What causes market monopoly - Essay Example

Government Regulation and Monopoly Power There are many answers to the question of what causes market monopolies, but we would argue that various forms of government regulation have done more to create monopolies and oligopolies than all the shady backroom deals ever done. It is axiomatic that people with like interests work together to further those interests. It comes as no surprise that these people will attempt to lobby legislative or rule-making bodies to create special protective legislation for them. This is a normal behavior because it works. In general, the government regulation that helps create monopoly conditions falls into one of three categories: Barriers to Labor. Licensing or other regulation impeding the mobility of labor. Barriers to Resources. Examples include natural resources, wireless spectrum. Barriers to Operations. Examples include casino gambling, illegal drug trade. The stated purpose of the legislation is always to protect the public, but interested parties usually write the legislation to suit their own agenda. In many cases, the legislation that purported to protect the public actually harms the public. An example is barbers. Why does a barber require a license to cut hair, and why does the license to cut hair require a lengthy period in a beauty college? The answer is that the legislation is purely to protect the markets of existing barbers. During hard times, setting up a private barbershop or beauty salon is not difficult for anyone with some skill, which presents competition to the existing barbers and beauticians. The clip-joint owners went to the state legislature and worked out a deal. It was in the public interest to cut the deal because the state is always worried about taxes and someone who receives cash for cutting hair in a private shop may forget to pay their taxes on the income. Likewise, the clip-joint owners wanted to make sure it was difficult to get into this business, but not so difficult that the labor supply dries up. They wanted limited competition in good times and high barriers to entry in bad times. The solution was to require a license and make the requirements of getting a license be a three to six month course at a beauty college. This is an example of barriers to entry into the labor markets, which we shall discuss. Barriers to Labor Markets As illustrated by the story about the barbershop protection societies, many different groups have formed protective associations. The public face of the protective association is always to ensure compliance to the highest ethical standards, but the real agenda is always ensuring that their turf is staked out and defended. We shall say now, we have never seen a protective association of theoretical physicists. We have never heard specious claims of how the public must be protected from all that high-powered thinking and the only solution is to license and regulate them. Perhaps the reason is that not many people are capable of becoming a theoretical physicist. Realtors, however, are a different story. Like barbers and the business of cutting hair, if the market looks good and a person has sales talent, real estate looks good. Especially if that person is a “connector” who collects contacts and likes to stay in touch with many different people. Realtors are just as intelligent as barbers and they formed a protective association that has been very successful in placing a very high barrier to entry into that field. The barrier to entry is so high in many areas that it hurts the public. We shall explain: After the realtor’s protective association convinced the state legislature to pass appropriate legislation and license the realtors subject to an industry oversight board with regulatory powers granted by the legislature, along came the Multi Listing Service (MLS). Now that everyone was a member of the union, the idea was to make it easier for everyone to share pieces of the pie. Few understand this, but it hurts consumers because a disincentive has been created: there is no longer any point in selling properties. The money is made by listing, not selling. The realtor who wants to be successful will spend the majority of their time listing homes, not beating the bushes looking for buyers of homes they already have listed. This is because the MLS guarantees that they will receive half the commission just by getting the people to sign the contract. No matter who sells the home, the listing realtor gets half the commission. As long as the realtor focuses on listing, anyone who wants to purchase a home in that area will probably have to buy it from them. They are guaranteed at least half the commission without the work of selling, and if the customer comes to see them they get the whole commission. Meanwhile, the homeowner just wants to sell their house. They want action, but the realtor isn’t doing anything more than running a few ads and listing more properties. Thus, with the barrier to entry to the realtor market, the existing realtors adopted uncompetitive practices that hurt the public. There was a time, centuries ago, when the “professions” were limited to five in number and represented those fields of study that took many years of study to learn and a lifetime to master. The original professions were the ministry (church) and it’s opposite, the warriors (military). Closely related to the military profession are the engineers, must as closely related to the church profession are the