A row erupted in mid-October between Tesco, the UK’s biggest supermarket, and Unilever, the Anglo-Dutch company. Unilever is the world’s largest consumer goods manufacturer with many well-known brands, including home care products, personal care products and food and drink. Unilever, which manufactures many of its products abroad and uses many ingredients from abroad in those manufactured in the UK, wanted to charge supermarkets 10% more for its products. It blamed the 16% fall in the value of sterling since the referendum in June (see the blog Sterling’s slide).
Tesco refused to pay the increase and so Unilever halted deliveries of over 200 items. As a result, several major brands became unavailable on the Tesco website. The dispute was dubbed ‘Marmitegate’, after one of Unilever’s products.
This is a classic case of power on both sides of the market: a powerful oligopolist, Unilever, facing a powerful oligopsonist, Tesco. With rising costs for Unilever resulting from the falling pound, either Unilever had to absorb the costs, or Tesco had to be prepared to pay the higher prices demanded by Unilever, passing some or all of them onto customers, or there had to be a compromise, with the prices Tesco pays to Unilever rising, but by less than 10%. A compromise was indeed reached on 13 October, with different price increases for each of Unilever’s products depending on how much of the costs are in foreign currencies. Precise details of the deal remained secret.
An interesting dynamic in the dispute was that Tesco and Unilever were acting as ‘champions’ for retailers and suppliers respectively. Other supermarkets were also facing price rises by Unilever. 
Their reactions were likely to depend on what Tesco did. Similarly, other suppliers were facing rising costs because of the falling pound. Their reactions might depend on how successful Unilever was in passing on its cost increases to retailers.
This example of ‘countervailing power’, or ‘bilateral oligopoly’, helps to illustrate just how much the consumer can gain when a powerful seller is confronted by a powerful buyer. The battle was been likened to that between two ‘gorillas’ of the industry. Its ramifications throughout industry will be interesting.
Podcasts and Webcasts
Tesco-Unilever row: Can unique shop explain ‘Marmitegate’? BBC News, Dougal Shaw (13/10/16)
Tesco, Unilever in Brexit price clash Reuters, David Pollard (13/10/16)
Brexit price-rise warning to shoppers BBC News, Simon Jack (10/10/16)
Tesco in Brexit Pricing Spat With Unilever Wall Street Journal (13/10/16)
Tesco battles Unilever over prices Financial Times on YouTube (14/10/16)
Tesco vs Unilever: Who won? ITV News, Joel Hills (14/10/16)
Articles
Tesco removes Marmite and other Unilever brands in price row BBC News (13/10/16)
Marmite Brexit Shortage ‘Just The Beginning’ Of ‘Gorilla’ Grocery Battle As Pound Slumps Huffington Post, Louise Ridley (13/10/16)
Unilever sales increase despite dozens of its brands being removed from Tesco shelves Independent, Ben Chapman (13/10/16)
Tesco-Unilever price row: Why pound value slump has caused Marmite to disappear from shelves Independent, Zlata Rodionova (13/10/16)
Tesco pulls Marmite from online store amid Brexit price row with Unilever The Telegraph, Peter Dominiczak, Steven Swinford and Ashley Armstrong (13/10/16)
Tesco runs short on Marmite and household brands in price row with Unilever The Guardian, Sarah Butler (13/10/16)
Tesco pulls products over plunging pound Financial Times, Mark Vandevelde, Scheherazade Daneshkhu and Paul McClean (13/10/16)
Brexit means…higher prices The Economist, Buttonwood’s notebook (13/10/16)
Tesco, Unilever settle prices row after pound’s Brexit dive Reuters, James Davey and Martinne Geller (14/10/16)
Questions
- To what extent can Tesco and Unilever be seen a price leaders of their respective market segments?
- What would you advise other supermarkets to do over their pricing decisions when faced with increased prices from suppliers, and why?
