Risk and oligopolies
Shifting risk is a standard economic activity. We'd all like to hand off all the potential downsides of our actions, while keeping the upside for ourselves. In the business world, it's a way of life and always has been. The new oligopolies have become masters at that game, as risk-shifting has turned into a central and deliberate activity for bigger companies.
Now, offloading risk between equals is a perfectly neutral procedure. Companies offload liability risks to insurance companies, who set their rates to make a profit. Insurance companies in turn sell off some of their risk to reinsurance firms, so that the negative effects of bad luck can be spread out. These deals are essentially even-handed -- each side figures out what the risk is worth and if they can't agree, they go elsewhere. Adam Smith would smile.
But when oligopsonies or oligopsonies exist in relation to a number of small suppliers or buyers, the big firms can forcibly offload risk on those companies that depend on them. It's not as much price-gouging but risk-gouging that gives oligopolies their power in the current market.
Examples:
- The big meat companies shift the risk of volatile livestock prices and the unpredictability of weather, feed prices, and disease by shifting risk onto the cattle ranchers, hog farmers, and chicken growers that supply them. Those little guys take the risk and if they fail, they pay the price. If market prices go up, both the farmers and meatpackers prosper. If prices go down, the farmers bear the load, while the packers continue to collect their markup. Furthermore, the meatpacking companies dictate in almost every way how the farmers work: feed, medical treatment, delivery dates. In almost every way these farmers are employees of the companies who buy from them except in one -- they invest their own money into the job, and their paycheck is highly variable. A similar pattern is true with most agricultural commodities.
- Wal-Mart's suppliers run a rewarding and sometimes ruinous race. As just-in-time sellers to an enormous and demanding company, they take on heavy-duty, stressful responsibility. They are under obligation to deliver products exactly to Wal-Mart specifications, just in time, and keep cutting prices. But to meet those needs, the suppliers have to make very large investments in plant and operations, and have to bite the bullet if, for some reason, the market for their products fizzles or they can't meet all of Wal-Mart's new demands on price and supply.
- Other retailers avoid risks by changing from the old inventory model where they pay in advance for the goods they sell, and swallow the costs if they don't sell. Now, the trend is basically to rent shelf space to other companies, who get paid only when their products go out the door. This has long been the pattern in the book industry, and other industries (most notably supermarkets) are doing it more and more. The retailers end up selling everything on consignment.
- Big electronic companies like Dell and Apple, for example, outsource much of the components that make up their machines to third-party companies in China and other Asian countries. When demand goes up, those suppliers are under furious pressure to expand production, never mind the cost, or risk losing part or all of the contract. Should demand go down, the suppliers are not compensated for their overcapacity.
Offloading risks in this way is a very deliberate and clever route for oligopolies. There was a time when companies tried to build it all themselves, from owning the iron mines and the barges and steel plants, to running the factories and trucks. But new oligopolies have found that such extensive vertical integration compounds risks, as all parts of companies suffer when demand goes down for whatever reason. But when big companies can dictate to suppliers, they can let other take the risk while losing little of the reward.
8:55:06 PM 
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