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15.6: Natural Monopoly
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- When there is a scale economy, what market prices will arise?
- How is the monopoly price constrained by the threat of entry?
- A natural monopoly arises when a single firm can efficiently serve the entire market.
- Historically, the United States and other nations have regulated natural monopolies including electricity, telephony, and water service.
- The efficient price is typically unsustainable because of decreasing average cost.
- Efficient prices can be achieved with subsidies that have been used, for example, in postal and passenger rail services in the United States and historically for several products in Canada and Europe, including airlines and airplane manufacture. Alternatively, regulation could be imposed to limit the price to average cost, the lowest break-even price. This is the more common strategy in the United States.
- Two common strategies for limiting the price are price-cap regulation, which directly imposes a maximum price, and rate of return regulation, which limits the profitability of firms. Both of these approaches induce some inefficiency of production.