Competition’s effect on poor consumers: Mexican experience

Heidi Sada and Manuel SánchezCUTS

March 2013

COMISIÓN FEDERAL DE COMPETENCIA

1

Messages

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1. Monopolies harm economic efficiency and could also worsen income distribution.

2. Mexico has many monopolized markets with negative effects on the poorest.

3. Competition policy could help reduce social inequality.

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There is ample academic literature on the effects of monopolies on economic efficiency.…

Exorbitant profits and inefficient allocation of resources

Less incentives for productivity and innovation

• Multiple studies that estimate that the lack of competition significantly increases prices.

• Experiences in OECD countries show that when companies collude and form a cartel, the cost of goods and services can increase by 20% or more.

• Empirical evidence suggest that the welfare loss associated with monopoly as a percentage of gross domestic product (GDP) varies between 0.1 to 13 per cent.

• Vast evidence that more competition increases productivity and innovation.

Evidence on effects of monopolies on efficiency

Static effects

Dynamic effects

… however, the distributive effects of monopolies have been less explored.

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The few studies identified suggest that monopolies can worsen social inequality:

“… it appears that the presence of past and current monopoly has had a major impact on the degree of inequality in the current distribution of household wealth.”

(Commandor & Smiley, 1975)

“ Whatever the size of the absolute welfare loss arising from monopoly, there may be a substantial effect on the distribution of welfare”

(Creedy & Dixon, 1998)

Messages

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1. Monopolies harm economic efficiency and could also worsen income distribution.

2. Mexico has many monopolized markets with negative effects on the poorest.

3. Competition policy could help reduce social inequality.

In 2008, the CFC conducted a market study, supported by the OECD, to assess the distributive and spatial effects of monopoly power in the Mexican economy*

* Carlos M. Urzúa (2008). “Evaluación de los efectos distributivos y espaciales de las empresas con poder de mercado en México”.

Mar

ket i

denti

ficati

on:

Private monopolistic markets with direct effects on household spending

1. Corn tortillas2. Processed meats 3. Chicken and eggs4. Cow milk5. Carbonated soft

drinks, juices and bottled water

6. Beer7. Pharmaceuticals

Basic consumer goods:

The effects related to distribution of monopoly gains and consumer costs

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B

T

pm

pc

qm qc

Cmg

B + T = consumers’ welfare loss

B = net welfare loss

T = transference from the consumers to the firms (with monopolistic gains)

Possible distributive effects

• Consumers’ welfare loss (B+T) could vary among income levels.

• Monopolistic gains (T) could be distributed unevenly between income levels.

Static effects

Source: Carlos M. Urzúa (2008).

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Deadweight loss modeling

Assumptions: Constant marginal cost (MC)

MC = Competitive price ( )

ƞ is the price elasticity of the good

…………(i)

Monopoly maximizes benefits when :

…………(ii)

2))(( mccm qqpp

DWL

mcm

mcm

ppp

qqq

)(

)(

cp

1

m

cm

ppp

2

mmqpDWL

After combining (i) and (ii) in DWL:

Kqp

DWLmm

2

Assuming :•K Identical firms

•Cournot conjectural response

Deadweight loss modeling

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n

i i

imm

K

w

Kqp

DWL12

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Deadweight loss estimates (elasticities).

Data source: National Survey on Household Income and Expenditure (ENIGH).Model source: Deaton, Angus. 1997. The analysis of household surveys: A microeconomic approach to development policy. Washington, World Bank.

To estimate price elasticities Ursúa used a variation of the Deaton’s general model: 000 lnln hccchchc ufxw

111 lnlnln hcchchc uxv Variable Description

Spending in the good as a share total expenditure of a household in cluster c

Unitary value of the good regarding consumption oh a household in cluster c

Total income of a household in cluster c

Price of the good in cluster c

Fixed effect in cluster c

Error terms

hcw

hcx

cf

10 , hchc uu

c

hcv

The study results indicate that the loss of consumer welfare arising from monopolies is significant….

Source: Carlos M. Urzúa (2008).

….the negative impact of monopoly power grows as households are poorer.

Monopolies deteriorate Mexican competitiveness, but also tend to worsen income distribution

These variances can also be observed between Mexican states – with different levels of income

Alto

Medio

Bajo

Monopolies’ effects on welfare

Source: Carlos M. Urzúa (2008).

Messages

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1. Monopolies harm economic efficiency and could also worsen income distribution.

2. Mexico has many monopolized markets with negative effects on the poorest.

3. Competition policy could help reduce social inequality.

Monopolies in Mexico have been linked to particular anticompetitive behavior, however, in many cases they depend on restrictions created by the government …

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By …

•Imposing barriers to foreign trade

•Implementing programs that facilitate collusion

•Imposing subsidies that reduce o eliminate incentives to compete

•Implementing strategies in public procurement that facilitate collusion and restrict entry (OECD- CFC joint work to tackle this)

e.g. medicines, chicken & egg, corn tortilla