In Defense of Monopolies

By | 2018-01-24T13:46:01+00:00 January 24th, 2018|
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Economists love words. They have a word for just about everything, and if they don’t then they’ll make one up. Economics is rife with jargon.

But there are some words you just can’t say. There are bad words. Dangerous words. Tariff! That’s the big one. No matter the context, tariff is always a bad word.

Here’s another: monopoly. Now, monopoly’s not quite as naughty—it’s like ass. If you’re talking about a donkey, ass is fine. Ass is in the Bible. Context is what makes ass dirty. Same thing with monopoly. If you’re talking about a board game, you’re fine. But, use monopoly in a positive way when discussing the economy and people give you the stink-eye.

Enough’s enough. It’s time we took the word back. Monopolies should be praised. They’re desirable. They’re what separate the rich from the really rich. If we want to make America rich again, we need to embrace monopolies.

Finding Vinland, or How to Monopolize a Bog

The year is 1000 A.D. You are aboard a Viking longship—one of three that set out from Greenland searching for resources. Greenland is barren, and your fearless captain thinks there’s something better out there. He’s right!

You spot land. It’s lush and fertile: you name it Vinland.

Vinland is full of trees, clay, iron—everything you’ll need to build a new Viking colony. But the resources aren’t evenly distributed. Some areas of this new world are heavily wooded, others have fertile black soils but contain no clay with which to build bricks. Where do you settle?

One of the Viking captains takes his colonists to an area covered with trees: there were very few trees in Greenland, so he figures he’s hit the jackpot. Another captain settles on a plain nestled between a ring of hills. The black soil is perfect for growing wheat, and the hills will ensure his sheep have lots of fresh grass to eat.

Their settlement choices are pretty good—far better than anything in Greenland—but they have their drawbacks. They are plentiful in one resource (timber on the one hand, and agricultural land on the other), but neither has a very well-balanced area. The colonists will have to trade for what they lack.

But your captain is no fool: he used to trade amber with Arab merchants along the shores of the Caspian Sea and knows well the value of scarcity.

In the Medieval Age, Scandinavia was the only known source of amber. Vikings used to harvest the precious gem and ship it south along the Volga River—from Novgorod down to Astrakhan. Viking traders even ended up as far south and east as Baghdad. Amber was scarce, and this scarcity (combined with a stable demand for amber) is what made it valuable. The logic of scarcity doesn’t just apply to amber, it applies to everything—from apples to software. Scarcity explains why water can be worth even more than gasoline during a natural disaster.

Your captain knows this, and rather than settling in an area with lots of trees or open grassland, he steers your longship into an alluvial stream with marshy banks. On the surface, this area doesn’t look very promising. The soil is acidic, which will make it tougher to grow wheat. Likewise, the trees are stunted, making harvesting them for timber less efficient. But the peaty soils are worth it because they hide a scarce, and therefore valuable, resource: iron.

Iceland’s Vikings did not mine iron ore—the volcanic rock contains no mineral deposits. Likewise, the permafrost in Greenland prevented them from mining. Instead, they harvested iron from meteorite impact sites, and from swamps, where marsh plants fixate iron into little balls in their roots. This is called bog iron. Iron was valuable because it was both useful and rare—you can graze sheep or cut down trees just about anywhere in the Viking world, but iron can only be found where the conditions are just right. Iron is scarce. Iron is valuable.

And better yet, your colony is the only one that can produce iron locally. If the other colonies want iron, they must trade with you. You have a monopoly. Monopolies are exceptionally lucrative for producers because monopolists lack competitors to undercut their prices—monopolists have free reign to gouge consumers. Monopolies inflate prices and profits. They are good—if you’re the monopolist.

National vs. Personal Monopolies
What about all that stuff you learned in school about monopolies being bad for consumers?

In some cases they are: it would be bad to let a single individual or company generate all of America’s electricity—prices would be artificially high, and both the people and the nation as a whole would suffer. This is why the government is (ostensibly) obligated to break-up monopolies under antitrust legislation.

However, there is an important distinction between personal and national monopolies. Personal monopolies, those owned by an individual or corporation, rightly deserve their bad reputation, since they distort prices in a way that undermines economic growth. National monopolies, when a nation as a whole has a monopoly on a resource, do not.

