Monopoly: What is it and how does it Affect the Economy

Posted by Dayam Ali Aslam on January 6th, 2021

In the famous Monopoly board game, when a player stops at a house you own, he has no choice but to pay you. The idea is that this player will need to use the service linked to that point, be it lodging or transportation, but he will not be able to choose the most pleasant option: you are the only supplier! In other words, you have monopolized that market. 

If it is not good to pay for an expensive service within a game, in real life the situation is more uncomfortable. The lack of competition can generate high prices and poor services, as competitiveness is one of the biggest incentives for companies to improve their products and attract customers. In addition, companies that have a monopoly usually have sufficient strength to prevent others from venturing into the sector. It is no accident that monopolies are banned in most countries!

It is very important that consumers and entrepreneurs understand the concept of monopoly, how much money you get in a monopoly and how it is able to harm a market. 

What is a monopoly?

In its classic and purest form, monopoly is the domain of a single supplier over the offer of a product or service that has no substitute. We can imagine the hypothetical case of a small town in the interior of Paraná where only one telephone company operates, the only provider of the service, owner of all the antennas and cables in the region. There is a clear monopoly here, with no competition at all.

However, this pure form of monopoly - when only one company controls supply - is rare. It usually occurs in the so-called state monopolies, reserved by the regional political agent for certain products or services considered essential, or whose supply logistics would be made impossible by the performance of competing agents. In Brazil, water and electricity supply services, for example, are state monopolies.

Imperfect competition

In real markets, what usually happens are conditions of imperfect competition, which would be a compromise between absolute monopoly and perfect competition. Perfect competition has many characteristics, but one of them is having a large number of suppliers, balanced in their ability to offer and in their ability to influence the price of their products. 

In a way, it is already possible to speak of monopoly when the dominance of an economic agent is so great that the exercise of a similar activity is seriously impaired, if not impossible. In 1948, the English parliament even characterized a monopoly as the domain of at least a third of a given market.

In such cases, there is a risk that competing companies will be unable to compete due to the aggressive practices of the dominant or monopolizing company. One such practice is dumping, the temporary fixing of prices far below the market. Because they do not have all the structure and economic capacity of the dominant company - which can profit from low prices, often by selling large volumes -, smaller companies are unable to work with good profit margins. Consumers' joy is short-lived, however: once the competition is eliminated, prices rise again.  

Another common practice is the simple acquisition of smaller companies by the dominant companies. Sometimes the brand of the smaller company is maintained. This may give the appearance of competition, but in reality, control will be in the hands of a single large company or business group, which characterizes a monopoly.

Oligopolies, trusts and cartels

Oligopolies are more common than monopolies but very similar to these. There is even talk of an oligopoly as a “monopolistic practice”. An oligopoly is formed when a few companies together control the largest share of the market. We can imagine, for example, the Brazilian telephone and internet market, in which only four companies dominate 90% of the sector.

Oligopolies also lack real competition. Although there is some competitiveness, it hardly occurs in areas that interest the consumer. It is difficult, for example, for members of oligopolies to lower their prices, as they know they will be followed by others, which will leave them with the same market, but with lower profits. The situation is very similar to that which occurs in monopolies: the low number of competitors facilitates the influence of companies already active in the market and hinders the entry of new economic agents.

When there is an oligopoly, trusts and cartels may also form.

Trusts are joins of two or more dominant companies, in order to ensure this control. In these cases, the merger of companies brings them closer and closer to an absolute monopoly.

Cartels, on the other hand, are groups of companies that enter into agreements with each other, either to increase the value of their products, to obtain exclusivity in operating in a certain location or even to eliminate other companies. In a cartel, the companies remain separate but respect the rules of the group. We can imagine an agreement between gas stations in a city so that the price of fuel is never below an X value.

It is clear that this practice, like all those mentioned so far, is prohibited in Brazil. The performance of cartels is even defined as a crime by our legislation, as we will see below.

Monopoly and Brazilian legislation

It is not difficult to see that the lack of competitiveness and great market dominance creates undesirable situations for consumers, small companies and new entrepreneurs. The former, for lacking alternatives of choice, suffer from high prices and inconvenient taxes. Small companies and new entrepreneurs are often unable to start a business.

For these reasons, and even if large companies find ways to cheat compliance with legislation, monopolies, oligopolies, cartels, trusts and similar practices are prohibited in Brazil. The exception, of course, is with state monopolies.