Bryan Caplan  

Where Does Monopoly Power Come From?

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Antitrust Through the Lens of ... Paging Scott Sumner...
Textbook accounts of monopoly usually take the existence of a monopoly for granted, then analyze its consequences.  When I was an undergraduate, this usually provoked me to argue with the textbook.  "Where did this 'monopoly power' come from?!" I'd ask.  My inner rant then continued: "If the firm has a monopoly because the government made competition illegal, the solution isn't antitrust; it's legalizing competition.  If the firm has a monopoly because it's the best, the solution isn't antitrust; it's a little freakin' appreciation."

I've outgrown arguing with textbooks, but I stand by my basic point: You can't analyze the consequences of monopoly if you don't know where the monopoly came from. 

If the monopoly came from government, then it's silly to fret about market failure and muse about antitrust remedies; you've got to unleash your inner libertarian and call for free competition. 

If the monopoly came from superior efficiency, broadly defined, you've got to realize that antitrust "remedies" penalize excellence - which almost any economic theory admits is a bad idea in the long-run. 

If you've got some non-government non-efficiency story, you've got to explain why neither of the two simple explanations for the existence of monopoly work.  It's not impossible to craft such an explanation, but it's harder than it looks.  If you blame monopoly on long-term contracts, for example, this begs a crucial question: Why did customers sign these contracts in the first place?  By hypothesis, you're not allowed to answer, "The firm had a government monopoly" or "The firm was more efficient than any of its competitors."

I don't think I'm going to convert the typical economist to my antitrust abolitionism anytime soon.  But it's hardly radical to wonder about the origin of monopoly power - and whether its origin makes a difference.  Even if my conclusions are wrong, there's nothing weird or heterodox about my questions.  Shouldn't mainstream economists try to address them?


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COMMENTS (65 to date)
Dan writes:

Bryan-

What do you think of the price-fixing scheme between ADM and their Japenese/Korean competitors?

I think the standard Chicago school argument is that competition would have disrupted their cooperation in the long run. I tend to agree. However, it's possible that government deterrence of price fixing could meet a cost-benefit analysis. My only background is an undergrad Industrial Org class, so I'm no expert, but I like the idea of putting a strong burden of proof on the government and having large punitive damages against the companies if the government can meet that burden.

Dan writes:

Speak of the devil: I just googled the ADM scandal and apparently the new Matt Damon movie is based on the book about the scandal.

http://en.wikipedia.org/wiki/The_Informant!

fundamentalist writes:

Just as insidious is the subtle shift in meaning of the term monopoly. Today, it just means the "biggest" but it carries all of the evil connotations of the old definition.

BlackSheep writes:

Bryan, what about natural monopoly? When the extent of the market makes marginal case systematically lower than average cost. Sure, many times this is due to artificial limitations on markets like tariffs, and others like utilities seem more like a govt caused problem. But consider music, movies, software and maybe even some hardware: not that govt should or is competent to meddle in that market, but it seems there are monopoly profits going on. (Consider the ratio of success versus failures.) Or the little grocery store in the middle of nowhere: not sure if inventory alone accounts for the high prices.

bd writes:

This makes sense to me as far as it goes, but I don't think it's complete in it's analysis of the second "path" to monopoly mentioned...superior performance. Initially, I would agree with Bryan that we should appreciate an innovator that provides a valuable new service, and in the course of doing so wins a monopoly. But, in many instances that monopoly may be able to be maintained without necessarily continuing that superior performance, for example when significant barriers to entry exist, or when the monopolist enjoys substantial economies of scale. In these situations I think you do have a serious market failure. I'm not well-versed enough in this field to know if antitrust is a sufficient answer (I have my doubts), but I think that there's more to this than showing "a little freakin' appreciation."

B.B. writes:

I would be curious to here your views on the actions to break up Alcoa 60 years ago. Or breaking up Standard Oil.

There are cases in which, by first mover advantage, a firm takes over an entire market. Once it dominates the market,it charges a monopoly price. A firm can be so dominant that no effective competition is possible. Breaking the firm up could create competition, to the benefit of all except the monopoly itself.

Was there a case for breaking up Microsoft, which nearly happened? I bet we would have better software now if the break up had happened.

hawk30 writes:

B.B. likes to support his undergraduate economics text with his high school history text. Nice move.

hacs writes:

Dr. Caplan,
Would the complete nonexistence of government or laws - a totally free environment for any kind of competition and entrepreneurship - be a kind of freedom paradise? If it was possible to restart the society as that freedom paradise, what would it result after some centuries?
I know my question is pure speculation (maybe, a waste of time), but given the actual knowledge (history, technology, science, etc.) and a "new beginning", would the society converge to an arrangement like the existent one?

Fazal Majid writes:

Certainly, Microsoft would have far more competition if the government did not enforce sundry things like copyright law... People would get into business openly selling pirated copies, in fact that is what happens in China pre-WTO. Or is there such a thing as too free competition?

What makes copyright laws justified, and antitrust laws an intolerable abridgment of freedom, besides ideology?

El Presidente writes:

I've outgrown arguing with textbooks [. . .]

I haven't. :-)

Why did customers sign these contracts in the first place?

