International Dominance: The Impact of Superstar Firms on UK Businesses
One of the fundamental principles of conventional economics is that competition is a good thing for the everyday consumer. While there are exceptions, the argument goes something like this; as firms strive to outdo each other they create, innovate and adopt more efficient methods, driving down costs and pushing product quality higher. Those who cant keep up are undercut or outdone leaving only the best firms, and by extension the best products and services, for consumers to select.
In late 20th century numerous academics investigated this principle in an international context. If firms within a country face stronger competition from abroad will they step up to the challenge or be undercut and forced out? If we can buy foreign cars at a lower price, will the price of domestic cars fall to match it or are the domestic cars of a high enough quality to justify a premium price? Or could it be that the strongest firms abroad coordinate with the strongest firm domestically to increase their own margins? In other words, there may be more collusion across borders than within them.
In 2017 a group of economists outlined a new theory on firm behaviour. They highlight how globalisation and technological progress have fundamentally changed many markets and allowed certain firms to become hyper-efficient. These so-called superstars are able to outcompete other firms, and in the most extreme cases they drive all competition out of the market. Two of the clearest examples of this are Google and Uber who have become near monopolies in their respective markets (and interestingly both come under fire from competition authorities due to suspected abuses of their power). Autor et al’s (2017) “Superstar Firm” model outlines 4 phenomena that have changed the nature of how firms compete. i) The first is that globalisation has given us access to products and services from around the world. And because of this we are much more sensitive to price and quality differences when considering a purchase. ii) The second is that technology has given us online platforms that make these kinds of price and quality comparisons much easier. iii) The third is that technology has made it much more expensive to start making a product, but much cheaper to make more of it once you have the machinery and processes in place. Creating a factory from the ground up to build cars might cost you millions of pounds, but for Ford to roll out an extra 1000 cars, it will cost a fraction of that. iv) The fourth and final change is that technology has strengthened network effects. What does that mean? Well if more people drove electric cars, there would be more recharge points, so it would be easier to have an electric car. A network effect is simply the extra benefit to a potential user of having more people already use the product.
For my master thesis I sought to re-examine the models used to explain international competition in light of this new form of firm. I wished to see if Superstar Firms acted internationally and thus reduced competition abroad as well as at home. I predicted import-export markets are open to the same four changes and as such any import-export market will also become “winner-takes-most”.
To test this prediction, my research focused on the domestic UK manufacturing sector and related imports. One of the unique contributions of my work is the use of an improved method of controlling for foreign firms. While previous studies had only been able to categories trade into a handful of large country groups, I was able to categorise to the country level. In other words instead of counting all imports from Asia as one firm I was able to measure each countries trade individually. This means I would be able to identify if a superstar firm in one country steals sales from its neighbours.
To understand the wider context, I performed some preliminary analysis to see what has happened in broad terms over recent years. Importer concentration has risen since the Global Financial Crisis but export concentration has remain constant or even slightly fallen. However, in comparison to domestic concentration, which has risen rather sharply since 2006, the pool of importers has been relatively constant. The mean import share of total domestic production has risen, yet aggregated domestic turnover grew by more than annual imports between 2008 and 2014.
By first creating concordance between international and domestic goods classifications I then proceeded to investigate what impact superstar firms have had on import competition and subsequently, what this means for domestic firms in terms of their profit margins. While my results should be considered as preliminary findings, and the topic requires further investigation, they indicate the following.
1) When the pool of importers becomes more concentrated, the size of imports relative to domestic sales falls.
What does this mean? There are two potential explanations. As a superstar firm dominates and other importers are driven out of the market one of two things may happen. In the first some of the sales previously going to other importers goes to the superstar but some reverts back to domestic firms, therefore the overall portion of sales going to importers falls despite the superstars increased presence. In the second, the superstar firm gains sufficient market power to abuse its positions and cuts output to raise prices and increase its profit. But the volume of imports falls.
2) The more concentrated the importers are the more concentrated the domestic firms are Following on from our previous explanation, the fall in imports creates a domestic market boom or price rise, which entices new firms to enter, lowering domestic concentration in the process. The relationship can also go the other way, when there are more imports into a market there are less domestic producers.
There is also some weak evidence that when importers have a larger stake in the whole market, their domestic counterparts have higher profits. This means when the proportion of total sales due to imported products is higher, i.e. there is a higher import share of the total market, the local firms have larger price cost margins. This could be an indication of cross-border collusion. Importers and the largest domestic firms act to drive out the weaker competitors so that they can secure more market share. However the relationship between import share and domestic PCM is weaker when there is higher importer concentration.
No study is without its limitations and while this study is merely a first attempt at studying the effects of Superstar Firms internationally, the question of what impact these huge firms are having on people and businesses is evidently one that may yield concerning answers.