WE HAVE SEEN THAT IN the free market economy people will tend to produce those goods most demanded by the consumers.1 Some economists have termed this system “consumers’ sovereignty.” Yet there is no compulsion about this. The choice is purely an independent one by the producer; his dependence on the consumer is purely voluntary, the result of his own choice for the “maximization” of utility, and it is a choice that he is free to revoke at any time. We have stressed many times that the pursuit of monetary return (the consequence of consumer demand) is engaged in by each individual only to the extent that other things are equal. These other things are the individual producer’s psychic valuations, and they may counteract monetary influences. An example is a laborer or other factor-owner engaged in a certain line of work at less monetary return than elsewhere. He does this because of his enjoyment of the particular line of work and product and/or his distaste for other alternatives. Rather than “consumers’ sovereignty,” it would be more accurate to state that in the free market there is sovereignty of the individual: the individual is sovereign over his own person and actions and over his own property.2 This may be termed individual self-sovereignty. To earn a monetary return, the individual producer must satisfy consumer demand, but the extent to which he obeys this expected monetary return, and the extent to which he pursues other, nonmonetary factors, is entirely a matter of his own free choice.

The term “consumers’ sovereignty” is a typical example of the abuse, in economics, of a term (“sovereignty”) appropriate only to the political realm and is thus an illustration of the dangers of the application of metaphors taken from other disciplines. “Sovereignty” is the quality of ultimate political power; it is the power resting on the use of violence. In a purely free society, each individual is sovereign over his own person and property, and it is therefore this self-sovereignty which obtains on the free market. No one is “sovereign” over anyone else’s actions or exchanges. Since the consumers do not have the power to coerce producers into various occupations and work, the former are not “sovereign” over the latter.

• 1This applies not only to specific types of goods, but also to the allocation between present and future goods, in accordance with the time preferences of the consumers.
• 2Of course, we may formally salvage the concept of “consumers’ sovereignty” by asserting that all these psychic elements and evaluations constitute “consumption” and that the concept therefore still has validity. However, it would seem to be more appropriate in the catallactic context of the market (which is the area here under discussion) to reserve “consumption” to mean the enjoyment of xchangeable goods. Naturally, in the final sense, everyone is an ultimate consumer—both of exchangeable and of nonexchangeable goods. However, the market deals only in exchangeable goods (by definition), and when we separate the consumer and the producer in terms of the market, we distinguish the demanding, as compared to the supplying, of exchangeable goods. It is more appropriate, then, not to consider a nonexchangeable good as an object of consumption in this particular context. This is important in order to discuss the contention that individual producers are somehow subject to the sovereign rule of other individuals—the “consumers.”

The metaphorical shibboleth of “consumers’ sovereignty” has misled even the best economists. Many writers have used it as an ideal with which to contrast the allegedly imperfect free-market system. An example is Professor W.H. Hutt of the University of Cape Town, who has made the most careful defense of the concept of consumers’ sovereignty.3 Since he is the originator of this concept and his use of the term is widespread in the literature, his article is worth particular attention. It will be used as the basis for a critique of the concept of consumers’ sovereignty and its implications for the problems of competition and monopoly.

In the first part of his article, Hutt defends his concept of consumers’ sovereignty against the criticism that he has neglected the desires of producers. He does this by asserting that if a producer desires a means as an end in itself, then he is “consuming.” In this formal sense, as we have seen, consumers’ sovereignty, by definition, always obtains. Formally, there is nothing wrong with such a definition, for we have stressed throughout this book that an individual evaluates ends (consumption) on his value scale and that his valuation of means (for production) is dependent upon the former. In this sense, then, consumption always rules production.

But this formal sense is not very useful for analyzing the situation on the market. And it is precisely the latter sense that Hutt and others employ. Thus, suppose producer A withholds his labor or land or capital service from the market. For whatever reason, he is exercising his sovereignty over his person and property. On the other hand, if he supplies them to the market, he is, to the extent that he aims at monetary return, submitting himself to the demands of the consumers. In the aforementioned general sense, “consumption” rules in any case. But the critical question is: which “consumer”? The market consumer of exchangeable goods who buys these goods with money, or the market producer of exchangeable goods who sells these goods for money? To answer this question, it is necessary to distinguish between the “producer of exchangeable goods” and the “consumer of exchangeable goods,” since the market, by definition, can deal only in such goods. In short, we can designate people as “producers” and as “consumers,” even though every man must act as a consumer, and every man must also act, in another context, as a producer (or as the receiver of a gift from a producer).

Making this distinction, we find that, contrary to Hutt, each individual has self-sovereignty over his person and property on the free market. The producer, and the producer alone, decides whether or not he will keep his property (including his own person) idle or sell it on the market for money, the results of his production then going to the consumers in exchange for their money. This decision—concerning how much to allocate to the market and how much to withhold—is the decision of the individual producer and of him alone.

Hutt implicitly recognizes this, however, since he soon shifts his argument and begins inconsistently to hold up “consumers’ sovereignty” as an ethical ideal against which the activities of the free market are to be judged. Consumers’ sovereignty becomes almost an Absolute Good, and any action by producers to thwart this ideal is considered as little less than moral treason. Wavering between consumers’ sovereignty as a necessary fact and the contradictory concept of consumers’ sovereignty as an ideal that can be violated, Hutt attempts to establish various criteria to determine when this sovereignty is being violated. For example, he asserts that when a producer withholds his person or property out of a desire to use it for enjoyment as a consumers’ good, then this is a legitimate act, in keeping with rule by the consumer. On the other hand, when the producer acts to withhold his property in order to attain more monetary income than otherwise (presumably, although Hutt does not state this, by taking advantage of an inelastic demand curve for his product), then he is engaging in a vicious infringement on the consumers’ will. He may do so by acting to restrict production of his own personal product, or, if he makes the same product as other producers, by acting in concert with them to restrict production in order to raise the price. This is the doctrine of monopoly price, and it is this monopoly price that is allegedly the instrument by which producers pervert their rightful function.

Hutt recognizes the enormous difficulty of distinguishing among the producer’s motives in any concrete case. The individual who withholds his own labor may be doing so in order to obtain leisure; and even the owner of land or capital may be withholding it in order to derive, say, an aesthetic enjoyment from the contemplation of his unused property. Suppose, indeed, that there is a mixture of motives in both cases. Hutt is definitely inclined to solve these difficulties by not giving the producer the benefit of the doubt, particularly in the case of property.

But the difficulty is far greater than Hutt imagines. Every individual producer is always engaged in an attempt to maximize his “psychic income,” to arrive at the highest place on his value scale. To do so, he balances on this scale monetary income and various nonmonetary factors, in accordance with his particular valuations. Let us take the producer first as a seller of labor. In judging how much of his labor to sell and at what price, the producer will take into consideration the monetary income to be gained, the psychic return from the type of work and the “working conditions,” and the leisure forgone, balancing them in accordance with the operation of his various marginal utilities. Certainly, if he can earn a higher income by working less, he will do so, since he also gains leisure thereby. And the question arises: Why is this immoral?

Moreover, (1) it is impossible, not simply impracticable, to separate the leisure from monetary considerations here, since both elements are involved, and only the person himself will know the intricate balancing of his own valuations. (2) More important, this act does not contravene the truth that the producer can earn money only by serving the consumers. Why has he been able to extract a “monopoly price” through restricting his production? Only because the demand for his services (either directly by consumers or indirectly from them through lower-order producers) is inelastic, so that a decreased production of the good and a higher price will lead to increased expenditure on his product and therefore increased income for him. Yet this inelastic demand schedule is purely the result of the voluntary demands of the consumers. If the consumers were really angry at this “monopolistic action,” they could easily make their demand curves elastic by boycotting the producer and/or by increasing their demands at the “competitive” production level. The fact that they do not do so signifies their satisfaction with the existing state of affairs and demonstrates that they, as well as the producer, benefit from the resulting voluntary exchanges.

What about the producer in his capacity as a seller of property—the main target of the “anti-monopoly-price” school? The principle, first of all, is virtually the same. Individual producers may restrict the production and sale of their land or capital goods, either individually or in concert (by means of a “cartel”) in order to increase their expected monetary incomes from the sale. Once again, there is nothing distinctively immoral about such action. The producers, other things being equal, are attempting to maximize the monetary income from their factors of production. This is no more immoral than any other attempt to maximize monetary income. Furthermore, they can do so only by serving the consumers, since, once again, the sale is voluntary on the part of both producers and consumers. Again, such a “monopoly price,” to be established either by one individual or by individuals co-operating together in a cartel, is possible only if the demand curve (directly or indirectly of the consumers) is inelastic, and this inelasticity is the resultant of the purely voluntary choices of consumers in their maximization of satisfaction. For this “inelasticity” is simply a label for a situation in which consumers spend more money on a good at a higher than at a lower price. If the consumers were really opposed to the cartel action, and if the resulting exchanges really hurt them, they would boycott the “monopolistic” firm or firms, they would lower their purchasing so that the demand curve became elastic, and the firm would be forced to increase its production and reduce its price again. If the “monopolistic price” action had been taken by a cartel of firms, and the cartel had no other advantages for rendering production more efficient, it would then have to disband, because of the now demonstrated elasticity of the demand schedule.

But, it may be asked, is it not true that the consumers would prefer a lower price and that therefore achievement of a “monopoly price” constitutes a “frustration of consumers’ sovereignty”? The answer is: Of course, consumers would prefer lower prices; they always would. In fact, the lower the price, the more they would like it. Does this mean that the ideal price is zero, or close to zero, for all goods, because this would represent the greatest degree of producers’ sacrifice to consumers’ wishes?

In their role as consumers, men would always like lower prices for their purchases; in their capacity as producers, men always like higher prices for their wares. If Nature had originally provided a material Utopia, then all exchangeable goods would be free for the taking, and there would be no need for any labor to earn a money return. This Utopia would also be “preferred,” but it too is a purely imaginary condition. Man must necessarily work within a given real environment of inherited land and durable capital.

In this world, there are two, and only two, ways to settle what the prices of goods will be. One is the way of the free market, where prices are set voluntarily by each of the participating individuals. In this situation, exchanges are made on terms benefiting all the exchangers. The other way is by violent intervention in the market, the way of hegemony as against contract. Such hegemonic establishment of prices means the outlawing of free exchanges and the institution of exploitation of man by man—for exploitation occurs whenever a coerced exchange is made. If the free-market route—the route of mutual benefit—is adopted, then there can be no other criterion of justice than the free-market price, and this includes alleged “competitive” and “monopoly” prices, as well as the actions of cartels. In the free market, consumers and producers adjust their actions in voluntary cooperation.

In the case of barter, this conclusion is evident; the various producer-consumers either determine their mutual exchange rates voluntarily in the free market, or else the ratios are set by violence. There seems to be no reason why it should be more or less “moral,” on any grounds, for the horse-price of fish to be higher or lower than it is on the free market, or, in other words, why the fish-price of horses should be lower or higher. Yet it is no more evident why any money price should be lower or higher than it is on the market.4

• 3W.H. Hutt, “The Concept of Consumers’ Sovereignty,” Economic Journal, March, 1940, pp. 66–77. Hutt originated the term in an article in 1934. For an interesting use of a similar concept, cf. Charles Coquelin, “Political Economy” in Lalor’s Cyclopedia, III, 222–23.
• 4To be consistent, currently fashionable theory would have to accuse Crusoe and Friday of being vicious “bilateral monopolists,” busily charging each other “monopoly prices” and therefore ripe for State intervention!

But is not monopolizing action a restriction of production, and is not this restriction a demonstrably antisocial act? Let us first take what would seem to be the worst possible case of such action: the actual destruction of part of a product by a cartel. This is done to take advantage of an inelastic demand curve and to raise the price to gain a greater monetary income for the whole group. We can visualize, for example, the case of a coffee cartel burning great quantities of coffee.

In the first place, such actions will surely occur very seldom. Actual destruction of its product is clearly a highly wasteful act, even for the cartel; it is obvious that the factors of production which the growers had expended in producing the coffee have been spent in vain. Clearly, the production of the total quantity of coffee itself has proved to be an error, and the burning of coffee is only the aftermath and reflection of the error. Yet, because of the uncertainty of the future, errors are often made. Man could labor and invest for years in the production of a good which, it may turn out, consumers hardly want at all. If, for example, consumers’ tastes had changed so that coffee would not be demanded by anyone, regardless of price, it would again have to be destroyed, with or without a cartel.

Error is certainly unfortunate, but it cannot be considered immoral or antisocial; nobody aims deliberately at error.5 If coffee were a durable good, it is obvious that the cartel would not destroy it, but would store it for gradual future sale to consumers, thus earning income on the “surplus” coffee. In an evenly rotating economy, where errors are barred by definition, there would be no destruction, since optimum stocks for the attainment of money income would be produced in advance. Less coffee would be produced from the beginning. The waste lies in the excessive production of coffee at the expense of other goods that could have been produced. The waste does not lie in the actual burning of the coffee. After the production of coffee is lowered, the other factors which would have gone into coffee production will not be wasted; the other land, labor, etc., will go into other and more profitable uses. It is true that excess specific factors will remain idle; but this is always the fate of specific factors when the realities of consumer demand do not sustain their use in production. For example, if there is a sudden dwindling of consumer demand for a good, so that it becomes unremunerative for labor to work with certain specialized machines, this “idle capacity” is not a social waste, but is rather socially useful. It is proved an error to have produced the machines; and now that the machines are produced, working on them turns out to be less profitable than working with other lands and machines to produce some other result. Therefore, the economical step is to leave them idle or perhaps to transform their material stuff into other uses. Of course, in an errorless economy, no excessive specific capital goods will be produced.

Suppose, for example, that before the coffee cartel went into operation, X amount of labor and Y amount of land co-operated to produce 100 million pounds of coffee a year. The coffee cartel determined, however, that the most remunerative production was 60 million pounds and therefore reduced annual output to this level. It would have been absurd, of course, to continue wasteful production of 100 million pounds and then to burn 40 millions. But what of the now surplus labor and land? These shift to the production, say, of 10 million pounds of rubber, 50,000 hours of service as jungle guides, etc. Who is to say that the second structure of production, the second allocation of factors, is less “just” than the first? In fact, we may say it is more just, since the new allocation of factors will be more profitable, and hence more value-productive, to consumers. In the value sense, then, overall production has now expanded, not contracted. It is clear we cannot say that production, overall, has been restricted, since output of goods other than coffee has increased, and the only comparison between the decline of one good and the increase in another must be made in these broad valuational terms. Indeed, the shifting of factors to rubber and jungle guidance no more restricts coffee production than a previous shift of factors to coffee restricted the production of the former goods.

The whole concept of “restricting production,” then, is a fallacy when applied to the free market. In the real world of scarce resources in relation to possible ends, all production involves choice and the allocation of factors to serve the most highly valued ends. In short, the production of any product is necessarily always “restricted.” Such “restriction” follows simply from the universal scarcity of factors and the diminishing marginal utility of any one product. But then it is absurd to speak of “restriction” at all.6

We cannot, then, say that the cartel has “restricted production.” After the final allocation has eliminated the producer’s error, the cartel’s action will effect a maximization of producers’ incomes in the service of the consumers, as do all other free-market allocations. This is the result that people on the market tend to attain, in consonance with their skill as forecasting entrepreneurs, and this is the only situation in which man as consumer harmonizes with man as producer.

It follows from our analysis that the producers’ original production of 100 million pounds was an unfortunate error, later corrected by them. Instead of being a vicious restriction of production to the detriment of the consumers, the cutback in coffee production was, on the contrary, a correction of the previous error. Since only the free market can allocate resources to serve the consumer, in accordance with monetary profitability, it follows that in the previous situation, “too much” coffee and “too little” rubber, jungle guide service, etc., were being produced. The cartel’s action, in reducing the production of coffee and causing an increase in the production of rubber, jungle guiding, etc., led to an increase in the power of the productive resources to satisfy consumer desires.

If there are anticartelists who disagree with this verdict and believe that the previous structure of production served the consumers better, they are always at perfect liberty to bid the land, labor, and capital factors away from the jungle-guide agencies and rubber producers, and themselves embark on the production of the allegedly “deficient” 40 million pounds of coffee. Since they are not doing so, they are hardly in a position to attack the existing coffee producers for not doing so. As Mises succinctly stated:

Certainly those engaged in the production of steel are not responsible for the fact that other people did not likewise enter this field of production. ... If somebody is to blame for the fact that the number of people who joined the voluntary civil defense organization is not larger, then it is not those who have already joined but those who have not.7

The position of the anticartelists implies that someone else is producing too much of some other product; yet they offer no standards except their own arbitrary decrees to determine which production is excessive.

