Question

.If monopolies are always bad, why does the government award firms with monopolies (e.g. water, television, etc.).

Answer 1

This is the general perception that monopolies are bad. This is because of the following reasons:

No.1) since a monopoly firm is the lone provider of goods or services (such as water supply) it can set higher price for higher earnings.

No.2) quality of product supplied may be poor – such as quality of television picture.

No.3) since there is no competition, monopolies may not get incentive for research and development of product – such as an innovation in water supply.

These perceptions do not make sense if we think economically as below:

No.1) monopolies cannot set any sort of price, since at higher price there will be lower demand of product.

No.2) if there is high up-front cost (likes for water plant unit, and television tower and setup), this is economical to have one monopoly firm in each case. If there is more than one firm, such high up-front cost may not be recovered fully because of restricted demand – this creates economic loss to those firms.

This is the reason why government encourages monopolies – if monopolies are efficiently control prices for paying such high fixed costs with quality awareness, they are usually awarded.