So instead the focus of today will be on a different industrial economics topic – the state of competition in Australia. Specifically, does the lack of Boxing Day sales tell us something about the level of competition in Aussie?
For this I’ll be borrowing heavily from a Research Note on the topic by my stellar e61 colleagues Dan Andrews, Elyse Dwyer, and Adam Triggs (now of Mandala). I’ll also be relying on this paper by Jonathan Hambur from the RBA.
However, all misunderstandings and inappropriate comments are my own.
Competition in Australia
Yelling that businesses aren’t competitive enough is a great way to get attention, and push for “getting something for nothing”.
What do I mean? If firms are very uncompetitive then we know they are generating an economic rent – and that this rent could be redistributed to someone (consumers, workers) without undermining economic activity.
As most of us are consumers, the unfairness associated with being charged what we view as too much makes this narrative pretty appealing – and a variety of thought leaders who want to persuade us love nothing more than packaging up ideas we find appealing, and repeating them to us ad nauseam.
However, that doesn’t mean there isn’t some truth to concerns about competition. In fact, it is in the interest of people who are earning economic rents to pretend that daring to tax these rents, or reduce barriers to entry, will undermine some magical value they create – and will use the language of productivity and innovation to make us scared of doing anything.
So given that public narratives are tarred with ideology, lets step back and work things out for ourselves – by looking at some data.
When looking at the State of Competition, the e61 authors focused on the degree of concentration in Australian industries – specifically they focus on the market share of the four largest firms in every Industry Group (3-digit industry code).
There are two graphs I’d like to focus on – noting that the Research Note adds a lot more detail if you want to give it a read!
The graph above shows that these concentration ratios are higher in Australia than the US – so Australian industry groups tend to have a greater share of sales that occur among only four firms. Now this could be partially the result of Australia’s smaller markets.
But then we come to the graph below – concentration ratios have risen across a number of industry groups ESPECIALLY retail sales and mining. As our focus today is on retail sales, this tells us that retail sales activity has become more concentrated among a small number of firms.
The other paper tells us that this rising concentration has also been associated with rising margins earned by firms. However, when compared to other countries that increase in margins has been a bit smaller. Margins in Australia are high – but it isn’t clear that this has been a worsening issue over the past 20 years.
What do bad sales tell us about competition?
So Australian industries are concentrated, margins in Australia are fairly high, and judging by my shopping attempts today Boxing day sales are lame. But does this actually tell us anything?
Concentration alone is actually not telling us as much as we hope. It is possible to have 100s of reasonably sized companies in an “industry” but for each to have significant market power – due to the spatial or product dimensions varying between firms. On the flip side it is possible to have a single firm but very little market power (effective competition).
Margins are also tricky, as the necessary return for entry to the industry depends on risk and the needed return to also meet fixed costs – post Global Financial Crisis there has been in lift in both uncertainty and regulation, both factors that require higher margins to incentivise entry.
But does firms reluctance to provided good boxing day sales mean there is a competition problem?
Intuitively this makes sense – businesses look like they are colluding (even if tacitly) to avoid giving me a cheap Xbox.
However, what is boxing day? It is a period when everyone is off work and goes out shopping – there is a huge surge in demand, and people have the time to shop around.
Given this description, this is when a firm with market power would price discriminate by cutting prices to attract these customers who are relatively more willing to substitute between firms. While more competitive firms would simply face a lift in demand and thereby charge higher prices.
So what is it – are the bad boxing day deals a sign that competition in Australia is stronger than in the past, or is it a sign of a competition issue?
Tacit collusion – a tale of two models
The difference is that this time we are focusing on whether Boxing Day is telling us anything about competition – specifically, does it tell us if retailers are tacitly colluding in setting their prices during Boxing Day?
If we accept the Green and Porter (1984) model of tacit collusion and competition, then firms collude until they think other firms are cheating (a trigger strategy). During Boxing Day the stores are full up, and so there is no need for sales – but as soon as demand drops, firms think that this is because other businesses have “defected” and stolen customers. As a result, the sales will kick off when the stores are not so busy.
In this world, the disappearance of Boxing Day sales is consistent with collusive behaviour – but we’d expect to see some big New Year sales.
If we buy the Rotemberg and Saloner (1986) model of tacit collusion and competition, then tacit collusion breaks down during high demand states – as firms face an out-sized incentive to try to steal customers. In this model, a collusive equilibrium would involve situations where there are big sales following observable increases in demand – like Boxing Day.
We all know what Boxing Day is – as a result, the second model appears more appropriate for understanding whether we generally have collusion. But if we buy this model, it would suggest that one of two things must be true:
- Competition has increased and as a result there is no long tacit collusion that falls apart on Boxing Day.
- Competition has declined, and as a result retailers can maintain tacit collusion even when the reward for reneging is huge.
Teasing out the difference between these is pretty tough. When it comes to the service station industry, David Byrne from University of Melbourne has shown that tacit collusion has increased among petrol retailers, with a related e61 event study reinforcing this.
But without more information we just can’t say which way things have gone among retailers in general – such is the nature of industrial economics!
Sorry, no conclusions for today. If it makes you feel better take this post and demand your local retailer reads it – in order to avoid doing so they’ll probably give you a discount 😉