Throughout market and how it leads to market

Topic: BusinessManufacturing
Sample donated:
Last updated: June 9, 2019

                                                          Throughout this essay I will be discussing the power that amonopoly has over a market and how it leads to market failure. Firstly amonopoly is formed when one firm has by far a dominant presence in a marketover firms within that market. This is usually due to factors that give it acompetitive edge over its competitors. Such as being first entrant into a newmarket, this would allow a firm to gain an early advantage.

Howeverrealistically this is not very often the case in markets with a low barrier forentry as it is relatively easy to copy a successful product or create asubstitute. Another factor which can cause monopolies to occur isdifferentiation and innovation of a product or service. In addition it iseasier to maintain this type of monopoly due to potential legal protection ofproducts/services through patents. This is prevalent in the Pharmaceuticalindustry in the United States, typically millions of dollars of investment isinjected into product research until a safe and effective drug is developed.Then the developed drug is usually protected by a legal patent before beingmade available for sale. This is because a lack of legal protection on a productleaves the market open for competitors to release cheaper alternative drugsinto circulation. Therefore forcing the prices of the initial firm downwards.

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Which makes the initial firm make a loss due to the high research anddevelopment costs. Another factor that can lead to the formation of a monopolyis the prime user of slim resources 1’suchas British Telecom who owns the telephone cabling running into the majority ofUK homes and businesses.’ A further factor that can lead to the formationof monopolies is the result of government-granted monopolies. These are mostlyfound in public services such as The Post office, National Rail and TheNational Grid. However state monopolies are often criticised.

Former PrimeMinister David Cameron believed that 2’A”complete change” was needed to boost standards and end the “state’s monopoly” overpublic services. An issue with government-granted monopolies is that it doesnot allow fair competition in services that are perceived to be public. Howeverit does allow the firms to charge much cheaper prices than competitors due tothe Government backing as seen in the NHS, Post Office and BT. Which makesthese basic services more affordable for the consumers however reduces theeconomic rent due to the expectation of wide availability of the variousresources. Monopoly power can firstly lead to market failure as ittightens the demand curves makes them rigid.

This means that the goods soldwill see a change in their price elasticity and will become an inelastic good.This means that a change in price will not have a significant change in thedemand for the good/service. If a good/service is perfectly inelastic it wouldbe a straight line vertically showing that a change in price has zero effect ondemand. This has a negative effect on the market as consumers would likely paymuch more for the service than it is worth due to their lack of bargainingpower. This would create a static market until substitute products come alongto compete with the monopolist. This would then increase the price elasticityof the market, therefore encouraging healthy competition between firms.Secondly a monopoly can lead to market failure through restricting supply ofgoods into a market.

This occurs if a monopoly is ordering stock or materialsfrom a supplier. For example If Supplier A only sells its cloth to Firm A(which is a monopoly) then Firm A can use their purchasing power to force thesupplier to lower their prices, this can also be known as bullying suppliers.This is achievable because Firm A is Supplier A’s largest customer, and if theydo not meet the demand of Firm A then Firm A can do one of two things. Eitherforce down the prices of their supplier or move along to a competitor such asSupplier B who would sell them cloth at a cheaper price. However issues thatcan arise from this is firstly the closure of suppliers, which then reduces thecompetition in markets further back in the supply chain. A third way in which amonopoly can lead to market failure is through causing a deadweight loss to thewider economy.

This occurs when there is a disequilibrium in the supply anddemand for a product/service and a loss of efficiency in the market. This isdisplayed as a triangle on a supply and demand graph which is also known asHerzberger’s triangle. This leads to a loss of total welfare as well as thesocial surplus meaning that it leads to a more dissatisfactory outcome for boththe producer and consumer.

This deadweight can also be the result of monopolystyle pricing by introducing a minimum and maximum of a product/service. Thisis because it inhibits the market from naturally adjusting to changes in theequilibrium price. If a price ceiling is issued on a certain product then itmay not be worth it for a firm to produce at a lower price.

Therefore theywould naturally produce a lower quantity as seen in the diagram.         The shaded area underneath the price ceiling is also knownas a supply shortage which means that producers won’t produce as much productat such a low price, while simultaneously consumers demand more product due tothe lower cost. How can thegovernment intervene to address the market failure?A first way in which the Government can intervene in marketfailure is through taxes and subsidies.

Subsidising the manufacturing processmeans that a firm would have lower production costs, which allows the firm tocharge cheaper prices without affecting their profit margins. This is effectiveat preventing market failure if the current price is above equilibrium pricefor example newly developed pharmaceuticals. However, a potential issue withthe government subsidising a monopoly is that funding a firms supply putsothers at a disadvantage which would increase the gulf in technology, marketshare therefore reducing chance of a competitive market. However, if theGovernment subsidises smaller firms trying to operate in the same market as amonopoly it may lead to an increase in healthy within the market.A second way in which the government can address the marketfailures of a monopoly is by introducing either a maximum or minimum price of aproduct/service.

A minimum price (price floor) can be seen by the governmentwhen labour regulations such as minimum wage are implemented firstly for thewelfare of the employees and their quality of life and secondly so that thelabour is level with the equilibrium rate of the economy. This is so monopoliesdo not pay their employees unliveable wages so that they can cut their costsand undercut their competitors. Price ceilings/maximum prices work in a similarway but in the opposite way. Governments can introduce price caps to preventpricing that eliminates the chance of competition by creating high entryrequirements in a market. This also prevents a firm from achieving excessivelylucrative profits by maximising the producer surplus. A further way in which the Government can intervene toprevent market failure is through potential commodity stabilisation schemes (3)”which aim to reduce the risks facing producers, leading to higher levelof production and investment.

” (Stiglitz 1989) Commodities can bestabilised through potentially putting subsidies on export so that commoditiescan be sold at artificial prices. If there is a stability in prices there willbe a stability in investment.  Monopolies are one of the factors that cause market failurein any given free market. Whilst monopolies cause those problems in theory,they are much rarer in practice. This is because as soon as a firm is obtainingabnormally high levels of profit in a competitive market over a sustained periodwould most likely lead to government intervention by either regulating themonopoly or aiding the firms who are in competition with them. Hence monopoliesin a free market are a rarity and if they did exist within the market would notlast long unless they were backed by the regulators of the market.  References {1} Economics Online,Monopoly Power, Formation of monopolies, Viewed 4th January 2018 http://www.{2} BB,C NewsPolitics, David Cameron: End state monopoly over public services, 21/02/2011,Viewed 4th January 2018,{3} Markets, MarketFailure, and Development, Joseph E. Stiglitz, The American Economic Review Vol.79 No. 2, May 1989


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