Video Transcript: Monopoly and Antitrust Policy

Hello, welcome back. In this video, we're going to discuss monopoly and  antitrust policy. Let's describe a monopoly first, right? Monopoly is a market  structure consisting of a firm that is the only seller of a good or service that does not have a close substitute. Monopoly exists at the opposite end of the spectrum to perfect competition. Right, a monopoly means they have total control over an  industry. This entity is performing and offering their products at a lower cost, so  a monopoly can dominate that industry because they can control their costs,  offer lower prices than the competitor, so therefore consumers are naturally  going to go to a product that is more inexpensive and of light quality. We study  monopolies for two reasons. Some firms truly are monopolies, so it is important  to understand how they behave, and two, firms might collude in order to act like  monopolies. Knowing how monopolies act help us to identify these firms. Do  monopolies really exist? We might ask. Right. So suppose you live in a small  town with only one pizzeria. Is that pizzeria a monopoly? It has competition from other fast food restaurants. For one, for two, it has competition from grocery  stores that provide pizzas for you to cook at home. So, if you consider these  alternatives to be close substitutes for the pizzeria pizza, then the pizza  restaurant is a monopoly. If you do not consider these alternatives to be close  substitutes for the pizzeria pizza, then the restaurant is not a monopoly.  Regardless, the pizzeria's unique position may afford it some monopoly power  to raise prices and then obtain economic profit and expand marginal revenue.  Where do monopolies come from? For a firm to exist as a monopoly, there must  be barriers to entry, preventing other firms coming in and competing with it. The  four main reasons for these barriers are: one, the government restricts the entry  right, so maybe an electric company or a water company, something that's very  closely, highly regulated. You know, we may there's going to be tight, strict  barriers to entry on those types of industries. Control of key resources,  particularly oil, right? So there's going to be a lot of government regulation and  red tape involved with resources, network externalities, right? So how is the  outside maybe pipeline materials pipeline flowing, right? Raw materials, labor  resources, you know those things might be tight, prices might be high, so if a if a company can take advantage of controlling their variable costs, lowering prices  while everybody else the competition is dealing with high variable costs, the the  firm or the entity that can keep variable costs the lowest and offer the lowest  prices without sacrificing quality will more than likely get the bulk of the  consumer business. Therefore, maybe creating a monopoly situation. Now, a  natural monopoly would be you have cornered the market, you have the only  idea, you have the only product you have the only way to make and do what you do that is a natural monopoly therefore there is no competition and you have all  the materials and resources at your disposal. Government restrictions on entry  in the United States governments block entry in two ways: A patents and  copyrights, right? So a patent. If I have a product and I want to sell that and I 

want to make it mine, I'm going to get a patent on that. That's my invention.  Copyrights. If you music, you're an author, you're a writer, you want to copyright  your work, obviously. Newly developed products like drugs, prescription drugs  are frequently granted patents-the exclusive right to produce a product for a  period of 20 years from the date the patent was filed with the government.  Similarly, copyrights provide the exclusive right to produce and sell creative  works like books and films, patents and copyrights encourage innovation and  creativity, since without them firms would be able to substantially profit from their endeavors. So in the U.S. governments block entry in two main ways. All right,  public franchises is one. A government. Designation that a firm is the only legal  provider for a good or service is known as a public franchise. This might exist,  for example, in electricity or water markets. Sometimes, more commonly in  Europe than the U.S. governments operate these firms as a public enterprise.  An example of this is the U.S. Postal Service. So, for many years, the Aluminum Company of America, or Alcoa, either owned or had long-term contracts for  almost all the world's supply of bauxite, the mineral from which we obtain  aluminum. Such control over a key resource served as a substantial barrier to  entry for additional firms because they had a tight lock on the bauxite. Nobody  could compete with the raw materials costs that Alcoa was producing at. So  there was a big barrier to entry into the aluminum market because Alcoa kind of  dominated that space. Right, so they controlled the bauxite supply, therefore  they were, you know, the main producer of aluminum. Therefore, because they  controlled the supply of the material that helped produce the aluminum, they are monopolizing in the United States essentially the aluminum industry. The  National Football League, or the NFL, acts as a monopoly in this manner too. It  ensures that the majority of the world's best football players are under contract  to the NFL and unable to be used for another potential league. So, any football  talent in the United States or anywhere in the world, you sign a contract with the  NFL. They own the rights to that. You play for their league, and you can't go  anywhere else. So, therefore, for all the football talent, it's kind of a monopoly  here. Let's look at network externalities. Economists refer to network  externalities as a product characteristics, whereby the usefulness of a product  increases the number of consumers who use it. So, if it's a useful product, right? Obviously, consumers can benefit. They'll purchase the product. Let's look at  examples. Auction sites like eBay, right? Most of us visit Amazon or eBay, right,  to purchase products, right? So we find that useful, and now the demand has  continued to grow. Operating systems for computers like Windows, obviously,  that was you know huge innovation for for for mass computing, right? So  Windows was was a big advancement in technology for everyday consumers  and has streamlined a lot of our work, and has made things more efficient,  effective over time as it's gotten better. Social networking sites like Facebook,  right? So these network externalities can set off a virtuous cycle for a firm, 

