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The Columbia University Libraries reserve the right to refuse to accept a copying order if, in its judgement, fulfillment of the order would involve violation of the copyright law. Author: Hicks, Frederick Charles Title: Competitive and monopoly price Place: Cincinnati Date: [1911] ^mmmrnmn^-^^ MASTER NEGATIVE # COLUMBIA UNIVERSITY LIBRARIES PRESERVATION DIVISION BIBLIOGRAPHIC MICROFORM TARGET ORIGINAL MATERIAL AS FILMED - EXISTING BIBLIOGRAPHIC RECORD lin Hicks, Frederick Charles, 1863- ... Competitive and monopoly price; a criticism of cur- rent theory with special reference to its bearing upon the trust problem, by Frederick Charles Hicks ... Cincin- nati, 0., University press [^1911] 39 p. 25*". (University of Cincinnati studies. iSer. ii, voL vii, no. 2i) 9^:^ 1. Prices. 2. Trusts, Industrial. Library 6f Congress Copyright A 303728 AS36.C46 voL7,no.2 HB221.H6 12-517 A RESTRICTIONS ON USE: TECHNICAL MICROFORM DATA RLM SIZE: ^^^^ REDUCTION RATIO: \Ik IMAGE PLACEMENT: lA s IB IIB DATE FILMED' llll^dMli^JI 9 m ^|^l^4^ INITIALS: V^-^ A>S/7 ^7g 050.0 *=:-r| 5 o i "CI M CO 00 CJI cnx OOM o ^ V '^* 4;y ** '''V/ CJI 3 > CD o m Q.~n C/) X < .-^^ ^'^>^ 'V:^ a; sT. ^c^: ■?^ 3 i > U1 o 3 3 A^ in .1>i -^ a? S 3 3 O l^i^i^ j 00 o^ 00 to b 10 k) I K3 In 1.0 mm 1.5 mm 2.0 mm ABCDEFGHIJKLMNOPQRSTUVWXYZ abcdetghiiklmnopqfsf uvwxyz 1 2 34667890 ABCDEFGHIJKLMNOPQRSTUVWXYZ abcdefghijklmnopqrstuvwxyzl234^67890 ABCDEFGHIJKLMNOPQRSTUVWXYZ abcdefghijklmnopqrstuvwxyz 1234567890 ABCDEFGHIJKLMNOPQRSTUVWXYZ abcdefghijklmnopqrstuvwxyz 2.5 mm 1234567890 % ^^ -=* ^O ^f^ /%. A *. ^. '^^ c^ .1^^ t <. « ''.r -&> ^O fp O O "O Q! "0 v^ ^_ ^^ > C Ci> 7C O 00 m O c^ 4^ ^J ^» ^ 4fif;c 9 I w University of Cincinnati Studies Seria* II MARCH-APRIL, 1911 VoL VII. No. 2 Competitive and Monopoly Price \ BY FREDERICK CHARLES HICKS UNIVERSITY OF CINCINNATI PUBLISHED B¥ THE UNIVEBSITY OP CINCINNATI CINCINNATI, OHIO -I-— -— -^ "DVVT- Columbia Winii^viitp in ttie Cftp of Jteto gorfc LIBRARY School of Business J University of Cincinnati Studies Competitive and Monopoly Price A criticism of current theory with special reference to its bear- ing upon the trust problem FREDERICK CHARLES HICKS University of Cincinnati Issued Bi-monthly, from the University Press, Cincinnati, Ohio i ' if r"™niiMHip|«p| ^, U Copyrighted, iQii, by Fkbosrick v.uau,is Hioct 1 i 1 1 !I I 1^ %|||F W^^ ^ / ♦ . LpiI ' 4 1 ifi CONTENTS I. The Basis of the Present Trust Policy, - II. The Current Theory OF Price, - III. How Prices are Determined, - - - IV. A Trust Policy Fair to Big Business and TO the Consumer, PAGS 5 12 21 32 f » im rii ri" I I I Ill """ II I" ~f" liiii n i p i *""* II - »l— (III iiini t 1= I li Competitive and Monopoly Price THE BASIS OF THE PRESENT TRUST POLICY The present trust policy of the United States is an attempt to destroy monopoly and thereby leave the field rcompetitive industry. This policy finds expression in the anti-trust laws of the United States and of he several States; in their judicial interpretation; m the demand that these laws be more rigorously enforced; and in various proposals to amend the laws so as the more surely to accomplish their purpose, wherever m their present form they are inadequate to the annihilation of monopoly. ..r .i,- Many illustrations might be given to exemphfy this policy. One will, however, suffice for the present pur- pose The Anti-Trust law of the United States declares *^* '' "Every contract, combination in the form of trust or otherwise, or conspiracy, m restraint of trade or commerce among the severa states or with foreign nations, is hereby declared to ^ "Every person who shall monopolize, or at- tempt to monopolize, or combine or conspire 5 ■II .',11,. \ i iii!ili;r"'i|liiii!lllli«iPi!ii!»ii'nffil|ir!^iFir — - i lM II ■ f I ■■■Pl ■paM#HM|ll||MM^ •^*^f i! COMPETITIVE AND MONOPOLY PRICE with any other person or persons to monopolize, any part of the trade or commerce among the several states, or with foreign nations, shall be deemed guilty of a misdemeanor, . . "1 This law has been the subject of numerous court decisions, including several by the Supreme Court of the United States. Among the most important cases to reach this high tribunal was the one known as the Northern Securities case, which was decided in 1903. The opinion, affirming the decree of the circuit court against the Northern Securities Company, was prepared by the late Mr. Justice Harlan. In this opinion, after extended reference to previous decisions of the Court, several propositions were stated as deducible from those decisions. Among these propositions are the following: "That Congress has the power to establish rules by which interstate and international com- merce shall be governed, and, by the Anti-Trust Act, has prescribed the rule of free competition among those engaged in such commerce." "That the natural effect of competition is to increase commerce, and an agreement whose direct effect is to prevent this play of compe- tition restrains instead of promotes trade and commerce." "That to vitiate a combination, such as the act of Congress condemns, it need not be shown that the combination, in fact, results or will re- sult in a total suppression of trade or in a complete monopoly, but it is only essential to show that by its necessary operation, it tends to restrain interstate or international trade or commerce or tends to create a monopoly in such trade or commerce and to deprive the public of the advantages that flow from free competi- tion,"^ N, i 1 a6 Stat, at Large. 209, chap. 647, U. S. Comp. Stat. 1901. p. 3200. t U. S. Rcporta. 193. pages 331. 332. Not itaUcized in the original. THE BASIS Ot THE PRESENT TRUST POLICY 7 Throughout the opinion, numerous references are made to the "natural laws of competition," to the ad- vantages arising therefrom, and to the purpose of the Act to secure the operation of those laws. Subsequent decisions containing further interpretations of the Act have not modified this fundamental attitude towards competition and monopoly. The so-called "rule of reason," recently applied to the enforcement of the law, has gone no further than to recognize that not all sup- pression of competition is necessarily in restraint of trade. The intent of the law remains, as before, to prevent monopoly and to secure free competition. Moreover, in this intent, the Anti-Trust law voices correctly public opinion. Although there is widespread dissatisfaction with the results that have been attained under it, popular confidence in its fundamental purpose continues undiminished. An explanation of this general attitude condemning monopoly and approving competition is to be found in an intuitive belief in the doctrine of "fair price." The idea that some prices are fair and others unfair is practically universal. This idea has existed for cen- turies, perhaps as long as buying and selling themselves have existed. During the Middle Ages it was known as the doctrine of "just price," an admirable description of which is found in Professor W. J. Ashley's "English Economic History." At that time it was taught that "in any particular country or district there is for every article, at any particular time, some one just price: that prices,' accordingly, should not vary with momentary supply and demand, with individual caprice, or skill in the chaffering of the market. It is the moral duty of buyer and seller to try to arrive, as nearly as possible, at this just price ."' Moreover, "as experience showed S Vol. I. p. 146. I 'W I t \ ^ ^, 8 COMPETITIVE AND MONOPOLY PRICE that individuals could not be trusted thus to admit the real value of things, it followed that it was the duty of the proper authorities of State, town, or guild to step in and determine what the just and reasonable price really was."