Does Concentration Equal Market Power?
The numbers speak for themselves. Four companies process 85% of steers and heifers and 67% of hogs; grind 89% of wet-milled corn; crush 80% of soybeans; mill 63% of wheat; account for 80% of corn seed and 70% of soybean seed, 61% of farm machinery, and 60% of agricultural chemical markets; account for 70% of ammonia production capacity; and control 60% of port elevators. Numbers for production agriculture are similar. Just 14% of Nebraska farmers account for more than 85% of crop sales and more than 93% of cow-calf sales, highlighting the concentration of agriculture production.
The level of concentration has caught the attention of farmers, agricultural groups, and elected officials. Farmer responses to a University of Illinois survey indicated that farmers believe “consolidation in major agricultural input sectors will lead to higher input prices paid …” Elected officials and others have hinted that higher prices for beef, eggs, and farm inputs are due to undue market power from concentration. The concerns have prompted investigations by the Department of Justice, agricultural groups requesting investigations of input suppliers, and legislation introduced in Congress seeking to break up firms and further regulate agricultural markets.
The level of concentration is often cited as evidence of the exercise of market power when calling for investigations or further regulation. Market power is the ability of a large firm or a small group of large firms to control product prices and/or quantities to their advantage. Finding the exercise of market power, though, isn’t as simple as identifying concentration. Barry Goodwin and Joseph Glauber in an American Enterprise Institute paper note, “the four-firm concentration ratio merely measures the market share of the top four firms and has no direct implication for the exercise of market power.” In looking for the exercise of market power, economists look at market conditions and firms’ behavior.
Market conditions such as large barriers to entry preventing competition and an inelastic demand are considered conducive to the exercise of market power. Large, required capital investments or high research and development costs can make it hard for potential competitors to enter a market, creating barriers to entry. Likewise, if a good has few substitutes and its demand is inelastic (quantity demanded changes little with price changes), the market is more susceptible to exploitation. How firms behave is important too. Behaviors like collusion with other firms to fix prices, mergers which reduce competition, and efforts to keep potential rivals from entering the market as evidence of the exercise of market power.
But even with the exercise of market power, a concentrated industry can be beneficial compared to a less concentrated one through economies of scale. In some industries, firms may have significant fixed costs. Greater production can help spread the costs, increasing efficiency. The gains from greater efficiency and lower costs can exceed negative effects of anti-competitive behavior. Goodwin and Glauber note that studies of market power in the meat processing sector in the 1990s and 2000s showed processors could “exercise a small degree of market power” compared to a less concentrated industry. But these market power impacts “were more than offset by reduced processing costs, and on net, consumers were better off.”
Firms in highly concentrated industries have the capability to exercise market power. However, concentration is just one factor in the exercise of market power. Further investigation is warranted to determine whether conditions are conducive to the exercise of market power and if firms’ behaviors evidence the exercise of market power. It’s too simple to say firms are manipulating prices just because an industry is concentrated.