Advantage in production is not always the result of superior technology. It could be, and at least occasionally is the result of deeper pockets. This sort of leverage can be parlayed from one form of production into another, continuing to accumulate advantage until the producer plateaus. Sure, there's an advantage to both the producer and the consumer in the short-run, but in the long run they may continuously and cumulatively sacrifice greater productive efficiency all because one producer had greater access to money. Diseconomies of scope then result because a firm becomes a multinational behemoth that can't be taken head-on and won't be taken in pieces; a firm that can afford to be inefficient in order to protect market share. Is that the point of free markets?

Take a look at Staples, the office supply retailer. They moved faster than their competitors to achieve substantial vertical integration and soaked up the profit all along their supply chain for a good portion of the products they sold. That's a technological innovation of sorts but it never substantially increased consumer surplus. However, having secured this advantage, they instituted a 115% Price Protection Guarantee; an anticompetitive gesture toward their rivals disguised as a benefit to consumers. The long slow bleeding game had begun as Staples had taken the high ground and saw itself gradually gaining market share until their competition became reminiscent of the Washington Generals, always in the game but never to win. It's not monopoly, per se, but you can see how it trends that direction and how it has nothing to do with government interference or improved outcomes for consumers.

This is not entirely unusual. Consumers believe that they're getting a better deal by not having to shop around, but they don't understand that they're getting screwed because one of the 'producers' has finagled their way to an advantage and used it to threaten the other 'producers' with a scorched earth price war unless they toe the line. In essence, one 'producer' has reduced future increases in consumer surplus by painting their competitors into a corner. How does that deliver better pencils, paper, office furniture and software to consumers? The only way in which we can justify this is in terms of the return to Staples' shareholders who profited handsomely. But so what? What about the shareholders of the other firms who profited less? Is there a greater net surplus in the market? The profits of Staples' shareholders don't prove this is a better way to do business for the whole economy, and this tactic certainly doesn't embrace the sort of competition that free markets are supposed to produce, the kind where the consumer wins in the end. This is a wholly different animal and one we'd be wise to keep an eye on.

Peter Twieg writes:

Natural monopoly, as BlackSheep mentions, is such an obvious counter-argument here that I'm surprised that Bryan didn't address it in the original post... but perhaps he implicitly did in raising the question of why firm A rather than firm B would acquire a monopoly position to begin with. Why would rational consumers lock themselves into a low-level equilibrium rather than a high-level one by helping an inferior firm acquire enough market share to edge out superior competitors?

Thomas DeMeo writes:

The focus on how a monopoly came to be is misplaced. Perhaps they got where they did by being the best. It's what they do once they become the monopoly that matters.

Prakhar Goel writes:

@P. Twieg

Because customers are not perfectly rational and also have collective action problems.

You have also ignored pathway problems. A firm may have been efficient in the past but has gotten bloated after continued success. Yet, due to market share and increased entry costs, it maintains its position.

This is especially pervasive in markets with network externalities. Pretty much all network software uses IPv4 for internet communication. However, as most people in CS know, IPv4 is either obsolete now or will be in a matter of 2 or 3 years. Yet, even with support from major market movers like Cisco et al., switching over to a more advanced system (IPv6) is taking forever.

BlackSheep writes:

bd writes:

Initially, I would agree with Bryan that we should appreciate an innovator that provides a valuable new service, and in the course of doing so wins a monopoly. But, in many instances that monopoly may be able to be maintained without necessarily continuing that superior performance, for example when significant barriers to entry exist, or when the monopolist enjoys substantial economies of scale.

You're repeating yourself. In the rare cases of natural monopoly -- when it is more cost effective to have a single world-wide organization than several smaller ones -- then breaking them apart is not a stable equilibrium (one of them will re-emerge as the natural monopoly if marginal cost is always lower than average cost for the market) and the competitive price may not even be lower than the monopoly price anyway.

B.B. writes:

There are cases in which, by first mover advantage, a firm takes over an entire market. Once it dominates the market,it charges a monopoly price. A firm can be so dominant that no effective competition is possible. Breaking the firm up could create competition, to the benefit of all except the monopoly itself.

If a firm has a breakthrough, you don't necessarily want to avoid monopoly pricing. It signals others to enter the market, and mitigates any positive externalities from creating that market. Pretty rapidly, if you don't curtail profits, capital will flow into that market.

If you're talking about natural monopoly -- the case where it is not cost-effective to have more than one single organization producing something -- then "first mover advantage" or not, you're going to have a monopoly. That's the only equilibrium situation. Even if the firm was producing shoddy products to start with, they may still keep the monopoly, though it will depress their monopoly price.
You can't break such a firm: every but one will go bankrupt. The only alternative is regulation if you trust politicians to be selfless, competent and omniscient.

Was there a case for breaking up Microsoft, which nearly happened? I bet we would have better software now if the break up had happened.

Microsoft is a natural monopoly. The cost of producing one more copy of Windows is virtually zero, even if the investment was very large. What'd happen in such a scenario is that those small Microsofties would undercut each other on price until they are charging you for the physical CD only, since every price cut takes the market. Investment in the product would halt, and eventually, out of the ashes, a monopoly would emerge.

