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different from his previous one. Previously, he dared not ask a price for
a quantity of the resource any higher than that asked by his most eager
competitor; that is, by that other owner of this resource who was the most
eager to sell such a quantity. Now the favored resource owner knows that
no matter how high a price he demands for his resource, he need not fear
that anyone else will offer it for less. On the other hand, however, he
knows that if he raises the price he will be able to sell only a smaller quan-
tity of the resource than can be sold at the lower price.
He knows that although no other resource owner can supply exactly
the same resource, there may be many who are willing to supply excellent
substitutes for it. He knows, therefore, that the entrepreneurs who buy
his resource will continue to do so at higher prices only with full conscious-
ness of the correspondingly increased relative attractiveness of employing
substitute resources”or even of entering into altogether different branches
of production calling for resources entirely unrelated to the monopolized
one. The monopolist-resource-owner is well aware that he faces competi-
tion, and that this competition will govern the quantities of the resource
that he can expect to sell at higher prices. The resource owner knows that
the stronger the competition provided by related resources, the more elastic
the demand for his resource will be.
This degree of elasticity of the relevant portions of the demand curve
facing the monopolist-resource-owner determines whether or not it will be
profitable for him to raise the price. It may not be profitable to raise the
price, in which case there will be no changes at all in market activities (as
a result of the original concentration of the resource into the endowment
of the single market participant).2 But if it does appear profitable to the
monopolist-resource-owner to raise the price of his resource, several further
changes and adjustments will be brought about in consequence. These
will concern the quantity of the resource bought, the organization of pro-

1 The reader should compare the discussion in this section with that (on monopoly
in the pure exchange economy) in Ch. 7 (see pp. 128-131).
- Of course, the mere fact of the altered pattern of endowments has altered the initial
"incomes" of individuals. We ignore here all consequences that can be ascribed purely
to this alteration of "incomes."
MONOPOLY AND COMPETITION IN THE GENERAL MARKET 267


auction methods, and, indirectly, product prices and possibly also the prices
and employment of other productive factors.
Clearly, the higher price obtained for the resource will mean that only
a smaller quantity will be bought. As soon as the price increase is an-
nounced, entrepreneurs will revise their short-run and long-run production
plans in the light of the new market situation. In the short run, entrepre-
neurs will now tend to substitute more of other resources in place of the
monopolized factor; in the long run (and in some cases even in the short
run), entrepreneurs, in addition, will be likely to switch production at
the margin from the production of products calling for heavy inputs of
the monopolized factor, toward the production of other products. All
these changes in plans, involving both the input proportions used in pro-
duction, and also the scale of production, will result in a smaller aggregate
quantity of the monopolized resource being purchased by entrepreneurs
at the higher price. In effect, what the monopolist has done is simply to
hold a definite quantity of the resource off the market, and then to allow
buyers to compete with each other for the remainder. This remainder is
bought by the most eager buyers who secure their shares only by offering
a price high enough to eliminate the less eager buyers. If the monopolist-
resource-owner has correctly gauged entrepreneurial reaction to the price
increase, he will find that his total resource sales revenue is greater than
before, the increase in revenue per unit derived from the smaller quantity
of resource sold, more than offsetting the revenue lost on that quantity of
resource that he is unable to sell now at the higher price. (Of course, the
monopolist-resource-owner may discover that he has misjudged his market.
He may find that his total revenue has shrunk forcing him to lower the
price, at least to some degree. Or, on the other hand, the decrease in
quantity sold may be so slight that the monopolist might suspect that even
greater total revenue is to be obtained at a still higher price.) 3
With a smaller quantity of this resource being bought and used in
production, there will be corresponding consequences with respect to the
volume of output available to consumers. If the monopolized resource is
one for which, in the production of particular products, no substitute fac-
tors are available, these products will show most clearly the effects of the
price increase. Sooner or later entrepreneurs will switch from the produc-
tion of these products to other branches of production. Consumers will
find smaller quantities of these products for sale, probably at higher prices.
On the other hand, somewhat larger quantities can be expected to be pro-
duced of other products, possibly at somewhat lower prices. Eventually,
the market process will have brought about appropriate alterations in the
long-range plans of the producers so that a new stable pattern of prices for
3 On the calculations governing the monopolist's best choice of price, see p. 130, ftnt. 14;
see also p. 98, ftnt. 7.
268 MARKET THEORY AND THE PRICE SYSTEM


