by Andrew White | August 16, 2018 | Comments Off on Of Corporate Giants, Superstars, and Frontier Firms
It seems a trend has recently become headline worthy and fashionable. For a number of years industry concentration has been growing and a number of research papers have explored the causes and implications, mostly in economic circles. Needless to say there are many ideas in both sides of an array of arguments. But the topic has now become popular, probably because there is now a political angle to exploit. Let’s face it, not everyone wants to read about economics before breakfast.
In today’s US print edition of the Financial Times there is an article titled, “Economists warn on dominance of US corporate giants”. The article reports on several papers and data that suggests that a few large firms are getting larger, sucking up a greater share of their respective industry’ profits. The result of this increased market dominance ranges from lower wages to increased inequality. Hence the political bridge is established. In fact a left-leaning Democrat is noted in the article, suggesting that additional regulation is needed because ‘competition is dying in America.” I find that quite ironic since it is regulation that has been killing competition. I am not sure we need more regulation over ineffective regulation. I think we need less regulation and more market freedom. But I digress. Back to the economics.
Market concentration has been increasing in many regions and markets of the world. Many data suggest this. But this is not a new phenomenon. Not long after the term ‘economics’ was coined (let’s give that to Adam Smith in 1776), monopoly, monopsony, and other variants have been observed and discussed. Growing market dominance might lead to monopolistic behavior, such as charging higher prices. In fact this is the basis of a recent IMF research paper (quoted in the FT article – see Global Market Power and its Macroeconomic Implications) that looks at markups over production costs for large versus small firms. Larger firms tend to be able to charge higher markups. Forgive me for saying but that’s logical. Surely a large firm can accommodate a ‘lost leader’ at the expense of a cash cow. In this case it’s not so much a lost leader as it is a price pusher.
More interesting to me however are two related points:
- What are the reasons or levers that explain how a large firms becomes larger and does information and technology (IT) play a role?
- Are those levers ‘fair’?
This is where I shift gears and move away from the faddish focus on ‘dominance’ and giants to toward frontier firms. A few years ago (as you would know if you followed my blog), the OECD showed that those firms that were are the productivity frontier in a country/region, as well as in a global market (inter region), were able to accommodate technology innovation faster than those firms that were not at the frontier. Such firms were able to accommodate innovation, workforce skills (perhaps through specialization, a feature of firm size) and organizational change. This was less about market dominance and what happened as a result; more it was about what made firms dominant in the first place.
This story has been reported elsewhere using other terms and perspectives. Thomas Piketty famously argued a few years ago (see Capital in the Twenty-First Century) that labor was losing out to capital when it came to claims on income: profits are accruing more and more to capital and the rich than to labor and workers. This was proof that capitalism itself was increasing inequality: a perfect marriage between economics and politics. Turns out the reality is way more complicated.
There is nothing nefarious about what was been seen. Capital could be more gainfully employed through investments that drove output and productivity and these investments were related less to labor acquisition and more to other things that drove growth and productivity. But what are those other things? It turns out that those other things that drive productivity have been changing too. More recently it is information, IP, and other intangible assets. Years ago most other productivity-boosting periods were driven by tangibles like plant and machinery. The shift to intangibles has helped keep wages lower too: the demand for labor grew more slowly than the demand for those other investments.
More interestingly other data suggests that diffusion of those intangible innovations was NOT trickling down to the non-frontier firms as fast as they had before. How can that be? Are smart people not leaving large firms to go work for competitors as much? It turns out that, on paper, we have to go back to politicians to find the most obvious causes (or correlations?) for the slowing down of innovation diffusion.
Public sector investment in primary R&D is at relatively low levels and has been for a number of years. Regulation and tax overhead has dissuaded growth of start-ups. The environment and practice of lobbying has grown to the point where only large firms can afford the bills to swamp the political system to ensure their preferences prevail. Add to this the shift from tangibles to intangibles and the resulting drag on wages, you see a less dynamic market, and a less dynamic labor market.
The result is that competition at the early period of the business life -cycle is at very low levels. Larger firms are protected from competition and pesky Government interference as much as possible. Being more productive than others, such larger firms can move ahead from their smaller peers. Increased ‘success’ and smarter investments in things like information and technology, among other things, helped keep wages low as a result. But it is not the wages that drive this ‘success’; low wages are a symptom, a result of the other actions. So we should not apply public policy (i.e. more regulation) to a symptom: we should look to the cause.
- It seems superstar firms are the same as frontier firms; they tend to be bigger, near- or market dominant often without the obvious trappings of monopoly; they are more productive than others; they have the means to protect this situation, given to them mostly by regulation and political – not economic – decisions.
- Superstar/frontier firms are getting larger, more profitable, at the expense of the overall market
What to do?
I have no idea. But I am intrigued both in how firms improve productivity in general, and in how non-superstar, non-frontier firms fall behind due to the lack of innovation diffusion across a market or economy. The role IT plays in this must be noted. As if to prove my point another quote from the FT article- and another article in the FT today, will explain:
“His [David Autor] research finds that growth of concentration is disproportionately apparent in industries experiencing rapid technological change.”
That means information and technology, workforce skills, and management capability are better exploited by some forms than others.
In “Conventional measures pose the wrong productivity question” Diane Coyle (see GDP: A Brief but Affectionate History – Revised and expanded Edition) suggests that investments in intangibles is mostly excluded in GDP and productivity calculations and more and more of our economy and lives are driven by intangibles than before. As such we are not even measuring the right things. Intangibles include software, IP, brand, ideas, and best practices and so on. I believe they are more valuable now to organizations and ourselves than hardware, infrastructure, and machinery in driving productivity growth. See Intangibles Now Drive More Productivity Than Tangibles – Perhaps.
And lastly it is sadly entertaining to watch the interplay between economists who can’t agree on cause and effect, and politicians who don’t care to make such distinction.
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