Criticism of steel owners for not producing “enough” steel or of coffee growers for not producing “enough” coffee also implies the existence of a caste system, whereby a certain caste is permanently designated to produce steel, another caste to grow coffee, etc. Only in such a caste society would such criticism make sense. Yet the free market is the reverse of the caste system; indeed, choice between alternatives implies mobility between alternatives, and this mobility obviously holds for entrepreneurs or lenders with money to invest in production.

Furthermore, as we have stated above, an inelastic demand curve is purely the result of consumers’ choice. Thus, suppose that 100 million pounds of coffee have been produced and lie in stock, and a group of growers jointly decide that a burning of 40 million pounds of coffee will, say, double the price from one gold grain per pound to two gold grains per pound, thus giving them a higher total income acting jointly. This would be impossible if the growers knew that they would be confronted with an effective consumer boycott at the higher price. Further, consumers have another way, if they so desire, to prevent destruction of the good. Various consumers, acting either individually or jointly, could offer to purchase the existing coffee at higher than present prices. They could do this either because of their desire for coffee or because of their philanthropic dismay at the destruction of a useful good, or from a combination of both motives. At any rate, if they did so, they would prevent the producers’ cartel from decreasing the supply sold on the market. The boycott at a higher price and/or increased offers at the lower price would change the demand curve and render it elastic at the present stock level, thereby removing any incentive or need for the formation of a cartel.

To regard a cartel as immoral or as hampering some sort of consumers’ sovereignty is therefore completely unwarranted. And this is true even in the seemingly “worst” case of a cartel that we may assume is founded solely for “restrictive” purposes, and where, as a result of previous error and the perishability of product, actual destruction will occur. If consumers really wish to prevent this action, they need only change their demand schedules for the product, either by an actual change in their taste for coffee or by a combination of boycott and philanthropy. The fact that such a development does not take place in any given circumstance signifies that the producers are still maximizing their monetary income in the service of the consumers—by a cartel action, as well as by any other action. Some readers might object that, in offering higher demands for existing stock, the consumers would be bribing the producers, and that this constitutes an unwarranted extortion on the part of the producers. But this charge is untenable. Producers are guided by the goal of maximizing monetary income; they are not extorting, but simply producing where their gains are at a maximum, through exchanges concluded voluntarily by producers and consumers alike. This is no more nor less a case of “extortion” than when a laborer shifts from a lower-paying to a higher-paying job or when an entrepreneur invests in what he thinks will be a more rather than a less profitable project.

It must be recognized that once an error has been committed, as it had been in the aforementioned situation, the rational course is not to bewail the past, nor to attempt to “recover” historical costs, but to make the best (ceteris paribus, the most money) of the present situation. We recognize this when previously produced machines or other capital goods face a loss of demand for their product. In the production process, as we have seen, labor energies work on natural and produced factors to arrive at the most urgently demanded consumers’ goods. Since error is inevitable, this process is bound to lead to a considerable amount of “idle” capital goods at any given time. Similarly, much original land area will remain idle because existing labor has more profitable work to do on other lands. In short, the “idle” coffee is the result of an error in forecasting and should be no more shocking or reprehensible than “idle capacity” in any other type of capital good.

Our argument is just as applicable to a single firm producing a unique product with an inelastic demand as it is to a cartel of firms. A single firm, with inelastic demand for its product, could also destroy part of its stock after committing a forecasting error. Our critique of the “anti-monopoly-price” and consumers’-sovereignty doctrines applies equally well to such a case.

• 5See chapter 8, p. 516 above.
• 6In the words of Professor Mises:
  That the production of a commodity p is not larger than it really is, is due to the fact that the complementary factors of production required for an expansion were employed for the production of other commodities. ... Neither did the producers of p intentionally restrict the production of p. Every entrepreneur’s capital is limited; he employs it for those projects which, he expects, will, by filling the most urgent demand of the public, yield the highest profit.  An entrepreneur at whose disposal are 100 units of capital employs, for instance, 50 units for the production of p and 50 units for the production of q. If both lines are profitable, it is odd to blame him for not having employed more, e.g., 75 units, for the production of p. He could increase the production of p only by curtailing correspondingly the production of q. But with regard to q the same fault could be found by the grumblers. If one blames the entrepreneur for not having produced more p, one must blame him also for not having produced more q. This means: one blames the entrepreneur for the fact that there is a scarcity of the factors of production and that the earth is not a land of Cockaigne. (Mises, Planning for Freedom, pp. 115–16)
• 7Ibid., p. 115.

A common argument holds that cartel action involves collusion. For one firm may achieve a “monopoly price” as a result of its natural abilities or consumer enthusiasm for its particular product, whereas a cartel of many firms allegedly involves “collusion” and “conspiracy.” These expressions, however, are simply emotive terms designed to induce an unfavorable response. What is actually involved here is co-operation to increase the incomes of the producers. For what is the essence of a cartel action? Individual producers agree to pool their assets into a common lot, this single central organization to make the decisions on production and price policies for all the owners and then to allocate the monetary gain among them. But is this process not the same as any sort of joint partnership or the formation of a single corporation? What happens when a partnership or corporation is formed? Individuals agree to pool their assets into a central management, this central direction to set the policies for the owners and to allocate the monetary gains among them. In both cases, the pooling, lines of authority, and allocation of monetary gain take place according to rules agreed upon by all from the beginning. There is therefore no essential difference between a cartel and an ordinary corporation or partnership. It might be objected that the ordinary corporation or partnership covers only one firm, while the cartel includes an entire “industry” (i.e., all firms producing a certain product). But such a distinction does not necessarily hold. Various firms may refuse to enter a cartel, while, on the other hand, a single firm may well be a “monopolist” in the sale of its particular unique product, and therefore it may also encompass an entire “industry.”

The correspondence between a co-operative partnership or corporation—not generally considered reprehensible—and a cartel is further enhanced when we consider the case of a merger of various firms. Mergers have been denounced as “monopolistic,” but not nearly as vehemently as have cartels. Merging firms pool their capital assets, and the owners of the individual firms now become part owners of the single merged firm. They will agree on rules for the exchange ratios of the shares of the different companies. If the merging firms encompass the entire industry, then a merger is simply a permanent form of cartel. Yet clearly the only difference between a merger and the original forming of a single corporation is that the merger pools existing capital goods assets, while the original birth of a corporation pools money assets. It is clear that, economically, there is little difference between the two. A merger is the action of individuals with a certain quantity of already produced capital goods, adjusting themselves to their present and expected future conditions by cooperative pooling of assets. The formation of a new company is an adjustment to expected future conditions (before any specific investment has been made in capital goods) by cooperative pooling of assets. The essential similarity lies in the voluntary pooling of assets in a more centralized organization for the purpose of increasing monetary income.

The theorists who attack cartels and monopolies do not recognize the identity of the two actions. As a result, a merger is considered less reprehensible than a cartel, and a single corporation far less menacing than a merger. Yet an industry-wide merger is, in effect, a permanent cartel, a permanent combination and fusion. On the other hand, a cartel that maintains by voluntary agreement the separate identity of each firm is by nature a highly transitory and ephemeral arrangement and, as we shall see below, generally tends to break up on the market. In fact, in many cases, a cartel can be considered as simply a tentative step in the direction of permanent merger. And a merger and the original formation of a corporation do not, as we have seen, essentially differ. The former is an adaptation of the size and number of firms in an industry to new conditions or is the correction of a previous error in forecasting. The latter is a de novo attempt to adapt to present and future market conditions.

We do not know, and economics cannot tell us, the optimum size of a firm in any given industry. The optimum size depends on the concrete technological conditions of each situation, as well as on the state of consumer demand in relation to the given supply of various factors in this and in other industries. All these complex questions enter into the decisions of producers, and ultimately of consumers, concerning how large the firms in various lines of production will be. In line with consumer demand and with opportunity costs for the various factors, factor-owners and entrepreneurs will produce in those industries and firms in which they can maximize their monetary income or profit (other psychic factors being equal). Since forecasting is the function of entrepreneurs, successful entrepreneurs will minimize their errors and hence their losses as well. As a result, any existing situation on the free market will tend to be the most desirable for the satisfaction of consumers’ demands (including herein the non-monetary wishes of the producers).

Neither economists nor engineers can decide the most efficient size of a firm in any situation. Only the entrepreneurs themselves can determine what size of firm will operate most efficiently, and it is presumptuous and unwarranted for economists or for any other outside observers to attempt to dictate otherwise. In this and other matters, the wishes and demands of the consumers are “telegraphed” through the price system, and the resulting drive for maximum monetary income and profits will always tend to bring about the optimum allocation and pricing. There is no need for the external advice of economists.

It is clear that when several thousand individuals decide not to produce and own individual steel plants by themselves, but rather to pool their capital into an organized corporation—which will purchase factors, invest and direct production, and sell the product, later allocating the monetary gains among the owners—they are enormously increasing their efficiency. Compared to production in hundreds of tiny plants, the quantity of production per given factors will be greatly increased. The large firm will be able to purchase heavily capitalized machinery and to finance better organized marketing and distributing outlets. All this is quite clear when thousands of individuals pool their capital into the establishment of a steel firm. But why may it not be equally true when several small steel firms merge into one large company?

It might be replied that in the latter merger, particularly in the case of a cartel, joint action is taken, not to increase efficiency, but solely to increase income by restricting sales. Yet there is no way that an outside observer can distinguish between a “restrictive” and an efficiency-increasing operation. In the first place, we must not think of the plant or factory as being the only productive factors the efficiency of which can increase. Marketing, advertising, etc., are also factors of production; for “production” is not simply the physical transformation of a product, but also consists in transporting it and placing it into the hands of users. The latter implies the expenses of informing the user about the existence and nature of the product and of selling that product to him. Since a cartel always engages in joint marketing, who can deny that the cartel might render marketing more efficient? How, therefore, can this efficiency be separated from the “restrictive” aspect of the operation?8

Furthermore, technological factors in production can never be considered in a vacuum. Technological knowledge tells us of a whole host of alternatives that are open to us. But the crucial questions—in what to invest? how much? what production method to choose?—can be answered only by economic, i.e., by financial considerations. They can be answered only on a market actuated by a drive for money incomes and profits. Thus, how is a producer to decide, in digging a subway tunnel, what material to use in its construction? From a purely technological point of view, solid platinum may be the best choice, the most durable, etc. Does this mean that he should choose platinum? He can make a choice among factors, methods, goods to produce, etc., only by comparing the necessary monetary expenses (which are equal to the income the factors could earn elsewhere) with expected monetary income from the production. Only by maximizing monetary gain can factors be allocated in the service of consumers; otherwise, and on purely technological grounds, there would be nothing to prevent the building of platinum-lined subway tunnels the breadth of the continent. The only reason this cannot be done under present conditions is the heavy money “cost” caused by the waste of drawing away factors and resources from uses far more urgently demanded by the consumers. But the fact of this urgent alternative demand—and thus the fact of the waste—can be discovered only through being recorded by a price system actuated by a drive by producers for money incomes. Only empirical observation of the market reveals to us the full absurdity of such a transcontinental subway.

Moreover, there are no physical units with which we can compare the different types of physical factors and physical products. Thus, suppose a producer attempts to determine the most efficient use of two hours of his labor. In a romantic moment, he tries to determine this efficiency by purely abstracting from “sordid” considerations of monetary gain. Assume that he is confronted with three technologically known alternatives. These are tabulated as follows:

Which of these alternatives, A, B, or C, is the most efficient, the most technologically “useful,” way of allocating his labor? It is clear that the “idealistic,” self-sacrificing producer has no way of knowing! He has no rational way of deciding whether or not to produce the pot, the pipe, or the boat. Only the “selfish” money-seeking producer has a rational way of determining the allocation. In seeking maximum monetary gain, the producer compares the money costs (necessary expenses) of the various factors with the prices of the products. Considering A and B, for example, if the purchase of the clay and oven-hour would cost one gold ounce, and the pot could sell for two gold ounces, his labor would earn one gold ounce. On the other hand, if the wood and oven-hour would cost one and a half gold ounces, and the pipe could sell for four gold ounces, he would earn two and a half ounces for his two hours of labor and would choose to make this product. The prices of both the product and the factors are reflections of consumer demand and of producers’ attempts to earn money in its service. The only way the producer could determine which product to make is to compare expected monetary gains. If the boat would sell for five gold ounces, he would produce the boat rather than the pipe, and thus satisfy a more urgent consumer demand, as well as his own desire for monetary income.

There can therefore be no separation of technological efficiency from financial considerations. The only way that we can determine whether one product is more demanded than another, or one process more efficient than another, is through concrete actions of the free market. We may think it self-evident, for example, that the optimum efficient size of a steel plant is larger than that of a barber shop. But we know this not as economists from a priori or praxeological reasoning, but purely by empirical observation of the free market. There is no way that economists or any other outside observers can set the technological optimum for any plant or firm. This can be done only on the market itself. But if this is true in general, it is also true in the specific cases of mergers and cartels. The impossibility of isolating a technological element becomes even clearer when we remember that the critical problem is not the size of the plant, but the size of the firm. The two are by no means synonymous. It is true that the firm will consider the optimum-sized plant for whatever scale its operations will be on, and, further, that a larger-sized plant will, ceteris paribus, require a larger-sized firm. But its range of decisions cover a much broader ground: how much to invest, what good or goods to produce, etc. A firm may encompass one or more plants or products and always encompasses marketing facilities, financial organization, etc., which are overlooked when only the plant is held in view.9

These considerations, incidentally, serve to refute the very popular distinction between “production for use” and “production for profit.” In the first place, all production is for use; otherwise it would not take place. In the market economy, this almost always means goods for the use of others—the consumers. Profit can be earned only through servicing consumers with produced goods. On the other hand, there can be no rational production, above the most primitive level, based on technological or utilitarian considerations abstracted from monetary gain.10

It is important to realize what we have not said in this section. We have not said that cartels will always be more efficient than individual firms or that “big” firms will always be more efficient than small ones. Our conclusion is that economics can make few valid statements about the optimal size of a firm except that the free market will come as close as possible to rendering maximum service to consumers, whether we are considering the size of a firm or any other aspect of production. All the concrete problems in production—the size of the firm, the size of the industry, the location, price, size and nature of the output, etc.—are for entrepreneurs, not economists, to solve.

We should not leave the problem of the size of the firm without considering a common worry of economic writers: What if the average cost curve of a firm continues to fall indefinitely? Would not the firm then grow so big as to constitute a “monopoly”? There is much lamentation that competition “breaks down” in such a situation. Much of the emphasis on this problem comes, however, from preoccupation with the case of “pure competition,” which, as we shall see below, is an impossible figment. Secondly, it is obvious that no firm ever has been or can be infinitely large, so that limiting obstacles—rising or less rapidly falling costs—must enter somewhere, and relevantly, for every firm.11 Thirdly, if a firm, through greater efficiency, does obtain a “monopoly” in some sense in its industry, it clearly does so, in the case we are considering (falling average cost), by lowering prices and benefiting the consumers. And if (as all the theorists who attack “monopoly” agree) what is wrong with “monopoly” is precisely a restriction of production and a rise in price, there is obviously nothing wrong with a “monopoly” achieved by pursuing the directly opposite path.12

• 8Much error would have been avoided if economists had heeded the words of Arthur Latham Perry:
  Every man who puts forth an effort to satisfy the desire of another, with the expectation of a return, is ... a Producer. The Latin word producere means to expose anything to sale. ... We must rid ourselves at the outset of the notion ... that it is only to be applied to forms of matter, that it means ... to transform something only. ... The fundamental meaning of the root-word, both in Latin and in English, is effort with reference to a sale. A product is a service ready to be rendered. A producer is any person who gets something ready to sell and sells it. (Perry, Political Economy, pp. 165–66)
• 9R.H. Coase, in an illuminating article, has pointed out that the extent to which transactions take place within a firm or between firms is dependent on the balancing of the necessary costs of using the price mechanism as against the costs of organizing a structure of production within a firm. Coase, “The Nature of the Firm.”
• 10This spurious distinction was brought into wide currency by Thorstein Veblen and continued in the happily short-lived “technocracy” movement of the early 1930’s. According to his biographer, this distinction was the keynote of all Veblen’s writings. Cf. Joseph Dorfman, The Economic Mind in American Civilization (New York: Viking Press, 1949), III, 438 ff.
• 11On the “orthodox” neglect of cost limitations, see Robbins, “Remarks upon Certain Aspects of the Theory of Costs.”
• 12Cf. Mises, Human Action, p. 367.

