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Monopoly Power and Market Failure

A Monopoly is a market in which there is only one seller.
Also a natural monopoly is when the monopolies solo position is due to the
exclusive position of a necessary output or economies of scale that make it
impossible for a new entrant to be profitable once an incumbent firm is
established as described by Black, J, Hashimzade, N and Myles, G (2012). Market
failure describes an economic situation where in market the quantity of a
product demanded by consumers does not match the quantity supplied by suppliers
this is result of a lack of economically ideal factors such as a lack of supply
which prevents an equilibrium in the market. This essay will be describing how
a monopoly market is a form of market failure as well the welfare loss that can
result from it in the first section. As well as further on describing how the
said welfare loss can be countered by government intervention.

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monopoly market is an example of market failure due to the monopoly firm
dominating the market which enables it to charge prices much higher than
average cost and make a super normal profit. The ability of the firm to do so
may be due to high barriers to entry such as large economies of scale such as
in the automotive business or due to statutory reasons where it is impossible
legally for firms to enter the market such as buses where a firm has won the
rights to an area such as First buses in northern Manchester which results in a
welfare loss. As shown on the diagram to the left which illustrates a monopoly
market and how it results in a welfare loss. The diagram shows a demand/
average revenue curve which exceeds the average cost curve which results in a
supernormal profit highlighted on the graph. this is a reduction in welfare as
the it is a transfer to the producer in the form of profits. However some is
not reassigned and is known as a deadweight welfare loss or the social cost of
monopoly this is shown on the diagram above.


An example of what can be considered an monopoly is a car
company which provides the only form of that particular car available an
example of this may be Ferrari selling cars which are so differentiated that
they can sell cars for well above the marginal cost which means that the firm
is earning monopoly rents as it is the only firm selling that particular profit
so it can set its own price. (Core Project, 2017)

A firm that has no competitors or few firms selling substitutes
that can rival the brand products that the firm puts out such as Ferrari will
have a low elasticity of demand due to the car being highly differentiated. Also
a firm such as Ferrari would be said to have high market power as it has strong
enough bargaining power with its customers to be able to set a high price well
above the cost of producing the product and be able to sell it without loosing


Also another example of a monopoly firm using its power to
control price due to the lack of a threat of new firms entering the market
which usually results in price being driven down are able to extract a price
from the consumer well above the cost of the resources required to produce the
good or service. An example of this is Microsoft selling windows 10 operating
system which due to them developing in they are the sole firm able to sell the
system which enable them to set a price to sell the product much higher than
the cost to produce each operating system which may well be nil due to it being
a software which is possible to download as shown on the diagram Microsoft is
able to harvest massive super natural profits which is great for the firm.
However, it may well be that this may result in a deadweight loss or welfare
loss as the monopolist may begin to forgo transactions with the consumer in
comparison to a firm in competitive market which results in the market being
less efficient than a competitive market.

However, a monopoly market does have some advantages over a
completive market as firms which have large super normal profits are able to
invest in research development which can make the cost fall i.e. thorough the
use of new cheaper materials or production techniques. The lower costs can then
be pushed onto the consumer through lower pricing which is advantageous to all
as it can result in higher sales and more profits which can result in even
lower priced better products. The merits of this are limited in reality as it
is up to the monopolist how they choose to use the large super normal profits
as they can be used as dividends for shareholders. (Nutter 2016)

Monopoly markets cause issues for governments due to the
deadweight loss they result in therefore Governments take action against them
in many ways one of the is through competition policy. Competition policy is
when regulation is applied to sectors in which the structure is such that one would
not expect competitive forces to operate without problems. (Motta, 2004) When a
firm has high market power then policy makers become concerned and take action
against them in the form of competition policy such as in the case of a
monopoly. An example of this is in Iceland were two firm’s Volvo and Scania
dominate the heavy trucks market. The government intervened through the use of completion
policy and intervened to stop the two firms merging which would have created a
monopoly as they would have had over 90% percent after the merger. the merged
firm would have been as almost monopoly but would have dominated the Nordic country
in the same fashion of one as it could have raised prices knowing that any retaliatory
action from other competitors would have little effect on them as they have no
real competitor. (Core Project, 2017)

Also in the past monopolies have ben forced to break up an
example of this is in the early 1900’s when the US president John D. Rockefellers
used the Sherman Antitrust Act passed in 1890 to break up Standard Oil company
which he felt was abusing its economic strength. This Act help to break large
monopolies into smaller firms who would compete against each other to reduce
the negative impacts of monopolies such as high prices which are to the disadvantage
of the consumer. Also acts such as the Clayton Antitrust Act passed in 1914 outlawed
firms making agreements with distributors to only sell to dealers who do not
stock a rival firms product this helped reduce the risk of monopoly as
consumers have more choice when buying products.

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