Re: Fear of Life (was Microsoft, Automation)

Dan Fabulich (
Sun, 03 May 1998 16:25:20 -0400


ChuckKuecker wrote:
>>Well, the problem is this: under a lf-capitalist market, invention has
>>lots of positive externalities. After all, you DO gain from the invention,
>>just as much as your competitor did, but you also had to bear the cost of
>>invention. When you give the inventor monopoly status, however, you cut
>>off those positive externalities and allow the inventor to set prices
>>arbitrarily high without fear that some pesky competitor will offer the
>>same product at a lower price.
>Please define these 'externalities'. I still don't see how I benefit to have
>my market stolen from me..

I'm not saying you do benefit from having competitors. Indeed, it's
primarily us consumers who benefit from your competition. However, even
without copyright, all firms benefit from invention. Suppose your firm is
producing goods in a regular competitive economy with normal supply and
demand curves:

Price |\_ _/ <-- supply
| \_ _/
| \_ _/
P* |______\_/
| _/^\_
| _/ | \_
| _/ | \_
|/ | \ <-- demand

We imagine that you make a variety of goods, and this demand curve
represents the demand for all the different goods you might make in a
competitive market. OK, now suppose you invent something new. The
invention is a "sunk cost": it does not add to your marginal costs (see
below) and so it does not change the shape of your supply curve. (This may
not necessarily be true; making a sensor may be more costly the other goods
which you make currently, or it may be cheaper. However, because the
effect is ambiguous, we can presume that it doesn't change your supply
curve. Even if it does, this doesn't affect my argument.) Nonetheless, it
DOES increase the demand for your goods, since you now attract new buyers
who want to buy your new product.

| \_
| \_
| \_
Price |\_ \_ _/ <-- supply
| \_ _/^\_
P* |______\_/ | \_
| _/^\_ | \_
| _/ | \_ \_
| _/ | |\_ \_
|/ | | \ \ <--- new demand
Q* Q**

Where P** and Q** are the new price and quantity. As this graph shows, you
reap increased revenues thanks to the invention, even under a market where
you don't have copyright protection. To be specific, you reap extra
revenues given by the trapezoid formed by the y-axis, the old price line,
the supply curve and the new price line.

So what did I mean by externalities? Well, just as your firm will receive
the money in that trapezoid, so will all other firms who produce
"knock-offs." You will all EACH receive the quantity inside that
trapezoid. Thus, invention has positive externalities on other suppliers.

Meanwhile, it IS worthwhile to pay for invention, even if the invention is
not protected with a government monopoly, if the area inside your trapezoid
is equal to or greater than the cost of invention. Indeed, the larger your
stake in the market, the more worthwhile invention is.

>If I set my prices arbitrarily high, I limit my sales to those for whom
>money is no object. This is a very small market. If I charge a reasonable
>price for my invention, based on its' costs and a fair payment to me for the
>development, I should have more takers.

Let's look at what you're saying economically.

You correctly point out that if you set the price arbitrarily high, you
won't have as many takers as if you set the price somewhat lower. I agree
with this; monopolies do not get to set their own revenues, they only get
to set the market price without worrying about competitors. So we imagine
that you demand curve looks like this:

Price |\__
| \__
| \__
| \__
| \__
| \__
| \__
| \ <-- demand


However, because you are the only source of this particular good, you
represent the entire market for that good. This means that each time you
want to increase quantity by one, you have to lower the price slightly. As
a result, the marginal revenue (MR, or the revenue you get from selling one
more of your product) for a monopoly is actually LOWER than the demand
curve, and looks like this:

Price |\__
| \ \__
| \ \__
| \ \__
| \ \__
| \ \__
| \ \__
| \ <-- MR \ <-- demand


Finally, we note that you suffer from increasing marginal cost; that is,
the first sensor you make is cheaper than the second, which is cheaper than
the third, and so on. (This is not strictly true across the board; this
value may remain level or even decline, but it is nonetheless true as a
general trend.) So your marginal cost (aka "supply") curve will look
something like this:

Price |\__ __/ <--- supply
| \ \__ __/
| \ \__ __/
| \ \__/
| \ __/ \__
| _\/ \__
| __/ \ \__
|/ \ <-- MR \ <-- demand