* The application of such a principle to actual business transactions necessitated a standard by which to deter- mine whether the prices at which commodities and serv- ices were offered for sale were just or unjust. Such a standard was found for the producer of that time, not in "what would enable him to make a gain," but in "what would permit him to live a decent life accord- ing to the standard of comfort which public opinion recognized as appropriate to his class."** Moreover, it may be noted in passing, this standard was not ill- adapted to the conditions then prevailing, when business intercourse was on a small scale, the market for most articles was a limited one, and the consumer and pro- ducer as a rule dealt directly with each other. With the passing of years, new industrial conditions developed to which old ideas and old policies were no longer suited. But there remained and still remains the basic idea of fair price. There has come, however, a new standard by which to determine fairness and a new view as to the proper method for securing fairness. It is, perhaps, too much to affirm that the present standard of fair price has been definitely fonnulated. Nor it is intended here to enter upon a full discus- sion of this subject; though, in view of the controversy over "earned" and "unearned" increments and of the increasing tendency to call in the aid of public authority to secure reasonable charges, there is developing an urg- ent need for a thorough analysis of the basis of fairness with a view to arriving at a reasonable standard. » 4 IbU. 140. 5 Ibid. 138. THE BASIS OF THE PRESENT TRUST POLICY 9 In general, it is probably correct to say that in the efforts to prevent unfair prices at the present time, the test applied is gain or, as it is commonly called, profits. A fair price is one which yields fair profits. Just what are fair profits in any particular case is not easy to de- termine, but it is certain that the concept of fair profits as a test of fair prices does not mean a definite, uni- versally applicable per cent of some arbitrarily selected base. Fair profits mean a fair return for those engaged in business, due account being taken of the character of the business, the capital required, the risks involved, and the ability demanded of those who become responsible for the initiation and conduct of business. The absence of a definitely formulated standard for determining fairness is not a mere accident. It is due to the prevailing view as to the method by which fair- ness is to be secured— a method under which the ques- tion of what is fair may be left to take care of itself ; for fairness, it is believed, will follow as a matter of course from the method of securing it. That method is free competition. Whereas, formerly public authority exercised directly upon price was relied upon to msure justice, to-day the same end is sought by procuring the unimpeded operation of competition. True, it has come to be recognized that there is a field of activity in which competition is not effective. Such for example, is the case with telephone, lighting, and other similar industries. Here Government regula- tion is acccepted as essential. But so far as the broad field of general industry is concerned, public opinion still holds to the idea that free competition is society's safe- guard against injustice, and that public authority is needed here, if at all, only to assist in securing free competition. Competitive price is fair ; monopoly price is unfair. ^1 ^ ■w m mmimim lO COMPETITIVE AND MONOPOLY PRICE To this view, entertained by society in general, ex- emplified by the anti-trust laws above mentioned, econo- mists lend the weight of their authority. It must suffice for the present discussion to cite but one example of the teaching of current economics, but it is a typical one, taken from the latest edition of the "Outlines of Economics," by Professor Richard T. Ely and collabo- rators. Speaking of prices under competition, it is said that "if we include the value of the business man's services among the expenses of production," "the prices received for the products of any particular business" tend to equal "the expenses of producing them."® Later, in discussing just price, it is said : "The competitive system is to-day so thoroughly accepted as the 'natural' economic order, that there is, as we have previously noted, a deep- seated conviction that normal competitive prices (measured by the expenses of production) are natural and just prices."^ This conviction is, however, brought face to face with the fact of the growth of a large industrial field in which monopoly, rather than competition, rules. The question of just price is again a live issue — as it was before the growth of the competitive system. Public authority is frequently invoked to insure that the prices fixed by holders of municipal franches and other monopolists are just and reasonable. The chief fundamental test which our courts are able to apply to the reasonableness of any particular price is its con- formity to what the price would have been under competitive conditions J Thus it is often asked if a particular monopoly charge gives a more than normal return upon the capital invested. The determination of what the expense of pro- ducing a particular commodity or service really is, is often a difficult, or even impossible, task f 1 ♦ • p.171. 7 Not italicized in the original. I THE BASIS O? THE PRESENT TRUST POLICY II (the distinction between constant and variable expenses being frequently a stumb ing-block ) , but, given the general acceptance of the competi- tive system, it is hard to see what other standard could be used."* Few if any, are satisfied with the results of our present 'anti-trust policy. Some are calling for more stringent enforcement of existing laws ; others for amend- ments to those laws which shall remove all possible avenues of escape, especially those believed to be af- forded by the latest Supreme Court decisions; while still others are asking for such a modification of our anti-trust policy as shall permit a distinction between good and bad trusts. What, meanwhile, is to be said of the current eco- nomic doctrine of competitive and monopoly price,— a doctrine which is at the root of the whole matter? 8 «« tRo i8i In an earUer part of the treatise (p. iS9) the reader is warned the price would have been under competitive conditions. V ^ •^'1'mn'mmmimtf THE CURRENT THEORY OF PRICE As it is the purpose of this paper to analyze the cur- rent theory of price with a view to judging its validity, it is necessary to state in this connection just what this theory is; though, as the subject is fully set forth in numerous available treatises on economics, only its salient features need be described here.