Discuss Whether Economists Concerns Over Monopoly Are Justified In The Case Of The Transport Sector.

Discuss whether economists concerns over monopoly are justified in the case of the transport sector.

A monopoly is a single firm in a market. It is characterized by the lack of competition in the market. There has been much discussion over monopoly and whether or not monopolies are justified in the transport sector or any sector. To begin with the best way to look at a monopoly is through its diagram.

We can see that at output Q the monopolist generates supernormal profits shown by the red area as AR is higher than the firms ATCs. The supernormal profits would normally act as an incentive for new firms to enter the market but due to barriers to entry such as high set up costs or intimidation new firms will not do so.

In the case of the transport sector, natural monopoly is more relevant. This was particularly true from the 1840s onwards when companies were building railways. In this case it would have been wasteful to lay multiple tracks side by side. This is similar for the argument in favour of natural monopoly being the most efficient way of supplying homes with water and gas. Railways are the only real monopoly in the transport sector. Most other areas are oligopolistic or have monopolistic competition characteristics. I will therefore only consider the railways as they are the only area of transport that are relevant to this title. Below is the diagram for natural monopoly.

Due to the nature of the industries for which natural monopoly is applicable, fixed costs are very high, for example, the laying and maintenance of the railways. This means there are large benefits to be gained from monopolies of scale as output increases shown by falling long run average costs.

A natural monopoly operates at output Q for price P. However if the firm were in a competitive market it would produce at output Q1. Q1 is a loss making position. Costs, shown by C are above P1, the price that would be charged. Therefore the government must subsidise the natural monopoly to achieve the output it feel society will need. The subsidy needed is shown by area P1,C,X,A.

The first main concern over monopoly is that higher prices are charged that would be in a competitive market. This is true as on the first diagram due to the difference between Price and the line that shows the price level where MC meets AR (where a competitive market operates) shows the higher prices in monopoly. It has been argued that these high prices go straight into profit for managers or dividends for shareholders and very little is reinvested back into the production of the good from which consumers would benefit. It has also been argued that this supernormal profit is in fact key to a monopolies operation as it allows the firm to invest in RD and innovation bringing new technology into the market. This argument is largely inapplicable to the natural monopoly in the case of transport. Due to the government subsidy, prices are the same, or closer to what they would be in a competitive market. Therefore the rail company can still invest in infrastructure and innovate with its profits. The natural monopoly actually improves this as the government may specify that the company must be non-profit in order to receive the subsidy to operate at the same output. This is the most important concern over monopoly as it is the high price that causes most of the problems that are associated with monopoly. However this is the problem that is best addressed by the government subsidy meaning the problem is solved.

The second concern of economists over monopoly is that the monopolistic firm will restrict output onto the market. The first diagram shows how output will be lower than in the case of a competitive market. The fact the rail transport market is a natural monopoly solves this concern, as output shown by Q1 in the second diagram is the same as it would be in a competitive market. As this output occurs where AR=MC, or point D on the first diagram. However in the case of the railways most key lines have now been built for a long time so it would be hard for railways to restrict output.

In the case of a monopoly there is a net welfare loss, shown on the diagram below by the red shaded area. This is due to the fact that prices are higher and output is lower than it would be in a competitive market meaning some consumer loose out, less consumer surplus. This area does not exist on the natural monopoly diagram, no welfare is lost and so it solves the problem of monopoly.

Although choice is still reduced for consumers in the case of natural monopoly it is unlikely that consumers would want choice about the kind of railways they travel on.

Unfortunately natural monopoly still suffers from productive and X inefficiencies. This is due to the fact that natural monopoly does not operate at the lowest point of its cost curves and it has less incentive to cut its costs as it has little prospect of facing opposition due to its overwhelming cost advantage.

It could also be argued that a natural monopolist could charge higher prices to its suppliers but a natural monopolist should have a regulator, in the case of the UK railways this is the office of Rail Regulation.

To conclude, the majority of economists concerns over monopoly in the transport sector seem unjustified, as the railways are a natural monopoly, which solves many of the problems that arise from monopoly. There are still notable inefficiencies that should be addressed and this is certainly not the Pareto optimum point. Through more powers being transferred to the regulator natural monopoly could improve its efficiency. Despite these few disadvantages there are numerous advantages to monopoly that are not covered in the title. These would include benefits arising from economies of scale and technological advancement through innovation.

With these advantages combined and only a few minor disadvantages to the natural monopoly in the transport sector it seems economists concerns are not justified.