Going back to our Viking example. A personal monopoly would be if a single Viking named Erik owned the marsh, and had a monopoly on bog iron. This is contrasted with a national monopoly, which means that the only bog in Vinland is located in your colony—regardless of how many of your colonists own the bog. In the first case, Erik gets rich at the expense of his fellow colonists, in the latter case your colony benefits by selling iron at inflated prices to the other colonies.

Historically, national monopolies were one of the keys to getting rich. The silk monopoly drove China’s economy for nearly two millennia, and a monopoly in shipping made Venice the richest city-state in Europe. Let’s look at an example from our own history.

Of Humpbacks and Roughnecks
Oil has been used as fuel forever. The Bible itself is chock-full of miraculous references to oil lamps. Olive oil is what made Ancient Athens the richest Greek city-state—it was Athena’s mythological gift to the city. Oil was godly.

But it was not until the Industrial Revolution began in the early 19th century that oil became the key to economic growth. Oil lamps kept the lights on and oil greased the newfangled machinery. Oil was indispensable. Oil powered the modern world—and still does. And where did oil come from? Whales. Big, blubbery whales.

This was a problem. Whales lived in distant seas, were fairly hard to find, and there weren’t all that many of them—not when you consider how rapidly industry was expanding. America, along with Great Britain, led the world in whaling and reaped huge profits selling the relatively scarce resource to European factories. For a time, Nantucket was America’s most prosperous city. Whaling made America wealthy. But that’s just the start.

Petroleum is what made America really rich. Edwin Drake in 1859 drilled the first successful petroleum oil well in Titusville, Pennsylvania. This started America’s first oil boom—and not a moment too soon, as this was 13 years after the world hit “peak whale oil.” Without the discovery of petroleum, the Industrial Revolution would have been stillborn.

Fortunes were made in oil. Rockefeller became a household name. The nineteenth century witnessed America’s rise as a world power. And this was not just because oil was valuable, it’s because America was the only nation which produced oil in significant quantities. America had a monopoly. Of course, European powers were quick to develop their own reserves, and conquer oil-rich territories, but there’s no denying that oil was crucial to America’s rise. Oil put America on the map. It made us rich.

It’s All About Leverage
National monopolies are a big part of what made some countries richer than others throughout history—a point I stress in my book,
Bobbins, Not Gold. But a monopoly alone isn’t enough to make you rich. You also need leverage.

Let’s revisit our Viking example.

One of the captains settled on some good farmland. The other settled near an abundant source of timber. Both settlements were highly specialized in that they could produce one thing (food or wood) exceptionally well, but lacked other resources. This makes good economic sense: if they specialize in what they’re efficient at producing, and trade for what they’re not, more will be produced overall, and both settlements will be richer. This is the logic behind the theory of comparative advantage.

The problem is that efficiency doesn’t matter. Leverage matters.

Recall how your Viking settlement not only has a monopoly on iron, but it can also produce everything else. Mind you the farmland isn’t as good, and the trees are smaller—but you can get by without trading. Your settlement is robust. It has autarky (economic self-sufficiency). You don’t need to trade for food, but the other colonies need to trade with you to acquire iron. They are fragile.

This asymmetry gives your colony something called optionality: you have the option of trading, but you don’t have to. Therefore, you will only be obliged to trade if the other colonies offer extra resources to “sweeten the deal.” Self-sufficiency gives you leverage. It allows you to reap the benefits of your monopoly.

This self-sufficiency also gives your colony optionality when other resources became temporarily scarce—if there’s a bad harvest in one colony, for example. You can benefit by selling any resources when prices are high, but other colonies are limited by what they specialize in. Your colony has more options.

This is why experienced stock traders always keep cash on hand: cash doesn’t provide yields like a bond or stock, but it does provide options—you can buy anything with cash, which is handy when stock prices plummet in a fire-sale. When stocks crash, cash is king. Or more technically, cash is optionality.

Leverage and optionality are what separate economists from businessmen—and they’re why economic theories often don’t translate into reality.

America Needs More National Monopolies
America’s economic policy is fundamentally flawed, because it operates under the assumption that monopolies are bad, without respect for what kind of monopoly we’re dealing with. As such, the government is quick to surrender our national monopolies by offshoring key industries to foreign countries—countries which eventually become our competition.

If America invents the next “big thing” we would do well to hoard the benefits for ourselves, rather than share with our competitors.

About the Author:

Spencer P. Morrison
Spencer P. Morrison is a writer and author of Bobbins, Not Gold. He is the editor-in-chief of the National Economics Editorial. Follow him on Twitter @SPMorrison_.