^ Current theory recognizes two sorts of price, desig- nated respectively competitive price and monopoly price. Corresponding to these are two classes of business, com- petitive industries and monopolies. Competitive price exists when competition is free, and it equals cost of production. By cost of produc- tion is meant the actual expense of producing plus what may be called normal profits. To avoid misunderstand- ing, this may be called social cost of production. To the individual, cost of production means of course the amount which he must pay for raw materials, wages, interest on capital, and such other outlays as are incident to the production and sale of goods. These expenses 1 The illustrations of current theory in the following description are taken from the Outlinet of Eeonomk$, by Richard T. Ely, revised and enlarged by the author and Thomas S. Adams, Max O. Lorenz and Allyn A. Young, published by The Macmillan Company, New York, 1909. Essentially similar illustrations are afforded by all standard treatises on Economics. See, for example, Seligman'a PrineipUt cif Eemomict, Part III, Book I. Value : General Principles ; and Seager's IntrodvetUm to Economicf, Chap. V, Value and Price, and Chap. XI, Distribution : Monopoly Profits. IS THE CURRENT THEORY OF PRICE IJ are deducted from the amount received from sales, and the difference constitutes his profits. But, viewed from the standpoint of the consumer, profits are the payment for the services of the one who provides the business ability without which commodities can no more be pro- duced than without labor, for which wages are paid. From the standpoint of society, then, it is proper to include at least normal profits as a part of cost of pro- duction. Just what normal profits are, as was pointed out above,^' can not be stated precisely as a certain per- cent or as a fixed amount. Yet that such a thing as normal profits exists as a feature of current thought, is evidenced by the not infrequent reference to profits in some transactions as abnormal. Normal profits will of course vary with the quality of business ability re- quired in various undertakings, the risk involved, and other attending conditions,— in brief, with the character of the business. A sufficiently accurate description of normal profits is afforded by the statement that profits may be considered normal in any industry when they afford no special or extra inducement to enter the busi- ness or to leave it. Competitive price, then, tends to equal social cost of production. "If it were always an easy matter for busi- ness men to change their interests and their energies from one line of production to another, and if capital and labor could likewise be freely transferred from one undertaking to another, it is hard to see how profits in any one competitive business could be for any length of time much higher than in other competitive businesses. Managerial ability, labor, and capital would gravitate always toward t hose employments 2 p. 9. 1 ' It H iM » ■'I i 14 COMPETITIVE AND MONOPOLY PRICE which promised the greatest profits. The effect would be a continual tendency toward equality of advantage in different lines of business. This does not mean necessarily an equality of profits as between individuals in any given lines of business, for the amount of profits depends largely upon the skill and enterprise of the in- dividual business man. . . . Purely com- petitive profits, under conditions of absolute ^fluidity' of business ability, of labor, and of capital, would thus tend to adjust themselves according to the ability of the individual busi- ness man ; . . . If we include the value of the business man's services among the expenses of production, we may, obviously, state the tendency which we have described as a tendency toward the equality of the prices received for the products of any particular business and the expenses of producing them."* The proposition that price equals social cost of pro- duction assumes a condition of free competition, and it is important to note what is meant by such a condi- tion. From the above description of the nature and tendency of competitive price, it will be seen that com- petition is considered free when capital, labor, and business ability can move with perfect freedom from one industry to another. This is often called a condi- tion of perfect fluidity, and the designation is a fortunate one, for there is involved an analogy to the tendency of water to seek the same level in several different recep- tacles which are so connected that the water can pass freely from one to another. It would, however, be a mistake to suppose that those who accept the doctrine of price here described believe that productive agencies are or ever can be perfectly fluid or that competition is, even under so-called com- petitive conditions, ever absolutely free. On the con- • Ely. pp. 170, 171. »i . a (•- THE CURRENT THEORY O^ PRICE If trary, it is recognized that co-operation and custom modify the working of competition, while at times^ the state, in order to raise the plane of competition, "sets limits to the rivalry," which is the essence of compe- tition, as, for example, when it regulates the labor of women and children, requires safety appliances and sani- tary conditions, limits the right of contract in the case of injury, and so forth.* Nor is perfect fluidity necessary to the existence of competitive price, for there is always some free capital, free labor, and free business ability seeking a field of operation, and at the same time the capital, labor, and business ability now employed tend to wear out and disappear. The new will seek the fields offering highest returns, while, as the old disappears, it will not be re- newed in those industries which yield less than normal returns. "Managerial ability, labor, and capital are all specialized to a greater or less extent, so that they can not be changed from one employment to another without loss of efficiency. But it is not necessary for the validity of our analysis that all managerial ability, all labor, and all cap- ital should be fluid enough to change from m- dustry to industry economically. There are always a certain number of business men who are anxiously watching for the most inviting business opportunities ; there is always a certam amount of labor awaiting the most remunerative employment, and there is always a certain amount of money awaiting investment in those forms of capital goods which produce the greatest value. These facts are enough to give substantial truth to the statement that in any competitive industry the price of the commodity produced tends to equal the cost of producmg it."» 4 Ely. p. 36, d atQ' * Ely, pp. 171. 17a. '"'ttI 1* COMPETITIVE AND MONOPOLY PRICE »tf/ 11^ i 111 : I' I i t In sharp contrast to competitive price is monopoly price, or the price of a commodity produced under con- ditions of monopoly. While under competition price is fixed at social cost of production, under monopoly price is fixed at that point which will yield the largest net returns. As has been seen, social cost of production means cost to the individual producer plus a normal profit to him. So by way of emphasizing the contrast between the two sorts of price, it may be said that com- petitive price is determined by normal profits, monopoly price by largest profits. In deciding at what price to oflFer his goods for sale, the monopolist proceeds upon the well-known tend- ency for sales to decrease when prices increase and for sales to increase when prices decrease. Net returns are the product of two factors: the profit on a unit of sales, such as a bushel of wheat, a pair of shoes, etc., and the number of units sold. When, therefore, a monop- olist seeks to increase his total profits by increasing the price of his commodity, he must take into account the fact that such an increase in price may be expected to result in a decrease in sales, and this in the ultimate outcome may result in decreasing the sum total of his profits. On the other hand, although lowering the price of his commodity will probably lead to larger sales, the increase in profits that might be expected from such increase in sales may be more than offset by the de- creased rate of profit per unit. At some point the re- lation between rate of profit and extent of sales will be such as to yield the largest total profits, and, having a monopoly, he will, so far as his judgment of conditions enables him to do so, fix the price at that point. Such, in brief, is the process by which monopoly price is determined. A full description of monopoly price It ».