The profit maximization rule for firms state that you should continue to
produce goods until your marginal costs are equal to or greater than your
marginal revenue; in order words, that you should make one more if the cost
of one more is less than the revenues which it will make for you. A normal
firm will find this point when the supply curve intersects the demand
curve, because for most firms, the demand curve IS the marginal revenue
curve. Monopolies, on the other hand, have a lower MR curve, and thus will
set their quantity lower than a regular firm. Unfortunately for consumers,
however, the PRICE a monopoly can charge for a given quantity is given by
the demand curve, not by the marginal revenue curve. So what we see is
that monopolies, when acting in such a way as to maximize their profits,
will set prices higher than a competitive firm would, and produce a smaller
quantity, thus:

Price |\__ __/ <--- supply
P |_\_\__ __/
| \ |\__ __/
| \| __/ |\__
| _\/ | \__
| __/ |\ | \__
|/ | \ | \ <-- demand
Q Q*

Where P* and Q* are the price and quantity which would be reached by a free
market, and P and Q are the price and quantity which a monopoly would
choose to maximize profits. (I recognize that it's hard to read... Try
drawing it on paper or something.) When we keep in mind that the
consumers' surplus is the area under the demand curve and above the price
line, whereas the monopoly's surplus is the area above the supply curve and
below the price line, it is clear that by setting the prices this high, the
firms are benefitting at the expense of the consumers. Worse, we also note
that because this quantity is lower than it would be under a free market
there is "deadweight loss" (the wealth which would have been created if the
market were free), represented by the area inside the triangle bounded by
the demand curve, the supply curve and the quantity line. The part of this
triangle above the price line is that surplus which would have been earned
by consumers; the part below this triangle is that which would have been
earned by firms. Firms will happily sacrifice this triangle, however, if
they can gain the rectangle formed by the y-axis, the monopoly price, the
quantity line, and the competitive price. The revenues in that rectangle
outweigh the revenues in the triangle.

This is why monopolies are bad: they are REALLY bad for consumers, since
they go from reaping the entire area under the demand curve and above the
competitive price line to only getting the much smaller area below the
demand curve and above the monopolistic price line. Moreover, they are
also bad for the wealth of society as a whole, because the deadweight loss
represents commerce which COULD have contributed to economic growth for
everybody, but won't, because the monopolistic firm is profit maximizing.

So, to answer your point directly: Yes, you won't set your price
arbitrarily high; instead, you'll set your price just high enough to
squeeze profits out of the consumers at the expense of everybody else,
hurting everyone by hurting the consumers.

>In the case of our products, the market is fairly small and specialized. One
>competitior stealing our ideas and undercutting us would ruin the whole
>works for us.

If your product isn't worth making under a competitive price, but is only
worthwhile under government protection, maybe you should rethink whether
the product is worth making at all.

>>So it seems to me that we're choosing between an accidental good and,
>>apparently, a deliberate bad.
>I still don't see the 'bad'.

I hope you do now.

>>>Anyway, it's darn hard to encrypt a mostly physical device..We don't have
>>>the replicator, yet..
>>The encryption is used for the invention, for the sales of the first idea,
>>not for the product. The premise that you could have lots of people know a
>>piece of information and still sell it as if you were the only one is one
>>of the fallacies which copyright tends to prop up.

>The rewards are for the initial creation of the information, not knowledge
>of same. You seem to be saying that the creators deserve no rewards for
>their thinking!

I don't understand what you're saying here. As you surely know if you've
read my other posts on this topic, I DO think that creaters deserve rewards
for inventing, I just don't think they deserve monopoly status on the idea.

>>You still benefit from the invention in the form of the new market you've
>>just created or in the increased demand for your products. The fact that
>>your competitor will also benefit does not detract from this. Thus, so
>>long as you still make a profit from the invention, it's still worthwhile
>>to pay for it.
>I beg to differ. As I stated earlier, if the market is small, you are
>seriously harmed by knock-off competetion.

Again, if you need the coerced profits in the rectangle in order to stay
afloat, then maybe you should be rethinking the value of your product in
general. And as I think I have shown, you DO benefit from invention, even
when other people are allowed to compete with you for your products.

>If you build a mansion, will you be disturbed if I decide to move in with my
>family and use it? If not, let me know where you live...

Of course I would be. I would not be at all disturbed, however, if you
made another mansion just like it on your own land. This is the difference
between "intellectual property" and real property.

Version: PGP for Personal Privacy 5.5.3