A natural monopoly exists when average costs continuously fall as the firm gets larger. An electric company is a classic example of a natural monopoly. Once the gargantuan fixed costs involved with power generation and power lines is payed, each additional unit of electricity costs very little; the more units sold, the more the fixed costs can be spread, creating a reasonable price for the consumer. Having two electric companies split electricity production, each with their own power source and power lines would lead to a near doubling of price. Clearly, competition, the flagship of the American economy, is not always the answer.
Are natural monopolies a phenomenon found in the software industry? Is system software a candidate for a natural monopoly? The growing cost of software development and the shrinking cost of software duplication suggest so. After all, a project like Windows 95 has fixed costs in the hundreds of millions, and the cost of producing each Windows 95 box is comparitively nill. Therefore, the greater Microsoft's market share, the lower the average cost, and the lower the price of the package for the software consumer.
We should therefore be cheering such software monopolies and welcoming the related economic benefits!
Not exactly. The world is not so simple and businesses are not so fair. First of all, there is a good reason why natural monopolies are regulated by the government. Because the electric company has a monopoly, consumers are unresponsive to price changes; if a company doubled the price of electricity, people would have to pay it because they have no one else to buy it from. Only strict government regulation keeps the coorporate greed in check.
The price of software like Windows 95 is determined, not by how much it costs to make, but by how much people are willing to pay for it. Bill Gates would probably not be happy about putting his company's pricing into the hands of Washington.
Another problem with software natural monopolies is the suffocation of innovation which would accompany it. Innovation in electricity production may not be of vital concern, but in the software industry, innovation is everything. A company with a monopoly, natural or otherwise, has little incentive to improve its product. Only the possibility of real competition can keep a software company on its perverbial toes.
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