♦ THE CURRENT THEORY OF PRICE »f would necessitate some modification of this statement. For example, there may be more than one price that would yield the same maximum of net returns. But the fundamental principle involved, i. e., that monopoly price is determined by largest profits, would still be valid. The following table, taken from Professor Ely's "Outlines of Economics,"^ will illustrate the working of these principles : NVICBXB or SAiAS TOTAL XABNIMQ8 VARIABLE ■xramns FBB UNIT TOTAL YABUBLB KXFBN8ES nXBD vxraims TOTAL BXFBHBIS hr nuvM rn UNIT BBVIMUB |o.io .09 .08 .07 .06 .05 .04 600,000 800,000 1,200,000 i,8oo,uuo 2,500,000 3,500,000 5,500,000 $60,000 72,000 96,000 126,000 150,000 175.000 220,000 IO.O3 .03 .03 .03 .03 ■03 .03 |i8,ooo 24,000 36,000 54,000 75.000 100,000 165,000 $50,000 50,000 50,000 50,000 50,000 50,000 50,000 $68,000 74,000 86,000 104,000 125,000 i55»ooo 215,000 —$8,000 2,000 -f 10,000 4-22,000 -1-25,000 +20,000 + 5,000 Commenting upon this illustration, the author says : "Study of the table will show why, in the case assumed here, the monopoly price will stand at six cents. Competition, if it were present, would keep on increasing the supply as long as normal profit could be obtained. In our illus- tration the lowest price at which production could be carried on so as just to secure a profit above the expenses of production would be four cents; and four cents would therefore be the competitive price. ... But since the mo- • p- 199. This table does not. of course, attempt to show just what rate of decrease in number of sales would result from the assumed increase in price. In practice the decrease would vary with different commodities and with the same commodity at different times. Moreover, in actual business the variable expenses per unit would not be constant, as it frequentiy happens that the larger the amount produced the lees the expense of production per unit. Neither of these features of the example . however is at aU inconsistent with the principles which it is intended to illustrate 1 n III! l8 COMPETITIVE AND MONOPOI.Y PRICE nopolist has such control over the production that he can control the supply, he will cut off production at 2,500,000 units, at which point demand will fix a price of six cents, and will give the largest net return, viz., $25,000."^ The term "monopoly" as commonly employed often lacks that precision of definition which scientific analysis would require, yet its meaning is fairly clear. It is intended to designate a condition in which those who sell have such control over the supply of their com- modities that they are able to fix the prices at which the commodities are sold. As stated in the treatise from which the above illustration is taken: "Monopoly means that substantial unity of action on the part of one or more persons en- gaged in some kind of business which gives exclusive control, more particularly, although not solely, with respect to price."® It is recognized that monopoly is not always com- plete and absolute. The definition refers to "a perfect type of monopoly," whereas, just as in the case of com- petitive price, competition may not be perfectly free, so, in the case of monopoly price, monopoly may be incom- plete. "We have a partial monopoly where there is a unified control over a considerable portion of the industrial field, but not over a sufficient portion to give complete domination of the whole field."' Nevertheless, and this is the important fact, whether competition is free or limited, and monopoly complete or incomplete, the fields of competition and monopoly are considered to be distinct. 7p.aoo. 8 p. xSS. 9 p. 191 • 5 I i THE CURKENT THEORY OF PRICE 19 "Our conclusion, then, may be stated as fol- lows: There is a great and growing field ot industry in which competition is not natural or permanently possible, for reasons explamed m the text; there is another field withm which monopoly does not and can not exist. The main points in the current theory of price may be thus summarized : ■ • j 1 There are two sorts of price, competitive and monopoly, each of which is determined in accordance with a principle peculiar to it and quite unlike that m accordance with which the other is determined. 2 The essential condition of competition is fluidity, i. e., transferability, of capital, labor, and business ability from one industry to another. 3 Price under competition is determined by social cost of production, for, on the one hand, if price nses above this, profits will rise above the normal, others will be attracted into the industry, production wiU be increased, and price will fall; while, on the other hand, if price falls below social cost, profits will fall below the normal, some will leave the industry, production will be decreased, and price will rise. 4 The essential condition of monopoly is such unity of action on the part of sellers as gives them exclusive control over price. ... . • * 5. Price under monopoly is determined by the point that will yield the largest net returns. If, on the one hand, price rises above this point, the loss from the re- sulting decrease in sales will more than offset the gam from the accompanying increase in the rate of profit; while, on the other hand, if price falls below this point, the loss from the resulting decrease in the rate of profit more than offsets the gain from the accompanying in- crease in sa les. In either case net profits are reduced. 10 Ely, p. 196. f f I HI COMPETITIVE AND MONOPOLY PRICE The practical teaching of this theory of price is ap- parent: Except in the distinct field where monopoly is natural, make competition free and there will follow normal profits and, by consequence, fair price. Is the theory valid? I > % W MM III HOW PRICES ARE DETERMINED In examining the current theory of price with a view to determining whether its explanation is correct and satisfactory, we will begin with an analysis and com- parison of the influences that determine competitive price and monopoly price respectively. It will be observed that in showing that competitive price tends to equal social cost of production, the method employed is to show that price under the competitive conditions assumed will not permanently remain above or below social cost. In like manner, the method em- ployed to prove that monopoly price tends to the point of largest returns is to show that price under the monop- olistic conditions assumed will not permanently remain above or below that point. It will facilitate a com- parison of the principles according to which each of these two kinds of price is determined, to bring together for comparison, first, the influences which prevent each from permanently remaining above the points stated, and then the influences which prevent each from remaining below the respective points. Turning, first, to competitive price, it may be asked : Why does competitive price not rise above social cost? The many forms in which the answer to this query might be put are reducible to one, viz., because of competition. Thus, if shoes are being produced under so-called com- 21 \ 22 COMPETITIVE AND MONOPOLY PRICE HOW PRICES ARE DETERMINED 23 petitive conditions and $4 per pair yields to the producer a fair profit, the price of these shoes can not permanently remain above $4. For a time, it is true, before condi- tions can readjust themselves, a seller may be able to get $4.50 per pair, but as this yields more than a normal profit, others will be drawn to the shoe industry and competition will cause the price to fall until it reaches $4. On the other hand, to the question. Why does mo- nopoly price not rise higher than it does? the answer given is: Because if it did, net profits would be less owing to a falling off in sales for which the increased rate of profit per unit would not compensate. Thus, if for any reason monopoly should come to exist in the production of shoes, those in the monopoly would no longer be deterred from raising the price above $4 per pair by fear of competition with other shoe manufac- turers. They would, therefore, raise the price until the decrease in sales would lessen net