Analysis demonstrates that a cartel is an inherently unstable form of operation. If the joint pooling of assets in a common cause proves in the long run to be profitable for each of the individual members of the cartel, then they will act formally to merge into one large firm. The cartel then disappears in the merger. On the other hand, if the joint action proves unprofitable for one or more members, the dissatisfied firm or firms will break away from the cartel, and, as we shall see, any such independent action almost always destroys the cartel. The cartel form, therefore, is bound to be highly evanescent and unstable.

If joint action is the most efficient and profitable course for each member, a merger will soon take place. The very fact that each member firm retains its potential independence in the cartel means that a breakup could take place at any time. The cartel will have to assign production totals and quotas to each of the member firms. This is likely to lead first to a good deal of bickering among the firms over the assignment of quotas, with each member attempting to gain a larger share of the assignment. Whatever basis quotas are assigned on will necessarily be arbitrary and will always be subject to challenge by one or more members.13 In a merger, or in the formation of one corporation, the stockholders, by majority vote, form a decision-making organization. In the case of a cartel, however, disputes arise among independent owning entities.

Particularly likely to be restive under the imposed joint action will be the more efficient producers, who will be eager to expand their business rather than be fettered by shackles and quotas to provide shelter for their less efficient competitors. Clearly, the more efficient firms will be the ones to break up the cartel. This will be increasingly true as time goes on and conditions change from the time the cartel was first formed. The quotas, the jealously made agreements that formerly seemed plausible to all, now become intolerable restrictions for the more efficient firms, and the cartel soon breaks up; for once one firm breaks away, expands output and cuts prices, the others must follow.

If the cartel does not break up from within, it is even more likely to do so from without. To the extent that it has earned unusual monopoly profits, outside firms and outside producers will enter the same field of production. Outsiders, in short, rush in to take advantage of the higher profits. But once one strong competitor arises to challenge it, the cartel is doomed. For as the firms in the cartel are bound by production quotas, they must watch new competitors expand and take away sales from them at an accelerating rate. As a result, the cartel must break up under the pressure of the newcomers’ competition.14

• 13As Professor Benham states:
  Firms which have produced a relatively large share of output in the past will demand the same share in the future. Firms which are expanding—owing, for example, to an unusually efficient management—will demand a larger share than they obtained in the past. Firms with a greater “capacity” for producing, as measured by the size of their ... plant will demand a correspondingly greater share.” (Benham, Economics, p. 232)On the difficulties faced by cartels, see also Bjarke Fog, “How Are Cartel Prices Determined?” Journal of Industrial Economics, November, 1956, pp. 16–23; Donald Dewey, Monopoly in Economics and Law (Chicago: Rand McNally, 1959), pp. 14–24; and Wieser, Social Economics, p. 225.
• 14For illustrations of this instability in the history of cartels, see Fairchild, Furniss, and Buck, Elementary Economics, II, 54–55; Charles Norman Fay, Too Much Government, Too Much Taxation (New York: Doubleday, Page, 1923), p. 41, and Big Business and Government (New York: Double-day, Page, 1912); A.D.H. Kaplan, Big Enterprise in a Competitive System (Washington, D.C.: Brookings Institute, 1954), pp. 11–12.

There are other arguments that opponents of cartels use in decrying cartel action. One thesis asserts that there is something wicked about formerly competing firms now uniting, e.g., “restricting competition” or “restraining trade.” Such restriction is supposed to injure the consumers’ freedom of choice. As Hutt phrased it in his previously cited article: “Consumers are free ... and consumers’ sovereignty is realizable, only to the extent to which the power of substitution exists.”

But surely this is a complete misconception of the meaning of freedom. Crusoe and Friday bargaining on a desert island have very little range or power of choice; their power of substitution is limited. Yet if neither man interferes with the other’s person or property, each one is absolutely free. To argue otherwise is to adopt the fallacy of confusing freedom with abundance or range of choice. No individual producer is or can be responsible for other people’s power to substitute. No coffee grower or steel producer, whether acting singly or jointly, is responsible to anyone because he chose not to produce more. If Professor X or consumer Y believes that there are not enough coffee producers in existence or that they are not producing enough, these critics are free to enter the coffee or steel business as they see fit, thus increasing both the number of competitors and the quantity of the good produced.

If consumer demand had really justified more competitors or more of the product or a greater variety of products, then entrepreneurs would have seized the opportunity to profit by satisfying this demand. The fact that this is not being done in any given case demonstrates that no such unsatisfied consumer demand exists. But if this is true, then it follows that no man-made actions can improve the satisfaction of consumer demand more than is being done on the unhampered market. The false confusion of freedom with abundance rests on a failure to distinguish between the conditions given by nature and man-made actions to transform nature. In a state of raw nature, there is no abundance; in fact, there are few, if any, goods at all. Crusoe is absolutely free, and yet on the point of starvation. Of course, it would be pleas-anter for everyone if the nature-given conditions had been far more abundant, but these are vain fantasies. For vis-à-vis nature, this is the best of all possible worlds, because it is the only possible one. Man’s condition on earth is that he must work with the given natural conditions and improve them by human action. It is a reflection on nature, not on the free market, that everyone is “free to starve.”

Economics demonstrates that individuals, entering into mutual relations in a free market in a free society—and only in such relations—can provide abundance for themselves and for the entire society. (“Free,” as always in this book, is used in the interpersonal sense of being unmolested by other persons.) To employ freedom as itself equivalent to abundance obstructs understanding of these truths.

The free market in the world of production may be termed “free competition” or “free entry,” meaning that in a free society anyone is free to compete and produce in any field he chooses. “Free competition” is the application of liberty to the sphere of production: the freedom to buy, sell, and transform one’s property without violent interference by an external power.

We have seen above that in a regime of free competition consumers’ satisfaction will, at any time, tend to be at the maximum possible, given natural conditions. The best forecasters will tend to emerge as the dominant entrepreneurs, and if anyone sees an opportunity passed up, he is free to take advantage of his superior foresight. The regime that tends to maximize consumers’ satisfaction, therefore, is not “pure competition” or “perfect competition” or “competition without cartel action,”15 or anything other than one of simple economic liberty.

Some critics charge that there is no “real” free entry or free competition in a free market. For how can anyone compete or enter a field when an enormous amount of money is needed to invest in efficient plants and firms? It is easy to “enter” the pushcart peddling “industry” because so little capital is required, but it is almost impossible to establish a new automobile firm, with its heavy requirements of capital.

This argument is but another variant of the prevailing confusion between freedom and abundance. In this case, the abundance refers to the money capital which a man has been able to amass. Every man is perfectly free to become a baseball player; but this freedom does not imply that he will be as good a baseball player as the next man. A man’s range or power of action, dependent on his ability and the exchange-value of his property, is something completely distinct from his freedom. As we have said, a free society will in the long run lead to general abundance and is the necessary condition for that abundance. But the two must be kept conceptually distinct, and not confused by phrases such as “real freedom” or “true freedom.” Therefore, the fact that everyone is free to enter an industry does not mean that everyone is able, either in terms of personal qualities or monetary capital, to do so. In industries requiring more capital, fewer people will be able to take advantage of their freedom to set up a new firm than in those requiring less capital, just as fewer laborers will be able to take advantage of freedom of entry in a very highly skilled profession than in a menial position. There is no mystery about either situation.

In fact, the disability is much more relevant in the case of labor than in the case of business competition. What are modern devices such as corporations but means of pooling capital by many people of greater and lesser wealth? The “difficulty” of investing in a new automobile firm should be considered, not in terms of the hundreds of millions of dollars required for total investment, but in terms of the 50 or so dollars required to purchase one share of stock. But while capital can be pooled, beginning with the smallest units, labor ability cannot be pooled.

Sometimes the argument reaches absurd lengths. For example, it is often asserted that now, in this modern world, firms are so large that new people “cannot” compete or enter the industry because the capital cannot be raised. These critics do not seem to see that the aggregate capital and wealth of individuals have advanced along with the increase in wealth required to launch a new enterprise. In fact, these are two sides of the same coin. There is no reason to suppose that it was easier to raise the capital to launch a new retail shop many centuries ago than it is to raise capital for the automobile firm today. If there is enough capital to finance the large firms currently existing, there is enough to finance one more; in fact, capital could be withdrawn from existing large firms and shifted to new ones if there is a need for them. Of course, if the new enterprise would be unprofitable and therefore unserviceable to consumers, it is easy to see why there is reluctance in the free market to embark on the venture.

That there is inequality of ability or monetary income on the free market should surprise no one. As we have seen above, men are not “equal” in their tastes, interests, abilities, or locations. Resources are not distributed “equally” over the earth.16 This inequality or diversity in abilities and distribution of resources insures inequality of income on the free market. And, since a man’s monetary assets are derived from his and his ancestors’ abilities in serving consumers on the market, it is not surprising that there is inequality of monetary wealth as well.

The term “free competition,” then, will prove misleading unless it is interpreted to mean free action, i.e., freedom to compete or not to compete as the individual wills.

It should be clear from the foregoing discussion that there is nothing particularly reprehensible or destructive of consumer freedom in the establishment of a “monopoly price” or in a cartel action. A cartel action, if it is a voluntary one, cannot injure freedom of competition and, if it proves profitable, benefits rather than injures the consumers. It is perfectly consonant with a free society, with individual self-sovereignty, and with the earning of money through serving consumers.

As Benjamin R. Tucker brilliantly concluded in dealing with the problem of cartels and competition:

That the right to cooperate is as unquestionable as the right to compete; the right to compete involves the right to refrain from competition; cooperation is often a method of competition, and competition is always, in the larger view, a method of cooperation ... each is a legitimate, orderly, non-invasive exercise of the individual will under the social law of equal liberty ...

Viewed in the light of these irrefutable propositions, the trust, then, like every other industrial combination endeavoring to do collectively nothing but what each member of the combination might fully endeavor to do individually, is, per se, an unimpeachable institution. To assail or control or deny this form of cooperation on the ground that it is itself a denial of competition is an absurdity. It is an absurdity, because it proves too much. The trust is a denial of competition in no other sense than that in which competition itself is a denial of competition. (Italics ours.) The trust denies competition only by producing and selling more cheaply than those outside of the trust can produce and sell; but in that sense every successful individual competitor also denies competition. ... The fact is that there is one denial of competition which is the right of all, and that there is another denial of competition which is the right of none. All of us, whether out of a trust or in it, have a right to deny competition by competing, but none of us, whether in a trust or out of it, have a right to deny competition by arbitrary decree, by interference with voluntary effort, by forcible suppression of initiative.17

This is not to say, of course, that joint co-operation or combination is necessarily “better than” competition among firms. We simply conclude that the relative extent of areas within or between firms on the free market will be precisely that proportion most conducive to the well-being of consumers and producers alike. This is the same as our previous conclusion that the size of a firm will tend to be established at the level most serviceable to the consumers.18

• 15These terms will be explained below.
• 16Clearly, the very term “equal” is unusable here. What does it mean to say that lawyer Jones’ ability is “equal” to teacher Smith’s?
• 17From his Address to the Civic Federation Conference on Trusts, held in Chicago, September 13–16, 1899, Chicago Conference on Trusts (Chicago, 1900), pp. 253–54, reprinted in Benjamin R. Tucker, Individual Liberty (New York: Vanguard Press, 1926), pp. 248–57. Said a lawyer at the conference:
  The control of prices can be brought about permanently only by such a superiority in the methods of manufacture as will successfully defy competition. Any price established by a combination which enables competitors to make a reasonable profit will soon encourage such competition as will reduce the price. (Azel F. Hatch, Chicago Conference, p. 70) See also the excellent article by A. Leo Weil, ibid., pp. 77–96; and W.P. Potter, ibid., pp. 299–305: F.B. Thurber, ibid., pp. 124–36; Horatio W. Seymour, ibid., pp. 188–93; J. Sterling Morton, ibid., pp. 225–30.
• 18Does our discussion imply, as Dorfman has charged (J. Dorfman, Economic Mind in American Civilization, III, 247), that “whatever is, is right”? We cannot enter into a discussion of the relation of economics to ethics at this point, but we can state briefly that our answer, pertaining to the free market, is a qualified Yes. Specifically, our statement would be: Given the ends on the value scales of individuals, as revealed by their real actions, the maximum satisfaction of those ends for every person is achieved only on the free market. Whether individuals have the “proper” ends or not is another question entirely and cannot be decided by economics.

The myth of the evil cartel has been greatly bolstered by the nightmare image of “one big cartel.” “This is all very well,” one may say, “but suppose that all the firms in the country amalgamated or cartelized into One Big Cartel. What of the horrors then?”

The answer can be obtained by referring to chapter 9, pp. 612ff above, where we saw that the free market placed definite limits on the size of the firm, i.e., the limits of calculability on the market. In order to calculate the profits and losses of each branch, a firm must be able to refer its internal operations to external markets for each of the various factors and intermediate products. When any of these external markets disappears, because all are absorbed within the province of a single firm, calculability disappears, and there is no way for the firm rationally to allocate factors to that specific area. The more these limits are encroached upon, the greater and greater will be the sphere of irrationality, and the more difficult it will be to avoid losses. One big cartel would not be able rationally to allocate producers’ goods at all and hence could not avoid severe losses. Consequently, it could never really be established, and, if tried, would quickly break asunder.

In the production sphere, socialism is equivalent to One Big Cartel, compulsorily organized and controlled by the State.19 Those who advocate socialist “central planning” as the more efficient method of production for consumer wants must answer the question: If this central planning is really more efficient, why has it not been established by profit-seeking individuals on the free market? The fact that One Big Cartel has never been formed voluntarily and that it needs the coercive might of the State to be formed demonstrates that it could not possibly be the most efficient method of satisfying consumer desires.20

Let us assume for a moment that One Big Cartel could be established on the free market and that the calculability problem does not arise. What would the economic consequences be? Would the cartel be able to “exploit” anyone? In the first place, consumers could not be “exploited.” For consumers’ demand curves would still be elastic or inelastic, as the case may be. Since, as we shall see further below, consumers’ demand curves for a firm are always elastic above the free-market equilibrium price, it follows that the cartel will not be able to raise prices or earn more from consumers.

What about the factors? Could not their owners be exploited by the cartel? In the first place, the universal cartel, to be effective, would have to include owners of primary land; otherwise whatever gains they might have might be imputed to land. To put it in its strongest terms, then, could a universal cartel of all land and capital goods “exploit” laborers by systematically paying the latter less than their discounted marginal value products? Could not the members of the cartel agree to pay a very low sum to these workers? If that happened, however, there would be created great opportunities for entrepreneurs either to spring up outside the cartel or to break away from the cartel and profit by hiring workers for a higher wage. This competition would have the double effect of (a) breaking up the universal cartel and (b) tending again to yield to the laborers their marginal product. As long as competition is free, unhampered by governmental restrictions, no universal cartel could either exploit labor or remain universal for any length of time.21

• 19If all the factors and resources are absolutely controlled by the State, it makes little difference if, legally, the State owns these resources. For ownership connotes control, and if the nominal owner is coercively deprived of control, it is the controller who is the real owner of the resource.
• 20The only author, to our knowledge, that looks forward to One (voluntary) Big Cartel as a potential ideal is Heath, Citadel, Market, and Altar, pp. 184–87.
• 21Cf. Mises, Human Action, p. 592.

Before investigating the theory of monopoly price, we must begin by defining monopoly. Despite the fact that monopoly problems occupy an enormous quantity of economic writings, little or no clarity of definition exists.22 There is, in fact, enormous vagueness and confusion on the subject. Very few economists have formulated a coherent, meaningful definition of monopoly.

A common example of a confused definition is: “Monopoly exists when a firm has control over its price.” This definition is a mixture of confusion and absurdity. In the first place, on the free market there is no such thing as “control” over the price in an exchange; in any exchange the price of the sale is voluntarily agreed upon by both parties. No “control” is exercised by either party; the only control is each person’s control over his own actions—stemming from his self-sovereignty—and consequently his control will be over his own decision to enter or not to enter into an exchange at any hypothetical price. There is no direct control over price because price is a mutual phenomenon. On the other hand, each person has absolute control over his own action and therefore over the price which he will attempt to charge for any particular good. Any man can set any price that he wants for any quantity of a good that he sells; the question is whether he can find any buyers at that price. Similarly, of course, any buyer can set any price at which he will purchase a certain good; the question is whether he can find a seller at that price. It is this process, indeed, of mutual bids and offers that yields the daily prices on the market.

