Have you ever paid heavily for a product just because you did not have other alternatives? It's very dissatisfactory when you have no choices and on top of that, you are paying more. Well, sometimes, the government creates monopolies. Now, you must be wondering why and how the government creates monopolies. To find out, let's dive straight into the article.
Government Monopolies Definition
Before jumping directly into the definition of government monopolies, let's take a look at what a monopoly is.
A monopoly is a scenario when there is only one supplier selling products that cannot be easily substituted in the market.
As sellers in the monopoly have no competitors and the products they sell are not easily replaceable, they have the power to control the price of the product. The characteristic of this type of market is that there are significant barriers to entry to the point that no other firm can enter the market. Barriers to entry can be due to government regulation, economies of scale, or a single firm owning the monopoly resource.
Now, let's dive deep into government monopolies.
When the government imposes certain restrictions or grants firms the exclusive rights to manufacture and sell their products, a monopoly is created. These types of monopolies are known as government monopolies.
Government monopolies are situations in which the government imposes restrictions or provides businesses the sole right to produce and sell their products.
Government Actions That Create Monopolies
Now, let's take a look at the actions taken by the government that creates the monopoly.
The government can grant a firm the exclusive rights to be a monopoly.
In many countries, the government takes control of the educational industry as a whole and creates a monopoly by providing education at a lower price to families than if it is provided by other private institutions. This is done by the government not to hike up the cost but to provide education at a reasonable rate to every citizen.
The government also provides firms with copyrights and patents to create monopolies. Copyrights and patents enable businesses and individuals to obtain exclusive rights to sell their products and services as an incentive for coming up with innovations.
A patent is a type of intellectual property granted by the government to a firm for their invention which prevents others from producing, using, and selling the product for a set period.
A copyright is a type of government-granted intellectual property that prevents other parties from using the copyright owner's work without the owner's consent.
Examples of Government Monopolies
Now, let's take a look at examples of government monopolies to better comprehend the concept.
Suppose, Marcus owns the technology company and has discovered a new semiconductor chip that can boost the battery life of the mobile phone by up to 60%. As this invention can be very valuable and help Marcus earn a significant amount of profit, he can apply for a patent to safeguard his invention. If after a series of investigations and assessments, the government considers the semiconductor to be an original piece of work, Marcus will have the exclusive rights to sell the semiconductor chip for a limited time. In this way, government grants the patents to create a monopoly for this new semiconductor chip.
Let's say that Wayne is a writer who has written a book. He may now go to the government and copyright his work, which ensures that other people won't just copy his work and sell it unless they have his permission. As a result, Wayne now holds a monopoly on the sale of his book.
Government Monopolies Created by Patents
Now that we are familiar with patents and how it works, let's look at an example of government monopolies that are created by patents.
Fig. 1 - A government monopoly created by patents
Let's say a pharmaceutical company has recently discovered new drugs and has filed patents on them. This allows the company to have a monopoly in the market. Let's look at Figure 1, where a pharmaceutical company sells its drugs at the point where MR = MC, assuming that the marginal cost of making the drugs is constant and that the price is maximized following the market demand. Therefore, the pharmaceutical company can sell an MQ amount of its medicines at the price of PP during the active patent life. Now, what happens when the patent life expires?
After the patent life expires, other pharmaceutical companies come into the market to sell the drugs. Now, the market becomes more competitive and the company loses its monopoly power as the newly entered firms start to sell the drugs at a cheaper price than the monopolist firm. Assuming that there are no other barriers to entry after the expiry of the patent, the market will become a perfectly competitive one. The price will come down to PE and the quantity produced will be increased to CQ.
In reality, the pharmaceutical monopoly often does not completely lose its market dominance even after the patent expires. Due to its long history of drug distribution, it has likely developed a strong brand identity and accumulated a loyal client base that will not move to a competing product. Hence, it allows the company to be profitable in the long run even after the patent expires.
Government Monopolies Regulations
In some instances, the government also imposes regulations on monopolies to create a more competitive environment in the market or to make sure the monopoly couldn't charge a higher price which harms the welfare of the people. Ultimately, the government's goal is to reduce market inefficiency with these regulations.
Fig. 2 - Government monopolies regulations
Let's assume that a steel manufacturing company is a natural monopoly and has been selling its products for a much higher price, which is leading to inefficiencies in the market. In figure 2, we can see that the steel manufacturing company is initially selling at the very high price of PP. Being a natural monopoly, the steel manufacturing company can produce a higher quantity at economies of scale and sell it at a lower price but is selling it at a higher price which leads to economic inefficiency.
Therefore, after a proper assessment, the government imposes a price ceiling at the point where AC intersects the demand curve at the price of PG, which is just enough for the firm to sustain operations. At this price, the firm will produce the maximum output of GQ. This is also the output that will be produced by the firms that are competing with the steel company. Hence, this decreases the monopoly of the steel firm and creates a competitive market. However, if the government sets the price ceiling at the price PE, the firm will be unable to sustain operations in the long run since it will start losing money.
When a single firm can produce a product at a lower cost than if other two or more firms were involved in making the same products or services, a natural monopoly is created.
A price ceiling is a government-implemented price control mechanism that sets the maximum price the seller can charge on their product or service.
Want to learn more about Natural Monopoly? Do check out our article: Natural Monopoly.
Government Monopolies - Key Takeaways
- The situation when there is a single seller of a non-replaceable product in a market is known as a monopoly.
- Government monopolies are situations in which the government imposes restrictions or provides businesses the sole right to produce and sell their products.
- The patent refers to a type of intellectual property granted by the government to a firm for their invention which prevents others from producing, using, and selling the product for a limited time.
- A copyright is a type of government-granted intellectual property that safeguards the ownership of the original work of authors.
- A price ceiling is a government-implemented price control mechanism that sets the maximum price the seller can charge on their product or service.
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