- What would you advise manufacturers of other consumer goods sold in supermarkets to do in the light of the Tesco/Unilever dispute, and why?
- What determines the price elasticity of demand for branded products, such as Marmite, Persil, Dove soap, Hellmann’s mayonnaise, PG Tips tea and Wall’s ice cream?
- What factors will determine in the end just how much extra the consumer pays when supermarkets are faced with demands for higher prices from major suppliers?
- Give some other examples of firms in industries where there is a high degree of countervailing power.
- What are the macroeconomic implications of a depreciating exchange rate?
- If, over the long term, the pound remained 16% below its level in June 2016, would you expect the consumer prices index in the long term to be approximately 16% higher than it would have been if the pound had not depreciated? Explain why or why not.
This time last year bookmakers Ladbrokes and Coral announced their intention to merge. This was closely followed by a merger between Betfair and Paddy Power. This wave of consolidation appears to have been partly motivated by the rise of online gambling, stricter regulation and increased taxation.
The UK Competition and Markets Authority (CMA) commenced an initial investigation into the Ladbrokes-Coral merger in late 2015 and, at the request of the merging parties, agreed to fast track the case to a detailed phase 2 investigation.
Despite the growth in the online market, the CMA’s investigation recognised the continued importance of high-street betting shops:
Although online betting has grown substantially in recent years, the evidence we’ve seen confirms that a significant proportion of customers still choose to bet in shops – and many will continue to do so after the merger.
The CMA identified almost 650 local markets where it believed there would be a substantial lessening of competition. It concluded that this could have both local and national effects:
Discounts and offers of free bets to individual customers are 2 of the ways betting shops respond to local competition which could be threatened by the merger. Such a widespread reduction in competition at the local level could also worsen those elements that are set centrally, such as odds and betting limits.
Therefore, earlier this week the CMA announced that before it is prepared to clear the merger, the parties must sell around 350 stores in order to preserve competition in the problem markets (many of these overlap so the number of store sales required is less than the number of problem markets). This divestment represents around 10% of the total number of stores currently owned by the two merging parties. It appears that rivals Betfred and Boylesports, plus a number of private equity investors, are already interested in purchasing the stores.
This may also not be the last consolidation in the industry with the struggling leading bookmaker William Hill apparently attracting merger interest from rival 888 in combination with a casino and bingo hall operator.
Articles
BHA warns CMA over Coral-Ladbrokes merger Racing Post, Bill Barber (7/7/16)
Ladbrokes-Gala Coral must sell 350-400 shops to clear merger BBC, (26/7/16)
William Hill is lukewarm on ambitious three-way merger deal The Telegraph, Ben Martin (25/7/16)
Questions
- Why might the merging parties in this case have been so keen to fast track the case to phase 2?
- What are the key factors in defining the market in this case? How do you think these would have affected the decision?
- Are there arguments that wider social issues in addition to the effect on competition should be taken into account when considering mergers in this market?
- Which of the potential purchasers of the divested stores do you think might be best for competition?
- How do you think this market will evolve in the future?
Record fines have been imposed by the European Commission for the operation of a cartel. Truck makers, Volvo/Renault, Daimler, Iveco and DAF have been fined a total of €2.93bn. The fines were considerably higher than the previous record fine of €1.7bn on banks for rigging the LIBOR rate.
Along with MAN, they were found to have colluded for 14 years over pricing. They also colluded in passing on to customers the costs of compliance with stricter emissions rules. Together these five manufacturers account for some 90% of medium and heavy lorries produced in Europe.
The companies have admitted their involvement in the cartel. If they had not, the fines might have been higher. MAN escaped a fine of €1.2bn as it had revealed the existence of the cartel to the Commission.
A sixth company, Scania, is still in dispute with the Commission over its involvement. Thus the final total of fines could be higher when Scania’s case is settled.
In addition, any person or firm adversely affected by the cartel can seek damages from any of the companies in the national courts of member states. They do not have to prove that there was a cartel.
The Commission hopes that the size of the fine will act as a disincentive for other firms to form a cartel. ‘We have, today, put down a marker by imposing record fines for a serious infringement,’ said Margrethe Vestager, the EU’s competition commissioner.
Also, by being able to exempt a cartel member (MAN in this case) from a fine if it ‘blows the whistle’ to the authorities, it will help to break existing cartels.
There are some other major possible cartels and cases of abuse of market power currently being considered by the Commission. These include Google and whether unfair tax breaks were given to Apple and Amazon by Ireland and Luxembourg respectively.
Articles
Price-Fixing Truck Makers Get Record E.U. Fine: $3.2 Billion New York Times, James Kanter (19/7/16)
Truckmakers Get Record $3.23 Billion EU Fine for Cartel Bloomberg, Aoife White (19/6/16)
EU fines truckmakers a record €2.93bn for running 14-year cartel Financial Times, Peter Campbell, Duncan Robinson and Alex Barker (19/7/16)
Truckmakers fined by Brussels for price collusion The Guardian, Sean Farrell (19/7/16)
Europa Press Release
Antitrust: Commission fines truck producers € 2.93 billion for participating in a cartel European Commission (19/7/16)
Information
Competition DG European Commission
Questions
- How have the various stakeholders in the truck manufacturing industry been affected by the operation of the cartel?
- What incentive effects are there, (a) for existing cartel members and (b) for firms thinking of forming a cartel, in the fining system used by the European Commission?
- Unlike the USA, the EU cannot jail managers for oligopolistic collusion. Compare the relative effectiveness of large fines and jail sentences in deterring cartels.
- What determines the profit-maximising price(s) for a cartel?
- Apart from the threat of action by the competition authorities, what determines the likely success of a cartel in being able to fix prices?
- Choose two other cases of possible cartels or the abuse of market power being examined by the European Commission. What is the nature of the suspected abuse?
Concerns have been expressed about the UK’s relatively poor record of upgrading broadband services so that households can receive ultrafast connectivity. Some commenters have argued that future economic growth prospects will be harmed if the UK continues to lag behind its leading rivals.
Much of the fixed line system that allows people to connect to broadband was originally installed many years ago for the land-line telephone network. The so called ‘final mile’ consists of copper-based wiring that is carried from street cabinets to the premises of the end-user. This wiring is transported via a huge network of telegraph poles and cable ducts (small underground tunnels).
In order for people to gain connectivity to ultrafast broadband this copper based wiring needs to be replaced by fibre optic cables. This is commonly referred to as Fibre to the Premises (FTTP). Unfortunately, the UK has a relatively poor record of installing FTTP. Japan and Korea were forecast to have 70% and 63% coverage by the end of 2015 as opposed to just 2% in the UK.
Why is the UK’s record so poor? Many observers blame it on the structure of the industry. In other network industries, such as those for gas pipeline and electricity grids, the business responsible for managing the infrastructure, National Grid, is a regulated monopoly. This company does not directly supply services to consumers using the network it is responsible for maintaining. Instead, customers are supplied by the retail sector of the industry, where firms compete for their business. This sector includes the so-called ‘big six’ (British Gas; npower; SSE; Scottish Power; EDF; E.On) and a number of smaller suppliers such as Ovo Energy and Ebico.
The structure of the fixed line telecommunications sector is very different. The company that manages the ‘final mile’, Openreach, is a subsidiary of BT. BT also competes with other Internet Service Providers (ISPs), such as TalkTalk and Sky, to supply broadband to customers using this network. Its market share of 32 per cent makes it the largest player in the broadband market. Sky and TalkTalk have market shares of 22 per cent and 14 per cent respectively. Virgin Media also supplies 20 per cent of this market using its own network of ducts and cables.