Fazal Majid writes:

Certainly, Microsoft would have far more competition if the government did not enforce sundry things like copyright law... People would get into business openly selling pirated copies, in fact that is what happens in China pre-WTO. Or is there such a thing as too free competition?

Sure, copyright law allows monopoly. But the alternative isn't much better: underproduction. Consider Windows vs Linux for the desktop. Sure, Linux is surprisingly good, and no single provider as a monopoly on it. But clearly consumers prefer to live with a monopoly than an inferior product. Maybe in the future, with the help of the law of diminishing returns, the underinvestment in Linux may not prove be such a handicap. Not sure if getting rid of copyright law would be such an improvement though.

roversaurus writes:


Are you serious?

Main stream economists actually support anti-trust actions?

I really thought only opportunistic politicians and the competition favored anti trust legislation. I assumed real economists (Krugman doesn't fit that description) considered it as detrimental as protectionism.

Boonton writes:

Consider a very small monopoly.

I'm Bill Gates's grandson. I have $2B in cash and the local pizza guy pisses me off. The block has enough pizza consumers to support 3 shops. Orson Wells style, I open a 4th shop and operate it at a deep loss for 10 years. I drive all three out of business and secure a monopoly. {Ignore national pizza chains and shops outside this little local block}

Now I die of a heart attack and my son takes over. He doesn't have my strange vendetta against local pizza merchants. He simply wants to maximize his profits at all points.

Question: Is it possible for him to maintain a monopoly in the following manner?

1. When no competition is present bank his monopoly profits.

2. When competition presents itself revert to operating at a loss or breakeven drawing down his retained earnings until the competition is driven out.

3. When competition is gone return to monopoly price levels and rebuild the retained earnings.

Is there a proof that demonstrates that this would be an impossible solution to the question of how to optimize long run profits? If not it would seem like its possible for the market to produce a monopoly either by design or by accident that would not be subject to competition over the long run (long run meaning a 'before we are all dead' time frame).

Hume writes:

How about "merging to monopoly"?

Will writes:

To those commenters who are using natural monopoly as a counter-example, I am pretty sure Bryan had that in mind when he stated criterion number two:

"If the monopoly came from superior efficiency, broadly defined"

In the case of a natural monopoly, a single firm is the efficient solution.

scott clark writes:

B.B.,

I'll try to give a few hints in the direction of the story of Standard Oil and Alcoa. You can fill in the rest later.

Standard Oil at the time of it breakup had for years been increasing production, increasing quantity supplied and lowering prices, the opposite of what textbook econ would tell you about the behavior of a monopolist. They were also hard at work using their financial muscle to solve technological, chemical, and logistical challenges that were pretty daunting for their day. Alcoa had a similar pattern of increased output at lower prices, there were no strong virgin aluminum producers to rival them, but they were rightly worried about being replaced by plastics, so they were pushing hard to provide cheap, effective products, they also saw themselves as competing with the scrap metal market, both claims were deemed not admissible to the antitrust case. They too were solving technological problems and anticipating the demands of the market into the future.
Even the opinion from the Alcoa antitrust case admits that they were being broken up because they were pretty hardworking. Here's Judge Learned Hand, who voted to break them up because of the following:
"It was not inevitable that it should always anticipate increases in the demand for ingot and be prepared to supply them. Nothing compelled it to keep doubling and redoubling its capacity before others entered the field. It insists that it never excluded competitors; but we can think of no more effective exclusion than progressively to embrace each new opportunity as it opened, and to face every newcomer with new capacity already geared into a great organization, having the advantage of experience, trade connections and the elite of personnel."

That should get you started down the road of rethinking anti-trust.

eccdogg writes:

Boonton, I think the answer to your question has to do with the idea of "contestable markets"

If there is always the threat that a new entrant would come in if prices are too high. The pizza shop owner is never able to charge very high monopoly prices. He acts like a competitive firm even though he is the only one because if he were to do differently a new competitor would enter.

Of course this only applies if barriers to entry are relatively low. Interestingly one of the things that creates barriers to entry are all types of government regulations.

If the new pizza shop owner has to get multiple permits, rent a building in a properly zoned area, get a sanitation grade, provide health insurance to his employees, etc etc. It makes entry harder. He can't just sell Pizza out of his house when the other guy charges too much. Some of those regulations may be good, but they definitely help the monopolist.

Patrick R. Sullivan writes:
There are cases in which, by first mover advantage, a firm takes over an entire market

Could you name one?

ionides writes:

To Patrick:
I cannot name an example of first mover advantage but doesn't the phenomenon of increasing returns to scale provide theoretical plausibility?

E. Barandiaran writes:

A nice example of monopoly:
http://www.docstoc.com/docs/10582301/President-Obama’s-Address-to-Students-Across-America-September-8-2009
Where does it come from? From politicians eager to transform constitutional democracies in their own banana republics.

mdb writes:

I think you could analyze the economic consequences of a monopoly without knowing how the monopoly arose (this is a broad general analysis). You could not analyze policy solutions without knowing how it arose. Maybe this what you mean

jake writes:

for many people it is hard to see but microsoft windows is the best operating system available. microsoft doesnt´t enjoy it´s 90% marketshare because some network effect, or some monopoly power. it simply has the best system. it works with almost any hardware and is relatively simple to use. Linux is unfriendly for an average kind of user. Mac is good, but tied with apple´s hardware.