There is an all-too-common assumption, however, that if we compare, say, Henry Ford and a small wheat farmer, the two differ enormously in their respective powers of control. It is believed that the wheat farmer finds his price “given” to him by the market, while Ford can “administer” or “set his own” price. The wheat farmer is allegedly subject to the impersonal forces of the market, and ultimately to the consumer, while Ford is, to a greater or lesser extent, the master of his own fate, if not indeed the ruler of the consumers. Further, it is believed that Ford’s “monopoly power” stems from his being “large” in relation to the automobile market, while the farmer is a “pure competitor” because he is “small” compared to the total supply of wheat. Usually, Ford is not considered an “absolute’‘ monopolist, but someone with a vague “degree of monopoly power.”

In the first place, it is completely false to say that the farmer and Ford differ in their control over price. Both have exactly the same degree of control and of noncontrol: i.e., both have absolute control over the quantity they produce and the price which they attempt to get;23 and absolute noncontrol over the price-and-quantity transaction that finally takes place. The farmer is free to ask any price he wants, just as Ford is, and is free to look for a buyer at such a price. He is not in the least compelled to sell his produce to the organized “markets” if he can do better elsewhere. Every producer of every product is free, in a free-market society, to produce as much as he wants of whatever he possesses or can purchase and to try to sell it, at whatever price he can get, to anyone he can find.24 Naturally, every seller, as we have repeatedly stated, will attempt to sell his produce for the highest possible price; similarly, every buyer will attempt to purchase goods at the lowest possible price. It is precisely the voluntary interaction of these buyers and sellers that establishes the entire supply and demand structure for consumers’ and producers’ goods. To accuse Ford or a waterworks or any other producer of “charging whatever the traffic will bear” and to take this as a sign of monopoly is pure nonsense, for this is precisely the action of everyone in the economy: the small wheat farmer, the laborer, the landowner, etc. “Charging whatever the traffic will bear” is simply a rather emotive synonym for charging as high a price as can be freely obtained.

Who officially “sets” the price in any exchange is a completely trivial and irrelevant technological question—a matter of institutional convenience rather than economic analysis. The fact that Macy’s posts its prices each day does not mean that Macy’s has some sort of mysterious “control” of its price over the consumer;25 similarly, that large-scale industrial buyers of raw materials often post their bid prices does not mean that they exercise some sort of extra control over the price obtained by the growers. Rather than acting as a means of control, in fact, posting simply furnishes needed information to all would-be buyers and/or sellers. The process of price determination through the interaction of value scales occurs in precisely the same way regardless of the concrete details and institutional conditions of market arrangements.26

Each individual producer, then, is sovereign over his own actions; he is free to buy, produce, and sell whatever he likes and to whoever will purchase. The farmer is not compelled to sell to any particular market or to any particular company, any more than Ford is compelled to sell to John Brown if he does not wish to do so (say, because he can get a higher price elsewhere). But, as we have seen, in so far as a producer wishes to maximize his monetary return, he does submit himself to the control of consumers, and he sets his output accordingly. This is true of the farmer, of Ford, or of anyone else in the entire economy—landowner, laborer, service-producer, product-owner, etc. Ford, then, has no more “control” over the consumer than the farmer has.

One common objection is that Ford is able to acquire “monopoly power” or “monopolistic power” because his product has a recognized brand name or trade-mark, which the wheat farmer has not. This, however, is surely a case of putting the cart before the horse. The brand name and the wide knowledge of the brand come from consumers’ desire for the product attached to that particular brand and are therefore a result of consumer demand rather than a pre-existing means for some sort of “monopolistic power” over the consumers. In fact, farmer Hiram Jones is perfectly free to stamp the brand name “Hiram Jones Wheat” on his product and attempt to sell it on the market. The fact that he has not done so signifies that it would not be a profitable step in the concrete market condition of his product. The chief point is that in some cases consumers and lower-order entrepreneurs consider each individual brand name as representing a unique product, while in other cases purchasers consider the output of one firm—one product-owner or set of product-owners operating jointly—as identical in use-value with products of other firms. Which situation will occur is entirely dependent on the buyers’ valuations in each concrete case.

Later in this chapter we shall analyze in greater detail the tangled web of fallacies involved in the various theories of “monopolistic competition”; at this point we are attempting to arrive at a definition of monopoly per se. To proceed: There are three possible coherent definitions of monopoly. One is derived from its linguistic roots: monos (only) and polein (to sell), i.e., the only seller of any given good (definition 1). This is certainly a legitimate definition, but it is an extraordinarily broad one. It means that, whenever there is any differentiation at all among individual products, the individual producer and seller is a “monopolist.” John Jones, lawyer, is a “monopolist” over the legal services of John Jones; To m Williams, doctor, is a “monopolist” over his own unique medical services, etc. The owner of the Empire State Building is a “monopolist” over the rental services in his building. This definition, therefore, labels all consumer distinctions between individual products as establishing “monopolies.”

It must be remembered that only consumers can decide whether two commodities offered on the market are one good or two different goods. This issue cannot be settled by a physical inspection of the product. The elemental physical nature of the good may be only one of its properties; in most cases, a brand name, the “good will” of a particular company, or a more pleasant atmosphere in the store will differentiate the product from its rivals in the view of many of its customers. The products then become different goods for the consumers. No one can ever be certain in advance—least of all the economist—whether a commodity sold by A will be treated on the market as homogeneous with the same basic physical good sold by B.27 ,28

Hence, there is hardly any way that definition 1 of “monopoly” can be successfully used. For this definition depends on how we choose a “homogeneous good,” and this can never be decided by an economist. What constitutes a homogeneous commodity” (i.e., an industry)—neckties, bow ties, bow ties with polka dots, etc., or bow ties made by Jones? Only consumers will decide, and they, as different consumers, will be likely to decide differently in each concrete case. Use of definition 1, therefore, will probably reduce to the barren definition of monopoly as each man’s exclusive ownership of his own property—and this, absurdly, would make every single person a monopolist!29

Definition 1, then, is coherent, but highly inexpedient. Its usefulness is very limited, and the term has acquired highly charged emotional connotations from past use of quite different definitions. For reasons detailed below, the term “monopoly” has sinister and evil connotations to most people. “Monopolist” is generally a word of abuse; to apply the term “monopolist” to at least the vast majority of the population and perhaps to every man would have a confusing and even ludicrous effect.

The second definition is related to the first, but differs very significantly. It, in fact, was the original definition of monopoly and the very definition responsible for its sinister connotations in the public mind. Let us turn to its classic expression by the great seventeenth-century jurist, Lord Coke:

A monopoly is an institution or allowance by the king, by his grant, commission, or otherwise ... to any person or persons, bodies politic or corporate, for the sole buying, selling, making, working, or using of anything, whereby any person or persons, bodies politic or corporate, are sought to be restrained of any freedom or liberty that they had before, or hindered in their lawful trade.30

In other words, by this definition, monopoly is a grant of special privilege by the State, reserving a certain area of production to one particular individual or group. Entry into the field is prohibited to others and this prohibition is enforced by the gendarmes of the State.

This definition of monopoly goes back to the common law and acquired great political importance in England during the sixteenth and seventeenth centuries, when an historic struggle took place between libertarians and the Crown over the issue of monopoly as opposed to freedom of production and enterprise. Under this definition of the term, it is not surprising that “monopoly” took on connotations of sinister interest and tyranny in the public mind. The enormous restrictions on production and trade, as well as the establishment by the State of a monopoly caste of favorites, were the objects of vehement attack for several centuries.31

That this definition was formerly important in economic analysis is clear in the following quotation from one of the first American economists, Francis Wayland:

A monopoly is an exclusive right granted to a man, or to a monopoly of men, to employ their labor or capital in some particular manner.32

It is obvious that this type of monopoly can never arise on a free market, unhampered by State interference. In the free economy, then, according to this definition, there can be no “monopoly problem.”33 Many writers have objected that brand names and trade-marks, generally considered as part of the free market, really constitute grants of special privilege by the State. No other firm can “compete” with Hershey chocolates by producing its own product and calling it Hershey chocolates.34 Is this not a State-imposed restriction on freedom of entry? And how can there be “real” freedom of entry under such conditions?

This argument, however, completely misconceives the nature of liberty and of property. Every individual in the free society has a right to ownership of his own self and to the exclusive use of his own property. Included in his property is his name, the linguistic label which is uniquely his and is identified with him. A name is an essential part of a man’s identity and therefore of his property. To say that he is a “monopolist” over his name is saying no more than that he is a “monopolist” over his own will or property, and such an extension of the word “monopolist” to every individual in the world would be an absurd usage of the term. The “governmental” function of defense of person and property, vital to the existence of a free society so long as any people are disposed to invade them, involves the defense of each person’s particular name or trademark against the fraud of forgery or imposture. It means the outlawing of John Smith’s pretending to be Joseph Williams, a prominent lawyer, and selling his own legal advice after stating to clients that he is selling that of Williams. This fraud is not only implicit theft of the consumer, but it is also abusing the property right of Joseph Williams to his unique name and individuality. And the use by some other chocolate firm of the Hershey label would be an equivalent perpetration of an invasive act of fraud and forgery.35

Before adopting this definition of monopoly as the proper one, we must consider a final alternative: the defining of a monopolist as a person who has achieved a monopoly price (definition 3). This definition has never been explicitly set forth, but it has been implicit in the most worthwhile of the neoclassical writings on this subject. It has the merit of focusing attention on the important economic question of monopoly price, its nature and consequences. In this connection, we shall now investigate the neoclassical theory of monopoly price and inquire whether it really has the substance it seems at first glance to possess.

• 22The same confusion exists in the laws concerning monopoly. Despite constitutional warnings against vagueness, the Sherman AntiTrust Act outlaws “monopolizing” actions without once defining the concept. To this day there has been no clear legislative decision concerning what constitutes illegal monopolistic action.
• 23We are, of course, not considering here particular uncertainties of agriculture resulting from climate, etc.
• 24For further discussion, see Murray N. Rothbard, “The Bogey of Administered Prices,” The Freeman, September, 1959, pp. 39–41.
• 25On the contrary, the consumers control Macy’s to the extent that the store desires monetary income. Cf. John W. Scoville and Noel Sargent, eds., Fact and Fancy in the T.N.E.C. Monographs (New York: National Association of Manufacturers, 1942), p. 312.
• 26One reason often given for ascribing “control over price” to Ford and not the small wheat grower is that Ford is so large that his actions affect the market price of his product, while the farmer is so small that his actions do not affect the price. On this, see the critique below of “monopolistic competition” theories.
• 27Economists have often charged, for example, that consumers who will pay a higher price for the same good at a store with a more pleasant atmosphere are acting “irrationally.” Actually, they are by no means doing so, since consumers are buying not just a physical can of beans, but a can of beans sold in a certain store by certain clerks, and these factors may (or may not) make a difference to them. Businessmen are far less motivated by such “nonphysical” considerations (although good will affects their purchases too), not because they are “more rational” than consumers, but because they are not concerned, as consumers are, with their own value scales in deciding their purchases. As we have seen above, businessmen are generally motivated purely by the expected revenue that goods will bring on the market. For an excellent treatment of the definition of “homogeneous product,” see G. Warren Nutter, “The Plateau Demand Curve and Utility Theory,” Journal of Political Economy, December, 1955, pp. 526–28. Also see Alex Hunter, “Product Differentiation and Welfare Economics,” Quarterly Journal of Economics, November, 1955, pp. 533–52.
• 28Professor Lawrence Abbott, in one of the outstanding theoretical works of recent years, demonstrates also that as civilization and the economy advance, products will become more and more differentiated and less and less homogeneous. For one thing, greater differentiation occurs at the consumer than at the producer level, and the expanding economy takes over an increasing proportion of goods once made by the consumer himself and therefore supplies more finished goods than raw materials to the consumer than formerly (bread rather than flour, sweaters rather than wool yarn, etc.). Thus, there is greater opportunity for differentiation.
       Furthermore, to the familiar charge that business advertising tends to create differentiation in the consumer’s mind that is not “really” there, Abbott replies incisively that the reverse is more likely to be true and that advancing civilization increases the consumer’s perception and discrimination of differences of which he was previously ignorant. Writes Abbott:
  as man becomes more civilized, he develops greater powers of perception with regard to quality differences. Subjective homogeneity may exist even when objective homogeneity does not, due to the inability or unwillingness of buyers to perceive differences between almost identical products and discriminate between them. ... As a society matures and education improves, people learn to develop more acute powers of discrimination. Their wants become more detailed. They begin ... to develop a preference, say, not simply for white wine, but for 1948 Chablis. ... People generally tend to underestimate the significance of apparently trivial differences in fields in which they are not expert. An unmusical person may be unwilling to concede that there is any difference in tone between a Steinway and a Chickering piano, being unable himself to detect it. A nongolfer is more likely than a habitual player to believe that all brands of golf balls are virtually alike.” (Lawrence Abbott, Quality and Competition [New York: Columbia University Press, 1955], pp. 18–19, and chap. I)Also see ibid., pp. 45–46 and Edward H. Chamberlin, “Product Heterogeneity and Public Policy” in Towards a More General Theory of Value (New York: Oxford University Press, 1957), p. 96.
  
   
• 29Oddly, despite the reams of literature on monopolies, very few economists have bothered to define monopoly, and these problems have therefore been overlooked. Mrs. Robinson, in the beginning of her famous Economics of Imperfect Competition, saw the difficulty and then evaded the issue throughout the rest of the book. She concedes that under careful analysis either a monopoly would be defined as every producer’s control over his own product or monopoly could simply not exist on the free market at all. For competition exists among all products for the consumer’s dollar, while very few articles are rigorously homogeneous. Mrs. Robinson then tries to evade the issue by falling back on “common sense” and defining monopoly as existing where there is a “marked gap” between the product and other substitutes the consumer may buy. But this will not do. Economics, in the first place, can establish no quantitative laws, so that there is nothing we can say about sizes of gaps. When does the gap become “marked”? Secondly, even if such “laws” were meaningful, there would be no way to measure the cross-elasticities of demands, the elasticity of substitution between the products, etc. These elasticities of substitution are changing all the time and could not be measured successfully even if they all remained constant, since supply conditions are always changing. No laboratory exists where all economic factors may be held fixed. After this point in her discussion, Mrs. Robinson practically forgets all about heterogeneity of product. Joan Robinson, Economics of Imperfect Competition (London: Macmillan & Co., 1933), pp. 4–6. Also cf. Hunter, “Product Differentiation and Welfare Economics,” pp. 547ff.
• 30Quoted in Richard T. Ely and others, Outlines of Economics (3rd ed.; New York: Macmillan & Co., 1917), pp. 190–91. Blackstone gave almost the same definition and called monopoly a “license or privilege allowed by the king.” Also see A. Leo Weil, Chicago Conference, p. 86.
• 31The onrush of monopoly grants by Queen Elizabeth I and Charles I provoked resistance from even the Crown’s subservient judges, and, in 1624, Parliament declared that “all monopolies are altogether contrary to the laws of this realm and are and shall be void.” This antimonopoly spirit was deeply ingrained in America, and the original Maryland constitution declared that monopolies were “odious” and “contrary to ... principles of commerce.” Ely, Outlines of Economics, pp. 191–92. Also see Francis A. Walker, Political Economy (New York: Henry Holt & Co., 1911), pp. 483–84.
• 32Francis Wayland, The Elements of Political Economy (Boston: Gould & Lincoln, 1854), p. 116. Cf. this later definition by Arthur Latham Perry: “A monopoly, as the derivation of the word implies, is a restriction imposed by a government upon the sale of certain services.” Perry, Political Economy, p. 190. In recent years this definition has all but died out. A rare current example is: “Monopoly exists when government by its coercive power limits to a particular person or organization, or combination of them, the right to sell particular goods or services. ... It is an infringement of the right to make a living.” Heath, Citadel, Market, and Altar, p. 237.
• 33As Weil stated: “Monopolies cannot be created by association or agreement. We now have no letters patent giving exclusive right. ... It is therefore wholly unjustifiable to use the term monopoly as applied to the effects of industrial consolidation.” Weil, Chicago Conference, pp. 86 f.
• 34For example, Edward H. Chamberlin, Theory of Monopolistic Competition (7th ed.; Cambridge: Harvard University Press, 1956), pp. 57 ff., 270 ff.
• 35It might be objected that these concepts are vague and give rise to problems. Problems do arise, but they are not insuperable. Thus, if one man is named Joseph Williams, does this preclude anyone else from having the same name, and is any future Joseph Williams to be considered a criminal? The answer is clearly: No, so long as there is no attempt by one to impersonate the other. In short, it is not so much the name per se which an individual owns, but the name as an affiliate of his person.

