Tag: barriers to entry

Many of the major industries in Australia are oligopolies/oligopsonies. Examples include banking, telecoms, supermarkets, insurance and iron ore. The dominant firms in these markets have been accused of exploiting their market power, both in charging high prices to consumers and driving down the prices paid to suppliers. The result, it is claimed, is that they have been making excessive profits.

But things may be changing. With the rise of online trading, barriers to entry in these markets have been falling. Many of the new entrants are established firms in other countries and hence already have economies of scale.

The first article below examines the challenge to established oligopolists in Australia.

Articles and blogs
The death of the oligopoly: Australia’s incumbents face new rivals Financial Review (Australia), Michael Smith (21/4/15)
Australian Oligopolies The Grapevine, Adam Dimech (27/12/14)

Paper
Breaking up Australia’s oligopolies Ashurst Australia (14/8/13)

Questions

  1. Find out which are the major firms in Australia in the five industries identified above. What is their market share and how has this been changing?
  2. What barriers to entry exist in each of these industries in Australia? To what extent have they been declining?
  3. What can new entrants do to overcome the barriers to entry?
  4. What technological developments allow other companies to challenge Foxtel’s pay television monopoly?
  5. To what extent are developments in the supermarket industry in Australia similar to those in the UK?
  6. To what extent does Australia benefit from increased globalisation?

Over 90% of UK households buy their gas and electricity from one of the ‘big six’ energy suppliers – British Gas (Centrica), EDF, E.ON, npower (RWE), Scottish Power (Iberdrola) and SSE. The big six are currently being investigated by the Competition and Markets Authority (CMA) for possible breach of a dominant market position.

An updated ‘issues statement‘ summarises the investigation group’s initial thinking based on the evidence it has received. In paragraph 16 it states:

Comparing all available domestic tariffs – including those offered by the independent suppliers – we calculate that, over the period Quarter 1 2012 to Quarter 2 2014, over 95% of the dual fuel customers of the Six Large Energy Firms could have saved by switching tariff and/or supplier and that the average saving available to these customers was between £158 and £234 a year (depending on the supplier).

Between 40% and 50% of customers have been with a supplier for more than 10 years. The companies are thus accused of exploiting these ‘loyalty’ customers, many of whom are too busy or ill-informed to switch to an alternative supplier. According to the uSwitch article below:

This is a particular issue for the most vulnerable of customers, including the elderly, who view switching as ‘impossible’.

But the elderly were not the only consumers losing out; the CMA found that those customers most likely to be on expensive standard tariffs were less educated, or on lower incomes, or single parents, and did not necessarily have access to the Internet.

And the problem of penalising ‘loyalty’ customers who do not shop around applies in other industries, most notably banking. People who regularly switch savings accounts can get higher interest rates, often for a temporary ‘introductory’ period. Similarly, people who regularly transfer credit card debt from one card to another can take advantage of low interest rate, or even zero interest rate, deals for an introductory period.

Returning to the energy industry. Is the problem one of oligopoly? Do the big six have too much market power and, if so, what can be done about it? Should they be split up? Should regulation be tightened? Should new entrants be encouraged and, if so, what specific measures can be taken? The following articles explore the issues and possible policies.

Articles

British energy customers missed out on savings Reuters, Nina Chestney (18/2/15)
U.K. Energy Customers Could Save by Shopping Around: CMA BloombergBusiness, Aoife White (18/2/15)
Big six energy firms overcharging customers by up to £234 a year The Guardian, Sean Farrell (18/1/15)
Big six energy firms may lose quarter of customers by 2020, analysts warn The Guardian, Terry Macalister (1/10/14)
UK watchdog says big energy groups do not enjoy unfair advantage Financial Times, Michael Kavanagh (18/2/15)
CMA energy market investigation update: millions are punished for being loyal uSwitch, Lauren Vasquez (19/2/15)
Gas and electricity bills – the key questions Channel 4 News (18/2/15)
Energy customers miss big savings, says CMA inquiry BBC News, John Moylan (18/2/15)
Big Six energy companies overcharging loyal customers by up to £234 a year says watchdog Independent, Simon Read (18/2/15)
Consumer groups demand change after ‘Big Six’ accused of penalising customers out of hundreds of pounds Independent, Simon Read (19/2/15)
Energy companies’ loyalty problem lights the way forward The Conversation, Bridget Woodman (19/2/15)

CMA press releases and reports
Energy market investigation – updated issues statement Competition and Markets Authority (18/2/15)
Energy market investigation Competition and Markets Authority (23/2/15)
Energy Market Investigation: Updated Issues Statement Competition and Markets Authority (18/2/15)

