Why are Monopolies Problematic for the Economy?

The economy thrives on competition. When there is no economic competition, you see the emergence of a monopoly which can have negative effects. In an industry that has only one monopoly firm rather than lots of small competitive firms, three socially harmful things occur:

• The monopoly firm produces less output than a competitive industry would.
• The monopoly firm sells its output at a higher price than the market price would be if the industry were competitive.
• The monopoly’s output is produced less efficiently and at a higher cost than the output produced by a competitive industry.

Although all these things are harmful to consumers, keep in mind that monopolies don’t do these things to be jerks. Rather, these outcomes are simply the result of monopolies’ acting to maximize their profits — which is, of course, the very same thing that competitive firms try to do.

The difference in economic outcomes between a competitive industry and a monopoly industry doesn’t have anything to do with bad intentions. Rather, it results from the fact that monopolies are free from the pressures that lead competitive industries to produce the socially optimal output level. Without these pressures, monopoly firms can increase prices and restrict output to increase their profits — things that competitive firms would also love to do but can’t.

The lack of competitive pressure also means that monopoly firms can get away with costly, inefficient production. This is a real problem that you should take seriously when considering whether the benefits of a monopoly outweigh its costs.