Given that in most cases ISPs such as Sky and TalkTalk are stuck with the network Openreach provides, BT may have limited incentives to invest. It can still earn a good return from its infrastructure of copper-based wiring and avoid installing expensive FTTP. Dido Harding, the chief executive of TalkTalk, argued that:
“We need to separate Openreach from the rest of BT to create a more competitive, pro-investment market”
Ofcom, in its recent review of the market, has taken a different approach. Rather than creating an entirely separate monopoly business to manage the network (i.e. splitting Openreach from BT), the regulator instead opted for a policy of encouraging competition between different suppliers that deploy fibre optic cables. It states in the report that:
“We believe competition between different networks is the best way to drive investment in high-quality, innovative services for customers.”
This competition could come from ISPs such as TalkTalk and Sky or other smaller network providers such as CityFibre and Gigaclear.
One major problem with this approach is that potential new entrants might be deterred from entering the market because of the very high initial costs involved in building a new network in order to deploy FTTP. In particular, the costs of digging up the roads and laying the ducts are considerable. Matt Yardley, author of a study on the industry, said:
“It is widely accepted that civil works such as digging trenches account for up to 80% of broadband deployment costs.”
One way of reducing these costs and encouraging more competition is to allow rival firms access to the existing ducts and poles that are currently managed by Openreach. Once access has been obtained, these firms could effectively rent space inside the ducts and lay fibre optic cables alongside the existing copper-based wiring. Vodafone reported that a similar policy in Spain had reduced its capital expenditure of building FTTP by 40 per cent compared with constructing its own network of ducts and poles.
Ofcom first introduced this type of policy in 2010 when it launched its Physical Infrastructure Access (PIA) initiative. Unfortunately it has proved to be relatively unsuccessful with very little demand for PIA from rival firms. The success of this type of policy will depend on a number of factors including (1) the prices charged by Openreach to access and rent space inside the ducts; (2) the simplicity of any relevant administration; and (3) the availability and reliability of information about the ducts. With this last point, key issues include:
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Where they are located . |
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How much space is available: i.e. is there enough space for firms to lay fibre optic cables alongside the existing wiring? |
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What condition they are in: i.e. are they flooded or clogged up with sand and mud, which will involve expensive work to make them usable again?
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Firms did complain about the pricing structures and bureaucratic nature of the administration process under the PIA scheme. However, their most significant concerns were about the uncertainty that was created by the lack of information about the ducts and poles. For example, analysts from the consultancy firm, Reburn, argued that if a firm contacted Openreach to try to obtain access to the network it was informed that:
“We don’t know what condition the ducts and poles are in. Please pay £10 000 for a survey. Also unfortunately we are rather busy and we can only start in six weeks.”
Matthew Hare, the chief executive of Gigaclear, argued that it was like going to a shop where the assistant says:
“Give me some money, and I’ll tell you whether you can have it or not.”
In response to these criticisms Ofcom has introduced a number of changes to PIA, which has been re-named Duct and Pole Access (DPA). In particular, it has imposed a new requirement on Openreach to create a database that provides information on the location, condition and capacity of its ducts and poles. The database must be made available to rival ISPs and network providers. DPA must also be provided on the same timescales, terms and conditions to all businesses including other parts of BT – this is referred to as ‘equivalence of inputs’.
The first big test of this policy is in Southend where City Fibre is hoping to deploy 50km of fibre optic cables using DPA. However, reports in the media have suggested that the initial surveys have found very limited capacity in some of the ducts, which would make DPA impossible.
It will be interesting to see how the trial in Southend progresses. If it is successful, then DPA may be viable for about 40 per cent of premises in the UK. If it fails, then Ofcom might ultimately have to force Openreach to be completely separated from BT.
