A Level Economics AQA Practice Exam 2026 - Free Economics Practice Questions and Study Guide

A natural monopoly occurs in a market where a single supplier can provide a good or service to an entire market at a lower cost than any combination of multiple suppliers. This typically happens in industries with high fixed costs and low marginal costs, which makes it inefficient for more than one provider to operate in the market.

In the case of water suppliers, the infrastructure required to deliver water, such as pipes and treatment facilities, involves significant upfront investment and maintenance costs. Once this infrastructure is established, the cost of providing service to additional customers is relatively low, which is characteristic of a natural monopoly. If multiple companies tried to supply water, they would likely duplicate infrastructure, leading to inefficiencies and higher costs for consumers.

In contrast, software companies, airline services, and retail clothing stores do not fit into the natural monopoly framework because they do not have the same high fixed costs combined with low marginal costs. These industries can effectively support competition, as multiple firms can offer similar products or services without duplicating extensive physical infrastructure.