Rolf Andreassen writes:

It seems to me that you can have a path dependency here. Suppose that, 40 years ago, some weak or corrupt government made legislation which effectively created a monopoly. Now you've got a new administration in place, which would like to see competition. Can it not be the case that merely repealing the original legislation is insufficient? By this time, the monopolist might be sufficiently powerful to maintain barriers to entry by quite legitimate, non-governmental means, without thereby being more efficient than its competitors - it's just able to take a loss for longer. In this case, I think you need government to break up what government created.

With that said, I do not necessarily claim that any such situation has actually existed in real history; I propose it as a theoretical exercise.

Peter Twieg writes:

You have also ignored pathway problems. A firm may have been efficient in the past but has gotten bloated after continued success. Yet, due to market share and increased entry costs, it maintains its position.

If we're dealing with rational consumers, then "pathway problems" are really the result of a preference for present over future wealth, and thus not really problems at all unless you want to act the notion of discounting the future.

Granted, we can jettison the "rational consumers" assumption like you've said, but keep in mind that a lower-level equilibrium in some distant long-run future does not imply present irrationality.

El Presidente writes:

Boonton,

Is there a proof that demonstrates that this would be an impossible solution to the question of how to optimize long run profits? If not it would seem like its possible for the market to produce a monopoly either by design or by accident that would not be subject to competition over the long run (long run meaning a 'before we are all dead' time frame).

Agreed.

Floccina writes:

IMO the classic examples of natural monopoly are AT&T and electric power companies. Shouldn't any discussion of anti-trust evolve them? Of course one could say that he Post office competed with AT&T and generators with the power companies.

I think that I am against anti-trust but I have my doubts. How much could a deregulated AT&T have gotten away with charging in the period from 1950 to 1980?

NOTE: IMO AT&T and the electric power companies they are no longer natural monopolies as new technologies can route around them.

Floccina writes:

BTW one interesting thing about a natural monopoly that is a public company is that their customers can buy stock and participate in those monopoly profits.

El Presidente writes:

jake,

[Windows] simply has the best system. it works with almost any hardware and is relatively simple to use.

Once you become the industry standard OS for personal computers, hardware manufacturers make the hardware to fit the OS. That's not remarkable, it's obvious. The Mac OS is not tied to the hardware. It is based on Unix. It couldn't be much more open-source. It simply has a smaller market share, so it's less lucrative for hardware manufacturers to cater to it the way the do with Windows; similar development costs, lower return. As for your assertion that it's the best, I don't think Mac has ever had to offer to give somebody their old OS back.

Patrick R. Sullivan writes:
I cannot name an example of first mover advantage but doesn't the phenomenon of increasing returns to scale provide theoretical plausibility?

I think it more plausible that if the theory had merit we'd find some evidence of it occurring. And, we have plenty of evidence of e-commerce entrepreneurs in the 90s who believed in it and are no longer around.

Mr. Econotarian writes:

"IMO the classic examples of natural monopoly are AT&T and electric power companies. Shouldn't any discussion of anti-trust evolve them?"

It should be noted that local phone service was granted exclusive franchises by many local governments. There were a few places this did not happen, where there were small independent phone companies.

Certainly today, technological progress has allowed many houses to have a choice between typical phone wire pairs, IP over DSL/cable/wireless, and mobile telephony.

Patrick R. Sullivan writes:

El Presidente, Windows wasn't the 'industry standard' when it was introduced, how did Microsoft induce hardware manufacturers to produce for it?

Jeremy, Alabama writes:

Every business, everywhere, tries their hardest to discriminate their own product or service as different or superior to others. No business says "we offer ordinary, for an average price!"

It is a very crowded spectrum from competitive advantage all the way to monopolistic advantage. Only a government bureaucrat whose job depends on it could possibly believe they can discern a genuine monopoly.

And yet, they fail to detect the true, pernicious monopolies and cartels are established through government regulation. A libertarian would say to a progressive - your legalisms that give government the powers to break up monopolies in fact create much more stubborn, much more damaging, much more long-lived monopolies.

Floccina writes:

BTW one other monopoly that I would like to see discussed is the Federal Reserve's monopoly on the creation of base money. Is it at the bottom of our current banking problems.

Troy Camplin writes:

I'm of the opinion that there is no such thing as a market monopoly. Monopolies are not natural, but are government-made and -enforced entities. I would love to see some economics work demonstrating this.

Dan Weber writes:

El Presidente, Windows wasn't the 'industry standard' when it was introduced, how did Microsoft induce hardware manufacturers to produce for it?

DOS became the standard when Compaq cloned the IBM PC in hardware and licensed the OS, figuring that the OS was a commodity. Microsoft had a constant advantage not only from the hardware developers' side but also from the application developers' side that built up until they were the dominant player. And at some times in the past it played real hard ball with its monopoly advantage, like charging a bulk license for the total number of computers a manufacturer sold.

I'm nowhere near as anti-Microsoft as I was in college, and I use their products daily. But it's simply bonkers to think that if the market share were to suddenly snap to 80% MacOS and 10% Windows that Windows would claw back "because it's better."