profits. This explanation is usually considered wholly ade- quate to account for the limit to the tendency of mo- nopoly price upward. It is undoubtedly correct as far as it goes. But does it go far enough? Does this enable us to compare the influence that keeps monopoly price from going higher with the influence that keeps competitive price from going higher? In the case of the sale of shoes under competition, the seller can not get more than $4 per pair because if he asks $4.50, the would-be purchaser will go to another dealer, and these two sellers of shoes are said to be competitors because they are rivals in seeking the patronage of purchasers, each trying to attract customers by offering a better in- ducement than his rival in the shape of a lower price. When it is said that monopoly price is kept from going higher because of the loss in net profits that would result from the falling off in sales, it becomes important to inquire why there would be a falling off in sales. Why, in the illustration given^ of the method of deter- mining monopoly price, are but 1,800,000 sold yielding $126,000 when the price is 7 cents, while 2,500,000 are sold for $150,000 when the price is 6 cents? What becomes of the $24,000 that is not spent for this com- modity, when the price is raised to 7 cents? To these questions the manifest answer is: When the price is raised from 6 to 7 cents, purchasing power to the extent of $24,000 is diverted into other channels. It goes for the purchase of other commodities which are preferred to this commodity at a price of 7 cents. This fact suggests another query: What relation do the sellers of the other commodities sustain to those who sell the commodity assumed in the illustration? Here, again, the answer is clear: They are rivals for the patronage of purchasers ; that is to say, they are competitors. True, competitors are often spoken of as though they were necessarily rivals in the same business. A moment's consideration, however, should suffice to show that as business phenomena, there is no difference in kind between the rivalry of those selling the same sort of goods and the rivalry of those selling different sorts of goods, so long as the rivalry results from the fact that each is trying to offer such attractive induce- ments as to lead people to buy his wares rather than the wares of the same or different sorts offered by others. The extent and force of competition in the business world are but faintly appreciated by those who limit their concept of competition to rivalry between those in the same kind of business. As has so truly been said by Professor Ely : 1 See above p. 17. ^1^ )iSj < T ^^mmm0»m I I . 1 I; i i 34 COMPETITIVE AND MONOPOLY PRICE "The competition of the market embraces not only the buying and selling of a given com- modity (like wood), but also the buying and selling of all commodities. In this sense the wood dealers compete with the grocers and the tailors, as well as with coal dealers and with each other "^ There is undoubtedly a difference between the rivalry of those who sell like commodities and the rivalry of those who seel unlike commodities. But this difference does not lie in the fact that one is competition and the other is not competition. Rivalry between those who sell like commodities is probably, as a rule, more intense than that between sellers of unlike commodities, but this is a difference in degree, not in kind. This does not mean that the difference is unimportant. The very fact that in some instances the competition that exists is too feeble to stop the upward tendency in price at the point which suffices for fair profits, may justify steps to supplement such inadequate competition. But the fact remains, and its ultimate consequence is by no means slight, that it is competition that prevents price from going higher both in the case of competitive price and in the case of monopoly price. In the ultimate analysis, the statement that monopoly price is determined by the point that will 3rield the largest net returns means only, so far as the upward tendency of monopoly price is concerned, that it is determined by the point which under the existing condition of competition will yield the largest net re- turns. And it is equally true of competitive price that it, too, is determined in its upward tendency by the point which under the existing condition of competition will yield the largest net returns. This point in the case of monopoly price may be much above the point in the > OuMnti 0/ Ecmumiea, p. 163. Not italicized in the original. HOW PRICES ARE DETERMINED 25 case of competitive price; but this is not due to the fact that different kinds of influences set the limits. It is due, rather, to the fact that competition works in each of the two cases with differing effectiveness. Taking up next the influences which keep competitive and monopoly price from going below certain points, it will be recalled that current theory teaches that competi- tive price does not permanently remain below social cost of production, and that monopoly price is maintained up to the point of maximum returns. The first question to be considered here is: Why can monopoly price be kept up to the point specified? Whatever may be the forms which the answers to this query take, they will amount practically to this, — because of the existence of "substantial unity of action on the part of" the person or persons engaged in the business, a unity of action which results in control over the supply of that which the purchaser seeks to obtain. The monopolist, it is said, "freed from competition, and governed only by de- mand, is able to adjust supply to demand in such a way that the price will stand at the point of highest net re- turn."* On the other hand, when competitive price is under consideration, the reason assigned for its maintenance at social cost of production is that if price falls below this, some will go out of business, production will be decreased, and price will go up. This answer is not satisfactory because it involves the implication that price has within itself some spontaneous force such that, once influences holding it down are removed, price will of its own accord go up. Price does not go up ; it is put up. If, in the case of the shoes mentioned above, competition among the sellers results in the price being reduced to 8 Ely, p. is>8. ■!*' ' i i! PI i i i i i i i i l^' 26 COMPETITIVE AND MONOPOLY PRICE ,1 $3 a pair, — $4 being assumed necessary to normal profits, — it may be expected that in time some will go from the manufacture of shoes to other fields where at least normal profits can be realized. But this fact, even if it results in the manufacture of fewer shoes, is not sufficient to account for the restoration of the price of shoes to its former so-called competitive figure, $4. So long as two producers remain in the field and continue to compete, price will continue to fall. Nor is this fact controverted by the truth that producers can not continue indefinitely to produce at a loss. The significance of this lies, not in controverting the proposition that if producers con- tinue to compete, price will continue to fall, but in the fact that producers can not continue to compete indefi- nitely. Furthermore, the mere cessation of competition is not of itself sufficient to explain the restoration of price to $4, which may be called its normal point, and this for the reason just given, that price does not move auto- matically. If competition drives price below cost of pro- duction, price will move up, as has been said, only when it is put up, and it will be put up only when there is such "substantial unity of action" among those remaining in the business as to give a control over supply sufficient at least to enable them to bring the price back again to its normal point. It is