lawyers. Squarely in the middle stand the doctors. Priests, Warriors, Engineers, Lawyers and Doctors were the classical professions. We pause, reflect and ask “what, pray tell, is a professional car salesman?” We fear we beat a dead horse, but the bridge of “public safety” crosses so very many streams. Lest we be over-enamored with our thesis, we hasten to admit that there are always those who set up protective associations in order to provide themselves with a forum to wield power. However, once the protective association is formed it isn’t long before a delegation is dispatched to the state capitol to inquire about an alliance. Any thinking person can see the obvious advantages to placing barriers to entry to their labor market, especially if it offers ease of entry. Again, we have never heard of a protective association of theoretical physicists, but we observe the general trend of everyone to “professionalize” their industry or trade group, which usually requires some form of licensure. This trend contributes to monopoly behavior. We now turn to the subject of government regulation that creates barriers to resource allocation. Barriers to Resource Allocation Resource allocation can be anything from rights to the cell phone spectrum to an oil drilling concession in the Alaskan National Wildlife Preserve. Barriers to resource allocation almost always result from government intervention and have a strong tendency to create monopoly conditions. In the case of the cell phones it was the Federal Communications Commission (FCC) and in the case of the ANWP it was the Department of Energy. For various reasons the government has elected to regulate certain resources. If no public interest existed on which to justify the regulation, a suitable interest was soon found to justify the regulation. Such regulation normally tend to create barriers to competition and monopoly conditions. Any number of sectors have been sheltered and shielded by appropriate legislation and with the passage of time further consolidation occurs within the sector behind the regulatory battlements. As these mergers and acquisitions reduce the number of competitors, the sector becomes more monopolistic. In some cases, the sector has a highly regulated labor force. If the firm can co-op the legislature into requiring a period of actually working in the field before licensing can be finalized, it wins. Similar to the way (in most states) a pharmacist must work for a specific period of time in a pharmacy under the supervision of a pharmacist, this ties the labor force to the company and further reinforces monopolistic tendencies. However, we need to look at specific examples. The spectrum of radio frequencies has long been considered a public good and administered under the FCC within the United States. As new technology entered the marketplace, the existing doctrines were expanded or modified as the case may be to accommodate the changes. This was the case with cell phones. Wireless coverage in the US is now complete in virtually every urban and suburban area and most rural areas. President Obama announced a plan recently to expand wireless coverage to 98% of Americans within five years.(Obama) The four bands available are a licensed resource allowing the licensee to monopolize the administration of users on any particular bandwidth. This is a government created monopolistic situation of limited competition, although the doctrine of common carrier is helping bring more competition into the market. Any area in which government regulation requires some form of vetting or approval creates barriers to entry for companies. The same is true in the opposite: any situation in which access to a resource is restricted because of government regulation causes barriers to entry. Illegal drugs represent a resource subject to perfect regulation, that is, illegal. The regulation has created a large profit potential because of the risk of dealing with an illegal product, and by definition, any business in this industry is criminal in nature. We point out that the illegality of the resource creates the ultimate barrier to entry by firms that desire to operate in a legal manner, and thus criminal gangs and consortiums have a monopoly on this resource. However, regulatory schemes are quite heavy in the legal drug industry as well. In the year 2011 it would be quite difficult for a company to open a laboratory to do preclinical toxicology work due to the demands of the Food and Drug Administration (FDA) and the law related to Good Laboratory Practices (GLP). The only way such a laboratory could enter the market at this point is to have a captive client willing to take the risk of placing a study in a facility that has never been inspected by the FDA and judged compliant. The FDA will not inspect a facility prior to the submission of a study in support of an Investigative New Drug (IND) submission or a New Drug Application (NDA) submission. Subsequent to the submission of such a study, the FDA will inspect for compliance with GLP regulations. Until that point, the laboratory is an unknown that represents tremendous risk and pharmaceutical manufacturers will not place studies in such a laboratory. Thus, established laboratories have a clear advantage. This market power is the result of major pharmaceutical companies cutting back on their own testing facilities in a cost-cutting measure. The pharmaceutical manufacturers tend to keep such testing facilities that will allow them to do limited work (LD-50 studies) rapidly, but for larger studies, they prefer to outsource to independent laboratories that have the expertise and capability of handling their needs. The result is the firms that survived the GLP introduction in 1970’s and the consolidation of the 1980’s and 1990’s gained a great deal of market power by the end of the first decade in the new century. Without the high barriers to entry into this market they would not have the market power they now possess. Barriers to Operations As a result of the BP Gulf oil spill in 2010, the public is convinced that more regulation is necessary in order to protect the environment while still ensuring that the country still has enough oil. However, the offshore drilling industry is an excellent example of a highly regulated industry dominated by a few large firms. The high capital investment and heavy regulatory burden represents an extremely high barrier to entry. When this is combined with barriers to resource allocation in the form of a concession, monopoly conditions are created. There are numerous other industries and sectors within industries in which government regulation; whether by design and intention, or not, have created very high barriers to entry for outside firms seeking to enter the market. As we mentioned at the beginning of this paper, casino gambling is an area that is heavily regulated into a near-monopoly condition because of public policy. Two well-known industries tend to be cash-only, extremely profitable and generate large amounts of cash on a daily basis. One is the illegal drug industry and the other is casino gambling. Casino gambling is heavily regulated and illegal drugs are perfectly regulated (illegal). Government has a stake in regulating casino gambling for several reasons, among them an interest in collecting taxes, preventing damage to a local economy and monitoring for money laundering crimes. Due to the legal status of Indian Reservations within the United States and the impossibility of gaining a license to open a casino, Indian Reservations that have opened casino’s have enjoyed monopoly power within their area. Not subject to either local, State or Federal taxation in most cases, they often combine their casino operation with other profitable venues such as selling cigarettes and alcohol (tax – free) at much lower prices than those available off the reservation. (Associated Press) Casino’s that have nothing to do with Indian Reservations must go through a licensing process that often requires a ballot initiative in many states, with heavy opposition. Any licensee can usually assume monopoly control of that operation for a specific distance because the likelihood of a competitor moving into the market would be very low due to high barriers to entry. In addition, the level of regulation and taxation on casino’s is quite high and many states regulate the labor for casino’s as well through state gambling commissions. One primary concern of government is to prevent money laundering through casinos. Money laundering is the process whereby proceeds from an illicit activity are made to appear is if they are the proceeds of a licit activity. Because the illegal drug industry is basically a cash-only industry, the money laundering efforts center around cash. Within this context casino’s represent money centers. For this reason, casino’s are required to have anti-money laundering policies in place and be compliant with government efforts to control money laundering. (FinCen) Barrier Avoidance One way barriers to entry into markets produced by government regulation are avoided is through technology. Pharmacies (including independent pharmacists) are an example of a business that have barriers to entry at all levels: Barriers to labor entry : pharmacists must be licensed Barriers to resource allocation: drugs are legal but access is highly regulated Barriers to operation: pharmacies must typically be licensed because of their inventory of drugs and the issues of public health. The level of regulation at all levels tends to elevate prices. Consumers solve the problem by using pharmacies located outside the US and having their drugs shipped to them via FedEx or UPS. This is perfectly legal to do and legitimate pharmacies located in countries without such onerous regulation as the US have websites that essentially allow the consumer to avoid all the carefully constructed regulation designed to protect them. This is similar to individuals purchasing cigarettes from an Indian reservation’s website online. Effectively they are purchasing the cigarettes from a foreign country and avoiding taxation. Most states hold the individual responsible and require that they pay the tax due on their purchases. Most individuals have difficulty remembering such purchases when calculating their tax payments. In both the offshore pharmacies and the Indian reservation cigarettes, the technology of the internet has allowed entry into the market by new competitors. Another example of entry into a closed market (monopoly conditions) by new competitors through the use of technology is within the cell phone industry. There is a differentiation between “voice” and “data” with the latter referring to web, email, music, etc., that might be transmitted through the spectrum and received by a hand-held. Voice (phone calls) tend to be billed based on where the call came from and from which network. Data is billed at the same price regardless of where the data came from, and many cellular