Wednesday, July 09, 2003

Do oligopolies have benefits? In an article called "The Benefit of Oligopolies," author Sam Vaknin argues that oligopolies get bad rap, that they are more likely to foster R & D and even lower overall prices than a system where there are many competitors just hanging on and killing each other with price competition. He makes some good points. The naive reaction to oligopolies is that they invariably stifle competition and artificially inflate prices. This is not always the case, as we have shown, though he wrongly implies that it is never the case. Vaknin ignores the effect of price signaling, easier to effect when there's only a Coke and a Pepsi, a Boeing and an Airbus in the market. He also ignores the problem of excessive political power, as large corporations can threaten retailers, suppliers, and regulators far more effectively than little ones. Like many economists, he presents an ideal market that exists independent of politics and power. As far as seeing that oligopolies increase innovation, I don't buy it. He cites William Baumol of Princeton University who wrote: Because firms in an oligopoly characteristically charge above-equilibrium (i.e., high) prices - the only way to compete is through product differentiation. This is achieved by constant innovation - and by incessant advertising.' But that juxtaposition of advertising and innovation is the point. Innovation for many oligopolies is basically an extension of advertising. In part, it's just pseudo-variety, such as the addition of Multigrain Cheerios or calcium-enhanced orange juice. The author cites the major investment by the pharmacy oligopolies in developing each new drug. Even that's a mixed bag - many of the real breakthrough come through the high-risk small pharmacy and biotech labs, innovations that oligopolies exploit through distribution deals. Yes, the big companies do have some serious breakthroughs in their labs, but they also spend a lot of money developing copycat drugs to compete with already successful drugs like Viagra or Lipitor. Other resources are spent in tweaking older drugs to extend patents with "new, improved" versions. Vaknin also indicates his belief in Schumpeterian disruption to keep the naughtier oligopolists in line: Still, Schumpeter believed in the faculty of 'disruptive technologies' and 'destructive creation' to check the power of oligopolies to set extortionate prices, lower customer care standards, or inhibit competition. Linux threatens Windows. Opera nibbles at Microsoft's Internet Explorer. Amazon drubbed traditional booksellers. eBay thrashes Amazon. Bell was forced by Covad Communications to implement its own technology, the DSL broadband phone line. Barring criminal behavior, there is little that oligopolies can do to defend themselves against these forces. They can acquire innovative firms, intellectual property, and talent. They can form strategic partnerships. But the supply of innovators and new technologies is infinite - and the resources of oligopolies, however mighty, are finite. The market is stronger than any of its participants, regardless of the hubris of some, or the paranoia of others. To a limited extent I agree. The forces of real innovation, usually extrinsic to the big players, are a real threat. But the new oligopolies have found ways to avert or postpone the reckoning day. As we've noted, they can buy out the innovators, copy their products, tie up the intellectual property, and enlist the government to pass laws or grant contracts curbing the innovators. One very chilling new maneuver is the ability of patenting methods and ideas, rather than products or specific inventions. So that you can't run an online store in certain ways without Amazon's permission, or run an Internet video rental service that looks even remotely like Netflix. The goal of the new oligopoly is to avert disruption. Oligopolies, for the most part, don't have ambitions to become monopolies. The point isn't that they are near-monopolistic price fixers. The point is that they can, in tacit agreement, raise the barriers and free themselves from some of the worst pressures of free markets. 8:00:25 PM

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