Political Observer writes:

A monopoly can only exist for an extended period of time if and only if government actions allow for that monopoly to exist. In all other circumstances any monopolist actions to enjoy economic profits for any extended period will invite others into the market to capture those returns. That is true whether or not their are high cost of entry into the marketplace.

With regard to the concept of "natual monopoly" that is an arguement advanced by both the regulator and regulated entities (utilities) to justify the current structure of that market. If you look at how the current wholesale market for electricity operates today (unregulated) you see the same outcomes as any other commodity marketplace. Prices flucutate because of the imbalance of supply and demand at any one point but overall it works fairly efficient in matching buyers and sellers to price.

With regard to the question of economy of scale monopolies - I am reminded of the old joke that defines an economist is someone who sees something work in practice but wonders if it will work in theory. The economy of scale arguement appears to work in theory but in reality the concept is less convincing. A firm through scale may for a time enjoy a dominant position in their market. However over time that position will erode either because the dominant firm becomes too complacent and allows cost to get out of control or begins to loose market because of effective substitutes for their core products. Think of IBM and mainframees. THey dominated this market for a long time until computer technology finally caught up with effective substitutes. They then tried to resist the change because of the huge capital cost that were already sunk into mainframes. However over time they were forced to shift their business model to remain viable. To my knowledge they still dominate the mainframe markets - though that is a business that is getting smaller all the time.

El Presidente writes:

Thank you, Dan. You beat me to it.

Bill Drissel writes:

Bryan,
I've wondered the same thing. Some answers I've received include cartels or other agreements between competitors. It always seemed to me that an attempt to extract monopoly prices would build an umbrella under which unaffiliated competitors could thrive. High cost of entry is another.

Some years ago, I met a man whose family grew mint. He told me that mint farmers won't sell roots to people not already in the business.

I think your objection is well taken.

Regards,
Bill Drissel

agnostic writes:

The focus on how a monopoly came to be is misplaced. Perhaps they got where they did by being the best. It's what they do once they become the monopoly that matters.

But what they do when they become the monopoly follows from how they got there. If they got there by government protection, they can gouge people and not suffer retaliation from consumers -- it wasn't they who voted the monopoly into power, so they can't vote it out.

But if they got there by winning consumers' votes, they wouldn't dream of gouging people -- in that case, consumers would vote them out and one of their many competitors would be there to dethrone them.

To keep things empirical, look at Nintendo. They utterly dominated Sega and Atari in the 8-bit era of video games by offering superior games. They had Sega nipping at their heels during the 16-bit era but still offered better games and came out ahead; they stomped all over the other 16-bit systems.

However, once the quality of their games started to slacken during the 64-bit or 3-D era, they lost bad to Sony's PlayStation, which had better games. This continued through the next generation, with Nintendo's GameCube getting crushed and buried by Sony's PlayStation 2. Now, though, Nintendo's games (for the Wii) have been voted superior to those of Microsoft's Xbox 360 and Sony's PlayStation 3, and Nintendo is once again back on top.

This shows that just because Nintendo was a near monopolist during the mid-late '80s didn't ensure that they'd be able to sit on their laurels, gouge consumers, etc. It was a very competitive industry, and once they faltered in the quality of their games, they got body-slammed by Sony and languished for the next 10 years. Only by making better games once again and re-gaining consumers' votes have they managed to attain peak status once more.

scineram writes:

Microsoft is the cheapest. That is it.

Steve Sailer writes:

If you've actually been in business, monopoly and cartel power isn't a myth, it's a goal. For example, the company I worked for negotiated a merger with its strongest competitor in a 3 company industry in 1987. But the Reagan Administration vetoed it as anti-competitive, which led to a 10-year-long price war, which cost me a lot of money.

Here's a 1987 NYT article on it:

The Dun & Bradstreet Corporation yesterday withdrew its offer for Information Resources Inc., a market research company, after the Federal Trade Commission said it opposed a merger.

Information Resources stock plunged $8 in over-the-counter trading, to $13, yesterday. Shares of Dun & Bradstreet, parent of the market researcher A. C. Nielsen Company, slipped 62.5 cents, to $52.625, on the New York Stock Exchange.

The all-stock deal was worth nearly $600 million when it was first proposed in August, but it lost about a quarter of its value when the stock market collapsed last month. It foundered when several large packaged-goods companies protested the merger to Federal antitrust officials.

''The clients of Information Resources and A. C. Nielsen made a serious mistake fighting this transaction,'' said Joseph E. Laird, Jr. an analyst with Hambrecht & Quist, the investment banker for Information Resources. He said neither company would be able to make the same breakthroughs on its own in developing new products.

Antitrust experts said the Government had little choice but to reject the deal. ''I can't think of any proposed merger in the last 10 years that would be as restrictive of competition as this merger,'' said Gordon Spivack, an lawyer with Coudert Brothers who represented the Coca Cola Company, which had been foiled by antitrust concerns in its attempt to buy the Dr Pepper Company. ''The effect would be a restraint of trade, if not a monopolization of a market.''

Mr. Spivack said that only one other company, SAMI-Burke Inc., sells research data similar to that sold by Information Resources and Dun & Bradstreet's Nielsen unit.