the other resources will have been established, consistent with the new sets
of production and consumption decisions.
The differences between output in the market (in equilibrium) before
monopolization of the resource, and output in the market that has achieved
equilibrium after monopolization, are results of the fact that a quantity of
the monopolized resource remains unsold. The new market as a whole is
the poorer by this quantity of factor. It is in the same position it would
be in if this quantity of the factor had never been endowed by nature. The
concentration of the ownership of the resource into the hands of a single
resource owner has deprived the market as a whole of the opportunity to bid
for the output that the unsold portion of this resource might have made
possible. When the resource was distributed among the endowments of
many resource owners, it was never in the interest of any of the resource
owners to deprive the market of the output that could be derived from his
supply of the factor. The interests of both the resource owner and the
consumers were best served by the fullest possible employment of the re-
source. Now, however, it is in the monopolist's interest to leave a portion
of the supply unused, in direct contradiction to the interests of the con-
sumers.4
This outcome is not the necessary result of the monopolization of the
resource. When demand conditions are not favorable to the wishes of the
monopolist, he may be forced to offer his entire supply of the resource to
the market at the old low price. Any increase in price, he would fear,
would result in lower total revenue. In cases such as this no adverse conse-
quences for the market as a whole can be ascribed to the monopolization of
the resource.
THE RESOURCE CARTEL
Suppose that a particular resource appears in the nature-endowed factor
supplies of resource owners sufficiently few in number for all of them to
enter into a cartel agreement. Under such an agreement the owners of the
resource attempt to earn greater revenue through the elimination of compe-
tition among themselves. Each seeks to offer the market less attractive
opportunities (that is, to obtain opportunities more advantageous to him-
self) through the assurance that no other owners of the resource will offer
opportunities more attractive to the market than his own.
Such a cartel, in theory, could operate in exactly the same way as the
single owner of a monopolized resource. If demand conditions are pro-
pitious, the cartel may be able to raise the price of the resource. This higher
price, however, will be maintained only if all cartel members refuse to sell
4 A special case may exist where in the absence of monopoly a resource would have
been a free good. Here a monopolist may be able to hold off sufficient quantities of the
resource to enable it to command a price. See p. 131, ftnt. 15.
MONOPOLY AND COMPETITION IN THE GENERAL MARKET 269


for less than the agreed price. This will result in a smaller aggregate
quantity of resource sold, leaving some of it unsold in the hands of the
owners. A cartel agreement will have to provide for a definite method
whereby the sales revenue should be distributed among the cartel members.
(Or, to put the same thing the other way around, the agreement must
specify clearly the basis on which the loss of revenue attributable to the
unsold quantities of the resource is to be borne by the cartel members.)
If the cartel agreement is fulfilled, the group as a whole will gain addi-
tional revenue in exactly the same amount as would be gained by a single
monopolist-resource-owner. This gain will have been distributed among
the members through the arrangement mentioned in the preceding para-
graph. The cartel members as a group will have denied the market the
output obtainable from the unsold quantity of resource, just as the single
monopolist did. In both cases the loss suffered by the market as a whole
is the inevitable accompaniment to the additional revenue gained by the
monopolist or the cartel.
It is, however, precisely this additional revenue gained through the
strict fulfillment of the cartel agreement that makes such an agreement
appear exceedingly difficult to set up and maintain. There is a built-in
tendency for members of a cartel to break away from it. This can easily
be understood. Under the cartel agreement each member, in effect, gives
up his supply of the resource to the cartel as a whole; the cartel as a whole
holds back a quantity of the resource and is able to sell the remaining quan-
tity at a higher price; the revenue is then distributed among the members.
Each member receives in this way more than he would have received if there
was no cartel. But (and it is this that makes a cartel agreement precarious)
each individual resource owner can probably see that he could obtain even
more revenue if he remained outside the cartel arrangement and sold all
his supply of the resource to the market at the price achieved by the cartel.
Now it is true that where one or several resource owners refuse to join
a cartel, it may still be worthwhile for the remaining resource owners to
form a cartel. But these remaining resource owners would now possess,
as a group, only an incomplete monopoly over the resource. In making
their calculations as a group they must now realize that if they force up
the price by holding off some of their supply from the market, they must
share any resulting gain with outsiders who shoulder none of the neces-
sary cost; namely, the loss of revenue on the unsold portion of the resource
supply. With only an incomplete monopoly over the resource, a cartel or a
single resource owner holding a large portion of the resource supply must
lose all the revenue attributable to the resource supply held off the market
(since those outside the cartel are eager to sell all they can at the ruling
price). Any price increases can be maintained only if the cartel holds the
required quantity off the market. Thus, in calculating the wisdom of
270 MARKET THEORY AND THE PRICE SYSTEM


