Monopoly

What Is a Monopoly?

A monopoly is a dominant position of an industry or a sector by one company, to the point of excluding all other viable competitors.

Monopolies are often discouraged in free-market nations. They are seen as leading to price-gouging and deteriorating quality due to the lack of alternative choices for consumers. They also can concentrate wealth, power, and influence in the hands of one or a few individuals.

On the other hand, monopolies of some essential services such as utilities may be encouraged and even enforced by governments.

Understanding a Monopoly

A monopoly is characterized by the absence of competition, which can lead to high costs for consumers, inferior products and services, and corrupt business practices.

A company that dominates a business sector or industry can use that position to its advantage at the expense of its customers. It can create artificial scarcities, fix prices, and circumvent the natural laws of supply and demand. It can impede new entrants to the field and inhibit experimentation or new product development. The consumer, denied the recourse of choosing a competitor, is at its mercy.

A monopolized market often becomes unfair, unequal, and inefficient.

Mergers and Acquisitions

For this reason, mergers and acquisitions among companies in the same business are highly regulated and subject to government review. Merger agreements between companies can be modified or canceled outright if federal authorities conclude that they violate anti-monopoly laws or eliminate consumer choice.

The required modifications typically include a forced divestiture of some assets to allow for competition. The divestitures ordered can include property, plant, and equipment (PP&E) assets as well as existing customer lists.

Types of Monopolies

Monopolies typically have an unfair advantage over their competition because they are either the only provider of a product or control most of the market for their product. Although monopolies might differ from industry to industry, they tend to share similar characteristics:

The Pure Monopoly

A company with a "pure" monopoly is the only seller in a market with no other close substitutes. For many years, Microsoft Corporation had a virtual monopoly on personal computer operating systems. As of July 2021, its desktop Windows software still had a market share of about 73%, down from about 97% in 2006.

Any pure monopoly (as opposed to an oligopoly, for example), enjoys a business that has high barriers to entry, such as significant startup costs that prevent competitors from entering the market.

Monopolistic Competition

When there are multiple sellers in an industry with many similar substitutes for the goods produced and companies retain some power in the market, it's referred to as monopolistic competition. In this scenario, an industry has many businesses that offer similar products or services, but their offerings are not perfect substitutes. In some cases, this can lead to duopolies.

Visa and MasterCard might be an example of a duopoly. They dominate their industry but neither can stifle the other.

In a monopolistic competitive industry, barriers to entry and exit are typically low, and a multitude of companies try to differentiate themselves through price cuts and marketing efforts. However, because the products offered by various competitors are so similar, it's difficult for consumers to tell which product is better. Some examples of monopolistic competition include retail stores, restaurants, and hair salons.

The Natural Monopoly

A natural monopoly can develop. A sector that has high fixed or startup costs, depends on unique raw materials or technology, or is highly specialized, can produce a monopoly.

Companies that have patents on their products that prevent competitors from producing the same product can have a natural monopoly. Pharmaceutical companies depend on patents to recoup the high costs of innovation and research.

The Government-Sanctioned Monopoly

Public monopolies may be set up by governments to provide essential services and goods. The U.S. Postal Service was established as one, although it has lost much of its exclusivity with the emergence of private carriers such as United Parcel Service and FedEx. 

In the utilities industry in the U.S., natural or government-allowed monopolies flourish. Usually, there is only one major company supplying energy or water in a region or municipality. The monopoly is allowed because these suppliers incur substantial costs in producing and delivering power or water, and a sole provider is considered to be more efficient and reliable.

The tradeoff is that the government heavily regulates and monitors these companies. Regulations can control the rates that utilities charge and the timing of any rate increases.

Antitrust Laws

Antitrust laws and regulations are put in place to discourage monopolistic operations — protecting consumers, prohibiting practices that restrain trade, and ensuring an open market.

In 1890, the Sherman Antitrust Act became the first legislation passed by the U.S. Congress to limit monopolies. The act had strong support in Congress, passing the Senate with a vote of 51–1 and passing the House of Representatives unanimously with a vote of 242–0.

In 1914, two additional pieces of antitrust legislation were passed to help protect consumers and prevent monopolies. The Clayton Antitrust Act created new rules for mergers and corporate directors and listed specific examples of practices that would violate the Sherman Antitrust Act. The Federal Trade Commission Act created the Federal Trade Commission (FTC), which sets standards for business practices and enforces the two antitrust acts, along with the Antitrust Division of the U.S. Department of Justice.

The laws are intended to preserve competition and allow smaller companies to enter a market rather than merely suppress strong companies.

Breaking Up Monopolies

The Sherman Antitrust Act has broken up large companies over the years, including Standard Oil Company and the American Tobacco Company.

The Microsoft Case

In 1994, the U.S. government accused Microsoft of using its significant market share in the personal computer operating systems business to prevent competition and maintain a monopoly. The complaint, filed on July 15, 1994, stated:

The United States of America, acting under the direction of the Attorney General of the United States, brings this civil action to prevent and restrain the defendant Microsoft Corporation from using exclusionary and anticompetitive contracts to market its personal computer operating system software. By these contracts, Microsoft has unlawfully maintained its monopoly of personal computer operating systems and has an unreasonably restrained trade.

A federal district judge ruled in 1998 that Microsoft was to be broken into two technology companies, but the decision was later reversed on appeal by a higher court. The controversial outcome was that, despite a few changes, Microsoft was free to maintain its operating system, application development, and marketing methods.

The AT&T Breakup

The most consequential monopoly breakup in U.S. history was that of AT&T. After being allowed to control the nation's telephone service for decades as a government-supported monopoly, the giant telecommunications company found itself challenged under antitrust laws.

In 1982, after an eight-year court battle, AT&T was forced to divest itself of 22 local exchange service companies. It was forced to sell off additional assets or split off units several times afterward.

What Are Some Characteristics of Monopolies?

One key characteristic of a monopoly is a high barrier to competition. Until 1982, AT&T had telephone lines that reached nearly into every home and business in the U.S. Who could have duplicated that? The answer was a forced spinoff of the Baby Bells.

A definitive characteristic of the monopoly is its ability to set prices and, in the absence of competitors, to raise them at will.

Also, monopolies can be money machines. They are the sole buyer of the products they need or at the very least the largest buyer. They are able to negotiate the prices they pay their suppliers while charging their customers whatever the market can bear.

What Is a Natural Monopoly?

A natural monopoly may exist without practicing any unfair machinations to stifle competition.

A company can be the only provider of a product or service in a region or an industry because no other company can match its past investment, its technology, or the talent it employs.

The term natural monopoly also is used for a company that has been sanctioned by a government to act as a monopoly because competition is deemed impractical, bad for the public, or both. Most public utilities in the U.S. operate as monopolies.

Why Are Monopolies Unfair?

A company that dominates a business sector or industry can use that dominant position to its own advantage and to the disadvantage of its customers, its suppliers, and even its employees. None of these constituencies have any alternative but to accept the status quo.

Notably, the Sherman Antitrust Act does not outlaw monopolies. It outlaws the restraint of interstate commerce or competition in order to create or perpetuate a monopoly.

What Antitrust Laws Exist to Break Up Monopolies?

In 1890, the Sherman Antitrust Act became the first U.S. law to limit monopolies.

In 1914, two additional pieces of antitrust legislation were passed to help protect consumers and prevent monopolies: