What is a natural monopoly?

In his online definition, Dr. Paul Johnson, professor of political science at Auburn University in Auburn, Ala., says a natural monopoly “might occur when production of the good requires extremely large initial capital investments to even enter the market in a modest way, but then producing additional output requires only very modest additional outlays beyond the fixed initial investment.”

Johnson continues: “Under such circumstances, the firm that initially starts out with the largest share of the market is in a position to price its output at a level below its…competitors’ costs of production and still make a profit while driving them out of the business. And the larger its market share gets, the lower its unit costs become, until a monopoly position is finally obtained.”

The professor points out that local phone service is often considered to be a natural monopoly. The initial players invested heavily in infrastructure, but once the pipes were laid, they didn’t have to invest as heavily down the line.