In previous sections36 we have refereed to a monopoly price as one established either by a monopolist or by a cartel of producers. At this point we must investigate the theory more closely. A succinct definition of monopoly price has been supplied by Mises:

If conditions are such that the monopolist can secure higher net proceeds by selling a smaller quantity of his product at a higher price than by selling a greater quantity of his supply at a lower price, there emerges a monopoly price higher than the potential market price would have been in the absence of monopoly.37

The monopoly price doctrine may be summed up as follows: A certain quantity of a good, when produced and sold, yields a competitive price on the market. A monopolist or a cartel of firms can, if the demand curve is inelastic at the competitive-price point, restrict sales and raise the price, to arrive at the point of maximum returns. If, on the other hand, the demand curve as it presents itself to the monopolist or cartel is elastic at the competitive-price point, the monopolist will not restrict sales to attain a higher price. As a result, as Mises points out, there is no need to be concerned with the “monopolist” (in the sense of definition 1 above); whether or not he is the sole producer of a commodity is unimportant and irrelevant for catallactic problems. It becomes important only if the configuration of his demand curve enables him to restrict sales and achieve a higher income at a monopoly price.38 If he learns about the inelastic demand curve after he has erroneously produced too great a stock, he must destroy or withhold part of his stock; after that, he restricts production of the commodity to the most remunerative level.

The monopoly price analysis is portrayed in the diagram in Figure 67. The basic assumption, usually only implicit, is that there is some identifiable stock, say 0A, and some identifiable market price, say, AC, which will result from competitive conditions then represents the stock line under “competition.” Then, according to the theory, if the demand curve is elastic above this price, there will be no occasion to restrict sales and obtain a higher, or “monopoly,” price. Such a demand curve is DD. On the other hand, if the demand curve is inelastic above the competitive-price point, as in D′D′, it will pay the monopolist to restrict sales to, say, 0A′(stock line represented by A′B′ ) and achieve a monopoly price, A′M. This would yield the maximum monetary income for the monopolist.39

The inelastic demand curve, giving rise to an opportunity to monopolize, may present itself either to a single monopolist of a given product or to “an industry as a whole” when organized into a cartel of the different producers. In the latter case, the demand curve, as it presents itself to each firm, is elastic. At the competitive price, if one firm raises its price, the customers preponderantly shift to purchasing from its competitors. On the other hand, if the firms are cartelized, in many cases the lesser range of substitution by consumers would render the demand curve, as presented to the cartel, inelastic. This condition serves as the impetus to the formation of the cartels studied above.

• 36For clear expositions of the theory of monopoly price, see Mises, Socialism, pp. 385–92, and Human Action, pp. 278, 354–84; Menger, Principles of Economics, pp. 207–25; Fetter, Economic Principles, pp. 73–85, 381–85; Harry Gunnison Brown, “Competitive and Monopolistic Price-Making,” Quarterly Journal of Economics, XXII (1908), pp. 626–39; and Wieser, Social Economics, pp. 204, 211–12. In this particular case, “neoclassical” includes “Austrian.”
• 37Mises, Human Action, p. 278.
• 38Thus:
  The mere existence of monopoly does not mean anything. The publisher of a copyright book is a monopolist. But he may not be able to sell a single copy, no matter how low the price he asks. Not every price at which a monopolist sells a monopolized commodity is a monopoly price. Monopoly prices are only prices at which it is more advantageous for the monopolist to restrict the total amount to be sold than to expand sales to the limit which a competitive market would allow. (Mises, Human Action, p. 356)
• 39Here we abstract from monetary expense or “money cost” considerations. When the producer is considering sale of already produced stock, such past monetary expenses are completely irrelevant. When he is considering present and future production for future sale, present money-cost considerations become important, and the producer strives for maximum net returns. At any rate, some A′point will be set, whatever the actual configuration of money costs, unless, indeed, average money costs are falling rapidly enough in this region to make the “competitive point” the most remunerative after all. It is curious that it is precisely the condition of falling average cost that has given the most worry to anti-monopoly writers, who have been concerned that one given firm in any industry might grow to “monopoly” size because of this condition. And yet, if it is “monopoly price,” not monopoly, that is particularly important, such worry is clearly unfounded. On the general unimportance of cost considerations in monopoly theory, see Chamberlin, Theory of Monopolistic Competition, pp. 193–94.

Up to this point we have explained the neoclassical theory of monopoly price and have pointed out various misconceptions about its consequences. We have also shown that there is nothing bad about monopoly price and that it constitutes no infringement on any legitimate interpretation of individuals’ sovereignty or even of consumers’ sovereignty. Yet there has been a great deficiency in the economic literature on this whole issue: a failure to realize the illusion in the entire concept of monopoly price.53 If we turn to the definition of monopoly price on page 672 above, or the diagrammatic interpretation in Figure 67, we find that there is assumed to be a “competitive price,” to which a higher “monopoly price”—an outcome of restrictive action—is contrasted. Yet, if we analyze the matter closely, it becomes evident that the entire contrast is an illusion. In the market, there is no discernible, identifiable competitive price, and therefore there is no way of distinguishing, even conceptually, any given price as a “monopoly price.” The alleged “competitive price” can be identified neither by the producer himself nor by the disinterested observer.

Let us take a firm which is considering the production of a certain good. The firm can be a “monopolist” in the sense of producing a unique good, or it can be an “oligopolist” among a few firms. Whatever its position, it is irrelevant, because we are interested only in whether or not it can achieve a monopoly price as compared to a competitive price. This, in turn, depends on the elasticity of the demand curve as it is presented to the firm over a certain range. Let us say that the firm finds itself with a certain demand curve (Figure 68).

The producer must decide how much of the good to produce and sell in a future period, i.e., at the time when this demand curve will become relevant. He will set his output at whatever point is expected to maximize his monetary earnings (other psychic factors being equal), taking into consideration the necessary monetary expenses of production for each quantity, i.e., the amounts that can be produced for each amount of money invested. As an entrepreneur he will attempt to maximize profits, as a labor-owner to maximize his monetary income, as a landowner to maximize his monetary income from that factor.

On the basis of this logic of action, the producer sets his investment to produce a certain stock, or as a factor-owner to sell a certain amount of service, say 0S. Assuming that he has correctly estimated his demand curve, the intersection of the two will establish the market-equilibrium price, 0P or SA.

The critical question is this: Is the market price, 0P, a “competitive price” or a “monopoly price”? The answer is that there is no way of knowing. Contrary to the assumptions of the theory, there is no “competitive price” which is clearly established somewhere, and which we may compare 0P with. Neither does the elasticity of the demand curve establish any criterion. Even if all the difficulties of discovering and identifying the demand curve were waived (and this identifying can be done, of course, only by the producer himself—and only in a tentative fashion), we have seen that the price, if accurately estimated, will always be set by the seller so that the range above the market price will be elastic. How is anyone, including the producer himself, to know whether or not this market price is competitive or monopoly?

Suppose that, after having produced 0S, the producer decides that he will make more money if he produces less of the good in the next period. Is the higher price to be gained from such a cutback necessarily a “monopoly price”? Why could it not just as well be a movement from a subcompetitive price to a competitive price? In the real world, a demand curve is not simply “given” to a producer, but must be estimated and discovered. If a producer has produced too much in one period and, in order to earn more income, produces less in the next period, this is all that can be said about the action. For there is no criterion that will determine whether or not he is moving from a price below the alleged “competitive price” or moving above this price. Thus, we cannot use “restriction of production” as the test of monopoly vs. competitive price. A movement from a subcompetitive to a competitive price also involves a “restriction” of production of this good, coupled, of course, with an expansion of production in other lines by the released factors. There is no way whatever to distinguish such a “restriction” and corollary expansion from the alleged “monopoly-price” situation.

If the “restriction” is accompanied by increased leisure for the owner of a labor factor rather than increased production of some other good on the market, it is still an expansion of the yield of a consumers’ good—leisure. There is still no way of determining whether the “restriction” resulted in a “monopoly” or a “competitive” price or to what extent the motive of increased leisure was involved.

To define a monopoly price as a price attained by selling a smaller quantity of a product at a higher price is therefore meaningless, since the same definition applies to the “competitive price” as compared with a subcompetitive price. There is no way to define “monopoly price” because there is also no way of defining the “competitive price” to which the former must refer.

Many writers have attempted to establish some criterion for distinguishing a monopoly price from a competitive price. Some call the monopoly price that price achieving permanent, long-run “monopoly profits” for a firm. This is contrasted to the “competitive price,” at which, in the evenly rotating economy, profits disappear. Yet, as we have already seen, there are never permanent monopoly profits, but only monopoly gains to owners of land or labor factors. Money costs to the entrepreneur, who must buy factors of production, will tend to equal money revenues in the evenly rotating economy, whether the price is competitive or monopoly. The monopoly gains, however, are secured as income to labor or land factors. There is therefore never any identifiable element that could provide a criterion of the absence of monopoly gain. With a monopoly gain, the factor’s income is greater; without it, it is less. But where is the criterion for distinguishing this from a change in the income of a factor for “legitimate” demand and supply reasons? How to distinguish a “monopoly gain” from a simple increase in factor income?

Another theory attempts to define a monopoly gain as income to a factor greater than that received by another, similar factor. Thus, if Mickey Mantle receives a greater monetary income than another outfielder, that difference represents the “monopoly gain” resulting from his natural monopoly of unique ability. The crucial difficulty with this approach is that it implicitly adopts the old classical fallacy of treating all the various labor factors, as well as all the various land factors, as somehow homogeneous. If all the labor factors are somehow one good, then the variations in income accruing to each must be explained by reference to some sort of “monopolistic” or other mysterious element. Yet a good with a homogeneous supply is only a good if all its units are interchangeable, as we saw at the beginning of this work. But the very fact that Mantle and the other outfielder are treated differently in the market signifies that they are selling different, not the same, goods. Just as in tangible commodities, so in personal labor services (whether sold to other producers or to consumers directly): each seller may be selling a unique good, and yet he is “competing” with more or less close substitutability against all the other sellers for the purchases of consumers (or lower-order producers). But since each good or service is unique, we cannot state that the difference between the prices of any two represents any sort of “monopoly price”; monopoly price vis-à-vis competitive price can refer only to alternative prices of the same good. Mickey Mantle may indeed be a person of unique ability and a “monopolist” (as is everyone else) over the disposition of his own talents, but whether or not he is achieving a “monopoly price” (and therefore a monopoly gain) from his service can never be determined.

This analysis is equally applicable to land. It is just as illegitimate to dub the difference between the income of the site of the Empire State Building and that of a rural general store a “monopoly gain” as to apply the same concept to the additional income of Mickey Mantle. The fact that both areas are land makes them no more homogeneous on the market than the fact that Mickey Mantle and Joe Doakes are both baseball players or, in a broader category, both laborers. The fact that each is remunerated at a different price and income signifies that they are considered different on the market. To treat differential gains for different goods as instances of “monopoly gain” is to render the term completely devoid of significance.

Neither is the attempt to establish the existence of idle resources as a criterion of monopolistic “withholding” of factors any more valid. Idle labor resources will always mean increased leisure, and therefore the leisure motive will always be intertwined with any alleged “monopolistic” motive. It therefore becomes impossible to separate them. The existence of idle land may always be due to the fact of the relative scarcity of labor as compared with available land. This relative scarcity makes it more serviceable to consumers, and hence more remunerative, to invest labor in certain areas of land, and not in others. The land areas least productive of potential earnings will be forced to lie idle, the amount depending on how much labor supply is available. We must stress that all “land” (i.e., every nature-given resource) is involved here, including urban sites and natural resources as well as agricultural areas. The allocation of labor to land is comparable to Crusoe’s having to decide on which plot of ground to build his shelter or in which stream to fish. Because of the natural, as well as voluntary, limitations on his labor effort, that area of land on which he produces the highest utility will be cultivated, and the rest will be left idle. This element also cannot be separated from any alleged monopolistic element. For if someone objects that the “withheld” land is of the same quality as the land in use and therefore that monopolistic restriction is afoot, it may always be answered that the two pieces of land necessarily differ—in location if in no other attribute—and that the very fact that the two are treated differently on the market tends to confirm this difference. By what mystical criterion, then, does some outsider assert that the two lands are economically identical? In the case of capital goods it is also true that the limitations of available labor supply will often make idle those goods which are expected to yield a lesser return as compared with other capital that can be employed by labor. The difference here is that idle capital goods are always the result of previous error by producers, since no such idleness would be necessary if the present events—demands, prices, supplies—had all been forecast correctly by all the producers. But though error is always unfortunate, the keeping idle of unremunerative capital is the best course to follow; it is making the best of the existing situation, not of the situation that would have obtained if foresight had been perfect. In the evenly rotating economy, of course, there would never be idle capital goods; there would be only idle land and idle labor (to the extent that leisure is voluntarily preferred to money income). In no case is it possible to establish an identification of purely “monopolistic” withholding action.

A similar proposed criterion for distinguishing a monopoly price from a competitive price runs as follows: In the competitive case, the marginal factor produces no rent; in the monopoly-price case, however, use of the monopolized factor is restricted, so that its marginal use does yield a rent. We may answer, in the first place, that there is no reason to say that every factor will, in the competitive case, always be worked until it yields no rent. On the contrary, every factor is worked in a region of diminishing but positive marginal product, not zero product. Indeed, as we have shown above, if the value product of a unit of a factor is zero, it will not be used at all. Every unit of a factor is used because it yields a value product; otherwise, it would not be used in production. And if it yields a value product, it will earn its discounted value product in income.

It is clear, further, that this criterion could never be applied to a monopolized labor factor. What labor factor earns a zero wage in a competitive market? Yet many monopolized (definition 1) factors are labor factors—such as brand names, unique services, decision-making ability in business, etc. Land is more abundant than labor, and therefore some lands will be idle and receive zero rent. Even here, however, it is only the submarginal lands that receive no rent; the marginal lands in use receive some rent, however small.

Furthermore, even if it were true that marginal lands received zero rent, this would be irrelevant for our discussion. It would apply only to “poorer” or “inferior,” as compared with more productive, lands. But a criterion of monopoly or competitive price must apply, not to factors of different quality, but to homogeneous factors. The monopoly-price problem is one of a supply of units of one homogeneous factor, not of various different factors within the one broad category, land. In this case, as we have stated, every factor will earn some value product in a diminishing zone, and not zero.54

Since, in the “competitive” case, all factors in use will earn some rent, there is still no basis for distinguishing a “competitive” from a “monopoly” price.

Another very common attempt to distinguish between a competitive and a monopoly price rests on the alleged ideal of “marginal-cost pricing.” Failure to set prices equal to marginal cost is considered an example of “monopoly” behavior. There are several fatal errors in this analysis. In the first place, as we shall see further below, there can be no such thing as “pure competition,” that hypothetical state in which the demand curve for the output of a firm is infinitely elastic. Only in this never-never land does price equal marginal cost in equilibrium. Otherwise, marginal cost equals “marginal revenue” in the ERE, i.e., the revenue that a given increment of cost will yield to the firm. (Only if the demand curve were perfectly elastic would marginal revenue boil down to “average revenue,” or price.) There is now no way of distinguishing “competitive” from “monopolistic” situations, since marginal cost will in all cases tend to equal marginal revenue.

Secondly, this equality is only a tendency that results from competition; it is not a precondition of competition. It is a property of the equilibrium of the ERE that the market economy always tends toward, but never can reach. To uphold it as a “welfare ideal” for the real world, an ideal with which to gauge existing conditions, as so many economists have done, is to misconceive completely the nature of the market and of economics itself.

Thirdly, there is no reason why firms should ever deliberately balk at being guided by marginal-cost considerations. Their aiming at maximum net revenue will see to that. But there is no one simple, determinate “marginal cost,” because, as we have seen above, there is no one identifiable “short-run” period, such as is assumed by current theory. The firm faces a gamut of variable periods of time for the investment and use of factors, and its pricing and output decisions depend on the future period of time which it is considering. Is it buying a new machine, or is it selling old output piled up in inventory? The marginal cost considerations will differ in the two cases.

It is clear that it is impossible to distinguish competitive or monopolistic behavior on the part of a firm. It is no more possible to speak of monopoly price in the case of a cartel. In the first place, a cartel, when it sets the amount of its production in advance for the next period, is in exactly the same position as the single firm: it sets the amount of its production at that point which it believes will maximize its monetary earnings. There is still no way of distinguishing a monopoly from a competitive or a subcompetitive price.