The two former merger partners have already resumed their competitive battles.

''The biggest vote of confidence we could have been given is to have D.& B. vote to put $600 million into our technology and services,'' said John Malec, chairman of Information Resources, ''Basically, our biggest competitor is saying that our technology is frightening enough to them that they think it would be beneficial to have them on our side.''

But John C. Holt, executive vice president of Dun & Bradstreet, responded: ''Our clients are very sophisticated and wouldn't be fooled by statements like that. In this case, We thought we'd save time and buy some capabilities they had that we don't, but instead we'll just spend some money to develop them instead.''

Drewfuss writes:

The excellent example give by agnostic is evidence that the standard economic analysis of monopoly is extremely short-sighted. Actually it is so short-sighted it could be described (or written off) as static analysis. Hehe.

Also, it should be remembered that most cases of non-natural, non-regulated monopoly power are going to involve markets with high degrees of product differentiation - that is, risky markets that only exist because the 'monopolist' made them exist. The other guys went out of business trying (is that market failure too?).

Arguing for 'market failure' in these cases would like arguing against the 'monopoly profits' of a blockbuster movie, while forgetting that more than 80% of movies don't break even. Monopoly in microeconomic theory is analyzed completely without context - i guess since the context is unknowable, and is therefore ignored.

Hello economists! Can you please update your quasi-socialist interpretation of monopoly by including some analysis of the dynamics, risk and reward elements of real-world markets?

Joe Cushing writes:

Nobody would argue that Microsoft products were the best, yet they have achieved market power very close to monopoly. Everyone uses their products because everyone knows how to use their products. I would much rather use a free office suit but then I would not know how to use Microsoft office when I show up to a new job.

The qwerty keyboard has a monopoly over keyboards for the same reason. People use them because everyone else is. The qwerty keyboard was specifically designed to be inefficient. It was made to slow people down so the typewriter wouldn't jam. It's only been about 100 or so years sense this jamming problem was solved so people could type fast but people still use qwerty. Qwerty causes pain/injury and reduces worker productivity. Switching would be fast and easy for society. The monopoly prevents the switch.

About 10 years ago, I went into my keyboard settings and switched my keyboard to Dvorak. I used a picture of a Dvorak keyboard to learn the keys and was typing great in about a week. Then when I went to work, my fingers were confused. I could not make the switch alone.

Carl Edman writes:

As an antitrust lawyer with a considerable amount of skepticism of antitrust law, I too would like to hear Bryan's response to two types of monopolies mentioned here:

Mergers-to-monopoly and price-fixing (or market allocating) conspiracies (open or clandestine) both create de juro or de facto monopolies. Neither requires government suppression of competitors or superior efficiency. They either are (or in the case of clandestine conspiracies can be) stable equilibria. None of them would be illegal absent antitrust laws. Finally, and not incidentally, they are also IMHO the strongest cases for the benefits of antitrust law.

Would wise (i.e., libertarian) policy favor banning these practice through antitrust law? Perhaps, net-net the benefits of such laws would still be outweighed by the costs, but it is not clear to me why that should be so a priori.

PS: Contrary to the impression of many, in the U.S., it is not generally unlawful to be a monopolist. Nor is it illegal to become a monopolist through, to use the terms of art, "superior skill, foresight, or industry." 'Skill' and 'industry' permits monopolies created by superior efficiency. 'Foresight' permits natural monopolies established by the first mover. Nor is it illegal for a legal monopolist to charge the monopoly price.

Patrick R. Sullivan writes:
DOS became the standard when Compaq cloned the IBM PC in hardware and licensed the OS, figuring that the OS was a commodity. Microsoft had a constant advantage not only from the hardware developers' side but also from the application developers' side that built up until they were the dominant player.

Somewhat lacking in logical rigor. Not to mention, misleading in the actual history.

'Microsoft had a constant advantage', yeah his name was Bill Gates.

Patrick R. Sullivan writes:
Qwerty causes pain/injury and reduces worker productivity. Switching would be fast and easy for society. The monopoly prevents the switch.

Why am I not surprised to see this myth resurface. Joe, you're 20 years behind on your reading.

Here's the academic version:The Fable of the Keys.

Here's the magazine article adapted from the above:
Typing Errors
.

Patrick R. Sullivan writes:
'Foresight' permits natural monopolies established by the first mover.

Again, please name one.

Carl Edman writes:

I wrote:

'Foresight' permits natural monopolies established by the first mover.

Patrick R. Sullivan wrote:
Again, please name one.

I am sufficiently aware of, and insufficiently expert in, the debate on this issue that I hesitate to venture an opinion on whether such monopolies exist, historically or at present. My only claim was that--if they did exist--they would generally be legal under current U.S. antitrust law.

Dan Weber writes:
Somewhat lacking in logical rigor. Not to mention, misleading in the actual history.
You need to say what is incorrect or misleading, not just fling poo.

Seriously, are you claiming that if we were to magically cause the established base of microcomputer OS's to go 80% OSX and 10% Windows, that OSX would not then enjoy a supreme advantage merely by being the large established base?