Questions

  1. What barriers to entry exist in the electricity and gas supply markets?
  2. Explain how the big six are practising price discrimination. What form does it take and how are the markets separated?
  3. Find out what tariffs are offered by each of the big six. When you have done so, reflect on how easy it was to find out the information and why so few customers switch.
  4. How could more people be encouraged to ‘shop around’ and switch energy suppliers?
  5. Explain the five theories of harm identified by the CMA. Would a rise in market share of the smaller energy suppliers adequately combat each of the five types of harm?
  6. In what ways may UK energy regulation be ‘a barrier to pro-competitive innovation and change’?
  7. What are the arguments for and against breaking up the big six?
  8. What are the arguments for and against electricity and gas price control?

Virtually all manual toothbrushes sold in the UK are made by Oral B (Procter & Gamble), Colgate (Colgate-Palmolive) or Listerene Reach (Johnson & Johnson). This is a powerful oligopoly.

The manufacturers distribute toothbrushes primarily through large powerful retailers, such as supermarkets and Boots. It is difficult for new entrants to persuade these retailers to stock their product. What is more, with large advertising and marketing budgets, existing toothbrush manufacturers make it difficult for new brands to attract customers.

But one company has successfully entered the children’s section of the market when Boots agreed to stock its product. The Rockabilly Kids toothbrush has a feature likely to appeal to both children and their parents. It wobbles! With a weight in the bottom, the brush rights itself, with a wobble, when dropped or simply placed on the basin or shelf.

This clearly appeals to small kids. It also appeals to their parents who can do away with unhygienic toothbrush holders. What is more, the self-righting wobbly toothbrush, by making the whole process of teeth cleaning fun for young kids, can help them gain good habits of oral hygiene.

So just how did the manufacturer overcome the barriers to entry into this well-established oligopoly? The following article examines how.

Can ‘wobbly’ kids toothbrushes shake the Oral B/Colgate oligopoly? The Telegraph, Rebecca Burn-Callander (10/1/15)

Questions

  1. What barriers to entry exist in the manual toothbrush market?
  2. How did Hamish Khayat overcome these barriers?
  3. Why did he decide against a toothbrush subscription service?
  4. How would you decide whether £6.99 is the right price?
  5. Is it a good idea for him to diversify into electric kids toothbrushes?
  6. How are the big toothbrush manufacturers likely to respond to the expansion of Rockabilly Kids?

One example of an oligopoly was recently discussed on this blog –supermarkets. Here, is another classic example: the energy sector. It is dominated by six big firms, which hold the majority of the market in an industry with high barriers to entry; there is inter-dependence between the firms; and there are accusations of price fixing and collusion – all typical features of an oligopoly that may operate against consumers’ interests.

There have been numerous investigations into the actions of these energy providers, owing to their high prices, a lack of competition and significant profits. Developments in the industry have focused on reducing the barriers to entry created by the vertical integration of the incumbent firms in order to make it easier for new firms to enter, thus boosting competition.

However, the latest step is the biggest one, with the energy regulator, Ofgem, referring this industry to the Competition and Markets Authority (CMA). The investigation is likely to last 18 months and will ‘leave no stone unturned in establishing the truth behind energy prices’.

One of the key things that will be investigated is the accusation of profiteering and thus whether the big six should be broken up. This would inevitably lead to reductions in entry barriers and more opportunities for new firms to enter the market, thereby creating a much needed increase in competition. The Chief Executive of Ofgem, Dermot Nolan said:

Now is the right time to refer the energy market to the CMA for the benefit of consumers…There is near-unanimous support for a referral and the CMA investigation offers an important opportunity to clear the air. This will help rebuild consumer trust and confidence in the energy market as well as provide the certainty investors have called for.

Further comments were made about the energy sector and the future direction in terms of market reforms. This was another reason given for the referral to the CMA. Dermot Nolan added:

A CMA investigation should ensure there are no barriers to stop effective competition bearing down on prices and delivering the benefits of these changes to consumers.

The impact of this latest news will undoubtedly be felt by the big six, with share prices already taking a small hit, as investors start to look ahead to the potential outcome, despite any decision not being expected for a good 18 months. The following articles consider this latest energy market development.