pursuing a policy restricting supply, the cartel must offset, against only part
of the additional revenue gained through such a policy, the entire loss of
revenue on the unsold quantity.B
Nevertheless, when the number of resource owners is sufficiently small,
it may be possible to maintain a collusive price-fixing arrangement. In the
literature such cases are frequently called cases of collusive duopoly (where
there are two sellers) or oligopoly ("few" sellers).6

RESTRICTION OF SUPPLY: A SPECIAL CASE
A special case of considerable interest may be considered as follows.
Consider a resource which is present in the original endowments of a num-
ber of resource owners, too large for a stable cartel to be successfully estab-
lished. Suppose, however, that through some special device (legal, institu-
tional, or other), a group of the resource owners are able to sell their
resources to the producers of a particular product (or group of products)
5 This may be illustrated by a diagram. Here DD' represents the market demand
curve for the resource. For a monopoly, this line then represents the monopolist's line
of average revenue, with MR the corresponding line of marginal revenue. The monop-
olist's best possibility, assuming he does not wish to use any of the resource for himself,
is then to sell the quantity OA at price AB (so that his marginal revenue is zero). His




Figure 12-1
total revenue is then OA — AB. If, however, a cartel has only partial monopoly over
the resource, things are different. The line SXCS'XC represents the aggregate supply
curve of the resource owners outside the cartel. Assuming the DD', SNCS'NC curves are
known, the cartel operators may calculate the demand curve that they face. At each
proposed price they can calculate the quantity that the cartel will be able to sell by
subtracting, from the aggregate quantity that the market will buy at the price, the ag-
gregate quantity that the non-cartel suppliers will supply at the price. (Thus, at price
OE, the cartel may expect to sell the quantity EF - GH = EH ” EG.) The line DCDC'
thus obtained is the demand curve facing the cartel; MRC then represents the cartel's
marginal revenue line. The best decision for the cartel is then to announce a price LM.
At this price they can sell the quantity of resource OL yielding the greatest possible
revenue OL — LM (marginal revenue being zero). This revenue is clearly much less than
that for the complete monopolist, and will be correspondingly lower as the SSCS'NC line
moves to the right.
6 A very large literature has emerged dealing in great detail with these cases.
Much of the analysis required for these cases depends on postulates that must be
imported from outside price theory proper. In this book we do not enter into
these problems. For one excellent review of such problems see \fachlup, F., The
Economics of Sellers' Competition, Johns Hopkins University Press, Baltimore, 1952,
Parts 5, 6.
MONOPOLY AND COMPETITION IN THE GENERAL MARKET 271


