Do consumers have any substitutes to choose when there is a monopoly on a product?

What Is a Monopoly?

A monopoly is a market structure where a single seller or producer assumes a dominant position in an industry or a sector. Monopolies are discouraged in free-market economies as they stifle competition and limit substitutes for consumers.

In the United States, antitrust legislation is in place to restrict monopolies, ensuring that one business cannot control a market and use that control to exploit its customers.

Key Takeaways

• A monopoly is a market structure that consists of only one seller or producer.
• A monopoly limits available substitutes for its product and creates barriers for competitors to enter the marketplace.
  
• Monopolies can lead to unfair consumer practices.
• Some monopolies such as those in the utility sector are government regulated.

What's a Monopoly?

Understanding a Monopoly

A monopoly is a business that is characterized by a lack of competition within a market and unavailable substitutes for its product. Monopolies can dictate price changes and create barriers for competitors to enter the marketplace.

Companies become monopolies by controlling the entire supply chain, from production to sales through vertical integration, or buying competing companies in the market through horizontal integration, becoming the sole producer.

Monopolies typically reap the benefit of economies of scale, the ability to produce mass quantities at lower costs per unit. 

Types of Monopolies

The Pure Monopoly

A pure monopoly is a single seller in a market or sector with high barriers to entry such as significant startup costs whose product has no substitutes.

Microsoft Corporation was the first company to hold a pure monopoly position on personal computer operating systems. As of 2022, its desktop Windows software still held a market share of 75%.

Monopolistic Competition

Multiple sellers in an industry sector with similar substitutes are defined as having monopolistic competition. Barriers to entry are low, and the competing companies differentiate themselves through pricing and marketing efforts.

Their offerings are not perfect substitutes, such as Visa and MasterCard. Other examples of monopolistic competition include retail stores, restaurants, and hair salons.

The Natural Monopoly

A natural monopoly develops in reliance on unique raw materials, technology, or specialization. Companies that have patents or extensive research and development costs such as pharmaceutical companies are considered natural monopolies.

Public Monopolies

Public monopolies provide essential services and goods, such as the utility industry as only one company commonly supplies energy or water to a region. The monopoly is allowed and heavily regulated by government municipalities and rates and rate increases are controlled.

Pros and Cons of a Monopoly

Without competition, monopolies can set prices and keep pricing consistent and reliable for consumers. Monopolies enjoy economies of scale, often able to produce mass quantities at lower costs per unit. Standing alone as a monopoly allows a company to securely invest in innovation without fear of competition.

Conversely, a company that dominates a sector or industry can use its advantage to create artificial scarcities, fix prices, and provide low-quality products. Consumers must trust that a monopoly operates ethically due to limited or unavailable substitutes in the market.

Regulation of a Monopoly

Antitrust laws and regulations are in place to discourage monopolistic operations, protect consumers, and ensure an open market.

In 1890, the Sherman Antitrust Act was passed by the U.S. Congress to limit "trusts," a precursor to the monopoly, or groups of companies that colluded to fix prices. This act dismantled monopolies including Standard Oil Company and the American Tobacco Company.

The Clayton Antitrust Act of 1914 created rules for mergers, corporate directors, and listed practices that would violate the Sherman Antitrust Act, and the Federal Trade Commission Act created the Federal Trade Commission (FTC), which, along with the Antitrust Division of the U.S. Department of Justice, sets standards for business practices and enforces the two antitrust acts.

The most consequential monopoly breakup in U.S. history was that of AT&T. After controlling the nation's telephone service for decades as a government-supported monopoly, AT&T fell to antitrust laws. In 1982, AT&T, which had telephone lines that reached nearly every home and business in the U.S., was forced to divest itself of 22 local exchange service companies, the main barrier to competition.

What Companies Have Faced Antitrust Violations as a Monopoly?

In 1994, Microsoft was accused of using its significant market share in the personal computer operating systems business to prevent competition and maintain a monopoly. Using Antitrust legislation, Microsoft was accused of "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. Microsoft was free to maintain its operating system, application development, and marketing methods.

What Is Price Fixing?

Price fixing is an agreement among competitors to raise, lower, maintain, or stabilize prices or price levels. Antitrust laws require that each company establish prices and other competitive terms on its own, without agreeing with a competitor. Consumers make choices about what products and services to buy and expect that the price has been determined based on supply and demand, not by an agreement among competitors.

How Do Antitrust Laws Protect Consumers?

Antitrust cases can be prosecuted by state or federal governments. Consumers who suspect a company is violating antitrust laws can contact the Antitrust Division or Federal Trade Commission at the federal level. A local company operating within one state can be investigated by the Attorney General of the state.

The Bottom Line

A monopoly is defined as a single seller or producer that excludes competition from providing the same product. A monopoly can dictate price changes and creates barriers for competitors to enter the marketplace. Antitrust legislation is in place to restrict monopolies, ensuring that one business cannot control a market and use that control to exploit its customers.

Are there substitutes in monopoly?

Can consumers choose what to buy under a monopoly?

How do monopolies impact consumer choice?

When would a consumer buy a substitute?