supply of both the incumbent firm and the new entrant. Approximately how much profit would each firm earn? Skip to content Chapter 9. Learning Objectives By the end of this section, you will be able to:. Distinguish between a natural monopoly and a legal monopoly. Explain how economies of scale and the control of natural resources led to the necessary formation of legal monopolies Analyze the importance of trademarks and patents in promoting innovation Identify examples of predatory pricing.
Self-Check Questions Classify the following as a government-enforced barrier to entry, a barrier to entry that is not government-enforced, or a situation that does not involve a barrier to entry. A patented invention A popular but easily copied restaurant recipe An industry where economies of scale are very small compared to the size of demand in the market A well-established reputation for slashing prices in response to new entry A well-respected brand name that has been carefully built up over many years Classify the following as a government-enforced barrier to entry, a barrier to entry that is not government-enforced, or a situation that does not involve a barrier to entry.
A city passes a law on how many licenses it will issue for taxicabs A city passes a law that all taxicab drivers must pass a driving safety test and have insurance A well-known trademark Owning a spring that offers very pure water An industry where economies of scale are very large compared to the size of demand in the market Suppose the local electrical utility, a legal monopoly based on economies of scale, was split into four firms of equal size, with the idea that eliminating the monopoly would promote competitive pricing of electricity.
What do you anticipate would happen to prices? If Congress reduced the period of patent protection from 20 years to 10 years, what would likely happen to the amount of private research and development? Review Questions How is monopoly different from perfect competition?
What is a barrier to entry? Give some examples. What is a natural monopoly? What is a legal monopoly? What is predatory pricing? How is intellectual property different from other property? By what legal mechanisms is intellectual property protected?
How do you suppose their barriers to entry were weakened? Why are generic pharmaceuticals significantly cheaper than name brand ones? For many years, the Justice Department has tried to break up large firms like IBM, Microsoft, and most recently Google, on the grounds that their large market share made them essentially monopolies. In a global market, where U. Intellectual property laws are intended to promote innovation, but some economists, such as Milton Friedman, have argued that such laws are not desirable.
In the United States, there is no intellectual property protection for food recipes or for fashion designs. Considering the state of these two industries, and bearing in mind the discussion of the inefficiency of monopolies, can you think of any reasons why intellectual property laws might hinder innovation in some cases? Problems Return to Figure 1. This is not a barrier to entry. This is a barrier to entry, but it is not government-enforced. This is a barrier to entry, but it is not directly government enforced.
This is a government-enforced barrier to entry. This is an example of a government law, but perhaps it is not much of a barrier to entry if most people can pass the safety test and get insurance.
Trademarks are enforced by government, and therefore are a barrier to entry. This is probably not a barrier to entry, since there are a number of different ways of getting pure water. Because of economies of scale, each firm would produce at a higher average cost than before. They would each have to build their own power lines.
This list is not exhaustive, since firms have proved to be highly creative in inventing business practices that discourage competition. When barriers to entry exist, perfect competition is no longer a reasonable description of how an industry works. When barriers to entry are high enough, monopoly can result.
Barriers to entry prevent or discourage competitors from entering the market. These barriers include: economies of scale that lead to natural monopoly; control of a physical resource; legal restrictions on competition; patent, trademark and copyright protection; and practices to intimidate the competition like predatory pricing.
Intellectual property refers to legally guaranteed ownership of an idea, rather than a physical item. The laws that protect intellectual property include patents, copyrights, trademarks, and trade secrets.
A natural monopoly arises when economies of scale persist over a large enough range of output that if one firm supplies the entire market, no other firm can enter without facing a cost disadvantage. Classify the following as a government-enforced barrier to entry, a barrier to entry that is not government-enforced, or a situation that does not involve a barrier to entry.
Suppose the local electrical utility, a legal monopoly based on economies of scale, was split into four firms of equal size, with the idea that eliminating the monopoly would promote competitive pricing of electricity. What do you anticipate would happen to prices? Because of economies of scale, each firm would produce at a higher average cost than before. They would each have to build their own power lines.
As a result, they would each have to raise prices to cover their higher costs. The policy would fail. If Congress reduced the period of patent protection from 20 years to 10 years, what would likely happen to the amount of private research and development? Shorter patent protection would make innovation less lucrative, so the amount of research and development would likely decline.
ALCOA does not have the monopoly power it once had. How do you suppose their barriers to entry were weakened? For many years, the Justice Department has tried to break up large firms like IBM, Microsoft, and most recently Google, on the grounds that their large market share made them essentially monopolies. In a global market, where U. Intellectual property laws are intended to promote innovation, but some economists, such as Milton Friedman, have argued that such laws are not desirable.
In the United States, there is no intellectual property protection for food recipes or for fashion designs. Considering the state of these two industries, and bearing in mind the discussion of the inefficiency of monopolies, can you think of any reasons why intellectual property laws might hinder innovation in some cases? Return to Figure. Suppose a new firm with the same LRAC curve as the incumbent tries to break into the market by selling 4, units of output.
If the incumbent continues to produce 6, units, how much output would the two firms supply to the market? Estimate what would happen to the market price as a result of the supply of both the incumbent firm and the new entrant. Approximately how much profit would each firm earn? Skip to content Monopoly.
Learning Objectives By the end of this section, you will be able to: Distinguish between a natural monopoly and a legal monopoly. Explain how economies of scale and the control of natural resources led to the necessary formation of legal monopolies Analyze the importance of trademarks and patents in promoting innovation Identify examples of predatory pricing.
Natural Monopoly Economies of scale can combine with the size of the market to limit competition. Economies of Scale and Natural Monopoly. In this market, the demand curve intersects the long-run average cost LRAC curve at its downward-sloping part. A natural monopoly occurs when the quantity demanded is less than the minimum quantity it takes to be at the bottom of the long-run average cost curve. Control of a Physical Resource Another type of natural monopoly occurs when a company has control of a scarce physical resource.
Legal Monopoly For some products, the government erects barriers to entry by prohibiting or limiting competition. Promoting Innovation Innovation takes time and resources to achieve. Intimidating Potential Competition Businesses have developed a number of schemes for creating barriers to entry by deterring potential competitors from entering the market. Summing Up Barriers to Entry Figure lists the barriers to entry that we have discussed. Example Natural monopoly Government often responds with regulation or ownership Water and electric companies Control of a physical resource No DeBeers for diamonds Legal monopoly Yes Post office, past regulation of airlines and trucking Patent, trademark, and copyright Yes, through protection of intellectual property New drugs or software Intimidating potential competitors Somewhat Predatory pricing; well-known brand names.
Key Concepts and Summary Barriers to entry prevent or discourage competitors from entering the market. Self-Check Questions Classify the following as a government-enforced barrier to entry, a barrier to entry that is not government-enforced, or a situation that does not involve a barrier to entry. A patented invention A popular but easily copied restaurant recipe An industry where economies of scale are very small compared to the size of demand in the market A well-established reputation for slashing prices in response to new entry A well-respected brand name that has been carefully built up over many years.
A patent is a government-enforced barrier to entry. This is not a barrier to entry. This is a barrier to entry, but it is not government-enforced. This is a barrier to entry, but it is not directly government enforced. A city passes a law on how many licenses it will issue for taxicabs A city passes a law that all taxicab drivers must pass a driving safety test and have insurance A well-known trademark Owning a spring that offers very pure water An industry where economies of scale are very large compared to the size of demand in the market.
This is a government-enforced barrier to entry.
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