Monopoly Power and The Myth of Free Markets

It isn’t farmers profiting from the rising price of butter and cheese—they are mostly just passing on the increased costs from the rising price of fuel and raw materials. This year alone the four largest energy companies are set to deliver around $38 billion worth of share-buybacks to investors on the back of super-profits. According to the IPPR, just 25 non-financial companies account for around £30.5 billion of the increase in corporate profits since the pandemic started. But this profiteering on the back of monopolistic price-fixing is nothing new.

In 1971 John Kenneth Galbraith, Harvard Professor of Economics and former deputy-head of the Office for Price Administration (OPA) during World War II, wrote an op-ed in the New York Times making the case for price controls. The article was written in response to the then nascent inflationary surge and was in opposition to the emerging monetarist prescriptions. The Monetarists, most famously Milton Friedman, advocated for interest rate hikes and cuts to government spending in order to increase unemployment and decelerate wage growth.

Freidman claimed that prices were too complex for governments to regulate and so should instead be left to the markets. According to Galbraith, the Monetarists saw inflation as a sickness that needed to be purged by swallowing some bitter medicine. They believed that the inflation of the 1970s was the result of keeping the unemployment rate too low and letting the money supply grow too fast. However, for Galbraith, inflation was more like a chronic condition caused by old age than a disease.

As American capitalism reached its mature stage, competitive markets had been replaced by a few huge corporations. This lack of competition gave those large corporations the ability to fix prices at artificially high levels. After the collapse of the Bretton Woods system of fixed exchange rates in 1971, the value of the dollar plummeted, increasing import costs for US consumers and corporations. The large corporations with monopolistic pricing power pushed up prices to maintain profit margins, and in response the strong labour unions bargained for higher wages. The OPEC oil embargo of 1973 added fuel to the fire—inducing the infamous ‘wage-price spiral’.

The Monetarists utilised the chaos of volatile exchange rates and skyrocketing oil prices to weave a narrative of blame for inflation squarely on the shoulders workers and trade unions, much to the benefit of the large corporations. They succeeded in their ideological crusade for higher interest rates with the Federal Reserve Funds Rate reaching 15% by 1980. As a result, the US economy experienced two consecutive recessions and stagnated for four years.

Unemployment reached 10.8% before a recovery started, which had more to do with an influx of low-priced commodities from Asia and the growth of private debt than the success of interest rate hikes. For Galbraith, the mistake of the Monetarists was in their belief that prices were determined by free markets—when in reality a handful of large, monopolistic firms had the ability to fix prices. It is for the same reason that the Monetarist conviction that governments are incapable of effectively controlling prices is completely wrong.

Price Controls in War and Peace

Monetarist thinkers like Milton Friedman argued that if governments try to fix prices, they will cause distortions to market signals, leading to sub-optimum production of goods by a misallocation of investment. If prices are set too low, there will be no incentive for suppliers to increase investment in productive capacity because rising prices and the prospect of higher profits are what incentivise companies to invest in production.

It follows that if prices are fixed too low, it will exacerbate supply shortages, because suppliers won’t be able react to rising demand. It is claimed that free from government interference, prices would stabilise long-term because supply would increase to match demand. Interfering with this intricate mechanism, the Monetarists argue, would lead to economic chaos and prolific shortages—but history tells us differently.

During the Second World War nearly all developed countries applied price controls, and none experienced a drastic collapse in supply. In fact, between 1939-1944 the US doubled its per capita GDP, industrial production tripled, and massive amounts of war materials were produced while raising civilian living standards—anathema to Monetarist doctrine.

To understand why price controls were so effective during the war, Galbraith looked to the free-market induced chaos of the financial crash in 1929 and subsequent depression for answers. He found that in the pre-war era of the Great Depression the price of commodities like steel didn’t fall with a reduction in demand. This indicated that it was not supply and demand keeping prices high, but some kind of market power possessed by producers. Writing in 1952, he said:

Oligopoly … was no longer the exception … it was the rule. Where a few large firms dominated an industry, as they did steel, aluminum, oil, chemicals, pharmaceuticals and many others, prices were already controlled … these markets lend themselves to price regulation to a far greater extent than had previously been supposed.

The introduction of price controls was not without issues, though. Initially, the number the number of commodities that needed regulating grew too quickly for the OPA to effectively keep track. However, the problem was solved by the introduction of General Maximum Price Regulation in April 1942, which put the onus on the seller to justify their price increase rather than the government to justify their price fix for a given commodity. As such, the regulation targeted the drivers of inflation at the root—for example, energy companies—rather than targeting those like farmers who are were putting up prices in response to their own rising costs of production.

Modern Day Inflation

Galbraith’s identification of large corporations’ pricing power as the underlying source of inflation provides invaluable insights for today. In his analysis of the inflationary situation in the 1970s he identified strong unions and strong corporations as the drivers of rising prices—albeit in response to partly global economic events. However, unions today have considerably less power than in the time of Galbraith’s writing in 1971—and yet inflation is set exceed to 10% by the end of the year.

The only remaining culprits for these excessive price increases are the large corporations, who have more power than ever and are using that power to fix high prices, put downward pressures on wages, and shift their record-breaking profits offshore to avoid tax.  Despite low levels of unemployment, wage increases on the whole remain below inflation levels. This represents weaker bargaining power for workers today than historically, and a transfer of wealth from workers to companies and their shareholders.

There are some analogies between today and the aftermath of the Second World War, such as supply chain disruptions and a lag in restarting production that led to cost-push inflation. There are also some similarities with the 1970s, when rising oil prices drove up costs for consumers and producers. But unlike these inflationary events, households today don’t have savings to buffer against inflation, and they don’t have strong union legislation to enable them to effectively bargain for higher wages. Most savings now are in the hands of the wealthy, with the bottom 80% of UK households having £500 or less in the bank—while unions operate under increasingly restrictive collective bargaining legislation that inhibits industrial action.

The one factor that has remained consistent with today, and has in fact increased, is the monopoly pricing power of large corporations. As such, the case for price controls has never been stronger. It is clear that there is no wage-price spiral causing inflation today, if there ever was—only a profit-price-spiral.