important to distinguish here between the fact of "substantial unity of action on the part of one or more persons engaged in" a business, and the method employed to secure such unity of action, — a distinction fundamental to this analysis, but often overlooked. When competi- tion drives price below cost of production, "unity of action" may follow merely because one person is stronger than his competitors and is thereby enabled to hold out HOW PRICES ARE DETERMINED 27 until they are driven into bankruptcy, leaving him a free field; or it may result from the purchase by one of the interests of the others; or, again, it may arise from an agreement between the competitors,— assuming the absence of a law to the contrary,— by which they con- tract not only to suspend competition, but also to unite in raising the price ; or, finally, the substantial unity of action, without which price can not be put up, may come to exist without bankruptcy, purchase, or agreement, but merely as the result of an independent recognition by each that he is a loser from unreasonable competition and will be a gainer by spontaneously acting in union with the others. The permanence and efficiency of a unity of action that rests merely upon such a spontaneous recognition of mutuality of interests will be less than when that unity has for its basis an agreement or the elimination of one's competitors, but as a business phe- nomenon, unity of action is unity of action regardless of how it is brought about or of its effectiveness. More- over, it is this unity of action and not competition which is responsible for the maintenance of price up to social cost when it is so maintained. One other explanation of the return of competitive price to social cost calls for brief attention in passing. Some have ascribed this to competition among buyers. According to this view, competition among sellers keeps price down to social cost and competition among buyers keeps price up to social cost. Such a method of reason- ing is nothing short of casuistical jugglery, worthy alone of the modern prestidigitator, for if this is an adequate explanation, we are forced to the conclusion that com- petition is everything and explains monopoly price as well as competitive price. The necessity of such a con- clusion is apparent. If the return of price to social I w m COMPETITIVE AND MONOPOLY PRICE cost, after it has fallen below that point, is to be ex- plained by the competition among buyers which arises when, owing to the low price, supply is decreased, an analogous and equally valid explanation is to be found in the case of monopoly price. It may be said that monopoly price is kept up to its high point by the com- petition among buyers which arises when the monopolist decreases the supply which he offers on the market. Ac- cording to this method of analysis, it is, then, competi- tion among buyers that keeps both competitive price up to the point of social cost and monopoly price up to the point of largest returns. Add this to the fact already shown, viz., that it is competition which keeps com- petitive price down to the point of social cost and mo- nopoly price down to the point of largest returns, and the conclusion follows, as was said, that all price, mo- nopoly as well as competitive, is determined by compe- tition. As a matter of fact, in so far as competition and unity of action are opposing influences in their effect on price, a valid analysis of price must begin by deter- mining whether these influences are to be viewed as they appear in the acts of sellers or as they appear in the acts of buyers. Whichever standpoint may be adopted, logical consistency requires that it be retained throughout the analysis. In the present case competi- tion and unity of action are viewed as the acts of sellers, because this seems the most common way of looking at them. Such, for example, is the case when competition is regarded as the safeguard of society against extor- tionate price to consumers. The competition here meant is clearly competition among sellers. Similarly, when monopoly is said to lead to exhorbitant prices, the mo- nopoly thought of is a monopoly on the part of sellers. HOW PRICES ARE DETERMINED 29 ) From the standpoint of the sellers, then, it is sub- stantial unity of action on their part which is responsible for keeping price up to social cost, when it is so kept up. But, as was seen, it is also substantial unity of action which enables the monopolist to keep price up to the point of highest net returns. Moreover, the unity of action which is effective in the case of competitive price is a phenomenon in no whit different in kind from the unity of action which is effective in the case of monopoly price. Such difference as exists is wholly one of degree. Lest the point here made should be misinterpreted, it may be permitted to repeat what was said in a similar connection in describing the relation of competition to competitive and monopoly price. The fact that it is the same influence which keeps both competitive price and monopoly price from going lower, the difference being one of degree, not of kind, does not warrant the con- clusion that the difference is unimportant. Were unity of action to cease from further influence in increasing price when it sufficed to insure the producer a fair re- turn, there would be no trust problem. It is, then, pre- cisely because unity of action, which is necessary and useful to a degree, may and does go beyond the point of necessity and usefulness, that the monopoly problem exists. Nevertheless, here as formerly the fact remains and is of practical moment, that it is unity of action on the part of sellers, involving a degree of control over supply, which is responsible for keeping price up, both in the case of monopoly price and in the case of competitive price. Putting this conclusion along with the similar one reached from an analysis of the reason why price does not go higher, it will be seen that current theory errs in two important respects : neither competitive price nor ^ \ m 30 COMPETITIVE AND MONOPOLY PRICE HOW PRICES ARE DETERMINED 31 I,* monopoly price is determined by one influence alone; nor do the influences which determine the one diflfer in kmd from those which determine the other. Both are determined by the combined working (i) of compe- tition and (2) of unity of action. When the former predominates, price falls ; when the latter predominates, price rises; the actual price in any given case is the resultant of the two. Two other important modifications of current theory follow as corollaries from the above analysis. First, as to the concept of monopoly. It is customary to define monopoly as such unity of .action as gives the seller exclusive control over price.