plans offer free unlimited data transmission and receipt for a flat fee. The technology solution is to install a Voice Over Internet Protocol (VOIP) module on the cell phone and make VOIP calls instead of voice calls. This allows the user to avoid all charges related to voice calls, both incoming and outgoing. The cellular provider is effectively ceding control to the customer by allowing high-speed data transfer. The same technology solution has already been applied to normal telephones allowing individuals to call internationally for free. In fact, VOIP services such as Skype allow users to make video phone calls at no charge, computer to computer. One wonders what a traditional phone company would charge for such a service? A third example of technology allowing competitors to avoid barriers to entry is in labor markets. In the US, for example, there is a broad labor market that offers excellent pay. However, for someone in India, entry into this labor market is frustrated by lack of a visa allowing physical entry into the US. Interestingly, the person in India can stay in their own country surrounded by their own culture and lower cost of life and still work in the US by telecommuting. Many companies have outsources their call-center operations or software support operations to India, the Philippines or Nigeria. However, many websites allow anyone, anywhere in the world, to find clients and work from home. Examples are elance.com, odesk.com, scriptlance.com, ifreelance.com and many others. These same websites allow individuals in one part of the US to work for companies or individuals in other parts of the country. Websites such as ratracerebellion.com, homeworkersnet.com, workplaceathome.com and others all help individuals to find telecommuting work. The individuals in the US realize they have a benefit in being free of the need to travel to an office to work, but they often do not realize that if the job can be performed remotely there is no limit to the distance from which the job can be done. Given the qualifications for the job, the job can go to the lowest bidder and the US worker finds themselves competing against someone from Asia, Africa or South America. This is commonly known as “job-jacking” and is becoming more of a “hot-button” issue as the economy continues to suffer from recession. Many US companies that allow workers to telecommute have a policy of only hiring workers resident in the US. The three reasons usually cited are taxes, infrastructure and linguistics. Companies want to have US workers with social security numbers so that there will be no problems with tax filings. Paying a foreign worker who is telecommuting becomes an “issue” when figuring or paying taxes and firms do not like it. Infrastructure is an issue as it relates to voice phone calls (the majority of “work at home” jobs involve either making or receiving phone calls). The US has excellent infrastructure and voice quality is quite good. Other countries do not have such infrastructure and the quality is not as good. Linguistics is a catch-all that reflects the desire of companies to find somebody that doesn’t just sound like an American, but is enough a part of the culture that they understand the nuances of the customer is saying. However, there are many jobs that can be done by anyone with the requisite skills from anywhere in the world. The internet has facilitated this and in doing so, has helped individuals and companies avoid both regulation and taxation. Policy Implications As technology continues to develop, motivated individuals and companies will attempt to avoid barriers created by regulation if they believe it is in their best interest. An overabundance of regulation and restraint of trade creates an atmosphere in which the individual develops an indifference to the law as a concept and a desire to avoid regulation and taxation. A company can re-incorporate in a more favorable tax jurisdiction and possibly save an enormous amount of money without making any other changes to their business. Individuals can discover that residency is a state of mind. This has enormous policy implications for government, because at the heart of this is the fact that the monopoly power of the government itself is being challenged. Government, the original monopoly, is now challenged to develop a public policy that will deal with these challenges. Job loss and tax avoidance are two sides of the same coin. Regulation of drugs and the ability to purchase drugs from abroad are two sides to the same coin, just as the issue of voice calls and VOIP calls on cell phone networks is another example. These are challenges of government in the new century. What will be the policy response to nano-technology that will allow an individual to have a fabrication plant the size of a shoe-box that will create virtually any pharmaceutical drug in moments from basic raw materials? How will lawmakers formulate policy? We would hope they consider what a mess has been made over the past century and do a better job. Work Cited Obama, Barack. “President Obama Details Plan to Win the Future through Expanded Wireless Access” White House Press Release 11 February 2011. Web. 27 March 2011 “Structuring by Casino Patrons and Personnel” Financial Crimes Enforcement Network Advisory: FIN-2009-A003. 1 July 2009. Web. 27 March 2011 “Tribal leaders urge American Indians to diversify businesses beyond casinos and cigarettes” The Associated Press, 15 March 2011. Web. 27 March, 2011 Read More