A Project on

Monopolistic market context of Nepal

Submitted by:

Chhitiz Shrestha

BBA-BI-B

Submitted To:

MR. J.P

1. Introduction to Nepalese economy

An isolated, agrarian society until the mid-20th century, Nepal entered the modern era in 1951 without schools, hospitals, roads, telecommunications, electric power, industry, or civil

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service. The country has, however, made progress toward sustainable economic growth since the 1950s and is committed to a program of economic liberalization.

Nepal has used a series of five-year plans in an attempt to make progress in economic development. It completed its ninth economic development plan in 2002; its currency has been made convertible, and 17 state enterprises have been privatized. Foreign aid accounts for more than half of the development budget. Government priorities over the years have been the development of transportation and communication facilities, agriculture, and industry. Since 1975, improved government administration and rural development efforts have been emphasized.

Agriculture remains Nepal's principal economic activity, employing 80% of the population and providing 37% of GDP. Only about 20% of the total area is cultivable; another 33% is forested; most of the rest is mountainous. Rice and wheat are the main food crops. The lowland Terai region produces an agricultural surplus, part of which supplies the food-deficient hill areas.

Economic development in social services and infrastructure has made progress. A countrywide primary education system is under development, and Tribhuvan University has several campuses. Although eradication efforts continue, malaria had been controlled in the fertile but previously uninhabitable Terai region in the south. Kathmandu is linked to India and nearby hill regions by road and an expanding highway network. The capital was almost out of fuel and transport of supplies caused by a crippling general strike in southern Nepal on February 17, 2008.

Major towns are connected to the capital by telephone and domestic air services. The export-oriented carpet and garment industries have grown rapidly in recent years and together now account for approximately 70% of merchandise exports.

Nepal was at number 92 of 119 countries on Global Hunger Index in 2007, between Pakistan and India.

2. Monopoly

In economics, a monopoly (from Greek monos (alone or single) + polein (to sell)) exists when a specific individual or an enterprise has sufficient control over a particular product or service to determine significantly the terms on which other individuals shall have access to it. Monopolies are thus characterized by a lack of economic competition for the good or service that they provide and a lack of viable substitute goods. The verb "monopolize" refers to the process by which a firm gains persistently greater market share than what is expected under perfect competition.

3. Monopolistic market structure in context of Nepal

Nepal is a developing country. The economy of our country is relatively younger than that of western countries. Thus it is in its infancy and developing steadily. It is quite amazing; we have entered the 21st century, yet majority of our countries income relies on the agriculture sector. Thus the agriculture sector does not have much control over the monopoly market in

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Nepal. The other sectors like manufacturing and service sectors contribute a lot less compared to the agriculture sector, yet it has a high influence over the monopoly market in Nepal.

There is no true monopoly in context of Nepal as well. But there may be a exception in the case of oil and petroleum products. The sole provider of these products is The Nepal Oil Corporation, which in turn depends upon India. Nepal's economy is irrevocably tied to India. Nepal's geographical position and the scarcity of natural resources used in the production of industrial goods meant that its economy was subject to fluctuations resulting from changes in its relationship with India. Trade and transit rights affected the movement of goods and increased transportation costs, although Nepal also engaged in unrecorded border trade with India. Real economic growth averaged 4 percent annually in the 1980s, but the 1989 trade and transit dispute with India adversely affected economic progress, and economic growth declined to only 1.5 percent that year as the availability of imported raw materials for export industries was disrupted.

From its formation in 1970, Nepal Oil Corporation had an agreement with IOC to buy petroleum products. According to the pact, Nepal Oil Corporation cannot buy from any other Indian company, while IOC can only sell to Nepal Oil Corporation.

IOC has reported a steep decline of 76.45 per cent in net profit at Rs 696.59 crore for the third quarter.

4. Characteristics of Monopoly

The characteristics of monopolistic market scenario in Nepal include the following points.

a. Single Seller

In a monopoly there is one seller of the monopolized good who produces all the output. Therefore, the whole market is being served by a single firm, and for practical purposes, the firm is the same as the industry. In case of Nepal, Nepal Oil Corporation is the sole trader of petroleum products.

b. Market Power

Market Power is the ability to affect the terms and conditions of exchange so that the price of the product is set by the firm (price is not imposed by the market as in perfect competition). Although a monopoly's market power is high it is still limited by the demand side of the market. A monopoly faces a negatively sloped demand curve not a perfectly inelastic curve. Consequently, any price increase will result in the loss of some customers. We can again relate this with the operation of Nepal Oil Corporation in Nepal. We all must have experienced at least one the effect of lack of petrol. When there is small supply of petrol the vehicles lineup longer than the road is. Then, like a chain reaction, we have to face lots of traffic jams which delay our work.

c. Unique Product

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To be the only seller of a product, however, a monopoly must have a unique product. Similarly, Nepal Oil Corporation is the sole provider of petroleum products in Nepal. There is no other substitute for petrol and diesel as well.

d. Barriers to Entry and Exit

A monopoly is generally assured of being the ONLY firm in a market because of assorted barriers to entry. Some of the key barriers to entry are: (1) government license or franchise, (2) resource ownership, (3) patents and copyrights, (4) high start-up cost.

e. Specialized Information

Monopoly is commonly characterized by control of information or production technology not available to others. This specialized information often comes in the form of legally-established patents, copyrights, or trademarks. While these create legal barriers to entry they also indicate that information is not perfectly shared by all.

Thus, these are some features of a monopoly firm like that of the Nepal oil corporation in Nepal. The others firms that have some sort of monopoly in Nepal are the Electricity authority and Nepal Tele-communication (NTC). These are not exactly monopolistic firms. For instance there are new mobile services like Ncell (recently converted from Mero Mobile), Spice, Sky, etc. Yet people still prefer NTC due to lower costs. The figure beside gives the general picture of how monopoly markets like the Nepal Oil Corporation or even NTC operates.

5. Monopolistic competition in Nepal

Monopolistic competition is a form of imperfect competition where many competing producers sell products that are differentiated from one another (that is, the products are substitutes, but, with differences such as branding, are not exactly alike). In monopolistic competition firms can behave like monopolies in the short-run, including using market power to generate profit. In the long-run, other firms enter the market and the benefits of differentiation decrease with competition; the market becomes more like perfect competition where firms cannot gain economic profit. Unlike perfect competition, the firm maintains spare capacity. Models of monopolistic competition are often used to model industries. Textbook examples of industries with market structures similar to monopolistic competition include restaurants, cereal, clothing, shoes, and service industries in large cities.

Monopolistically competitive markets have the following characteristics:

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There are many producers and many consumers in a given market, and no business has total control over the market price.

Consumers perceive that there are non-price differences among the competitors' products. There are few barriers to entry and exit. Producers have a degree of control over price.

In the context of Nepal Nokia, Samsung, Sonyericsson, etc. are good examples but there are better examples. Toothpaste and toilet paper manufacturers often engage in monopolistic competition practices. Rather than change the products themselves, producers change the packaging, the design, or simply claim through advertising that their product is best.

The restaurant industry is another example of monopolistic competition, especially in the fast food industry in which all services are basically the same, but are marketed differently, and there exists a perception that some fast food restaurants must be better than others.

6. Short-run Relevance

The analysis of short-run production by a monopolistically competitive firm provides insight into market supply. The key assumption is that a monopolistically competitive firm, like any other firm, is motivated by profit maximization. The firm chooses to produce the quantity of output that generates the highest possible level of profit, given price, market demand, cost conditions, production technology, etc.

The short-run production decision for monopolistic competition can be illustrated using the exhibit to the right. The top panel indicates the two sides of the profit decision--revenue and cost. The slightly curved green line is total revenue. Because price depends on quantity, the total revenue curve is not a straight line. The curved red line is total cost. The difference between total revenue and total cost is profit, which is illustrated in the lower panel as the brown line.

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A firm maximizes profit by selecting the quantity of output that generates the greatest gap between the total revenue line and the total cost line in the upper panel, or at the peak of the profit curve in the lower panel. In this example, the profit maximizing output quantity is 6. Any other level of production generates less profit.

7. Long-run Relevance

In monopolistic competition, when one firm or product variety is profitable, it will attract more competition -- more substitutes and closer substitutes for the profitable product type. Thus, demand will shift downward and (perhaps) costs will increase. This will go on as long as the firm and its product type remain profitable. A new "long run equilibrium" is reached when (economic) profits have been eliminated. This is shown in Figure 2:

In this example, the firm can break even by selling 935 units of output at a price of $76 per unit. The profit -- zero -- is the greatest profit the firm can make, so profit is being maximized (as usual) with the output that makes MC=MR.

Zero (economic) profit is also the condition for long run equilibrium in a p-competitive industry. But this equilibrium is not the ideal that the long run equilibrium in a p-competitive industry is. Many economists feel that the long run equilibrium in a monopolistic industry has some problems:

Inefficiency

Notice that, either in the long run or in the short, the price is greater than marginal cost. But the condition for efficient production is that price is equal to marginal cost. Thus, an individual firm's output is less that would be efficient, according to the traditional standard. Firm’s output is less that would be efficient, according to the traditional standard.

Excess capacity

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We see that, in the long run, the firm is not producing at the bottom of its long run average cost curve. Instead, it is operating on a scale that is smaller and less efficient -- the firm has a capacity to produce more at a lower average cost. To put it a little differently, each firm is serving a market that is too small, and there are too many firms, so that the product group as a whole has the capacity to serve more customers than there are -- excess capacities.

Advertising and non-price competition

A firm in a p-competitive industry will not advertise at all. Why should they? The p-competitive firm can sell all it wants to sell, without cutting its price, so why spend money to get more customers? But the monopolistically competitive firm cannot sell all it wants without cutting its price, and advertising to get more customers may be more profitable than cutting price. Thus, economists expect to see monopolistic competition associated with advertising. Moreover, advertising seems to go along with differentiated products, and as a profitable firm attracts more competition, with more substitutes and closer substitutes for their product, the firm may feel that it needs to spend more on advertising. (That's why the cost curve could be higher in a long run equilibrium). In this context, advertising is seen as wasteful.

Of course, all of this is controversial. Some economists have been quite critical of the idea of monopolistic competition from the start. Here are some responses the critics might make to these points.

Inefficiency

While the hypothetical monopolistically competitive firm does operate inefficiently, it doesn't miss efficiency by much. The deviation of marginal cost from marginal price, and of the firm's production and price from the efficient, p-competitive quantities could be only a few percent -- less than we can detect in practice. Thus, despite the differentiation of products, the p-competitive theory may be a "good enough" approximation, especially in the long run.

Excess capacity

Again, for concreteness, let's think of hairdressing as a typical instance of "monopolistic competition." What this is telling us is that if some of the existing hairdressing enterprises were combined, so that there would be fewer hairdressers each serving a larger market, they could serve that market at a lower cost and price. Perhaps; but some consumers would lose out, since they would have to go further from their homes or offices to find the nearest hairdresser. More generally, getting rid of "excess capacity" means sacrificing variety -- and that's a loss. Whose favorite is to be eliminated?

Advertising and non-price competition

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Actually, advertising is common in most industries, however, competitive -- as a disequilibrium event. When price is a little above equilibrium, it makes sense for a competitive firm to include advertising it its competitive mix; but when price competition brings the price down to its equilibrium level, sellers no longer have any reason to compete for buyers -- either by price cuts or advertising or any other way. In the real world, a competitive industry is always reacting to changing events, always moving toward the equilibrium -- but it may never stay there for very long. And this advertising is useful, in keeping consumers up to date about their opportunities. So it is not clear that monopolistically competitive advertising is something to be concerned about

8. Industries in Nepal

During the 1950s and 1960s, Kathmandu received aid commitments from Moscow and Beijing. During the 1960s, Soviet and Chinese aid also supported development of a few government-owned industries. Most of the industries established used agricultural products such as jute, sugar, and tea as raw materials. Other industries were dependent on various inputs imported from other countries, mainly India.

As a result of the 1989-90 trade dispute with India, many inputs were unavailable, causing lower capacity utilization in some industries. During the same period, Nepal also lost India as its traditional market for certain goods. Because of the lack of industrial materials, such as coal, furnace oil, machinery, and spare parts, there was a considerable adverse impact on industrial production.

Industry accounted for less than 20 percent of total GDP in the 1980s. Relatively small by international standards, most of the industries established in the 1950s and 1960s were developed with government protection. Traditional cottage industries, including basket-weaving as well as cotton fabric and edible oil production, comprised approximately 60 percent of industrial output; there also were efforts to develop cottage industries to produce furniture, soap, and textiles. The remainder of industrial output came from modern industries, such as jute mills, cigarette factories, and cement plants.

a. Manufacturing

Among the modern industries were large manufacturing plants, including many public sector operations. The major manufacturing industries produced jute, sugar, cigarettes, beer, matches, shoes, chemicals, cement, and bricks. The garment and carpet industries, targeted at export production, have grown rapidly since the mid1980s whereas jute production has declined. Industrial estates were located in Patan (also called Lalitpur), Balaju, Hetauda, Pokhara, Dharan, Butawal, and Nepalganj. The government provided the land and buildings for the industrial estates, but the industries themselves were mostly privately owned.

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The 1986-87 Nepal Standard Industrial Classification counted 2,054 manufacturing establishments of 10 or more persons from 51 major industry groups, employing about 125,000 workers. That same year the total output from these industries amounted to about Rs10 billion; value added was estimated at almost Rs3.6 billion. It was nearly Rs5.1 billion in FY 1989. By FY 1989, there were 2,334 such establishments recorded, employing about 141,000 persons.

b. Private Industry

The history of incorporated private firms in Nepal is short. The Nepal Companies Act of 1936 provided for the incorporation of industrial enterprises on joint stock principle with limited liability. The first such firm, Biratnagar Jute Mills, was a collaborative venture of Indian and Nepalese entrepreneurs. It was formed in 1936 with initial capital of 160,000 Indian rupees.

