Term Paper on "Monopolies vs. Mergers"

Term Paper 10 pages (3409 words) Sources: 1+

[EXCERPT] . . . .

business world, both monopolies and mergers cause concern among consumers, the government, and suppliers alike. While there are vast differences between the two situations, they also have many similarities, and both can have drastic effects on competition, pricing, suppliers, product quality, innovation, and the economy in general. This paper will compare mergers and monopolies, and will discuss how each causes the issues above. In addition, this paper will show that while mergers and monopolies may be different in how they are accomplished, the end result in both cases can be large companies who have the power and ability to negatively affect the economy.

First, it is important to define what is meant by the terms monopoly and merger. From an economic standpoint, a monopoly can be thought of as a situation within a given market where there is a single supplier of a good or service. The definition can also be applied to any situation in which a company or supplier has considerable power over the pricing structure of the market in which they exist. These situations tend to be present in areas such as natural resource distribution, or in companies that hold exclusive rights over specific copyrights, such as drug companies (Rea, 2003). A merger, on the other hand, is the union of two or more corporations or commercial interests (Rea, 2003).

There are concerns about both types of issues within any given market, and one major area of concern is that of pricing issues. In a perfect competitive market economy, there are many buyers and sellers in the market, which equals competition. This competition is what allows for changes in prices, as changes in supply and demand are recognized. Additionally, for almost all products, there are substitute products.

Combined, these factors mean that if a product becomes too costly, or if the supply of that product is too small to meet the demand, consumers are free to choose a substitute item. In this way, the consumer can control prices to some extent since they can purchase a substitute item, which generally causes the producer to cut their own prices (Hennesy, 1998).

In a monopoly situation, there are no substitutes, and very little competition. In any market that only has a few suppliers of a particular service or good, those few suppliers can control the pricing by controlling the supply of the product. This means that the customer no longer has a choice in the matter, since they cannot chose a substitute product, nor can they use their consumption power to influence the market (Hennesy, 1998).

Companies that merge can also have the same overall affect on pricing structures. Mergers, depending on the type, can create a concentrated market, or create a single massive firm. In the case of a concentrated market, a few firms control the pricing structure of their market. This quickly can lead to price fixing, where all firms involved agree to charge specific prices for specific goods. The end result is that the consumer has no power to force any supplier into lowering prices, since all firms charge the same price for the goods. Additionally in a concentrated market, there are benefits for merged companies in that with fewer firms, the remaining firms are better able to manipulate these prices (Federal Trade Commission, 2002).

In cases where mergers result in a single, large firm, that firm then has almost complete control over the prices in the market. If the firm has a large enough control over the market, or if the merger results in a removal of the company's closest competitor, that firm has an even greater advantage over pricing. The merged company can charge as they wish, and since they hold a large part of the market, the consumer is powerless to combat the pricing by decreasing demand (Federal Trade Commission, 2002).

The overall affect of a merger on pricing depends largely on the type of merger. Horizontal mergers, in which one competitor purchases another, can affect pricing due to a loss of immediate competition. Vertical mergers, or mergers of a buyer and seller, can drastically affect prices by producing products that are far less expensive than their competitors, since the company as a whole owns both the manufacturing process and the distribution of products. Finally, potential competition mergers, or the merging of a company with an entry level firm, can affect prices indirectly. If a large corporation merges with a potential competitor, other large firms may fear the same fates if they appear to directly compete, so they keep prices comparable with those of the merged firm. Thus, prices are controlled through intimidation of a forced merger (Federal Trade Commission, 2002).

Clearly, both mergers and monopolies can result in the inability for consumers to affect market costs. Additionally, both monopolies and mergers can result in a severe decline in competition. In the case of a monopoly, any competition that may be interested in entering the market is restricted, to some extent, by the monopoly firm. Since the monopoly has been, one presumes, the only or one of the only firms offering a specific good or service for some time, any competitors may not see entry into the area as a viable option, since the monopoly holds a considerable amount of the existing market share. This leads to a cycle, in which the monopoly continues to be a monopoly, while any prospective competition is thwarted (Consigliore, 1996).

In a merger, competition decreases are dependant on two conditions, those of the combined market share of the merged company, and the ability for new firms to enter the market. In order for a merger to cause an anticompetitive environment, the market must be concentrated following the merger. In a substantially concentrated market, where the merged firm holds a large amount of the market share, smaller firms are less likely to compete, or even to be able to compete. The larger, merged firm is more likely to be able to keep overhead costs lower in relation to their corner of the market share. This means their costs can be lower, which forces out competition, since they are unable to offer products at the same low prices. Additionally, since those merged firms can offer such low prices, new firms are less likely to even attempt to compete, since they would be unable to drive prices upward enough to make a profit (Federal Trade Commission, 2002).

Again, how drastically competition is affected by a merger is dependant on the type of merger. In a horizontal merger, the acquisition of competitors often leaves the market concentration far higher for the merged company, and may even completely eliminate competition in the area of the merger. In a vertical merger, competition can be drastically affected by the merged company's ability to reduce or even eliminate the competitor's access to an important component or channel of distribution for the product. This "vertical foreclosure" can cause competitors to be unable to continue their business. Finally, the potential-competition merger is perhaps the most dangerous for competition. In this merger, not only is the large firm eliminating their smaller competitors, but they are also contributing to the idea that any future potential competitor will also be forced to merge. The merged company thwarts competition through the threat of a forced merger (Federal Trade Commission, 2002).

This anticompetitive atmosphere in both monopolies and mergers can lead to a stagnant market, as well. In a market controlled by a monopoly, there is little room for innovation and advancement. Since the monopoly firm already has control over the market, it is unlikely they will continue to research or develop improved methods of production, or improved products (Hennesy, 1998). As a matter of fact, a recent study of monopolies showed that a monopoly will only implement a superior technology change if that change is seven times more efficient than the old technology (Parente and Prescott, 1999).

Mergers have the same effect on innovation. Particularly in a potential competitor merger, innovation is stifled through intimidation. As larger firms overtake smaller firms who appear to be edging in on their market shares, other smaller firms are less likely to introduce new products that undercut the larger merged firm. Similarly, since horizontal mergers drastically increase the market share of the larger merged company, that company no longer needs to be concerned with competitor's innovative ideas (Federal Trade Commission, 2002).

On a broader level, both monopolies and mergers also stagnate the economy, at least marginally. With a monopoly, either a natural monopoly or an oligopoly, the firm with the most market share has more power in their sector, as previously discussed. This means that the firm also has power over producers of the goods they distribute. The firm can force the producers to sell at lower prices than usual, simply due to their buying power. A large monopoly in any given industry can choose its suppliers, and those suppliers must produce the goods at the rate asked for by the monopoly, if… READ MORE

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