Furthermore, we have seen that there is no essential difference between a cartel and a merger, or between a merger of producers with money assets and a merger of producers with previously existing capital assets to form a partnership or corporation. As a result of the tradition, still in evidence in the literature, of identifying a firm with a single individual entrepreneur or producer, we tend to overlook the fact that most existing firms are constituted through the voluntary merging of monetary assets. To pursue the similarity further, suppose that firm A wishes to expand its production. Is there an essential difference between its buying new land and building a new plant, and its purchasing an old plant owned by another firm? Yet the latter case, if the plant constitutes all the assets of firm B, will involve, in fact, a merger of the two firms. The degree of merger or the degree of independence in the various parts of the productive system will depend entirely upon the most remunerative method for the producers concerned. This will also be the method most serviceable to the consumers. And there is no way of distinguishing between a cartel, a merger, and one larger firm.

It might be objected at this point that there are many useful, indeed indispensable, theoretical concepts which cannot be practically isolated in their pure form in the real world. Thus, the interest rate, in practice, is not strictly separable from profits, and the various components of the interest rate are not separable in practice, but they can be separated in analysis. But these concepts are each definable in terms independent of one another and of the complex reality being investigated. Thus, the “pure” interest rate may never exist in practice, but the market interest rate is theoretically analyzable into its components: pure interest rate, price-expectation component, risk component. They are so analyzable because each of these components is definable independently of the complex market-interest rate and, moreover, is independently deducible from the axioms of praxeology. The existence and determination of the pure interest rate is strictly deducible from the principles of human action, time preference, etc. Each of these components, then, is arrived at a priori in relation to the concrete market interest rate itself and is deduced from previously established truths about human action. In all such cases, the components are definable through independently established theoretical criteria. In this case, however, there is, as we have seen, no independent way by which we can define and distinguish a “monopoly price” from a “competitive price.” There is no prior rule available to guide us in framing the distinction. To say that the monopoly price is formed when the configuration of demand is inelastic above the competitive price tells us nothing because we have no way of independently defining the “competitive price.”

To reiterate, the seemingly unidentifiable elements in other areas of economic theory are independently deducible from the axioms of human action. Time preference, uncertainty, changes in purchasing power, etc., can all be independently established by prior reasoning, and their interrelations analyzed through the method of mental constructions. The evenly rotating economy can be seen as the ever-moving goal of the market, through our analysis of the direction of action. But here, all that we know from prior analysis of human action is that individuals co-operate on the market to sell and purchase factors, transform them into products, and expect to sell the products to others—eventually to final consumers; and that the factors are sold, and entrepreneurs undertake the production, in order to obtain monetary income from the sale of their product. How much any given person will produce of any given good or service is determined by his expectations of greatest monetary income, other psychic considerations being equal. But nowhere in the analysis of such action is it possible to separate conceptually an alleged “restrictive” from a nonrestrictive act, and nowhere is it possible to define “competitive price” in any way that would differ from the free-market price. Similarly, there is no way of conceptually distinguishing “monopoly price” from free-market price. But if a concept has no possible grounding in reality, then it is an empty and illusory, and not a meaningful, concept. On the free market there is no way of distinguishing a “monopoly price” from a “competitive price” or a “subcompetitive price” or of establishing any changes as movements from one to the other. No criteria can be found for making such distinctions. The concept of monopoly price as distinguished from competitive price is therefore untenable. We can speak only of the free-market price.

Thus, we conclude not only that there is nothing “wrong” with “monopoly price,” but also that the entire concept is meaningless. There is a great deal of “monopoly” in the sense of a single owner of a unique commodity or service (definition 1). But we have seen that this is an inappropriate term and, further, that it has no catallactic significance. A “monopoly” would be of importance only if it led to a monopoly price, and we have seen that there is no such thing as a monopoly price or a competitive price on the market. There is only the “free-market price.”

• 53We have found in the literature only one hint of the discovery of this illusion: Scoville and Sargent, Fact and Fancy in the T.N.E.C. Monographs, p. 302. See also Bradford B. Smith, “Monopoly and Competition,” Ideas on Liberty, No. 3, November, 1955, pp. 66 ff.
• 54In the case of depletable natural resources, any allocation of use necessarily involves the use of some of the resource in the present (even considering the resource as homogeneous) and the “withholding” of the remainder for allocation to future use. But there is no way of conceptually distinguishing such withholding from “monopolistic” withholding and therefore of discussing a “monopoly price.”

It might be asserted that labor unions, in exacting higher wage rates on the free market, are achieving identifiable monopoly prices. For here two identifiable contrasting situations exist: (a) where individuals sell their labor themselves; and (b) where they are members of labor unions which bargain on their labor for them. Furthermore, it is clear that while cartels, to be successful, must be economically more efficient in serving the consumer, no such justification can be found for unions. Since it is always the individual laborer who works, and since efficiency in organization comes from management hired for the task, forming unions never improves the productivity of an individual’s work.

It is true that a union provides an identifiable situation. However, it is not true that a union wage rate could ever be called a monopoly price.58 For the characteristic of the monopolist is precisely that he monopolizes a factor or commodity. To obtain a monopoly price, he sells only part of his supply and withholds selling the other part, because selling a lower quantity raises the price on an inelastic demand curve. It is the unique characteristic of labor in a free society, however, that it cannot be monopolized. Each individual is a self-owner and cannot be owned by another individual or group. Therefore, in the labor field, no one man or group can own the total supply and withhold part of it from the market. Each man owns himself.

Let us call the total supply of a monopolist’s product P. When he withholds W units in order to obtain a monopoly for P – W, the increased revenue he obtains from P – W must more than compensate him for the loss of revenue he suffers from not selling W. A monopolist’s action is always limited by loss of revenue from the withheld supply. But in the case of labor unions, this limitation does not apply. Since each man owns himself, the “withheld” suppliers are different people from the ones getting the increased income. If a union, in one way or another, achieves a higher price than its members could command by individual sales, its action is not checked by the loss of revenue suffered by the “withheld” laborers. If a union achieves a higher wage, some laborers are earning a higher price, while others are excluded from the market and lose the revenue they would have obtained. Such a higher price (wage) is called a restrictionist price.

A restrictionist price, by any sensible criterion, is “worse” than a “monopoly price.” Since the restrictionist union does not have to worry about the laborers who are excluded and suffers no revenue loss from such exclusion, restrictionist action is not curbed by the elasticity of the demand curve for labor. For unions need only maximize the net income of the working members, or, indeed, of the union bureaucracy itself.59

How may a union achieve a restrictionist price? Figure 69 will illustrate. The demand curve is the demand curve for a labor factor in an industry. DD is the demand curve for the labor in the industry; SS, the supply curve. Both curves relate the number of laborers on the horizontal axis and the wage rate on the vertical. At the market equilibrium, the supply of laborers offering their work in the industry will intersect the demand for the labor, at number of laborers 0A and wage rate AB. Now, suppose that a union enters this labor market, and the union decides that its members will insist on a higher wage than AB, say 0W. What unions do, in fact, is to insist upon a certain wage rate as a minimum below which they will not work in that industry.

The effect of the union decision is to shift the supply curve of labor available to the industry to a horizontal one at the wage rate WW′, rising after it joins the SS curve at E. The minimum reserve price of labor for this industry has risen, and has risen for all laborers, so that there are no longer laborers with lower reserve prices who would be willing to work for less. With a supply curve changing to WE, the new equilibrium point will be C instead of B. The number of workers hired will be WC, and the wage rate 0W.The union has thus achieved a restrictionist wage rate. It can be achieved regardless of the shape of the demand curve, granting only that it is falling. The demand curve falls because of the diminishing DMVP of a factor and the diminishing marginal utility of the product. But a sacrifice has been made—specifically, there are now fewer workers hired, by an amount CF. What happens to them? These discharged workers are the main losers in this procedure. Since the union represents the remaining workers, it does not have to concern itself, as the monopolist would, with the fate of these workers. At best, they must shift (being a nonspecific factor, they can do so) to some other—nonunionized—industry. The trouble is, however, that the workers are less suited to the new industry. Their having been in the now unionized industry implies that their DMVP in that industry was higher than in the industry to which they must shift; consequently, their wage rate is now lower. Moreover, their entry into the other industry depresses the wage rates of the workers already there.

Consequently, at best, a union can achieve a higher, restrictionist wage rate for its members only at the expense of lowering the wage rates of all other workers in the economy. Production efforts in the economy are also distorted. But, in addition, the wider the scope of union activity and restrictionism in the economy, the more difficult it will be for workers to shift their locations and occupations to find nonunionized havens in which to work. And more and more the tendency will be for the displaced workers to remain permanently or quasi-permanently unemployed, eager to work but unable to find nonrestricted opportunities for employment. The greater the scope of unionism, the more a permanent mass of unemployment will tend to develop.

Unions try as hard as they can to plug all the “loop-holes” of nonunionism, to close all the escape hatches where the dispossessed workmen can find jobs. This is termed “ending the unfair competition of nonunion, low-wage labor.” A universal union control and restrictionism would mean permanent mass unemployment, growing ever greater in proportion to the degree that the union exacted its restrictions.

It is a common myth that only the old-style “craft” unions, which deliberately restrict their occupational group to highly skilled trades with relatively few numbers, can restrict the supply of labor. They often maintain stringent standards of membership and numerous devices to cut down the supply of labor entering the trade. This direct restriction of supply doubtless makes it easier to obtain higher wage rates for the remaining workers. But it is highly misleading to believe that the newer-style “industrial” unions do not restrict supply. The fact that they welcome as many members in an industry as possible cloaks their restrictionist policy. The crucial point is that the unions insist on a minimum wage rate higher than what would be achieved for the given labor factor without the union. By doing so, as we saw in Figure 69, they necessarily cut the number of men whom the employer can hire. Ergo, the consequence of their policy is to restrict the supply of labor, while at the same time they can piously maintain that they are inclusive and democratic, in contrast to the snobbish “aristocrats” of craft unionism.

In fact, the consequences of industrial unionism are more devastating than those of craft unionism. For the craft unions, being small in scope, displace and lower the wages of only a few workers. The industrial unions, larger and more inclusive, depress wages and displace workers on a large scale and, what is even more important, can cause permanent mass unemployment.60

There is another reason why an openly restrictionist union will cause less unemployment than a more liberal one. For the union which restricts its membership serves open warning on workers hoping to enter the industry that they are barred from joining the union. As a result, they will swiftly look elsewhere, where jobs can be found. Suppose the union is democratic, however, and open to all. Then, its activities can be described by the above figure; it has achieved a higher wage rate 0W for its working members. But such a wage rate, as can be seen on the SS curve, attracts more workers into the industry. In other words, while 0A workers were hired by the industry at the previous (nonunion) wage AB, now the union has won a wage 0W. At this wage, only WC workers can be employed in the industry. But this wage also attracts more workers than before, namely WE. As a result, instead of only CF workers becoming unemployed from the union’s restrictionist wage rate, more—CE—will be unemployed in the industry.

Thus, an open union does not have the one virtue of the closed union—rapid repulsion of the displaced workers from the unionized industry. Instead, it attracts even more workers into the industry, thus aggravating and swelling the amount of unemployment. With market signals distorted, it will take a much longer time for workers to realize that no jobs are available in the industry. The larger the scope of open unions in the economy, and the greater the differential between their restrictionist wage rates and the market wage rates, the more dangerous will the unemployment problem become.

The unemployment and the misemployment of labor, caused by restrictionist wage rates need not always be directly visible. Thus, an industry might be particularly profitable and prosperous, either as a result of a rise in consumer demand for the product or from a cost-lowering innovation in the productive process. In the absence of unions, the industry would expand and hire more workers in response to the new market conditions. But if a union imposes a restrictionist wage rate, it may not cause the unemployment of any current workers in the industry; it may, instead, simply prevent the industry from expanding in response to the requirements of consumer demand and the conditions of the market. Here, in short, the union destroys potential jobs in the making and imposes a misallocation of production by preventing expansion. It is true that, without the union, the industry will bid up wage rates in the process of expansion; but if unions impose a higher wage rate at the beginning, the expansion will not occur.61

Some opponents of unionism go to the extreme of maintaining that unions can never be free-market phenomena and are always “monopolistic” or coercive institutions. Although this might be true in actual practice, it is not necessarily true. It is very possible that labor unions might arise on the free market and even gain restrictionist wage rates.

How can unions achieve restrictionist wage rates on the free market? The answer can be found by considering the displaced workers. The key problem is: Why do the workers let themselves be displaced by the union’s WW minimum? Since they were willing to work for less before, why do they now meekly agree to being fired and looking for a poorer-paying job? Why do some remain content to continue in a quasi-permanent pocket of unemployment in an industry, waiting to be hired at the excessively high rate? The only answer, in the absence of coercion, is that they have adopted on a commandingly high place on their value scales the goal of not undercutting union wage rates. Unions, naturally, are most anxious to persuade workers, both union and nonunion, as well as the general public, to believe strongly in the sinfulness of undercutting union wage rates. This is shown most clearly in those situations where union members refuse to continue working for a firm at a wage rate below a certain minimum (or on other terms of employment). This situation is known as a strike. The most curious thing about a strike is that the unions have been able to spread the belief throughout society that the striking members are still “really” working for the company even when they are deliberately and proudly refusing to do so. The natural answer of the employer, of course, is to turn somewhere else and to hire laborers who are willing to work on the terms offered. Yet unions have been remarkably successful in spreading the idea through society that anyone who accepts such an offer—the “strikebreaker”—is the lowest form of human life.

To the extent, then, that nonunion workers feel ashamed or guilty about “strike-breaking” or other forms of undercutting union-proclaimed wage scales, the displaced or unemployed workers agree to their own fate. These workers, in effect, are being displaced to poorer and less satisfying jobs voluntarily and remain unemployed for long stretches of time voluntarily. It is voluntary because that is the consequence of their voluntary acceptance of the mystique of “not crossing the picket line” or of not being a strikebreaker.

The economist qua economist can have no quarrel with a man who voluntarily comes to the conclusion that it is more important to preserve union solidarity than to have a good job. But there is one thing an economist can do: he can point out to the worker the consequences of his voluntary decision. There are undoubtedly countless numbers of workers who do not realize that their refusal to cross a picket line, their “sticking to the union,” may result in their losing their jobs and remaining unemployed. They do not realize this because to do so requires knowledge of a chain of praxeological reasoning (such as we have been following here). The consumer who purchases directly enjoyable services does not have to be enlightened by economists; he needs no lengthy chain of reasoning to know that his clothing or car or food is enjoyable or serviceable. He can see each perform its service before his eyes. Similarly, the capitalist-entrepreneur does not need the economist to tell him what acts will be profitable or unprofitable. He can see and test them by means of his profits or losses. But for a grasp of the consequences of acts of governmental intervention in the market or of union activity, knowledge of praxeology is requisite.62

Economics cannot itself decide on ethical judgments. But in order for anyone to make ethical judgments rationally, he must know the consequences of his various alternative courses of action. In questions of government intervention or union action, economics supplies the knowledge of these consequences. Knowledge of economics is therefore necessary, though not sufficient, for making a rational ethical judgment in these fields. As for unions, the consequences of their activity, when discovered (e.g., displacement or unemployment for oneself or others), will be considered unfortunate by most people. Therefore, it is certain that when knowledge of these consequences becomes widespread, far fewer people will be “prounion” or hostile to “nonunion” competitors.63

Such conclusions will be reinforced when people learn of another consequence of trade union activity: that a restrictionist wage raises costs of production for the firms in the industry. This means that the marginal firms in the industry—the ones whose entrepreneurs earn only a bare rent—will be driven out of business, for their costs have risen above their most profitable price on the market—the price that had already been attained. Their ejection from the market and the general rise of average costs in the industry signify a general fall in productivity and output, and hence a loss to the consumers.64 Displacement and unemployment, of course, also impair the general standard of living of the consumers.

Unions have had other important economic consequences. Unions are not producing organizations; they do not work for capitalists to improve production.65 Rather they attempt to persuade workers that they can better their lot at the expense of the employer. Consequently, they invariably attempt as much as possible to establish work rules that hinder management’s directives. These work rules amount to preventing management from arranging workers and equipment as it sees fit. In other words, instead of agreeing to submit to the work orders of management in exchange for his pay, the worker now sets up not only minimum wages, but also work rules without which he refuses to work. The effect of these rules is to lower the marginal productivity of all union workers. The lowering of marginal value-product schedules has a twofold result: (1) it itself establishes a restrictionist wage scale with its various consequences, for the marginal value product has fallen while the union insists that the wage rate remain the same; (2) consumers lose by a general lowering of productivity and living standards. Restrictive work rules therefore also lower output. All this is perfectly consistent with a society of individual sovereignty, however, provided always that no force is employed by the union.