Ofgem puts big six energy suppliers under CMA spotlight The Guardian, Terry Macalister (26/6/14)
Ofgem refers ‘big six’ energy groups for competition probe Financial Times, Claer Barrett (26/6/14)
U.K. energy regulator Ofgem asks for utilities probe Wall Street Journal, Selina Williams (26/6/14)
Energy probe could lead to ‘major structural change’ BBC News (26/6/14)
Probe into energy firms’ £100 per home profits The Telegraph, Emily Gosden (26/6/14)
UK competition watchdog kicks off energy suppliers probe Reuters (26/6/14)
Energy sharks may £101 profit per family: Major inquiry launched into power Mail Online, Sean Poulter (26/6/14)
Big six energy firms face full competition probe Independent, Simon Read (26/6/14)

Questions

  1. How well does the energy sector fit the structure of an oligopoly?
  2. What are the barriers to entry in the energy market? How can this referral to the CMA help to reduce them?
  3. Which factors determine the price of energy?
  4. The big six have been accused of profiteering. What is meant by this and why is it against the public interest?
  5. Why has it taken so long for such a referral to take place?
  6. In the BBC News article, the suggestion is that this investigation could lead to a ‘major structural change’. What is meant by this and why is it a possibility?

Oligopoly is the most complex market structure, characterised by a few large firms which dominate the industry. Typically there are high barriers to entry and prices can be very sticky. However, perhaps the most important characteristic is interdependence. With this feature of the market, oligopolies, despite being dominated by a few big firms, can be the most competitive market structure.

There are many examples of oligopolies and one of the best is the supermarket industry. Dominated by the likes of Tesco, Morrisons and Asda, competition in terms of branding, product development and quality is constant, but so is price competition. During the recession, you could hardly watch a TV programme that included advert breaks without seeing one of the big four advertising their low prices.

However, in the past few years, the supermarket industry has seen competition grow even further and the big four are now facing competition from low-cost retailers, including Aldi and Lidl. This has led to falling sales and profits for the likes of Tesco and Morrisons.

Tesco, Morrisons, Sainsbury’s and Asda have all felt the emergence of discount retailers and have seen their customer numbers fall. All have reacted with rounds of price cuts and new deals, and this price war looks set to continue. Morrisons have just announced a 14% average price cut on 135 products to match earlier changes in pricing strategies by the other main competitors. As I’m writing this during the Algeria v. South Korea match, I have just seen an advert from Sainsbury’s, promoting their milk chocolate digestive biscuits, priced at £1. The advert explicitly states that they are ‘less than Morrisons’, where the price is £1.50. This was soon followed by another from Sainsbury’s saying that the Cif bathroom spray is £1.50, which is ‘less than Tesco’, priced at £2.75. I need say no more.

So, what is it about this industry which means it is so susceptible to price wars? Are all oligopolies like this? The following articles consider the supermarket industry and the price wars that have emerged. Think about this sector in terms of oligopoly power and consider the questions that follow.

Morrisons announces another round of price cuts/a> BBC News (22/6/14)
Tesco suffers worst sales for decades The Guardian, Sarah Butler and Sean Farrell (4/6/14)
Britain’s Morrisons to cut prices on 135 products Reuters (22/6/14)
Morrisons slashes more prices by up to 41pct The Telegraph, Scott Campbell (22/6/14)
Sainsbury’s and Netto in discount store tie-up BBC News (20/6/14)
Slow to respond, Tesco now pays the price Wall Street Journal, Peter Evans and Ese Erheriene (19/6/14)
One million fewer customer visits a week at Tesco The Guardian, Sean Farrell (3/6/14)
Asda only one of big four to grow share as Lidl achieves highest ever growth Retail Week, Nicola Harrison (3/6/14)
Will Asda shoot itself in the foot with in-store cost cutting? The Grocer, Alec Mattinson (28/5/14)
Tesco sales slide at record speed as discounters pile on the pressure Independent, Simon Neville (3/6/14)
Quester: Back J Sainsbury to prove doubters wrong The Telegraph, Graham Ruddick (11/6/14)

Questions

  1. What are the key characteristics of an oligopoly?
  2. How do the above characteristics explain the conduct of firms in an oligopoly? How relevant is this to the supermarket industry?
  3. In many oligopolies, prices are sticky. Why is it that in the supermarket industry price wars break out?
  4. Is the kinked demand curve a relevant model to use when talking about the supermarket industry?
  5. What other industries fit into the category of an oligopoly? Is the kinked demand curve model relevant in these industries?
  6. Would there be an incentive for the big 4 supermarkets to collude and fix price? Explain your answer.
  7. Interdependence is the key characteristic in an oligopoly. Can this explain the behaviour of the supermarkets?
  8. Given that oligopolies are characterised by high barriers to entry, how is that Aldi and Lidl have been able to compete with them?