Creating Monopolies That Control Us (from the “Cliff Notes” version of “Healing Our World”)

The last few posts showed how the number of service providers was diminished by licensing laws.  Sometimes, licensing laws are deliberately made exclusive, meaning that only one company is allowed to provide us a service.  We must use that service provider or do without.

Bell Telephone initially had a monopoly on telephone service, created by its patents, which were awarded to Bell rather than his two competitors.  When the patents ran out in 1894, smaller companies with more limited service and lower prices started to erode Bell’s monopoly. In the next 15 years, the rate of telephone installations more than doubled; half of these belonged to the independents. Bell lost 80% of its profits.

Instead of giving customers better service than the independents to regain their business, Bell decided to ask the government to reinstate its monopoly. The government decreed that only one telephone company could operate in each region, and Bell, being the largest company, was in a better position to lobby local legislatures for that privilege. Phone installation rates plunged as customers refused to pay the higher prices that Bell telephone charged.

Bell Telephone eventually morphed into AT&T and was guaranteed a fixed profit. Consequently, AT&T could pay top dollar for its research staff, who then developed patented products in radio, television, movies and electronics. AT&T had little incentive to innovate on the telephone market, because technology that would lower costs to consumers generated no new profit for the company. Customers were overcharged so that AT&T stock paid handsome dividends.

In 1984 an antitrust suit eliminated AT&T’s 75 year monopoly in long distance service. I remember well how rates plummeted. The average customer saved 30% over the next five years. Local service actually went up as AT&T was allowed to charge extra fees for losing its long distance monopoly! In 1996, Congress finally allowed competition in local phone service as well.

Most monopolies are created by government. Marketplace monopolies are unusual, because service providers cannot overcharge customers, like AT&T did, without losing their business to competition.

For example, John D Rockefeller and Standard Oil are often used as examples of free market monopolies. Rockefeller, however, was thwarted in his ambitions because the marketplace ecosystem protected the consumer.

Initially, Rockefeller developed new techniques for refining oil which caused price of kerosene to plunge over 90%. Nighttime lighting finally became affordable for the average worker.

Rockefeller was a shrewd businessman who paid his workers more than other employers did. Consequently, he was able to get the very best innovators who continued to optimize the refining techniques. Consequently, consumers vote with their dollars to make Standard Oil their kerosene provider; by 1879, Rockefeller had 90% of the world’s refining business.

Rockefeller, however, wanted more. He tried to organize independent refiners into a cartel which would charge high prices to consumers. However, profits from underselling the cartel were so tempting that at least one refiner always broke the monopoly by lowering prices.

In frustration, Rockefeller tried to buy out those who undersold him. However, he still couldn’t get a total monopoly. Some refiners went into business in the sole hope that Rockefeller would buy them out.

While the marketplace thwarted Rockefeller’s quest for monopoly, aggression-through-government worked in his favor. Most railroads were government-subsidized. They helped Rockefeller maintain market dominance with large volume discounts and drawbacks.

When the public discovered these practices, they demonstrated against Standard Oil and refused to buy its products. Boycotts are time-honored way for consumers to control unsavory business practices. Rockefeller actually had to stop putting Standard’s logo on new acquisitions in order to avoid losing customers.

Nearly 4 years after attaining 90% of the market, Standard Oil’s competitors had doubled their volume. In 1884, almost 100 refineries were processing crude oil. By 1911, Standard Oil refined only 64% of the domestic petroleum. The antitrust conviction against Standard that same year, paid for with our tax dollars, was obviously redundant. The natural balance of the marketplace ecosystem had already diminished Standard Oil’s market share.

Indeed, Rockefeller’s empire had dwindled even more than the above numbers show. In 1882, Standard refined 85% of the world’s oil; by 1888, Russian oil had cut Standard’s world market to 53%.

In addition, kerosene, which had replaced whale oil for lamp lighting, was itself displaced by natural gas and electricity in the early 1900s. Innovative new products ultimately keep the most determined monopolist in check, just as e-mail has made first class postal service almost obsolete.

Monopolies are rare in a free market. Only firms that can serve customers best for long periods of time can maintain market dominance. If firms raise prices, competition quickly sets in. Only aggression-through-government can maintain exploitive monopolies for any length of time.

Unfortunately, cable TV service and other utilities are still quasi-monopolies, in locales that limit the number of service providers. Consequently, we pay more for the service than we otherwise would.

With utility monopolies, we either pay inflated costs for the service or do without. However, in the next post, we’ll see how we are forced to subsidize monopolies that destroy the environment whether we use them or not.