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How different countries are tackling a growing economic problem
In this two-part series, our correspondents explore the debates about market power, concentration and monopoly. On October 10th we look at America, Mexico and Britain. On October 12th we turn our attention to China and Japan.
Competition in America: Where capitalism has become far less healthy?
AMERICA’S airlines used to be famous for two things: terrible service and worse finances. Today flyers still endure hidden fees, late flights, bruised knees, clapped-out fittings and sub-par food. Yet airlines now make juicy profits. Scheduled passenger airlines reported an after-tax net profit of $15.5bn in 2017, up from $14bn in 2016.
What is true of the airline industry is increasingly true of America’s economy. Profits have risen in most rich countries over the past ten years but the increase has been biggest for American firms. Coupled with an increasing concentration of ownership, this means the fruits of economic growth are being monopolised.??
High profits across a whole economy can be a sign of sickness. They can signal the existence of firms more adept at siphoning wealth off than creating it, such as those that exploit monopolies. If companies capture more profits than they can spend, it can lead to a shortfall of demand. Ordinary people pay higher prices than they should, for worse service.?
The Economist published a big article on the competitive-intensity of capitalism in 2016. It focused on America. The piece divided the economy into around 900 sectors covered by America’s five-yearly economic census. Two-thirds of them became more concentrated between 1997 and 2012. The weighted average share of the top four firms in each sector rose from 26% to 32%.
Since that article, more and more academics have become interested in the issue. The latest meeting of the world’s central bankers in Jackson Hole, Wyoming, was stuffed with sessions about how capitalism has become less competitive. Wonks are talking about how to make things better. Some favour a serious effort to remove the red tape and occupational-licensing schemes that strangle small businesses and deter new entrants. Others examine a loosening of the rules that give too much protection to some intellectual-property rights.?
However most of the debate has focused on America when it is increasingly a global problem. So as part of the Open Future initiative, we wish to focus a spotlight on how the debate is playing out in other parts of the world. What becomes clear is that as the lack of competition in capitalism become a more important question in other countries, exactly what this means varies from place to place.?
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Competition in Mexico: Improving markets is boring but vital work
MEXICO has emphatically elected a man who tells voters that society is rigged against them. Andrés Manuel López Obrador, who will become Mexico’s next president on December 1st, describes a “mafia of power” which controls political and economic life in the country and keeps ordinary Mexicans down. This is partly a rhetorical term for anyone that Mr López Obrador does not get along with. But it also resonates because Mexicans sense that the economy is stacked against them, a big part of which is the weak level of competition.?
Under Enrique Pe?a Nieto, voters endured near-daily headlines filled with tales of corruption. Much of it concerned the 230,000 or so government contracts doled out each year. Just 12% of them are tendered publicly; many go to cronies rather than the most suitable bidders. This often leads to Mexican consumers facing poor options and high prices. But the problem of competition goes beyond government contracts. Santiago Levy, a Mexican economist, argues that well-intended government regulation allows too many weak, unproductive small businesses to survive, hindering the growth of bigger, more productive firms.
Historically large sectors of Mexico’s economy, such as energy and telecommunications, were controlled by a single firm. A recent review by Cofece, Mexico’s new federal competition commission, suggested that weak competition laws force Mexicans to spend an extra 2.5bn pesos ($135m) each year on generic drugs than they otherwise would. A basic basket of goods costs Mexicans 30% more than it would under perfect competition, reckons Viridiana Ríos, a civil-society campaigner.?
Ironically, the much-maligned Mr Pe?a made inroads against this lack of competition. He established Cofece and charged it with promoting competition in Mexico. His energy reforms have attracted foreign investment into the oil sector for the first time since the 1930s; they compete with each other for contracts through a public, transparent procurement process. Reforms to the telecoms sector in 2013 brought new players into the Mexican market and sent prices plummeting. The cost of mobile broadband, 30% above the OECD average in 2013, was 30% below average by 2016.
Mr López Obrador holds a deep, sincere concern for the poor, but he tends to favour bringing change through the example of his own personal magnetism instead of slow, unglamorous institution-building. After his landslide election victory, Cofece publicly proposed a joint plan to weed out corruption in the public procurement process. If Mr López Obrador wants to stick it to Mexico’s mafia of power, that would be a great place to start.
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Competition in Britain: Main parties agree that capitalism is rigged
THERE is growing suspicion in Britain that capitalism is not working as it should. Jeremy Corbyn, the leader of the Labour Party, says that capitalism is “rigged”, a word also used by Michael Gove, a prominent Conservative cabinet minister.
They have a point. The biggest firms across a range of industries in Britain have more market power than they used to. That clout may allow them to charge higher prices for poor service, and pay lower wages.
Dividing the British economy into 250-odd sub-industries, from management consultancy to private security, The Economist calculates that over the past decade 55% of these sectors have become more concentrated, with the four biggest firms accounting for a larger share of revenue than before. Other calculations find much the same results.?
A recent paper looks at the pricing power of a sample of British firms. The researchers examine mark-ups (ie, selling prices divided by production costs). Since the 1980s the average mark-up in Britain has risen by more than in Europe or North America.?
What explains the increasing concentration seen in Britain? Mergers may be one explanation. In the past 20 years Britain has seen about $5trn-worth of mergers and acquisitions of domestic firms. Adjusting for the size of its economy, that is nearly 50% more than in America.
It is less clear how concentration affects workers. Evidence from America suggests that as firms become more powerful they can get away with offering lower wages, since workers have fewer alternative employers. Across Britain as a whole, the biggest firms actually employ a lower share of employees than in the early 2000s. In parts of the country, however, workers do appear to have fewer options than before. Whatever the explanation, wages as a share of GDP have fallen during the same period.