There were many competing OS's for the PC market in the 80's. But IBM had chosen DOS, and people cloning IBM machines, like Compaq, also had chosen DOS, so that they could say "100%-IBM PC Compatible."

Merely being the largest OS base caused hardware vendors to make sure that their hardware first worked with DOS. And merely being the largest OS base caused application developers to write their products first for DOS and worry about porting to other systems later.

It also means trying to break up the OS market would be a failure, because as other people have already said, we would just get another monopoly to rise from the ashes.

This isn't anything amazing or controversial about this. You could go into deny-deny-deny mode, I guess, instead of trying to deal with the facts.

Patrick R. Sullivan writes:

Dan, you write as if all this just happened out of the blue. You're ignoring the entrepreneurial skills of Bill Gates, which is what made MSDOS the standard.

As you admit, there were other OSs out there that Gates had to compete against. MSDOS worked better than the others.

Boonton writes:

eccdogg

If there is always the threat that a new entrant would come in if prices are too high. The pizza shop owner is never able to charge very high monopoly prices. He acts like a competitive firm even though he is the only one because if he were to do differently a new competitor would enter.

Let's think about this from the POV of a person entering the market. Say the start up costs of the pizza shop are $100K. Before I enter the market and spend these fixed costs I'd want to be sure I could be around long enough to at least recoup them. The high prices due to the monopoly might tempt me to enter, but the fear that the monopoly will turn my investment into a loss will serve to deter me. Yes the gov't can lower some of these costs by streamling permits and fees but a pizza shop still costs a lot to get off the ground and selling pizzas out of the trunk of your car is not a pizza shop.

So it would seem like the fear of a new competitor will act like 'virtual competition' to the monopoly it, like virtual sex it is not quite as good as the real thing. You wouldn't get the results of a competitive market unless the entrance costs were remarkably low.

I'm taking Bryan's post to be more about theory than real life. I think its theoretically possible to have a monopoly arise not because of greater efficiency or because of gov't policy. Whether its easy is quite anotehr question.

Dan Weber writes:

Dan, you write as if all this just happened out of the blue. You're ignoring the entrepreneurial skills of Bill Gates, which is what made MSDOS the standard.

Okay, so you've gone for "deny" as your choice of rebuttal. That's okay. I can distract the issue, too, by pointing out that it was Bill's mom being on the Board of Directors of the United Way with the CEO of IBM when IBM needed an OS for their new PC. He had the entrepreneurial skills to pick his mom wisely, that's for sure.

See, now, I didn't want to do that. Bill Gates is very smart and very hard-working, but some people have to assign super-powers to him to make all his money gained through skill and not luck.

As you admit, there were other OSs out there that Gates had to compete against. MSDOS worked better than the others.

You are begging the question. I say MSDOS succeeded, in large part, because of the lock-in and network effects from both directions. You say... well, I guess you say "nuh-uh!" There's not really much of a discussion that can happen this way.

I'll try a third time: if I waved a magic wand and made OSX be 80% of the market, do you seriously think that Windows could fight back to dominate the market?

joe writes:

So Dan, why doesn't Apple license it's OSX to other PC manufacturers? Software licensing is a far better business than selling iMacs? And if it's the case that OSX is so much better, than aren't claims of a MSFT monopoly even more hollow? Basically, your argument is that MSFT has a monopoly because the owner of a competing and superior product refuses to make it broadly available. Is that somehow MSFT's fault?

Ak Mike writes:

Carl Edman - I don't think either of the cases you cite are a special problem - because I think you are mistaken that either are stable. In a merge to monopoly situation, the resulting company's monopoly can only be sustained if prices are low enough to discourage new entrants. In that case, who cares whether it's one firm or three firms? If high barriers to entry allow the price to be fairly high, that high price was there even before the merger - it was the barrier and not the competition among two or three firms that controlled the price.

In the price-fixing situation, the same. Assuming none of the conspirators cheated by cutting prices to increase market share (always a danger), new entrants would come in if the fixed price is high enough to make for attractive profit levels. If the barriers to entry are high, the fixed price level could also be high, but then it would have been high even without the price-fixing conspiracy.

I've seen the first situation occur in our town some years back - the two supermarket chains here merged. Within a year or two other businesses opened groceries, and soon the supermarket business was more competitive than it had been before the merger.

Dan Weber writes:

So Dan, why doesn't Apple license it's OSX to other PC manufacturers? Software licensing is a far better business than selling iMacs? And if it's the case that OSX is so much better, than aren't claims of a MSFT monopoly even more hollow? Basically, your argument is that MSFT has a monopoly because the owner of a competing and superior product refuses to make it broadly available. Is that somehow MSFT's fault?

What in the world are you talking about?

Windows dominates because OSs tend to have one big winner, as has been explained many times by the commenters here. Getting an early plurality of the market, like Microsoft did, is a huge advantage.

Kind of key in this is that it doesn't matter how or if OSX is better.

Patrick R. Sullivan writes:
I say MSDOS succeeded, in large part, because of the lock-in and network effects from both directions.

Definitely not, Stan Liebowitz and Steve Margolis demolished that idea. It's not intellectually respectable.

At any rate, IBM had good reason to approach Bill Gates for an operating system. And, if his mom was so instrumental, why did Bill first send them to Digital Equipment for their CP/M? It was only after Digital refused to cooperate with IBM that Gates found QDOS and bought it from a Seattle developer for IBM.

