Saturday, November 3, 2018

Weak competition may be key to economy's problems

If you think there isn’t enough competition between the big four banks, the big three power companies, the big two airlines, the big two supermarkets and in a lot of other industries, Andrew Leigh agrees with you.

He has evidence the “concentration” within our industries is increasing. What’s more, he thinks it could be part of the reason we – and the rest of the developed world - are suffering from slower economic growth and productivity improvement.

Dr Leigh is a Harvard-trained former economics professor at the Australian National University and now the federal opposition’s spokesman on competition.

In a speech this week, he said it’s hard to think of many Australian industries these days that aren’t dominated by just a few behemoths.

“Whether it’s Coles or Woolworths, Lion or Carlton, Caltex or BP, Medibank Private or BUPA, Qantas or Virgin – it seems consumers don’t have a great deal of choice where they get their goods and services from,” he says.

A standard measure of concentration judges an industry to be concentrated if the top four players control more than a third of the market.

With the ANU’s Dr Adam Triggs, Leigh calculated this measure for 481 Australian industries, finding that half of them were concentrated.

“In department stores, newspapers, banking, health insurance, supermarkets, domestic airlines, internet service providers, baby food and beer, the biggest four firms comprise more than 80 per cent of the market,” Leigh says.

(Of course, concentration isn’t a foolproof way of measuring the degree of competition. For instance, the two big newspaper companies – one of which owns this august organ – face competition from a huge number of digital news providers. And competition from more specialised retailers makes it seem department stores’ days are numbered.)

Economies of scale mean our small market is more concentrated than big economies. Leigh says our commercial banks, petrol retailers and liquor retailers are more than three times as concentrated as those in the US.

Our department stores, airlines, soft drink manufacturers and cardboard box makers are all significantly more concentrated.

As a general rule, greater market concentration gives the small number of big firms increased “market power” – ability to influence the prices they charge. It may also give them power to extract lower-than-reasonable prices from their suppliers.

Leigh notes American evidence that big companies in concentrated markets were almost 20 per cent slower in paying their suppliers than small companies were.

As to anti-competitive behaviour more generally, Rod Sims, boss of the Australian Competition and Consumer Commission, said recently that “many well-known and respected major Australian companies have admitted, or been found, to have breached our competition and consumer laws. These same companies regularly [claim] to put their customers first”.

In reaction to the growing market power of our big firms, Leigh says, governments have added civil fines for unconscionable conduct, criminalised the forming of cartels, and increased penalties for breaches of consumer protection laws.

Another problem is poor regulation of monopoly businesses that have been privatised. “Whether it is a port or an airport [or, he could have added, an electricity transmitter], it is important that governments ensure that the gains to taxpayers from selling an asset aren’t offset by the losses to consumers from higher prices,” Leigh says.

He notes that, in 2008, the ACCC received about 34,000 complaints by consumers. By 2016, it was closer to 60,000.

But why are Australian markets so heavily concentrated, and probably becoming more so? Partly because of a decline in the rate at which new businesses are being created: from an average annual rate of 16 per cent before 2010, to 13 per cent since then.

But also because of a big increase in company mergers and acquisitions. Between 1992 and 2017, their number increased almost five-fold from 394 a year to 1960 a year.

An international study has found that, in Oz, the average prices charged by large, stock exchange-listed firms were close to their marginal cost of production in 1980, and stayed there until the late ‘90s.

By the early 2000s, however, they’d risen to 40 per cent above the marginal cost. By 2010, they were 50 per cent above and by 2016 they were 60 per cent above.

In the US, there’s growing evidence that market concentration may be suppressing business investment. One study found that 80 per cent of the decline in US investment since 2000 can be explained by less competitive markets and increased ownership of shares by institutional investors.

As top US economists Paul Krugman and Larry Summers have said, the odd combination of high company profits but weak investment (at a time of low interest rates and high share prices) is just what you’d expect to see if market power was increasing.

Leigh says weak competition may help explain why wage growth is weak here and in other developed countries. “Wages are fundamentally driven by the competition between firms for workers. Less competition means lower wages,” he says.

A British study by Professor Stephen Nickell, of Oxford, found that a 25 per cent increase in market concentration leads to a 1 per cent fall in productivity.

An American study of detailed data at the firm level for all US manufacturing industries, found that mergers were associated with increased price mark-ups, but there was little evidence they boosted productivity.

Leigh concludes that “Australia has a competition problem: there is not enough of it. Our industries are concentrated. Anti-competitive conduct is rife. Our consumers are treated poorly.

Our markets show the signs of weak competition. "There has been a massive increase in mark-ups among large listed firms over the past two decades.”

What to do about it? We shouldn’t adopt an "overly permissive" approach to company mergers. We should take “a more circumspect approach to claims of [greater] efficiency when considering anti-competitive conduct”.

We should give the ACCC the investigatory powers it needs. We should ensure that penalties aren’t so small they can be treated as just a cost of doing business.

We should consider the impact of anti-competitive conduct on innovation, and recognise that unchecked market power can harm workers as well as consumers.

Sounds to me like an election manifesto.