allowing the volume of its products to continue to increase along with the price it  can charge, but consumers may be locked in to an inferior product. If you get  into an inferior product, you sign a contract, something better comes out, you're  stuck in it, right? Then you'll have to wait till you're out of the contract, obviously,  to move on to the better option. So let's look at the average total cost curve for a natural monopoly. A natural monopoly occurs when economies of scale are so  large that one firm can supply the entire market at a lower average total cost  than two or more firms. So let's take a look at the the market for electricity  delivery. A single firm, point A, here, can deliver electricity at a lower cost than  two firms. So the two firms are point B. They're offering electricity at six cents  per kilowatt hour, where company A is offering it at four cents, right? So  company A must be able to control their variable costs much better than  companies at point B, which ables which enables them to reduce their cost per  kilowatt hour to four cents, right? So this is creating a monopoly in that aspect  because they've driven their costs down. Obviously, consumers are going to  naturally gravitate towards the lower price. So, most consumers, if they had an  option to choose electric companies that weren't designated for them, if they had an option between B and A, obviously the consumer is going to go with the  lower price. So, creating a natural monopoly through controlling variable cost,  especially in a high fixed cost environment, controlling your variable costs,  reducing them as much as possible, will obviously make you more competitive,  as you can lower prices as your cost of. Production decreases. So let's calculate a monopoly's revenue. Right, Time Warner Cable is a monopolist in a local  market for cable television services. The first two columns of the table show the  market demand curve, which is also Comcast demand curve. Okay, so we'll see  how we obviously calculate total revenue as price times quantity, right? Average  revenue is calculated as total revenue divided by quantity, and marginal revenue equals the change in total revenue divided by the change in quantity. The  triangle or delta, as it's referred to, is just notified as the change of or the change in, right? So we are calculating the change or the delta, the change in total  revenue divided by the change in quantity. So easy calculations. You can see  pretty simple math. Obviously, marginal revenue is decreasing over time, but we want to we remember about marginal revenue is we are operating at full  capacity max efficiency when marginal revenue equals marginal costs. Okay, so  when we're at marginal revenue equals marginal cost. That's where we want to  hold our operation, and that's when we are producing at maximum efficiency. So a monopolist decreases price to expand output. Well, these effects occur, right?  One revenue increases from selling an extra unit of output. So anytime we can  sell an extra unit of output, obviously we'll raise our revenues. Revenue  decreases because price reduction is shared with existing customers. So if  we're able to control our variable costs, we're able to get a good deal on raw  materials. We may push our prices lower to the consumer to pass that cost 

savings on to them, which will reduce our revenues. Right, but we may be able  to recoup some of that revenue loss through higher sales volume. So marginal  revenue is always below demand for a monopolist. So let's look at the long-run  profits for a monopoly. Right, since there are barriers to entry, additional firms  

cannot enter the market. So there is no distinction between short-run and long run for a monopoly. Then, unlike from monopolistic competition, we expect  monopolists to continue to earn profits in the long run, right? So, so if it's a  monopoly, there's really not going to be a whole, a very big difference between  their short-run outlook and their long-run outlook because they're a monopoly.  Monopoly controls and dominates the space that they're operating in. So if  there's no competition, they're going to be profiting. Now the only thing that they  can see is, okay, how many more consumers can we enter to the market? How  many more consumers can we reach? How many more markets can we  penetrate with our goods and services because we are monopolizing the entire  industry. Who else can we impact? Where else can we earn additional  revenues? So that is the only real outlook. If you are a true monopoly between  the short run and long run outlook, is as we advance and grow our business,  what more? What new markets can we penetrate to increase revenues? So let's look. Let's look at the argument in favor of market power. Right, market power  may produce some benefit for an economy. The prospect of market power and  the resulting economic profits drives firms to innovate, creating new products  and services, right? So, so the more that the more economic profits that a firm  has, the more driven they are going to be to evolve their business, to grow their  business, to innovate, right? So they can continue to expand and diversify their  product lines and create greater revenue growth as well as profit margin growth, so this drive affects both large firms who reinvest profits in the hope of making  larger future profits, and small firms who hope to obtain profits for themselves.  Right? Obviously, operating a small business, you don't want to operate at break even forever. So eventually, you're going to want to move into being profitable.  Hopefully, the Austrian economist Joseph Schumpeter claimed that this drive  would create a gale of creative destruction that would eventually benefit  consumers more than increased price competition. This helps to explain the.  Governmental ambivalence regarding large firms with market power. So let's  look at the government policy towards monopoly, right? Because monopolies  reduce consumer surplus and economic efficiency, governments regulate their  behavior. You can since the free market is not naturally regulating their behavior  right through competition. The government has to come in and hold them  accountable through the regulatory system, which makes total sense, right? You don't want a company operating with no checks and balances. So if there is an  monopoly that is identified by the government. They will put you know some red  tape in place to make sure that they're held accountable for how they operate.  Many governments try to stop firms from colluding and seek to prevent mergers 

and acquisitions, creating larger firms through antitrust laws. You know, in 2017,  Amazon bought Whole Foods, Amazon is buying up companies left and right.  They're trying to start an investment bank with Bank of America right now. So, so Amazon's growing to try to monopolize who they are, right through the the space that they're in, and they're continuing to diversify their their product line. So  that's why you see Amazon. There's a lot of talk of Amazon right now, and the  news of potentially being broken up into pieces, right? So they won't continue to  dominate every aspect of sales, right? So collusion is an agreement among  firms to change the same price or otherwise not to compete. So two firms come  together. They talk about cost. They don't want to compete against each other,  but they'll remain two separate entities. So let's collude together so that we can  manipulate the market, and both of us hit our numbers and sales targets without really being in competition with each other, but acting like we're in competition  with each other. That's collusion. Now, antitrust laws are laws aimed at  eliminating collusion and promoting competition among firms. So you'll see that  Amazon is really being looked at, you know, through the Commerce  Department, and antitrust laws are considered to be applied here. But I think  there'll be a federal court battle soon over the Amazon deal.