* It is to be assumed that the price referred to here is the price at which com- modities are actually sold, and not merely the price at which they are offered for sale. But, in fact, the seller practically never has such exclusive control over price; the buyer always has something to say about the price at which a thing is sold, because he determines whether he will accept the terms offered or will go elsewhere, if not for the same kind of commodity, then for some other commodity. Competition in some degree is present. This does not, however, dispose of the monopoly question, for the degree of control exercised by sellers may be so excessive as to work most serious injury. While, however, the rejection, as unsound, of the concept of absolute monopoly does not dispose of the monopoly problem, it does have a most important bearing upon the direction in which a rational solution of that problem is to be sought. * A frequent cause of cotifusion in ditcuanons of monopoly ia found in the fail- ure to diatinguisli between "control over a commodity" and "control over the price at which a commodity is sold." As was seen above (p. 18), Professor Ely re- gards control over price as the distinguishing characteristic of monopoly. After fimnulating his definition with much care, he says " Price is essential, and must be regarded as the fundamental test of monopoly." (hOine* qf Eeonomie*, p. 188. /\ \ The other modification of current theory to which reference was made has to do with its teaching as to the condition essential to the existence of free compe- tition. As was seen, it is usually taken for granted that perfect fluidity of capital, labor, and business ability would result in free competition. As a matter of fact, such is not the case. What would result if there were perfect fluidity is that competition would continue until the fair, normal profits of producers were threatened. At this point competition would tend to cease and unity of action would predominate over competition, restoring profits to their normal amount, and, perhaps, threaten- ing, in turn, to make profits excessive, in which case there would be a renewed preponderance of competition. Current theory, then, is correct in teaching that under perfect fluidity of capital, labor, and business ability, price would equal social cost of production, but it errs in assigning as the reason for this the existence of free competition. It is due, rather, to the fact that under such perfect fluidity, the relation of competition and of unity of action would involve a balance at the point of social cost. . J i k» n ll^ .ir>-i"'li •*-f /«W A FAIR TRUST POLICY 33 .i) I.'; V ' IV A TRUST POLICY FAIR TO BIG BUSINESS AND TO THE CONSUMER This analysis of price and of the nature and working of the influences that determine price has, as already stated, some important bearings on the trust problem. In the first place, the conclusions reached concerning price show that the proposition that all contracts and agreements which limit competition necessarily restrain trade, is indefensible, at least as far as trade in the long run is concerned. For, not to limit competition at the point where its further action will result in loss to pro- ducers means the ultimate bankruptcy of all but the strongest. And when this point is reached, competition is eliminated and trade restrained to a far greater degree than when there are several producers still in the field, even though they work together under some sort of an agreement. It may be admitted that the immediate effect of lessen- ing competition is to restrain trade, for competition means lowered prices and lowered prices mean, as a rule, larger sales. So, even the competition that brings actual loss to the competitors will lead to larger trade, but only temporarily. When such competition has worked out its inevitable result, it necessarily eliminates itself, and the result is loss to all. It is a truism, that the interests of the consumer quite as much as the interests of the 32 \ producer call for fair profits to the latter. The so-called "rule of reason" as applied to the interpretation of the Anti-Trust law in the recent decisions of the Supreme Court in so far as it involves the principle that not all acts interfering with competition, but only such as un- reasonably interfere with competition, restrain trade, is unquestionably sound. It is by no means improbable that if this view had been taken in the early interpreta- tions of the Anti-Trust law, industrial consolidation would have developed at a much more moderate pace and the trust problem would be less acute. A second point suggested by the analysis of price concerns the so-called "natural laws of competition," referred to in the Northern Securities case and not in- frequently in the general discussion of the monopoly question. What are these "natural laws of competition" whose unimpeded operation conduces to public advan- tage? One might suppose, from the common use of the term, that there are certain well-known laws of compe- tition natural to industry somewhat as there is a law of gravitation natural to the physical world. Especially is such an assimiption warranted when, without stating these natural laws of competition, they are referred to, not incidentally, but as fundamental to the interpreta- tion of a most important Federal law by the Supreme Court. But search for these laws is vain. No treatise on law or economics supplies them. They have never been formulated. They do not exist. As a matter of fact, the expression, "natural laws of competition," is but a method of referring to the widespread but largely un- analyzed opinion that "competition is the life of trade." Such crude concepts will no more suffice as the basis of a policy that is to govern the business of to-day than untested steel suffices as a basis of the vast engineering i •] < I ii 'r i I » ""iS^ i i f 34 COMPETITIVE AND MONOPOLY PRICE A FAIR TRUST POUCY 35 If If I [i II works of modern industry. When subjected to analysis, as has been shown, the natural results of competition, if left to itself, are its own destruction and public injury. As was noted at the outset, the present trust policy seeks to eliminate certain forms of industry to the end that the field may be left to free competition, in the belief that free competition will insure fair price. Ref- erence has also been made to the fact that up to the present, that policy has failed signally to accomplish the results expected. The measures thus far adopted have not secured the unimpeded working of competition. Not that these efforts have been wholly fruitless, but that the consensus of opinion is that an effective solution of the trust problem has not yet been enacted into law. Various reasons for this failure are assigned and cor- respondingly various remedies are proposed. Their de- tailed consideration need not be entered upon here. The point that calls for emphasis in this connection is that, if the above criticism of the current views of price is valid, the measures already adopted were foredoomed to failure, as will be all other measures which rest upon the same basis. And for this reason: Granting that social cost of production, i. e., the expense of production to the individual plus a reasonable profit, is the correct standard of a fair price, this standard can not be reached through competition alone. The indispensable requisite for securing a fair price is to secure the proper balancing of competition and of unity of action, the former insur- ing fairness to the consumer, the latter insuring fairness to the producer. Whatever may be the details of the policy when they are worked out, this is its starting point, and the sooner it is recognized, the sooner may we expect to discover the specific measures necessary to a rational and effective policy. J Given this as the basic consideration, the next step will be to determine the method by which the desired balance of competition and unity of action can be se- cured. As shown above, under a condition of perfect fluidity of capital, labor, and business ability, the balanc- ing of these two opposing influences would be automatic. On the one hand, if consumers were called upon to pay too much, the exceptional profits afforded by the high price would attract other producers, and competition would compel a lower price; on the other hand, if pro- ducers failed to secure a fair return in any field, such changes among producers would take place as would result in the unity of action necessary to force price up to the point of fairness. But capital, labor, and business ability are not per- fectly fluid. This fact is recognized in the current theory of price, but the method of meeting it involves a serious omission in that theory and a fatal flaw in the policy based upon it. It will be recalled that according to this theory** not all capital, all labor, and all business ability need be fluid to secure fair price. The existence of some free capital, some free labor, and some free business ability seeking a field for operation is considered suf- ficient. But is it? To what extent may fairness be expected from the fluidity of that portion of capital, labor, and business ability not yet employed in industry? Manifestly, the fairness insured by this is fairness to the consumer and to the consumer only. It is the prevention of high prices, i. e., the conservation of the interests of the purchasers alone, that can be expected from this partial fluidity. What, meanwhile, of fairness to the pro- ducer? It is a striking and an important feature of the present industrial policy and of the public opinion back A See above, p. 15. \ \. if *Yt>J A .