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New Empirical Industrial Organization Theories and Their Application to Food System Analyses

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Abstract:

An important economic trend that has been occurring throughout the past and present century is increased concentration of firms in various industries. This phenomenon has occurred in virtually every sector of the economy, including the food sector. Over time, industry consolidation through mergers and absorptions has resulted in fewer but larger sized firms. Evidence of the increasing concentration of industries can be gleaned by examining any time-series data on largest-firm concentration ratios, which have risen steadily. For instance, Rogers (1997) estimated that the concentration ratio of the largest one hundred food manufacturers in the United States doubled between 1954 and 1995, rising from 40 percent to 80 percent (Sexton and Zhang 2001; see Chapter 7).

Traditionally, high firm-concentration ratios have been frowned upon by industrial organization economists. For instance, the traditional Harvard School theory of industrial organization argued that high firm-concentration ratios in an industry produce welfare losses and therefore should be reduced by government intervention such as strict merger restrictions and dividing a monopoly firm into two or more firms. However, competing views rejected the notion that concentration is always bad for the economy and advocated for laissez-faire in the marketplace. For instance, proponents of the Chicago School's efficiency doctrine and Baumol's contestability theory (Baumol 1982; Baumol, Panzar, and Willig 1982) argue that even a monopoly can achieve a competitive equilibrium under certain conditions (outlined later in this chapter). The policy prescription advocated by Chicago School economists is to remove any government intervention policies, including procompetition policies. In addition, as the economy has become more globalized and geographic borders less important, the issue of domestic monopolies/monopsonies has become less relevant as firms face competition from foreign and multinational enterprises.

Therefore, the focus of industrial organization (IO) studies has shifted from analyzing concentration ratios to empirically measuring how far a market diverges from perfect competition (price = marginal cost = average cost in the long term). Measurement of the degree to which an actual market strays from perfect competition is therefore important in determining whether competition is precluded.

Document Type: Research Article

Publication date: January 1, 2006

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