Productivity, marginal cost, and monopoly


In any introductory economics class, one is introduced to the concept of supply and demand. The price of a product is expressed as a function of the number of products that suppliers would produce and buyers would purchase at that price, respectively. Supply curves have positive slope, meaning that the higher the price the more suppliers will produce and vice versa for demand curves. If a market is perfectly competitive, then the supply curve is determined by the marginal cost of production, which is the incremental cost of production for making one additional unit. Firms will keep producing more goods until the price falls below the marginal cost.

Increases in productivity lead to decreases in marginal cost, and since the advent of the industrial revolution, technology has been increasing productivity. In some cases, like software or recorded music, the marginal cost is already zero. The cost for Microsoft to make one more copy of Office is miniscule. However, if the marginal cost is zero then according to classical microeconomic theory firms would produce goods and give it away for free. Public intellectual Jeremy Rifkin has been writing about a zero marginal cost society for several years now, (e.g. see here and here), and has proposed that ubiquitous zero marginal cost will lead to a communitarian revolution where capitalism is overturned and people will collaborate and share goods along the lines of the open software model, which has produced the likes of Wikipedia, Linux, Python, and Julia.

I’m not so sanguine. There are two rational strategies for firms to pursue to increase profit. The first is to lower costs and the second is to create monopolies. In completely unregulated markets, like drug trafficking, it seems like suppliers spend much of their time and efforts pursuing monopolies by literally killing their competition. In the absence of the violence option, firms can gain monopolies by buying or merging with competitors and through regulatory capture to create barriers to entry. There are also industries where size and success create virtual monopolies. This is what happens for tech companies where a single behemoth like Microsoft, Google, Facebook, or Amazon, completely dominates a domain. Being large has a huge advantage in finance and banking. Entertainment seems to breed random monopoly status where a single artist will garner most of the attention even though objectively there may not be much difference between the top and the 100th best selling artist. As costs continue to decrease, there will be even more incentive to create monopolies. Instead of a sharing collaborative egalitarian world, a more likely scenario is a world with a small number of entrenched monopolists controlling most of the wealth.



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