-»»—«•■■».. ■•-<^' V !l ]: ,') h 36 COMPETITIVE AND MONOPOLY PRICE of it, that the consumers' interests alone are thought to demand special consideration. It seems to be assumed that the producer can take care of himself. If the matter ever enters the mind, it is probably dismissed with the thought : What need of protection has the modern trust whose resources are to be reckoned in millions? Whereas, the very magnitude of the interests at stake intensify the necessity of adequate means for their safeguarding. Furthermore, the efforts in behalf of consumers have often led to measures denying to producers the only means by which they can defend themselves, viz., an effective unity of action. In defense of such a policy may be urged the danger of the abuse of the power which unity of action gives, if it is permitted to exist. This danger is a very real one, and herein lies the crux of the problem : How can the interests of the consumers be conserved while allowing to producers the unity of action which is indispensable to them ? On the one hand is the trite but true fact that unrestrained freedom to combine is intolerable. But, on the other hand, is the equally true fact which, whether trite or not, can not be too strongly emphasized, that no policy looking to fairness can be expected to succeed which does not pro- vide fairness for the producer as well as for the con- sumer. While it is true that perfect fluidity of industrial agencies does not exist and has never existed, this fact has not always been as serious a handicap as now, to the attainment of a fair price through the spontaneous working of business influences. During the early part of the nineteenth century, when the idea was taking shape that competition is adequate to the regulation of general industry, if only it can be allowed free play, the character of business favored the so-called ''let alone" i A FAIR TRUST POLICY 37 or self-abnegation policy. Though it was equally true then as now that fair price is the result, not of compe- tition alone, but of competition and unity of action co- operating, the failure to recognize this fact and the con- sequent glorification of competition was not a serious mater. Among the features of the industry of that time which favored the "let alone" policy were the small size of business units, their varied character, the rela- tively small part played by capital and especially by fixed capital, and the individual or partnership form of or- ganization. When industries were small and markets correspond- ingly limited, competition among producers was not so intense as now. Moreover, there was frequently a per- sonal relation between producer and consumer which conduced to mutual fairness. The impersonal modem corporation was then the exception. Again, the fact that each industry as a rule supplied a variety of products tended to soften the effect of an excessive competition in the case of some articles, as the seller might make up for unduly low profits on them by correspondingly high profits on others. The relatively small part played by capital signified a larger fluidity of business ability. Under such conditions it was easier for one to leave an unprofitable field and betake himself to a profitable one,— a transfer which was rendered easier then than now, too, by the relatively small amount of fixed capital required in industries. In short, business ability and capital,— and for that matter, labor also, which had not yet become ' intensely specialized,— were highly fluid, and even where fluidity was lacking, conditions existed which tended to prevent unfairness. The contrast between the character of business at the beginning of the nineteenth century and its present i I (i 38 COMPETITIVE AND MONOPOLY PRICE character is marked. Large business units, immense ag- gregations of fixed capital, intense specialization, cor- porate organization, a world market, — these are the dom- inant features of modem industry. And every one of these, in one way or another, militates against the spon- taneous realization of a healthy adjustment of competition and unity of action through fluidity of the industrial agencies or through the influences that tend to make up for the absence of fluidity. The belief of some that the advantages of big business can be secured to society without allowing them the unity of action necessary to their healthy conduct, is vain. Equally vain is the belief that the public can without serious loss return to the small business unit, or that a policy suited to the small unit stage of production is applicable to the large unit stage. The sum of it all, then, seems to be clear in principle, however difficult may be the working out of the details. 1. Fair price can be secured only by securing the proper balancing of competition and unity of action. No policy can hope for success which regards competition as natural and beneficial in and for itself and unity of action as abnormal and injurious. 2. Since, under modem industry, the healthy balanc- ing of competition and unity of action can not be at- tained through the spontaneous working of business in- terests, there must be legislation, and this legislation must have for its object, not the impossible regime of free competition, but the proper adjustment of both compe- tition and unity of action. 3. Mere general provisions as to acts that are in restraint of trade are not sufficient. The dividing line between acts which in their ultimate effect do and those which do not restrain trade is altogether too indefinite A FAIR TRUST POLICY 39 to suit the needs of business. The specific evils shown by experience to result from excessive unity of action and from excessive competition should be clearly defined and explicitly forbidden, so that both the general public and those who manage industry may know just what is and what is not contrary to law. A final word may be added concerning two criticisms that will doubtless be advanced against the program sug- gested. Some will say that it tends towards socialism. In reply to this, it may be urged, and urged truthfully, that the real promoters of socialism are those who per- sistently pursue an impossible end in seeking to achieve fairness by the aid of competition alone. They succeed only in prolonging and intensifying existing evils. Others will claim that the policy as proposed is im- possible of realization. To this it must suffice here to say that such a conclusion is not warranted until the policy has been given a fair trial. Moreover, such fair trial can not be had until public opinion ceases to deify "free competition." Nor is such fair trial attainable until it is recognized that there are good as well as bad possi- bilities both in competition and in that unity of action which, only when excessive, produces the evils of mo- nopoly. \ i- i i^ftiffiWiMiW r"- ' - ' - ' -- -"-■- a saa ■IIP COLUMBIA UNIVERSITY LIBRARIES provided by the librao- ^uV^ of bt ,^ V "^ ^^<»^'. « the librarian in ch^e '^ "^"^ a"angem«.t witi, <-^l><}38J loOM V'- / HS-JZ {\ NEH *'*«%- > ii APR 1 5 1929 « END OF TITLE