There’s nothing natural about most markets
Economists have for too long allowed their desperate attempts to be considered more ‘science-y’ than the other social sciences to blind them to what is happening all around us. Namely that market structures which are made to look like a natural inevitability are actually design choices; made by powerful individuals and companies to safeguard their positions.
In my previous article I argued that Darwin’s theory of biological competition should not be used as a way to describe economic competition. But this type of claim — that there are natural laws in economics just as there are in physics or biology — lies at the root of many other problematic assertions that have become accepted as fact.
The difficulty is that there are actually some things about markets that ‘just are’. There is no way around the fact that it is astoundingly expensive to design and build a new aeroplane and this is a barrier to new firms entering the market and creating more competition. On the other hand, there are many things about markets that are creations of the people, governments, companies and other institutions that actually make up those markets.
Let’s start with Big Tech. Perhaps you’ve heard of a natural monopoly? A natural monopoly occurs when there are one or more barriers to entry into a market that make it almost impossible for new companies to break in once an existing company has become established. One such barrier is called — in the usual, easy-to-access language of economics — a network externality. What this refers to is the fact that in some industries such as social media, adding another user to the system increases the value of that system for all existing users because there are more people to connect to. The more users are added the more attractive the system becomes to new users, so the more new users join and so on. This creates a snowball — or perhaps more accurately an avalanche — effect.
Certain people see the market capitalisation of Facebook — an eye-watering $720billion as of August 2020 — as a simple reflection of the value that the company provides to its customers. Now there’s no doubting that Facebook provides services that its users and advertisers value, but what it is heavily profiting from is a global natural monopoly. Who could possibly set up a rival to Facebook now? Even if it was slicker, easier to use and had better privacy controls — surely not difficult — there’s no way that this new company could persuade enough people to switch to its service. Not only would any new user find that very few of their friends were on the new network, they’d also have to start all of their social ‘history’ from scratch. “But what about WhatsApp? Snapchat? Instagram? Tiktok?” I hear you cry in pained frustration. I think you know the answer. WhatsApp and Instagram were looking threatening as rivals and attractive because of the synergies with Facebook’s core service so Facebook bought them. There’s still time for it do the same with Snapchat, Tiktok and any other company that threatens its monopoly position.
What about other sectors that appear to tend naturally towards being dominated by only a few very large companies? There are lots of them: supermarkets; banks; mobile telephone providers; car manufacturers; aircraft manufacturers; oil refineries; soft drinks producers; zipper makers; companies that make those switches that turn your kettle off automatically before it boils dry… You get my point.
Now, none of these sectors are totally dominated by one company (a monopoly). Instead what tends to happen is that a high percentage of a particular market is accounted for by just a few firms — perhaps three or four. This is an oligopoly. For example, in the UK, as of July 2020, the big four (Tesco, Sainsbury’s, Asda and Morrisons) supplied two thirds of the entire £200 billion grocery market; Tesco alone supplied over a quarter. Or, if that’s too parochial for you, between them just two companies — Boeing and Airbus — produce just under 90% of all the aeroplanes in the entire world.
An economist would say that part of the reason for this pattern in certain industries is that there are barriers to entry. I’ve already talked about the cost of designing a new plane as a barrier to entry for aircraft manufacturers. There are also often economies of scale to be had. This is one of the ways in which Aristotle Onassis became the richest man in the world. He found a ship builder to make oil tankers bigger than anyone had managed before. The supertankers were more expensive per ship (a barrier to entry), but much cheaper per barrel of oil carried (an economy of scale).
Things get interesting when we move beyond what it seems reasonable to label ‘natural laws’ and into the territory where some players start to cheat. Whatever company press releases might say about welcoming the cut and thrust of competition to keep them on their toes, the allure of gaining a monopoly position is well summed up by the British economist Sir John Hicks who said, “the best of all monopoly profits is a quiet life.” As a company you can do what you want; you can charge what you want.
And the allure of that quiet life means that laws to prevent abuses by dominant companies — antitrust laws — are being used all the time. We just don’t hear about it. These are the seven biggest antitrust fines imposed by the EU to date.
1. Google — fined $5bn in 2018.
2. Google — fined $2.7bn in 2017.
3. Intel — fined $1.45bn in 2009.
4. Qualcomm — fined $1.2bn in 2018.
5. Microsoft — fined $794m in 2004.
6. Servier — fined $582m in 2014.
7. Telefónica — fined $207m in 2007.
And don’t think that these are the only cases. The European Commission has imposed fines for breaking laws related to cartels (a sub-set of the total anti-trust legislation) in sectors as diverse as the manufacture of escalators, vitamins and lorries. You might be familiar with some of the companies involved: Daimler, Volvo, Deutsche Bank, Philips, the list goes on.
So the next time you hear the spokesperson of a major company claim that it is their efficiency, dynamism and commitment to giving the customer what they want that has made them so successful. Take it with a large pinch of salt.
References
Business Insider (2018) The 7 biggest fines the EU have ever imposed against giant companies, downloaded from https://www.businessinsider.com/the-7-biggest-fines-the-eu-has-ever-imposed-against-giant-corporations-2018-7?r=US&IR=T
European Commission (2019) Cartel Statistics, downloaded from https://ec.europa.eu/competition/cartels/statistics/statistics.pdf
Hicks, J.R. (1935) Annual survey of economic theory: The theory of monopoly, Econometrica, Volume 3, Number 1, Jan., 1935, p. 8
Kantar (2020) Great Britain: Grocery Market Share (12 weeks ending). Downloaded from https://www.kantarworldpanel.com/grocery-market-share/great-britain
