This section is from the "Economics In Two Volumes: Volume I. Economic Principles" book, by Frank A. Fetter. Also available from Amazon: Economic
§ 1. Tests of monopoly control. § 2. Uniform monopoly-price in relation to costs. § 3. General principle of uniform monopoly-price and cost. § 4. Temporary and limited monopoly and discrimination. § 5. Theory of discriminatory monopoly-prices. § 6. Problem of the economy of large production. § 7. Economy of labor in large production. § 8. Economical use of machinery in large production. § 9. Economy of buying and selling in large quantities. § 10. Certain limitations of large production. § 11. Certain disadvantages of large buying and selling. § 12. Large production and the two types of prices. § 13. Monopoly element in price-fixing.
§ 1. Tests of monopoly control. The essential condition that distinguishes monopoly from competition is the buyer's lack of the power of substitution of one seller for another. The test of the degree of monopoly control is the seller's power to continue raising prices without thereby driving enough buyers to other goods or to other sellers to prevent his making some net profit by raising the price. A seller is competitive when he must take the general market-price as a fixed fact, and can decide only whether and how much to sell at that price. A seller is a monopolist when he represents such a large proportion of the offers that he may withhold a part, raise the market-price, and make a larger profit on the smaller sale. The competitive seller makes his profit by selling all he can at the market-price; the monopolist makes his profit by selling less and altering the whole price equilibrium.
Ownership of an important fraction of an entire species of goods may give some power to affect price. If the control is slight, a very small rise of price will bring in competitors.
The monopoly profits in this case either must be very small or they will be very brief. Those outside, controlling a large supply, will be tempted by large profits to market it at once and to increase it as fast as possible. One owning a large part of the desirable building sites or houses in a town may gain by occasionally letting one stand vacant in order to drive better bargains with tenants. A trade-union, controlling most of the labor supply of one kind in a town, may gain as a whole by keeping some of their members unemployed at times. But the test of monopoly is that a gain results from a higher price and fewer sales. It begins at the point where there is a motive to limit the supply in accordance with the paradox of value. The control of an entire species of goods gives price-fixing power limited only by substitution of goods. Even tho one person controlled all the coal in any market, its price still would be limited by the substitution of wood, oil, etc. If there were but one possible source of meat supply, most people could live without meat, but if one person owned all food of every kind, control of price would be as complete as is conceivable. The monopolist would be the absolute despot of the lives of his fellows. The monopoly of great species of goods can thus be seen gradually to merge from one grade into another. Monopoly is a matter of quality as well as quantity. There is more or less of it in the different industries, and it varies over time and territory. The monopolist aims, just as the competitor does, to get the price that gives the maximum gain. The monopolist, however, is in a more or less favored position, as he can raise his price and yet retain enough of his customers to gain by the change.
§ 2. Uniform monopoly-price in relation to costs. Now the monopolist also in his sales is limited by cost, but not so often or in such a compelling way as is the competitive seller. "Within the range of his monopoly power he may either sell his whole product at a price well above cost plus a profit or he may discriminate more successfully than can the seller exposed to competition, and thus sell all but a small part of his product at a wide margin of profit. Let us see how monopoly price-fixing is affected by cost. The crude monopoly-price (see above, Chapter 8), is that which yields the largest total selling price (this giving the largest profit) only when cost is zero.1
The highest uniform price which it is to the interest of a monopoly to charge is that which yields the largest profit; that is, the largest difference between total price and total cost. This is the product of the profit (not price) per unit by the number of units sold.2 This never can be less than crude monopoly-price. In cases of very inelastic demand it may with certain ranges of price be no greater; that is, the entire cost in such cases is a subtraction from what would otherwise be monopoly profit.
* In each case the line marked a is the level of monopoly-price, and b that of competitive price on the assumption that one unit is a fair competitive profit ("fair" meaning enough to give a motive to enterprise).
(1) Under the assumed conditions of demand as represented by the figure, crude monopoly-price is 6, sales are 3, and total profits 18.
(2) If cost is 3, monopoly-price is 8, sales are 2 and profits 10. Competitive price being 4, sales would be 4, and profits 4.
(3) If cost is 4, monopoly-price is 8, sales are 2, and profits 8. Competitive price would be 5 and sales 31/2.
(4) If cost is 5, monopoly-price is still 8, and sales 2, but profits fall to 6. Competitive price would be 6, and sales 3.
(5) If cost is 6, monopoly-price is 9, sales 11/2 , and profits 41/2. Competitive price would be 7, and sales 21/2.
(Because of the very small numbers used in the scale, quantities have been expressed in half units.)
1 It is represented by the largest rectangle (product of price per unit by number of units sold) which can be inscribed within the coordinates and the hypothetical demand curve. (Figure 14, ch. 8.)
* Represents conditions as in the preceding figure, except that demand is somewhat more elastic.
(1) If cost is zero, monopoly-price would be 4. Competitive price must sink to nothing, but, if, with limited supplies, demand continues, the amount of the price would eventually all be imputed to cost (plus the minimum profit).
(2) If cost is 2, monopoly price is 5, sales are 3, and profits 9 (Competitive price 3, and sales 5.)
(3) If cost is 3, monopoly-price is 51/2, sales are 21/2, and profits 61/2. (Competitive price 4, sales 4.)
(4) If cost is 4, monopoly-price is 6, sales 2, and profits 4. (Competitive price 5, sales 3.)
§ 3. General principles of uniform monopoly-price and cost. Inspection of Figure 47 and of the figure showing a medium demand (Figure 48) and a more elastic demand (Figure 49) reveals certain general effects. Except in some peculiar situations an increase of cost raises the theoretical monopoly-price and reduces sales, and decrease of cost lowers theoretical monopoly-price and increases sales. The more elastic the demand for an article, the less is the difference between competitive price and monopoly-price. The less elastic the demand the greater the motive for monopoly, and the more elastic the demand the less the motive for a general monopoly-price. In some cases, where demand is very inelastic, the first increments of cost have slight effect either on monopoly-price or on the amount advantageously produced; cost within a certain range of monopoly falls largely upon profits and at certain situations may within a narrow range fall entirely upon them. The profits per unit being large, the price can not be raised without reducing sales. Choice will be made to give the largest profits (unit profit multiplied by sales). In this it is generally true that the greater the ratio of the cost to the crude monopoly-price (other things equal) the less is the range of monopoly power. The amount of sales that is possible with the higher monopoly-price is always less than with a competitive price. Monopoly-price at any level of costs from zero upwards is always higher than a competitive price (when costs are the same for competitors and for monopoly). We must note later the peculiar case where monopoly cost is lower; that is, where cost falls with quantity of output, and where large output is dependent on monopoly.
2 This may be represented by the largest rectangle that can be inscribed within the price line and the cost line, drawn above the base line, and parallel with it.
* In comparing this with the preceding figures the general principles in sec. 3 appear.