And, if IBM was so important, why didn't they refuse to let Gates also sell it to other mfgrs?

Patrick R. Sullivan writes:
Windows dominates because OSs tend to have one big winner....

You've returned to square one. MSDOS had network effects, but Windows' superiority enable it to overcome them. Why didn't Apple license its superior OS and beat Gates to the punch?

Dan Weber writes:

Definitely not, Stan Liebowitz and Steve Margolis demolished that idea. It's not intellectually respectable.

I'm not swayed by Appeal to Authority. But I'd still be surprised if you have some citation where L&M claim that there are no network effects in Operating Systems.

It was only after Digital refused to cooperate with IBM that Gates found QDOS and bought it from a Seattle developer for IBM. And, if IBM was so important, why didn't they refuse to let Gates also sell it to other mfgrs?

Because they didn't know what they were dealing with. There are a pile of VC firms that turned down, Google, too.

MSDOS had network effects, but Windows' superiority enable it to overcome them

So you think Windows and MSDOS were competitors. That's okay. It just means you don't know what you're talking about.

Boonton writes:

Why didn't Apple license its superior OS and beat Gates to the punch?

I suspect because Apple sought to secure a small niche where they could dominate rather than risk bleeding to death in combat on the open plains.

This discussion brings to mind the game Monopoly. Rarely have I ever played that game fairly (as a kid we kept changing the rules because no one would allow themselves to go bankrupt) or to its fair end but the typical pattern is that random events at the beginning of the game often cascade into a single player dominating the market at the end.

Sometimes skill is involved but if equal level players are competing it really does seem more of a function of random events.

Which reminds me of my micro class on the theory of oligopoly. Monopoly seems like it can be a special case of oligopoly (which no economist, I think, believes is a theoretical impossibility barring gov't intervention) where one company gets the better of two or three of its main competitors (either out of luck, skill or stupidity on their part).

One last thought, I'd like to remind everyone that US antitrust law does not ban monopolies. It bans 'unfair competition'. Basically you are free to have a giant monopoly but the laws kick in if you are using certain practices to either obtain or maintain that monopoly.

Patrick R. Sullivan writes:
But I'd still be surprised if you have some citation where L&M claim that there are no network effects in Operating Systems.

Evasive. If you knew the literature, as I do, you'd know they have demonstrated that network effects aren't strong enough to lockout superior alternatives that come along later--as Beta, with a 2 year headstart, couldn't prevent VHS from becoming the standard for VCRs.

Because they [IBM] didn't know what they were dealing with.

What was that you were saying denigrating Bill Gates entrepreneurial skills?

So you think Windows and MSDOS were competitors. That's okay. It just means you don't know what you're talking about.

One of us surely doesn't, but far more famous economists than you have had to concede publicly that I did, on this issue.

Carl Edman writes:

Ak Mike wrote:

In a merge to monopoly situation, the resulting company's monopoly can only be sustained if prices are low enough to discourage new entrants. In that case, who cares whether it's one firm or three firms? If high barriers to entry allow the price to be fairly high, that high price was there even before the merger - it was the barrier and not the competition among two or three firms that controlled the price.
I don't believe that is correct. Even if there are high barriers to entry, as long as there is vigorous competition, prices will still approximate some measure of marginal cost. Take away the competition and prices will rise to the level just below where entry becomes attractive. Hence, in a market with high barriers to entry, a merger to monopoly will lead to permanently higher prices and the associated dead weight loss.
In the price-fixing situation, the same. Assuming none of the conspirators cheated by cutting prices to increase market share (always a danger), new entrants would come in if the fixed price is high enough to make for attractive profit levels. If the barriers to entry are high, the fixed price level could also be high, but then it would have been high even without the price-fixing conspiracy.
Same response, but let me add one point: Price-fixing conspiracies become a lot easier and more effective without antitrust laws. They wouldn't have to take place as secret back room deals, but could take the form of legally enforceable contracts. Participants could even openly post bounties for any customer who reports a price cut below the fixed level.

Ak Mike writes:

Carl Edman - You are an antitrust lawyer. There are hundreds, maybe thousands of lawyers who practice in that field. Plenty of competition. But there are high barriers to entry - you have to go to law school, get a job in the antitrust area, spend many years developing expertise.

In consequence, despite all the competition, you can charge hundreds of dollars an hour for your services. Your high charges are possible because of the barriers to entry into your specialized field of antitrust law, even though you have no monopoly of providing that service.

The same is true with respect to major league sports players. The barrier to entry is athletic skill, which on that level is rare. Profits for the players are immensely high, despite the fact that there are hundreds or thousands of them.

There may be fields with high barriers to entry where profits are held down because of cross-elasticities of demand with another market. For example, although there are very high barriers to starting a new railroad, all railroads have to compete with trucks and ships, and therefore prices are kept in line.

In brief, I disagree with you. In fields with high profits, it is barriers to entry and not the number of competitors that controls the profit level. Further, in the real world most markets do not have very high barriers to entry, and so merge-to-monopoly and price-fixing will simply invite in new competitors to enjoy the higher profits.

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