To advocate coercive abolition of these work rules would imply literal enslavement of the workers to the dictates of catallactic consumers. But, once again, it is certain that knowledge of these various consequences of union activity would greatly weaken the voluntary adherence of many workers and others to the mystique of unionism.66

Unions, therefore, are theoretically compatible with the existence of a purely free market. In actual fact, however, it is evident to any competent observer that unions acquire almost all their power through the wielding of force, specifically force against strikebreakers and against the property of employers. An implicit license to unions to commit violence against strikebreakers is practically universal. Police commonly either remain “neutral” when strikebreakers are molested or else blame the strikebreakers for “provoking” the attacks upon them. Certainly, few pretend that the institution of mass picketing by unions is simply a method of advertising the fact of a strike to anyone passing by. These matters, however, are empirical rather than theoretical questions. Theoretically, we may say that it is possible to have unions on a free market, although empirically we may question how great their scope would be.

Analytically, we can also say that when unions are permitted to resort to violence, the state or other enforcing agency has implicitly delegated this power to the unions. The unions, then, have become “private states.”67

We have, in this section, investigated the consequences of unions’ achieving restrictionist prices. This is not to imply, however, that unions always achieve such prices in collective bargaining. Indeed, because unions do not own workers and therefore do not sell their labor, the collective bargaining of unions is an artificial replacement for the smooth workings of “individual bargaining” on the labor market. Whereas wage rates on the nonunion labor market will always tend toward equilibrium in a smooth and harmonious manner, its replacement by collective bargaining leaves the negotiators with little or no rudder, with little guidance on what the proper wage rates would be. Even with both sides trying to find the market rate, neither of the parties to the bargain could be sure that a given wage agreement is too high, too low, or approximately correct. Almost invariably, furthermore, the union is not trying to discover the market rate, but to impose various arbitrary “principles” of wage determination, such as “keeping up with the cost of living,” a “living wage,” the “going rate” for comparable labor in other firms or industries, an annual average “productivity” increase, “fair differentials,” etc.68

• 58The first to point out the error in the common talk of “monopoly wage rates” of unions was Professor Mises. See his brilliant discussion in Human Action, pp. 373–74. Also see P. Ford, The Economics of Collective Bargaining (Oxford: Basil Blackwell, 1958), pp. 35–40. Ford also refutes the thesis advanced by the recent “Chicago School” that unions perform a service as sellers of labor:
  But a union does not itself produce or sell the commodity, labour, nor receive payment for it. ... It could be more fitly described as ... fixing the wages and other conditions on which its individual members are permitted to sell their services to the individual employers. (Ibid., p. 36)
• 59A restrictionist, rather than a monopoly, price can be achieved because the number of laborers is so important in relation to the possible variation in hours of work by an individual laborer that the latter can be ignored here. If, however, the total labor supply is limited originally to a few people, then an imposed higher wage rate will cut down the number of hours purchased from the workers who remain working, perhaps so much as to render a restrictionist price unprofitable to them. In such a case it would be more appropriate to speak of a monopoly price.
• 60Cf. Mises, Human Action, p. 764.
• 61See Charles E. Lindblom, Unions and Capitalism (New Haven: Yale University Press, 1949), pp. 78 ff., 92–97, 108, 121, 131–32, 150–52, 155. Also see Henry C. Simons, “Some Reflections on Syndicalism” in Economic Policy for a Free Society (Chicago: University of Chicago Press, 1948), pp. 131f., 139 ff.; Martin Bronfenbrenner, “The Incidence of Collective Bargaining,” American Economic Review, Papers and Proceedings, May, 1954, pp. 301–02; Fritz Machlup, “Monopolistic Wage Determination as a Part of the General Problem of Monopoly” in Wage Determination and the Economics of Liberalism (Washington, D.C.: Chamber of Commerce of the United States, 1947), pp. 64–65.
• 62See Murray N. Rothbard, “Mises’ Human Action: Comment,” American Economic Review, March, 1951, pp. 183–84.
• 63The same is true, to an even greater extent, of measures of governmental intervention in the market. See chapter 12 below.
• 64See James Birks, Trade Unionism in Relation to Wages (London, 1897), p. 30.
• 65See James Birks, Trades’ Unionism: A Criticism and a Warning (London, 1894), p. 22.
• 66We can deal here only with the directly catallactic consequences of labor unionism. Unionism also has other consequences which many might consider even more deplorable. Prominent is the fusing of the able and the incompetent into one group. Seniority rules, for example, are invariable favorites of unions. They set restrictively high wages for less able workers and also lower the productivity of all. But they also reduce the wages of the more able workers—those who must be chained to the stultifying march of seniority for their jobs and promotions. Seniority also decreases the mobility of workers and creates a kind of industrial serfdom by establishing vested rights in jobs according to the length of time the employees have worked. Cf. David McCord Wright, “Regulating Unions” in Bradley, Public Stake in Union Power, pp. 113–21.
• 67Students of labor unions have almost universally ignored the systematic use of violence by unions. For a welcome exception, see Sylvester Petro, Power Unlimited (New York: Ronald Press, 1959). Also cf. F.A. Hayek, “Unions, Inflation, and Profits,” p. 47.
• 68On the nature and consequences of these various criteria of wage determination, see Ford, Economics of Collective Bargaining, pp. 85–110.

The theory of monopoly price has been generally superseded in the literature by the theories of “monopolistic” or “imperfect” competition.71 As against the older theory, the latter have the advantage of setting up identifiable criteria for their categories—such as a perfectly elastic demand curve for pure competition. Unfortunately, these criteria turn out to be completely fallacious.

Essentially, the chief characteristic of the imperfect-competition theories is that they uphold as their “ideal” the state of “pure competition” rather than “competition” or “free competition.” Pure competition is defined as that state in which the demand curve for each firm in the economy is perfectly elastic, i.e., the demand curve as presented to the firm is completely horizontal. In this supposedly pristine state of affairs, no one firm can, through its actions, possibly have any influence over the price of its product. Its price is then “set” for it by the market. Any amount it produces can and will be sold at this ruling price. In general, it is this state of affairs, or else this state without uncertainty (“perfect competition”), that has received most of the elaborate analysis in recent years. This is true both for those who believe that pure competition fairly well represents the real economy and for their opponents, who consider it only an ideal with which to contrast the actual “monopolistic” state of affairs. Both camps, however, join in upholding pure competition as the ideal system for the general welfare, in contrast to various vague “monopoloid” states that occur when there is departure from the purely competitive world.

The pure-competition theory, however, is an utterly fallacious one. It envisages an absurd state of affairs, never realizable in practice, and far from idyllic if it were. In the first place, there can be no such thing as a firm without influence on its price. The monopolistic-competition theorist contrasts this ideal firm with those firms that have some influence on the determination of price and are therefore in some degree “monopolistic.” Yet it is obvious that the demand curve to a firm cannot be perfectly elastic throughout. At some points, it must dip downward, since the increase in supply will tend to lower market price. As a matter of fact, it is clear from our construction of the demand curve that there can be no stretch of the demand curve, however small, that is horizontal, although there can be small vertical stretches. In aggregating the market demand curve, we saw that for each hypothetical price, the consumers will decide to purchase a certain amount. If the producers attempt to sell a larger amount, they will have to conclude their sale at a lower price in order to attract an increased demand. Even a very small increase in supply will lead to a perhaps very small lowering of price. The individual firm, no matter how small, always has a perceptible influence on the total supply. In an industry of small wheat farms (the implicit model for “pure competition”), each small farm contributes a part of the total supply, and there can be no total without a contribution from each farm. Therefore, each farm has a perceptible, even if very small, influence. No perfectly elastic demand curve can, then, be postulated even in such a case. The error in believing in “perfect elasticity” stems from the use of such mathematical concepts as “second order of smalls,” by which infinite negligibility of steps can be assumed. But economics analyzes real human action, and such real action must always be concerned with discrete, perceptible steps, and never with “infinitely small” steps.

Of course, the demand curve for each small wheat farm is likely to be very highly, almost perfectly, elastic. And yet the fact that it is not “perfect” destroys the entire concept of pure competition. For how does this situation differ from, say, the Hershey Chocolate Company if the demand curve for the latter firm is also elastic? Once it is conceded that all demand curves to firms must be falling, the monopolistic-competition theorist can make no further analytic distinctions.

We cannot compare or classify the curves on the basis of degrees of elasticity, since there is nothing in the Chamberlin-Robinson monopolistic-competition analysis, or in any part of praxeology for that matter, that permits us to do so, once the case of pure competition is rejected. For praxeology cannot establish quantitative laws, only qualitative ones. Indeed, the only recourse of monopolistic-competition theorists would be to fall back on the concepts of “inelastic” vs. “elastic” demand curves, and this would precisely plunge them right back into the old monopoly-price vs. competitive-price dichotomy. They would have to say, with the old monopoly-price theorists, that if the demand curve for the firm is more than unitarily elastic at the equilibrium point, the firm will remain at the “competitive” price; that if the curve is inelastic, it will rise to a monopoly-price position. But, as we have already seen in detail, the monopoly-competitive price dichotomy is untenable.

According to the monopolistic-competition theorists, the two influences sabotaging the possible existence of pure competition are “differentiation of product” and “oligopoly,” or fewness of firms, where one firm influences the actions of others. As to the former, the producers are accused of creating an artificial differentiation among products in the mind of the public, thus carving out for themselves a portion of monopoly. And Chamberlin originally attempted to distinguish “groups” of producers selling “slightly” differentiated products from old-fashioned “industries” of firms making identical products. Neither of these attempts has any validity. If a producer is making a product different from that of another producer, then he is a unique “industry”; there is no rational basis for any grouping of varied producers, particularly in aggregating their demand curves. Furthermore, the consuming public decides on the differentiation of products on its value scales. There is “artificial” about the differentiation, and indeed this differentiation serves to cater more closely to the multifarious wants of the consumers.72 It is clear, of course, that Ford has a monopoly on the sale of Ford cars; but this is a full “monopoly” rather than a “monopolistic” tendency. Also, it is difficult to see what difference can come from the number of firms that are producing the same product, particularly once we discard the myth of pure competition and perfect elasticity. Much ado indeed has been made about strategies, “warfare,” etc., between oligopolists, but there is little point to such discussions. Either the firms are independent and therefore competing, or they are acting jointly and therefore cartelizing. There is no third alternative.

Once the perfect-elasticity myth has been discarded, it becomes clear that all the tedious discussion about the number and size of firms and groups and differentiation, etc., becomes irrelevant. It becomes relevant only for economic history, and not for economic analysis.

It might be objected that there is a substantial problem of oligopoly: that, under oligopoly, each firm has to take into account the reactions of competing firms, whereas under pure competition or differentiated products without oligopoly, each firm can operate in the blissful awareness that no competitor will take account of its actions or change its actions accordingly. Hiram Jones, the small wheat farmer, can set his production policy without wondering what Ezra Smith will do when he discovers what Jones’ policy is. Ford, on the other hand, must consider General Motors’ reactions, and vice versa. Many writers, in fact, have gone so far as to maintain that economics can simply not be applied to these “oligopoly” situations, that these are indeterminate situations where “anything may happen.” They define the buyers’ demand curve that presents itself to the firm as assuming no reaction by competing firms. Then, since “few firms” exist and each firm takes account of the reactions of others, they proceed to the conclusion that in the real world all is chaos, incomprehensible to economic analysis.

These alleged difficulties are nonexistent, however. There is no reason why the demand curve to a firm cannot include expected reactions by other firms.73 The demand curve to a firm is the set of a firm’s expectations, at any time, of how many units of its product consumers will buy at an alternative series of prices. What interests the producer is the hypothetical set of consumer demands at each price. He is not interested in what consumer demand will be in various sets of nonexistent situations. His expectations will be based on his judgment of what would actually happen should he charge various alternative prices. If his rivals will react in a certain way to his charging a higher or a lower price, then it is each firm’s business to forecast and take account of this reaction in so far as it will affect buyers’ demand for its particular product. There would be little sense in ignoring such reactions if they were relevant to the demand for its product or in including them if they were not. A firm’s estimated demand curve, therefore, already includes any expected reactions of rivals.

The relevant consideration is not the fewness of the firms or the state of hostility or friendship existing among firms. Those writers who discuss oligopoly in terms applicable to games of poker or to military warfare are entirely in error. The fundamental business of production is service to the consumers for monetary gain, and not some sort of “game” or “warfare” or any other sort of struggle between producers. In “oligopoly,” where several firms are producing an identical product, there cannot persist any situation in which one firm charges a higher price than another, since there is always a tendency toward the formation of a uniform price for each uniform product. Whenever firm A attempts to sell its product higher or lower than the previously ruling market price, it is attempting to “discover the market,” to find out what the equilibrium market price is, in accordance with the present state of consumer demand. If, at a certain price for the product, consumer demand is in excess of supply, the firms will tend to raise the price, and vice versa if the produced stock is not being sold. In this familiar pathway to equilibrium, all the stock that the firms wish to sell “clears the market” at the highest price that can be obtained. The jockeying and raising and lowering of prices that takes place in “oligopolistic” industries is not some mysterious form of warfare, but the visible process of attempting to find market equilibrium—that price at which the quantity supplied and the quantity demanded will be equal. The same process, indeed, takes place in any market, such as the “nonoligopolistic” wheat or strawberry markets. In the latter markets the process seems to the viewer more “impersonal,” because the actions of any one individual or firm are not as important or as strikingly visible as in the more “oligopolistic” industries. But the process is essentially the same, and we must not be led to think differently by such often inapt metaphors as the “automatic mechanisms of the market” or the “soulless, impersonal forces on the market.” All action on the market is necessarily personal; machines may move, but they do not purposefully act. And, in oligopoly situations, the rivalries, the feelings of one producer toward his competitors, may be historically dramatic, but they are unimportant for economic analysis.

To those who are still tempted to make the number of producers in any field the test of competitive merit, we might ask (setting aside the problem of proving homogeneity): How can the market create sufficient numbers? If Crusoe exchanges fish for Friday’s lumber on their desert island, are they both benefiting, or are they “bilateral monopolists” exploiting each other and charging each other monopoly prices? But if the State is not justified in marching in to arrest Crusoe and/or Friday, how can it be justified in coercing a market where there are obviously many more competitors?

Economic analysis, in conclusion, fails to establish any criterion for separating any elements of the free-market price for a product. Such questions as the number of firms in an industry, the sizes of the firms, the type of product each firm makes, the personalities or motives of the entrepreneurs, the location of plants, etc., are entirely determined by the concrete conditions and data of the particular case. Economic analysis can have nothing to say about them.74

• 71In particular, see Edward H. Chamberlin, Theory of Monopolistic Competition, and Mrs. Joan Robinson, Economics of Imperfect Competition. For a lucid discussion and comparison of the two works, see Robert Triffin, Monopolistic Competition and General Equilibrium Theory (Cambridge: Harvard University Press, 1940). The differences between the “monopolistic” and the “imperfect” formulations are not important here.
• 72Recently, Professor Chamberlin has conceded this point and has, in a series of remarkable articles, astounded his followers by repudiating the concept of pure competition as a welfare ideal. Chamberlin now declares: “The welfare ideal itself ... is correctly described as one of monopolistic competition. ... [This] seems to follow very directly from the recognition that human beings are individual, diverse in their tastes and desires, and moreover, widely dispersed spatially.” Chamberlin, Towards a More General Theory of Value, pp. 93–94; also ibid., pp. 70–83; E.H. Chamberlin and J.M. Clark, “Discussion,” American Economic Review, Papers and Proceedings, May, 1950, pp. 102–04; Hunter, “Product Differentiation and Welfare Economics,” pp. 533–52; Hayek, “The Meaning of Competition” in Individualism and the Economic Order, p. 99; and Marshall I. Goldman, “Product Differentiation and Advertising: Some Lessons from Soviet Experience,” Journal of Political Economy, August, 1960, pp. 346–57. See also note 28 above.
• 73This definition of the demand curve to the firm was Mrs. Robinson’s outstanding contribution, unfortunately repudiated by her recently. Triffin castigated Mrs. Robinson for evading the problem of “oligopolistic indeterminacy,” whereas actually she had neatly solved this pseudo problem. See Robinson, Economics of Imperfect Competition, p. 21. For other aspects of oligopoly, see Willard D. Arant, “Competition of the Few Among the Many,” Quarterly Journal of Economics, August, 1956, pp. 327–45.
• 74For an acute criticism of monopolistic-competition theory, see L.M. Lachmann, “Some Notes on Economic Thought, 1933–53,” South African Journal of Economics, March, 1954, pp. 26 ff., especially pp. 30–31. Lachmann points out that economists generally treat types of “perfect” or “monopolistic” competition as static market forms, whereas competition is actually a dynamic process.