In response to shortages of some consumer goods during World War II (1939-45), fourteen private companies emerged in such diverse fields as mining, electrical generation, and paper and soap production. The initial capital invested in each of these industries was small. In 1942 two paper mills emerged as joint ventures of Nepalese and Indian entrepreneurs. Industrial growth gained momentum after 1945, although the end of World War II had reduced the scarcity of goods and caused many of these companies to incur losses.

Under the Nepal Companies Act, there was no provision for private limited companies. In 1951, however, a new act was implemented with provisions for private limited companies. This act encouraged the establishment of ninety-two new private joint stock companies between 1952 and 1964. Most of these companies were much smaller than existing companies. Under the provisions of the 1951 act, public disclosure of the activities of the firms was not required, whereas the 1936 act allowed substantial government intervention. The Industrial Enterprises Act of 1974 and its frequent amendments shifted the government's emphasis on growth from the public to the private sector. However, discrepancies between policy and practice were evident, and the public sector continued to be favored.

c. Public Companies

Public companies also had varied success. Between 1936 and 1939, twenty public companies were formed, of which three failed. Between 1945 and 1951, thirty-five public firms were incorporated, six of which went out of business. Between 1936 and 1963, fifty-four firms were incorporated, but at the end of 1963 only thirty-four remained in operation. The success of public companies continued to be erratic.

d. Minerals

Because only a few minerals were available in small quantities for commercial utilization, the mineral industry's contribution to the economy was small. Most mineral

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commodities were used for domestic construction. The principal mineral agency was the Department of Mines and Geology. Geological surveys conducted in the past had indicated the possibility of major metallic and industrial mineral deposits, but a poor infrastructure and lack of a skilled work force inhibited further development of the mineral industry.

The most important mineral resources exploited were limestone for cement, clay, garnet, magnetite, and talc. Crude magnetite production declined from a high of approximately 63,200 tons in 1986 to approximately 28,000 tons in 1989; it was projected to decline further to 25,000 tons in 1990.

In 1990 mineral production decreased significantly, largely because of political unrest. Production of cement fell approximately 51 percent over 1989--from approximately 218,000 tons to about 107,200 tons. Production of clays for cement manufacture dropped from 7,206 tons to 824 tons. Lignite production decreased 19 percent, and talc production fell 73 percent. Ornamental marble production, however, increased in 1989--by 100 percent in cut marble and 1,560 percent in marble chips.

Nonetheless, the mining industry had the potential to become a more important part of the economy, as new mines were being planned or were being developed. Two cement plants already were in operation, and a third one was being planned. It was expected that with full production in the three plants, Nepal might become self-sufficient in cement. A magnetite mine and pressuring plant east of Kathmandu had completed its construction phase and began production of chalk powder (talcum powder) on a trial basis in 1990. A high-grade lead and zinc mine was being developed north of Kathmandu in the region of Ganesh Himal and was expected to become operational in the 1990s, although raising enough capital for the project was problematic. Production of agricultural lime in 1989 doubled that of the previous year, suggesting that progress was being made towards meeting requirements of the agricultural sector.

e. Tourism

Tourism was a major source of foreign exchange earnings. Especially since Mount Everest (Sagarmatha in Nepali) was first climbed by Sir Edmund Hillary and Tensing Sherpa in 1953, the Himalayas have attracted foreigners to Nepal. Mountaineering and hiking were of considerable interest as were rafting, canoeing, and hang gliding. Tourism was facilitated with the opening of airways to Kathmandu and other parts of the country and the easing of travel restrictions.

In the 1950s, there was a shortage of hotels. Beginning in the 1960s, the government encouraged the building of hotels and other tourist facilities through loans. According to government statistics, between 1985 and 1988 the number of hotel rooms increased from under 22,000 to more than 27,000.

Prior to the trade impasse with India beginning in March 1989, tourism had grown by more than 10 percent per year for most of the 1980s. Between 1985 and 1988, the number of

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tourists increased from approximately 181,000 to about 266,000. More than 80 percent of the tourists arrived in the country by air.

In FY 1985, more than US$40 million worth of foreign exchange was earned through tourism. By FY 1988, this amount had increased to more than US$64 million. In FY 1989, tourism accounted for more than 3.5 percent of GDP and about 25 percent of total foreign exchange earnings. The 1989 trade and transit impasse with India negatively affected tourism because the transport and service sectors of the economy lacked supplies. Beginning in FY 1990, however, Kathmandu initiated a policy to allocate fuel on a priority basis to tour operators and hotels.

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References:

www.google.com www.wikipedia.com www.answers.com www.economics-help.com Library books Online journals

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