without fear of competition from the other owners of the resource. In
other words the favored group of resource owners, although unable to
control the entire supply of the resource to the market generally, has gained
complete control over the supply of the resource available to all producers
of a particular product or group of products.7
In such a situation the favored group of resource owners may act in a
way that is in some respects similar to the actions of the resource cartel,
but that is in other respects significantly different. Since the owner group
faces no competition in its own "preserve," it may (like a cartel) ask a price
(within this protected area) without regard to the price being asked by
the other resource owners (outside the area). Moreover, although the
owner group realizes that the higher the price it asks (within the protected
area), the smaller the quantity of the resource that will be bought (in the
area); the group is still free to offer (if it wishes) the unsold quantity of re-
source to buyers outside the area (in competition with all the other resource
owners).8 Thus, it may appear extremely profitable for the group to force
up the price of its resource to an area where the group can restrict the supply,
well above the resource price elsewhere.
The consequences for the market are generally different from those
brought about by a cartel with complete or with only incomplete monopoly
of the supply of a resource. In the present case no quantity of the resource
is kept altogether off the market. What is not sold in the protected area at
the high price is sold elsewhere at the lower price. On the other hand,
the artificially high price in the protected area must necessarily generate
important consequences with respect to production plans and the allocation
of resources. Within the protected area the producers will seek to adjust
their production plans to the higher price. They will substitute other re-
sources for the "restricted" resource at the margin; they will alter the scale
of their output in the light of the new configuration of resource prices. In
the long run they may move into other branches of production, outside the
protected area.
On the other hand, producers outside the area will find that a larger
quantity of the restricted resource is being offered for sale to them at any
given price (this quantity including those resources barred from employ-
ment in the protected area by the artificially high price). This will result
generally in a somewhat lower price than would have prevailed in the ab-
7 Strictly speaking, this case is unlikely to be altogether compatible with the definition
of a free market system developed in Ch. 2.
8 If the group that has gained the favored control over the supply is not a group
of resource owners but a group of entrepreneurs (who admit resource owners as
partners in order to supply the "protected area"), then there will of course be no
problem of unsold resources. The group will merely admit to partnership only that
number of resource owners necessary to ensure supply of that quantity of resource that
maximizes the group's revenue.
272 MARKET THEORY AND THE PRICE SYSTEM


sence of all supply restrictions outside the protected area. Producers out-
side the area will adjust their short-run and long-run plans to this situation.
In general, the result will be that the restricted resource is used in the pro-
tected area in such a limited degree that the efficiency of the resource at the
margin is high so that buyers in this area find it worthwhile to pay the
high price; while outside the area the resource is used so freely, in view of
its especially low price, that its efficiency at the margin is much lower. The
supply restriction, while not denying altogether to the market the output
of any quantity of the resource, has succeeded in forcing some quantity of
the resource to be used where its efficiency at the margin is lower than in
the protected area.
This will be eventually reflected, of course, in the pattern of product
prices and the quantities bought of these products. It is observed, once
again, that these consequences of the supply restriction result directly from
the gain received by the favored group of owners”this gain, in the present
instance, not being offset by any loss of revenue due to any unsold quantity
of the resource.9

COMBINATIONS OF RESOURCE BUYERS
In the short run it may be possible not only for sellers to combine, but
also for all the buyers of a particular resource to combine, in this case, for
the purpose of forcing down the price of the resource. (Alternatively, it is
possible that all the supply of the resource is bought by a single entrepre-
neur, and that in the short run he will be able to exploit this monopsony
position in order to force down the price.) In the long run, if the price
of a versatile resource is very low, there is no a priori reason why in the
absence of institutional barriers the superior advantages secured by pur-
chase”so cheaply”of the resource should not attract competition from
fresh entrepreneurs. (There is thus an important asymmetry in this respect
between the buyers' and sellers' sides of the market.) But in the short run
the entrepreneurs who buy the resource may feel reasonably secure against
outside competition and may seek additional advantage by eliminating com-
petition among themselves.
Such a combination of buyers will be able to offer a low price for the
resource without fear that anyone else will offer sellers of the resource a
more attractive price. The result will be a lower price for the resource,
and a consequently smaller quantity of resource supplied to the market.
Buyers of the resource, if they choose to force down the price in this way,
will have to adjust their production plans to the availability of only smaller
9 Some revenue loss may be suffered, of course, due to the lower price the re-
source must be sold at outside the protected area.
MONOPOLY AND COMPETITION IN THE GENERAL MARKET 273