Articles
How the gothic city of York became a broadband battleground The Telegraph, Kate Palmer (22/5/16)
City Fibre first to mount BT challenge after Openreach is told to share network The Telegraph, Kate Palmer (1/3/16)
Challenges as CityFibre Moot Using BT Cable Ducts in Southend-on-Sea ISPreview, Mark Jackson (2/5/16)
CityFibre to build pure fibre infrastructure for Southend Networking (5/4/16)
Ofcom tells BT to open up infrastructure to rivals The Guardian, Rob Davies (26/2/16)
Questions
- Draw an average total cost curve to illustrate the economics of building a network of ducts and poles. Label the minimum efficient scale.
- To what extent does DPA create a contestable market?
- For DPA to deliver productive efficiency, what must be true about the economies of scale of laying fibre optic cables?
- In the run-up to Ofcom’s review of the telecoms industry, many commentators described Openreach as being a natural monopoly. To what extent do you agree with this argument?
- What are the advantages of marginal cost pricing? What issues might a regulator face if it tried to impose marginal cost pricing on a natural monopoly?
- Using a diagram, explain how the network of ducts and poles might be a natural monopoly in rural areas but not in densely populated urban areas.
- Discuss how Ofcom has tried to increase the level of separation between Openreach and BT.
In the following article, Joseph Stiglitz argues that power rather than competition is a better starting point for analysing the working of capitalism. People’s rewards depend less on their marginal product than on their power over labour or capital (or lack of it).
As inequality has widened and concerns about it have grown, the competitive school, viewing individual returns in terms of marginal product, has become increasingly unable to explain how the economy works.
Thus the huge bonuses, often of millions of pounds per year, paid to many CEOs and other senior executives, are more a reflection of their power to set their bonuses, rather than of their contribution to their firms’ profitability. And these excessive rewards are not competed away.
Stiglitz examines how changes in technology and economic structure have led to the increase in power. Firms are more able to erect barriers to entry; network economies give advantages to incumbents; many firms, such as banks, are able to lobby governments to protect their market position; and many governments allow powerful vested interests to remain unchecked in the mistaken belief that market forces will provide the brakes on the accumulation and abuse of power. Monopoly profits persist and there is too little competition to erode them. Inequality deepens.
According to Stiglitz, the rationale for laissez-faire disappears if markets are based on entrenched power and exploitation.
Article
Monopoly’s New Era Chazen Global Insights, Columbia Business School, Joseph Stiglitz (13/5/16)
Questions
- What are the barriers to entry that allow rewards for senior executives to grow more rapidly than median wages?
- What part have changes in technology played in the increase in inequality?
- How are the rewards to senior executives determined?
- Provide a critique of Stiglitz’ analysis from the perspective of a proponent of laissez-faire.
- If Stiglitz analysis is correct, what policy implications follow from it?
- How might markets which are currently dominated by big business be made more competitive?
- T0 what extent have the developments outlined by Stiglitz been helped or hindered by globalisation?
A row erupted in mid-October between Tesco, the UK’s biggest supermarket, and Unilever, the Anglo-Dutch company. Unilever is the world’s largest consumer goods manufacturer with many well-known brands, including home care products, personal care products and food and drink. Unilever, which manufactures many of its products abroad and uses many ingredients from abroad in those manufactured in the UK, wanted to charge supermarkets 10% more for its products. It blamed the 16% fall in the value of sterling since the referendum in June (see the blog Sterling’s slide).
This is a classic case of power on both sides of the market: a powerful oligopolist, Unilever, facing a powerful oligopsonist, Tesco. With rising costs for Unilever resulting from the falling pound, either Unilever had to absorb the costs, or Tesco had to be prepared to pay the higher prices demanded by Unilever, passing some or all of them onto customers, or there had to be a compromise, with the prices Tesco pays to Unilever rising, but by less than 10%. A compromise was indeed reached on 13 October, with different price increases for each of Unilever’s products depending on how much of the costs are in foreign currencies. Precise details of the deal remained secret.
Their reactions were likely to depend on what Tesco did. Similarly, other suppliers were facing rising costs because of the falling pound. Their reactions might depend on how successful Unilever was in passing on its cost increases to retailers.