Perhaps the most important conclusion of the theory of monopolistic or imperfect competition is that the real world of monopolistic competition (where the demand curve to each firm is necessarily falling) is inferior to the ideal world of pure competition (where no firm can affect its price). This conclusion was expressed simply and effectively by comparing two final equilibrium states: under conditions of pure and monopolistic competition (Figure 70).

AC is a firm’s average total-cost curve—its alternative dollar costs per unit—with output on the horizontal axis and prices (including costs) on the vertical axis. The only assumption we need in drawing the average-cost curve is that, for any plant in any branch of production, there will be some optimum point of production, i.e., some level of output at which average unit cost is at a minimum. All levels of production lower or higher than the optimum have a higher average cost. In pure competition, where the demand curve for any firm is perfectly elastic, Dp, each firm will eventually adjust so that its AC curve will be tangent to Dp, in equilibrium; in this case, at point E. For if average revenue (price) is greater than average cost, then competition will draw in other firms, until the curves are tangent; if the cost curve is irretrievably higher than demand, the firm will go out of business. Tangency is at point E, price at 0G, and output at 0K. As in any definition of final equilibrium, total costs equal total revenues for each firm, and profits are zero.

Now contrast this picture with that of monopolistic competition. Since the demand curve (Dmf) is now sloping downward to the right, it must, given the same AC curve, be tangent at some point (F), where the price is higher (JF) and the production lower (0J) than under pure competition. In short, monopolistic competition yields higher prices and less production—i.e., a lower standard of living—than pure competition. Furthermore, output will not take place at the point of minimum average cost—clearly a social “optimum,” and each plant will produce at a lower than optimum level, i.e., it will have “excess capacity.” This was the “welfare” case of the monopolistic-competition theorists.

By a process of revision in recent years, some of it by the originators of the doctrine themselves, this theory has been effectively riddled beyond repair. As we have seen, Chamberlin and others have shown that this analysis does not apply if we are to take consumer desire for diversity as a good to be satisfied.75 Many other effective and sound attacks have been made from different directions. One basic argument is that the situations of pure and of monopolistic competition cannot be compared because the AC curves would not, in fact, be the same. Chamberlin has pursued his revisionism in this realm also, declaring that the comparisons are wholly illegitimate, that to apply the concept of pure competition to existing firms would mean, for example, assuming a very large number of similar firms producing the identical product. If this were done, say, with General Motors, it would mean that either GM must conceptually be divided up into numerous fragments, or else that it be multiplied. If divided, then unit costs would undoubtedly be higher, and then the “competitive firm” would suffer higher costs and have to subsist on higher prices. This would clearly injure consumers and the standard of living; thus, Chamberlin follows Schumpeter’s criticism that the “monopolistic” firm may well have and probably will have lower costs than its “purely competitive” counterpart. If, on the other hand, we conceive of the multiplication of a very large number of General Motors corporations at existing size, we cannot possibly relate it to the present world, and the whole comparison becomes absurd.76

In addition, Schumpeter has stressed the superiority of the “monopolistic” firm for innovation and progress, and Clark has shown the inapplicability, in various ways, of this static theory to the dynamic real world. He has recently shown its fallacious asymmetry of argument with respect to price and quality. Hayek and Lachmann have also pointed out the distortion of dynamic reality, as we have indicated above.77

A second major line of attack has shown that the comparisons are much less important than they seem from conventional diagrams, because cost curves are empirically much flatter than they appear in the textbooks. Clark has emphasized that firms deal in long-run considerations, and that long-run cost and demand curves are both more elastic than short-run; hence the differences between E and F points will be negligible and may be nonexistent. Clark and others have stressed the vital importance of potential competition to any would-be reaper of monopoly price, from firms both within and without the industry, and also the competition of substitutes between industries. A further argument has been that the cost curves, empirically, are flat within the relevant range, even aside from the long- vs. short-run problems.78

All these arguments, added to our own analysis given above, have effectively demolished the theory of monopolistic competition, and yet more remains to be said. There is something very peculiar about the entire construction, even on its own terms, aside from the fallacious “cost-curve” approach, and practically no one has pointed out these other grave defects in the theory. In an economy that is almost altogether “monopolistically competitive,” how can every firm produce too little and charge too much? What happens to the surplus factors? What are they doing? The failure to raise this question stems from the modern neglect of Austrian general analysis and from undue concentration on an isolated firm or industry.79 The excess factors must go somewhere, and in that case must they not go to other monopolistically competitive firms? In which case, the thesis breaks down as self-contradictory. But the proponents have prepared a way out. They take, first, the case of pure competition, with equilibrium at point E. Then, they assume a sudden shift to conditions of monopolistic competition, with the demand curve for the firm now sloping downward. The demand curve now shifts from Dp to Dmo. Then the firm restricts production and raises its price accordingly, reaps profits, attracts new firms entering the industry, the new competition reduces the output salable by each firm, and the demand curve shifts downward and to the left until it is tangent to the AC curve at point F. Hence, say the monopolistic-competition theorists, not only does monopolistic competition suffer from too little production in each firm and excessive costs and prices; it also suffers from too many firms in each industry. Here is what has happened to the excess factors: they are trapped in too many uneconomic firms.

This seems plausible, until we realize that the whole example has been constructed as a trick. If we isolate a firm or an industry, as does the example, we may just as well start from a position of monopolistic competition, at point F, and then suddenly shift to conditions of pure competition. This is certainly just as legitimate, or rather illegitimate, a base for comparison. What then? As we see in Figure 71, the demand curve for each firm is now shifted from Dmf to Dpo. It will now be profitable for each firm to expand its output, and it will then make profits. New firms will then be attracted into the industry, and the demand curve will fall vertically, until it again reaches tangency with the AC curve at point E. Are we now “proving” that there are more firms in an industry under pure than under monopolistic competition?80 The fundamental error here is failure to see that, under the conditions established by the assumptions, any change opening up profits will bring new firms into an industry. Yet the theorists are supposed to be comparing two different static equilibria, of pure and of monopolistic competition, and not discussing paths from one to the other. Thus, the monopolistic-competition theorists have by no means solved their problem of surplus factors.

But, aside from this point, there are more difficulties in the theory, and Sir Roy Harrod, himself one of its originators, is the only one to have seized the essence of the remaining central difficulty. As Harrod says:

If the entrepreneur foresees the trend of events, which will in due course limit his profitable output to x – y units, why not plan to have a plant that will produce x – y units most cheaply, rather than encumber himself with excess capacity? To plan a plant for producing x units, while knowing that it will only be possible to maintain an output of x – y units, is surely to suffer from schizophrenia.

And yet, asserts Harrod puzzledly, the “accepted doctrine” apparently deems it “impossible to be an entrepreneur and not suffer from schizophrenia!”81 In short, the theory assumes that, in the long run, a firm having to produce at F will yet construct a plant with minimum costs at point E. Clearly, here is a patent contradiction with reality. What is wrong? Harrod’s own answer is an excellent and novel discussion of the difference between long-run and short-run demand curves, with the “long run” always being a factor in entrepreneurial planning, but he does not precisely answer this question.

The paradox becomes “curiouser and curiouser” when we fully realize that it all hinges on a mathematical technicality. The reason why a firm can never produce at an optimum cost point is that (a) it must produce at a tangent of demand and average-cost curves in equilibrium, and (b) if the demand curve is falling, it follows that it can be tangent to a U-shaped cost curve only at some point higher than, and to the left of, the trough point. There are two considerations that we may now add. First, there is no reason why the cost “curve” should, in fact, be curved. In an older day, textbook demand curves used to be curves, and now they are often straight lines; there is even more reason for believing that cost curves are a series of angular lines. It is of course (a) more convenient for diagrams, and (b) essential to mathematical representation, for there to be continuous curves, but we must never let reality be falsified in order to fit the niceties of mathematics. In fact, production is a series of discrete alternatives, as all human action is discrete, and cannot be smoothly continuous, i.e., move in infinitely small steps from one production level to another. But once we recognize the discrete, angular nature of the cost curve, the “problem” of excess capacity immediately disappears (Figure 72). Thus the falling demand curve to the “monopolistic” firm, Dm, can now be “tangent” to the AC curve at E, the minimum-cost point, and will be so in final equilibrium.

There is another way for this pseudo problem to disappear, and that is to call into question the entire assumption of tangency. The tangency of average cost and demand at equilibrium has appeared to follow from the property of equilibrium: that total costs and total revenues of the firm will be equal, since profits as well as losses will be zero. But a key question has been either overlooked or wrongly handled. Why should the firm produce anything, after all, if it earns nothing from doing so? But it will earn something, in equilibrium, and that will be interest return. Modern orthodoxy has fallen into this error, for one reason: because it does not realize that entrepreneurs are also capitalists and that even if, in an evenly rotating economy, the strictly entrepreneurial function were no longer to be required, the capital-advancing function would still be emphatically necessary.

Modern theory also tends to view interest return as a cost to the firm. Naturally, if this is done, then the presence of interest does not change matters. But (and here we refer the reader to foregoing chapters) interest is not a cost to the firm; it is an earning by a firm. The contrary belief rests on a superficial concentration on loan interest and on an unwarranted separation between entrepreneurs and capitalists. Actually, loans are unimportant and are only another legal form of entrepreneurial-capitalist investment. In short, in the evenly rotating economy, the firm earns a “natural” interest return, dictated by social time preference. Hence, Figure 72 must be altered to look like the diagram in Figure 73 (setting aside the problem of curves vs. angles). The firm will produce 0K, its optimum production level, at minimum average cost, KE. Its demand curve and cost curve will not be tangent to each other, but will allow room for equilibrium interest return, represented by the area EFGH. (Neither, as some may object, will the price be higher in this corrected version of monopolistic competition; for this AC curve is lower all around than the previous ones, which had included interest return in costs. If they did not include interest, and instead assumed that interest would be zero in the ERE, then they were wrong, as we have pointed out above.)82 And so the paradox of the monopolistic-competition theory is finally and fully interred.83

• 75And the product differentiation associated with the falling demand curve may well lower costs of distribution and of inspection (as well as improve consumer knowledge) to more than offset the supposed rise in production costs. In short, the AC curve above is really a production-cost, rather than a total-cost, curve, neglecting distribution costs. Cf. Goldman, “Product Differentiation and Advertising.” Furthermore, a genuine total-cost curve would then not be independent of the firm’s demand curve, thus vitiating the usual “cost-curve” analysis. See Dewey, Monopoly in Economics and Law, p. 87. Also see section C below.
• 76See Chamberlin, “Measuring the Degree of Monopoly and Competition” and “Monopolistic Competition Revisited” in Towards a More General Theory of Value, pp. 45–83.
• 77See J.M. Clark, “Competition and the Objectives of Government Policy” in E.H. Chamberlin, ed., Monopoly and Competition and Their Regulation (London: Macmillan & Co., 1954), pp. 317–27; Clark, “Toward a Concept of Workable Competition” in Readings in the Social Control of Industry (Philadelphia: Blakiston, 1942), pp. 452–76; Clark, “Discussion”; Abbott, Quality and Competition, passim; Joseph A. Schumpeter, Capitalism, Socialism and Democrac (New York: Harper & Bros., 1942); Hayek, “Meaning of Competition”; Lachmann, “Some Notes on Economic Thought, 1933–53.”
• 78See the above citations by Clark; and Richard B. Heflebower, “Toward a Theory of Industrial Markets and Prices” in R.B. Heflebower and G.W. Stocking, eds., Readings on Industrial Organization and Public Policy (Homewood, Ill.: Richard D. Irwin, 1958), pp. 297–315. A more dubious argument—the flatness of the firm’s demand curve in the relevant range—has been stressed by other economists, notably A.J. Nichol, “The Influence of Marginal Buyers on Monopolistic Competition,” Quarterly Journal of Economics, November, 1934, pp. 121–34; Alfred Nicols, “The Rehabilitation of Pure Competition,” Quarterly Journal of Economics, November, 1947, pp. 31–63; and Nutter, “Plateau Demand Curve and Utility Theory.”
• 79But cf. Abbott, Quality and Competition, pp. 180–81.
• 80The author first learned this particular piece of analysis from the classroom lectures of Professor Arthur F. Burns, and, to our knowledge, it has never seen print.
• 81Harrod, Economic Essays, p. 149.
• 82After arriving at this conclusion, the author came across a brilliant but neglected article pointing out that interest is a return and not a cost, and showing the devastating implications of this fact for cost-curve theory. The article does not, however, apply the theory satisfactorily to the problem of monopolistic competition. See Gabor and Pearce, “A New Approach to the Theory of the Firm,” and idem, “The Place of Money Capital.” While there are a few similarities, Professor Dewey’s critique of the “excess capacity” doctrine is essentially very different from ours and based on far more “orthodox” considerations. Dewey, Monopoly and Economics in Law, pp. 96 ff.
• 83Since the erroneous but popular theory of “countervailing power,” propounded by J.K. Galbraith, falls with the monopolistic-competition theory, it is unnecessary to discuss it here. For a more detailed critique of its numerous fallacies, see Simon N. Whitney, “Errors in the Concept of Countervailing Power,” Journal of Business, October, 1953, pp. 238–53; George J. Stigler, “The Economist Plays with Blocs,” American Economic Review, Papers and Proceedings, May, 1954, pp. 8–14; and David McCord Wright, “Discussion,” ibid., pp. 26–30.

One of Professor Chamberlin’s most important contributions is alleged to have been his sharp distinction between “selling cost” and “production cost.”84 “Production costs” are supposed to be the legitimate expenses needed to increase supply in order to meet given consumer demand schedules. “Selling costs,” on the other hand, are supposed to be directed toward influencing consumers and increasing their demand schedules for the firm’s product.

This distinction is completely spurious.85 Why does a businessman invest money and incur any costs whatever? To supply a hoped-for demand for his product. Every time he improves his product he is hoping that consumers will respond by increasing their demands. In fact, all costs expended on raw materials are incurred in an attempt to increase consumer demand beyond what it would have been in the absence of these costs. Therefore, every production cost is also a “selling cost.”

Conversely, selling costs are not the sheer waste or even tyranny that monopolistic-competition theorists have usually assumed. The various expenses designated as “selling costs” perform definite services for the public. Basically, they furnish information to the public about the goods of the seller. We live in a world where there can be no “perfect knowledge” of products by anyone—especially consumers, who are faced with a myriad of available products. Selling costs are therefore important in providing information about the product as well as about the firm. In some cases, e.g., displays, the “selling cost” itself directly improves the quality of the product in the mind of the consumer. It must always be remembered that the consumer is not simply buying a physical product; he may also be buying “atmosphere,” prestige, service, etc., all of which have tangible reality to him and are valued accordingly.86

The view that a selling cost is somehow an artifact of “monopolistic competition” stems only from the peculiar assumptions of “pure competition.” In the “ideal” world of pure competition, we remember, each firm’s demand is given to it as infinitely elastic, so that it can sell whatever it wants at the ruling price. Naturally, in such a situation, no selling costs are necessary, because a market for a product is automatically assured. In the real world, however, there is no perfect knowledge, and the demand curves are neither given nor infinitely elastic.87 Therefore, firms have to try to increase demands for their products and to carve out market areas for themselves.

Chamberlin falls into another error in implying that selling costs, such as advertising, “create” consumer demands. This is the determinist fallacy. Every man as a self-owner freely decides his own scale of valuations. On the free market no one can force another to choose his product. And no other individual can ever “create” someone’s values for him; he must adopt the value himself.88

• 84Chamberlin, Theory of Monopolistic Competition, pp. 123ff. Chamberlin includes in selling costs advertising, sales expenses, and store displays.
• 85See Mises, Human Action, p. 319. Also see Kermit Gordon, “Concepts of Competition and Monopoly—Discussion,” American Economic Review, Papers and Proceedings, May, 1955, pp. 486–87.
• 86It is surely highly artificial to call bright ribbons on a packaged good a “production cost,” while labeling bright ribbons decorating the store selling the good as a “selling cost.”
• 87Cf. Alfred Nicols, “The Development of Monopolistic Competition and the Monopoly Problem,” Review of Economics and Statistics, May, 1949, pp. 118–23.
• 88See Mises:
  The consumer is, according to ... legend, simply defenseless against “high-pressure” advertising. If this were true, success or failure in business would depend on the mode of advertising only. However, nobody believes that any kind of advertising would have succeeded in making the candlemakers hold the field against the electric bulb, the horsedrivers against the motorcars. ... But this implies that the quality of the commodity advertised is instrumental in bringing about the success of an advertising campaign. ... The tricks and artifices of advertising are available to the seller of the better product no less than to the seller of the poorer product. But only the former enjoys the advantages derived from the better quality of his product. (Mises, Human Action, pp. 317–18)