A monopoly is the exclusive control of the supply of a product, a service, or a commodity. Consumers do not have a choice if they decide to buy that product, service or commodity, they will have to deal with the monopoly and accept its terms.
How can a firm secure a monopoly? One way to do that is to buy all of its competitors, but this is easier said than done because that assumes the availability of enough credit for that company to buy all of its competitors and the acceptance of these competitors to be purchased. Another way is for the firm to compete hard on price and quality of service so it expands its market share and drives its competitors out of the market. Once the firm achieves market control it cannot arbitrary raise prices and abuse customers as many people may think, the reason is that if other investors see a good opportunity to make gains in that market they will enter the market and compete with that firm. The only way then for a natural monopoly to maintain its market dominance is to run an efficient business with an acceptable profit margin that does not encourage other investors to enter the market.
A Trust or Cartel is a group of producers who band together to control the market for a certain product, commodity, or service. Many people believe that a cartel can raise prices arbitrarily without a check, but in a free market new competitors will enter the market and challenge the cartel’s dominance if they see a good profit margin so the cartel cannot have total dominance on their market.
The free market protects the consumer by default because the producer will have to provide the best service in the most efficient manner to prevent either existing competitors or new competitors from taking that producer’s market share. In other words, the producers do not have a total pricing power over the consumers because competitors can always enter the market and provide a better price.
There is then no economic need for laws or regulations to control monopolies, trusts, or cartels but all countries have some form of Anti-Trust laws that regulate mergers and acquisitions. The main reason for the existence of these laws is to protect inefficient producers who fear being driven out of the market by more efficient producers. They run to the politicians and demand government protection to prevent market consolidation. They usually invoke protecting customers as one of the excuses for the intervention. Customers care about having access to good products with acceptable prices and having efficient producers in the market achieves that. Looking at the case of Standard Oil in the early twentieth century; we see that the price of oil products has dropped consistently every year of standard oil’s alleged monopoly and the consumers access to high-quality products increased. Breaking down Standard Oil only managed to serve the existing inefficient producers not consumers.
The only way a monopoly or a cartel can achieve total dominance is by restricting market entry and this can only be achieved through government power. Government created monopolies of utilities such as electricity and cable delayed the development of these fields and left the consumers without access to high-quality alternatives.
The existence of Anti-Trust laws is an example of how the government manages to create a problem while claiming to solve such problem.
People start businesses to provide products or services to their customers in exchange for set prices. The price for any product or service is selected by the business owners to provide good value for their customers while providing the owners with enough profit to compensate them for the effort of running that business. Price should be higher than the cost of production but lower than the value customers get from using the product or the service.
Business tax is a cost and when any of the costs of production rises the business has to adjust to the rising cost by either cutting other costs, raising prices or accepting lower profits. Lower profits may drive businesses to close especially newer businesses that still have loans to pay and accordingly too sensitive to any profit loss. Raising prices may cause businesses to lose market share and lose profit when their customers move to cheaper alternatives. So, in reality, the only option that businesses have is to cut their costs to stay profitable and competitive.
A business can cut costs by reducing the costs of labor through relocating some or all of its operations to a foreign nation with lower labor and regulatory costs. It can also cut costs by using different suppliers who produce their products overseas with lower costs and offer lower prices accordingly. Another way to cut costs is to invest capital to automate more processes which reduces production costs.
So the real victims of high business taxes are workers who cannot move to different countries to keep their jobs and end up unemployed. As the Tax Foundation explains in a recent post, labor is the least mobile factor in production so it gets harmed the most by higher taxes.
Regulation is also a type of tax and over the last 30 years, taxes and regulations took a major toll on the American manufacturing jobs. The following diagram shows the growth of manufacturing industrial production in the United States over the past 30 years vs. the drop in manufacturing jobs. The graph uses 1986 as a reference year with value 100:
The diagram shows that the manufacturing output has almost doubled over the last 30 years while the number of manufacturing jobs is about 70% of the level at 1986. What happened over the past 30 years is a combination of all the cost reduction factors outlined earlier. Manufacturing of products such as clothes and small electronics moved overseas to use cheaper labor while the production of higher value products such as cars and industrial equipments became more automated.
Business taxes don’t redistribute the wealth or create a better society, they punish workers and kill their jobs. So when a politician claims that business taxes and regulations are good for the economy, remember all the manufacturing jobs lost in the United States and vote against him or her.
Money is the medium of exchange and store of value on the Economy. People earn money from their work but when someone needs to buy an item or start a business using more money that what he saved he has to ask for a loan. In this situation, money like any other good in the economy has a price which is the interest rate. A lender charges interest in exchange for using his or her money for a period of time. Usually, the interest rate is expressed as a percentage per year, so a loan of $1000 with %10 interest rate means that the borrower will pay $100 per year in interest. Lenders determine the interest rate to charge a certain borrower based on a number of factors:
- The risk associated with the borrower: because people may default on loans causing lenders to lose some or all of their money, lenders try to estimate the risk associated with the borrower and the activity he or she is planning and they demand higher interest rates from riskier people and riskier activities. The term of the loan is also a risk factor, longer term loans get higher interest rates than shorter-term loans.
- The opportunity cost: This is the value the lender is foregoing by giving the money to the borrower. For example, if a lender gets 5% in interest from the bank, he or she will definitely demand higher interest rate to lend the money.
Banks play a major role in the lending market as they play the role of both borrowers and lenders. A bank borrows money from depositors in exchange for interest on their deposits. The bank then uses the deposits to offer loans to borrowers and receives interest from them. A bank makes a profit when the overall income it receives from interest on its loans is more than the interest it pays to its depositors. In a totally free market, interest rates should rise when demand for loans rises in the economy and they should fall when the demand falls.
Central Banks Intervention
Interest rates are not just controlled by the supply and demand forces of the market. Central banks as well have control over the interest rates because they control the supply of money. When central banks create money they increase the available amount of money in the economy pushing the interest rates down.
The following graph shows the history of the Federal Funds Rate which is the rate banks lend each other money to meet their reserve requirements.
The gray areas in the graph represent recessions which are periods of decline in economic activities officially declared when GDP decreases for two consecutive quarters.
Keynesian economists and big government advocates champion easy money policies because they claim they stimulate the economy but in reality, they cause distortion of the market interest rates causing resources to go to unproductive uses. For example, when interest rates are so low people tend to invest their money in assets such as stocks, houses, and cars causing the prices to increase forming a bubble, and when the central bank eventually starts to reduce the money supply to prevent inflation the bubble pops causing a recession. When we examine the graph we will see that several of the recessions happened right after the Federal Reserve started to limit the money supply increasing the interest rates.
It is important to stress that easy money policies are not the cause of the recessions but they make them more severe. Small investment bubbles happen naturally in business when newer investors follow into a new field or trend such as during the late nineties when a lot of people invested in new dot-com companies but easy money policies cause more people to invest in these bubble activities either by obtaining cheap loans or by investing their hard-earned money in them in search for better returns than what banks offer.
Money is a good like any other good in the economy, we should rely on the free market to set the price for it not on a set of experts in central banks who actually never got it right.