Establishment types are finally starting to grapple with this issue. Liz Truss, a Conservative minister, frets about things like occupational regulation. Andy Haldane of the Bank of England recently gave a speech in which he worried about market power. But the debate is far less advanced than it is in America. Serious solutions could be a long way off.?
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Competition in Japan: Markets have gradually become more open
IF MARKETS are becoming too cosy in the so-called “Anglo-Saxon” economies, where the winds of creative destruction traditionally blow most fiercely, what is the state of competition in Japan, famous for an altogether more clubbable form of capitalism?
It has certainly been worse. In the tumultuous 1920s and 1930s Japan’s leaders introduced laws designed not to prohibit cartels, but to encourage them. During these years, a wave of collapses and mergers also consolidated economic power. One such union in 1934 left 96% of Japan’s pig-iron production and over half of steel output in the hands of a single company. The wealth and privilege of these “economic royalists” was widely resented. In 1921 a member of the Righteousness Corps of the Divine Land, an ultranationalist group, denounced “traitorous millionaires”, urging his followers to “assassinate them resolutely”. He made a start by killing Yasuda Zenjiro, the founder of one of the great business empires, or zaibatsu, that dominated the prewar economy.
After the second world war, Japan’s American occupiers tried to break up the zaibatsu. But it was like “grappling with a jellyfish”, as this newspaper put it in 1962. The old family conglomerates evolved into keiretsu, looser, less familial groupings, revolving around a main bank and trading company, each member holding shares in the others. Some observers believe this stitched-up capitalism helped Japan’s rise, providing cheap credit and bountiful earnings that could be ploughed into new, more sophisticated industries. Others believe the arrangements were ultimately counterproductive. Still others think Japan’s collusive capitalism was largely mythical.
Michael Porter and Mariko Sakakibara have argued that Japan’s anti-competitive institutions were confined to the parts of the economy that were anyway less exposed to international trade. Outside of these backwaters, competition was ferocious. In many cases, the prevalence of business groups like the keiretsu only added to the competitive pressure. Each empire felt obliged to enter all of the prestigious industries, rather than concentrate on what it did best. They plunged headlong into expansions of capacity, whatever the cost, and kept even loss-making firms alive. The results were bad for returns on assets, but good for consumers.?
In recent decades, Japan has become less distinctive. This is partly because its markets have become more open and its companies a little more attentive to shareholders. It is also because the rest of the world has become a little more Japanese: dominated by cash-rich companies in more concentrated industries.
On the positive side, Japan’s product-market regulations have eased. They are now no tighter than America’s, according to the OECD’s indicators. Japan has also ranked consistently highly on the World Economic Forum’s indicator for “intensity of local competition” in goods markets.? ? ? ? ? ? ? ? ?
Less happily, concentration has, by some measures, increased. In 1994 the top 100 Japanese corporations accounted for 54% of the profits of all listed firms, according to Andrew Karolyi and Dawoon Kim of Cornell University. Twenty years later, they accounted for almost two-thirds.
But this increase in concentration is mild compared with the trend in America over a similar period. The share of total profits held by America’s top 100 firms has increased from under 53% to over 84%, according to work by Kathleen Kahle of the University of Arizona and René Stulz of Ohio State University. America’s leading firms may not be as gelatinous as Japan’s sprawling business groups, but they are big fish indeed.
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Competition in China: State firms and private players inhabit alternate worlds
COMPETITION in China is unusual in that, depending on where you look, the country has either too little or too much. The former is obvious, and more commonly discussed. There are broad swathes of the economy, especially those deemed strategic by the government, that are dominated by state firms. When choosing a bank, an airline or a mobile provider, consumers have little choice but to pick a state-owned enterprise. In some of these sectors, there may be many state firms: China, for example, has 4,000-odd banks. But because they answer to the same ultimate boss—the government—and are strictly regulated, they differ little.
This lack of competition causes a series of problems. Consumers get a raw deal. State firms rarely gouge on prices, but without much motivation to make profits, their service standards are notoriously poor. As a general rule, customers can expect long waits and surly staff. More serious is the economic impact. Banks prefer to lend to state firms, because they know that in the event of trouble the government is likely to bail them out. But the return on assets earned by state firms is a third that of their private peers. China, in other words, allocates capital poorly: too many loans go to the wrong companies.
This is not just a domestic concern. As state firms expand overseas, they butt heads with multinational firms. Other governments complain that China’s state firms are, in effect, exporting their inefficiencies. Despite being less productive than their international rivals, they have little trouble scooping up big contracts and valuable assets thanks to their government backing. China has vowed to make its state firms more commercially minded. But reforms are painfully slow, not least because Xi Jinping, the president, wants state firms to be stronger, not weaker.
Less noted is the fact that China also has the opposite problem: too much competition in parts of its economy. In sectors from coal to real estate to home appliances, many more companies battle it out than is normally the case in advanced economies. Partly this reflects China’s stage of development: industry leaders are still just emerging. Partly it stems from the state’s grip on strategic industries. Everyone else fights over the scraps.
Fierce competition helps to keep costs down for consumers. But thin margins are problematic. Companies are tempted to cut corners on safety and environmental standards. What’s more, without reliable cash flow, they have less to invest in research and development. The good news is that this problem should resolve itself more or less naturally. As China’s economy matures and slows, returns to scale are becoming more important. That makes consolidation more likely in the coming years.
As in the West, consolidation is giving rise to a new worry: the clout of major tech platforms. Companies such as Alibaba and Tencent have acquired oceans of user data. And they have a fast-growing presence in services from finance to food delivery. However, for Chinese regulators, the question is not whether these tech giants are becoming monopolistic, but whether they act in line with government policies. Their focus is on how to maintain control, not foster competition.