quantities of the resource.10 The lower resource price may yield short-run
advantage to the buyers in their capacity of producers. The other pro-
ducers of the products that these monopsonist-buyers produce, whose plants
and long-range production plans require no inputs of the monopsonized
resource, will find themselves at a cost disadvantage.
It is observed, however, that there is a fundamental difference between
the previously considered consequences wrought by the monopoly power of
a single resource owner, and the consequences of the buyers' combination
discussed here. In the monopoly instance, the control over supply (coupled
with the existing demand conditions) made it in the interest of the resource
owner to hold back from useful employment (in fact to destroy) an available
quantity of resource that consumers (through their "agents" the entrepre-
neurs) would have gladly used (and for which they were willing to pay a
price, which, in the absence of monopoly, would have brought all the re-
source quantity into employment). In the present case of a buyers' combina-
tion, on the other hand, the buyers have merely decided to offer, in concert,
a price so low that it is worthwhile for resource owners to yield only a smaller
quantity of the resource to the market. (Even a resource price established
in a competitive market, we observe, is probably able to attract resource
owners to yield only a smaller resource quantity than they would be pre-
pared to yield at a still higher price.) Resource owners are not hurt by
monopsonistic action on the part of the buyers of resources in the same
way the ultimate buyers of resources are hurt by monopolistic action on the
part of the sellers of resources.
10 This may be illustrated with the help of the diagram. The line SSr represents
the supply curve of the resource that faces the monopsonist group. Each point on the
curve reflects the quantity of resource that the resource owners in aggregate will sell
to the monopsonist group if they offer a particular price. The MC line then expresses




Figure 12-2
the marginal cost to the buyers' group of advancing purchases of the resource by suc-
cessive units. The line MP reflects the respective increments to revenue that the em-
ployment of successive units of the resource is able to afford to the buyers. (The;
downward slope of this line reflects, among other possible things, the laws of variable
proportions.) Clearly, the monopsonist group will do best by offering a price AB, so
that they will be able to obtain the quantity OA. (At higher prices they would be able
to secure greater quantities of the resource.) It should be observed that the selection
by a monopsonist of his preferred position does not differ essentially (either diagram-
matically or logically) from the selection made by a non-monopsonistic resource buyer.
The only difference is that for the latter the supply curve is likely to appear far more
elastic (in special cases, even perfectly elastic).
274 MARKET THEORY AND THE PRICE SYSTEM


Nevertheless, in the short run, the combination of buyers will have its
effect on consumers. Since we are assuming that the entrepreneurs who
are members of the buyers' combination produce their products in competi-
tion with other producers, there will not result directly any contraction in
product output. Any reduction in output by the members of the buyers'
combination, due to the smaller quantity available of the resource that they
buy as a group, will be made up by other producers, possibly at somewhat
higher prices.
As we have seen, in the long run and, for many resources, even in the
short run, even these effects cannot last. Barring institutional restriction
upon entry into the ranks of the entrepreneur, the lower costs achieved by
the members of the buyers' group will attract competition. If the new
entrepreneurs are unable (even by joining the buyers' group) to secure the
quantities of the resource they would like (due to the small quantity supplied
at the low price even by the buyers' combination), they will offer resource
sellers somewhat higher prices in competition with the group. The compe-
tition of these new entrepreneurs, bringing about a tendency for the product
prices to fall, and for the resource price to rise, will eventually wipe out
any profits that the members of the buyers' group had gained.

MONOPOLY IN PRODUCTION
An important monopoly case may arise when an entrepreneur pro-
ducing a particular product has monopoly control over a resource abso-
lutely essential to its production. We may for simplicity imagine a favored
resource owner, the only person in whose resource endowment any of this
resource is included, acting as entrepreneur-producer of a product that must
include a fixed quantity of the rare resource per unit of product. Since
there is no buying and no selling of the monopolized resource itself, the
monopoly power conferred upon the favored resource owner can be ex-
ploited only in the product market.
The consideration determining his production and pricing policy are
similar to those governing the decisions of the monopoly seller of a resource.
He is in a position to ask consumers any price he chooses for his product,
without fear that anyone else will offer the same product to the market for a
lower price. No one else, in fact, can produce the product at all, since no
one else is permitted to buy the monopolized factor indispensable for its
production.11 On the other hand, the monopolist-producer knows that he

11
Where it is possible for other resources to be employed as more or less imperfect
substitutes for the monopolized resource, certain modifications must be made in the
analysis in the text. To the extent that the monopolized resource is superior to the
substitute resources, the monopolist-producer may yet be able to exact from the market
a monopoly gain. See p. 285, ftnt. 19.
MONOPOLY AND COMPETITION IN THE GENERAL MARKET 275


faces the very real competition of other products bidding for the consumers'
incomes, both the competition of the products that are substitutes in con-

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