Editor’s note: This is an excerpt from the Planet Money newsletter. You can Login here.
Drew Angerer / Getty Images
Drew Angerer / Getty Images
While there have been some ups and downs, the stock market has hit historic highs in recent years. For many, that’s good news: it’s a sign that the economy and their retirement accounts are doing really well. For Jan Eeckhout, however, the booming stock market is a sign that something is deeply wrong with the economy.
Sure, says the economist, he has a retirement account with stocks and he personally benefits from the ongoing bonanza on the stock markets. The rocket ride on the stock market, however, is being driven by the skyrocketing profits of increasingly powerful companies. Their increasingly ridiculous profits, he says, are eating up the incomes of the great mass of workers and damaging the economy as a whole. This term is the central thesis of his forthcoming book, The Profit Paradox: How Thriving Businesses Threaten the Future of Work.
There is a powerful force lurking behind Corporate America’s rising earnings and stock prices. Eeckhout argues that violence is one of the main reasons the typical American worker’s wages have fallen; why the share of employed persons has decreased significantly; why the share of employees in national income has decreased; and why startup growth has slowed over the past few decades. That force, he says, is the amazing growth in market power since 1980.
The amazing rise in market power
Market power – also known as monopoly power – is the ability of companies to generate high profits by valuing their products and services more than it costs to actually manufacture and provide them. It costs Apple less than $ 500 to make a high-end iPhone, but it charges consumers more than double that amount. Apple’s ability to do this is a sign that the company has great market power.
Investors love market power. Warren Buffett, for example, famous advises that people invest in companies that will benefit a lot. Companies with market power are money-makers, protected by machine guns and bazookas, and keep potential competitors at bay.
Market power often comes from real innovation, efficient business models, and creating things that consumers like. but it also has costs for society. These costs are outlined in classical monopoly theory. Without competition, companies can raise their prices to maximize profits. As the prices of products rise, many consumers cannot afford them, and so the monopoly company reduces what it produces and sells. And that means they need less manpower.
If this were just one company, it wouldn’t be such a big deal to the wider economy. But Eeckhout documents a staggering increase in market power in all industries since 1980. We’re not just talking about the usual suspects; Amazon, Google, Facebook and so on. We talk about everything from cat food manufacturers to Seller of caskets. More than half of all dry cat food in the United States is sold by one company. Almost 90 percent of mayonnaise in the US is sold by two companies. Airlines, social media, pacemakers, pharmaceuticals, energy, cars, home improvement – there are so many industries that are increasingly dominated by just a few companies.
The International Monetary Fund rang alarm bells in 2019 about the problem of growing market power (read) our newsletter about that). They examined nearly a million companies, focusing on one measure of market power: markups, which is the ratio of the price of products a company sells to the cost of production. The IMF found that premiums in advanced countries increased 8 percent between 2000 and 2015.
in the his own studyEeckhout and his colleagues, published in a top peer-reviewed journal, note that publicly traded companies’ premiums have tripled since 1980 and that dominant companies are much more profitable than they used to be. In 1980, the average profit rate of a listed company was only one to two percent of sales. Now they have profit percentages between seven and eight percent of sales. It’s a mind-boggling increase.
Eeckhout says he has nothing against profits per se. However, the excessive profits of so many companies come at the expense of the livelihood of ordinary workers. In the world of ubiquitous market power, workers don’t just have to pay higher prices for goods and services. They, says Eeckhout, also find it more difficult to get well-paid jobs. This is because higher prices for things mean lower demand for those things, which also means lower demand for workers who make or provide those things.
“Market power is so widespread today, from technology to textiles, that it lowers production and labor demand,” he writes. “Instead of creating jobs, market power means that profitability lowers wages and destroys work. That is the profit paradox.”
Why has market power increased?
Eeckhout blames two big factors for the rise in market power. The first is the government’s lax enforcement of competition. This includes the ability for companies to partner with and devour their competitors, as well as an overly generous patent system that grants lengthy monopoly rights on the sale of all types of devices and pills. Most of the lobbying in Washington is largely about protecting and expanding market power.
However, according to Eeckhout, the main story is about rapid technological change that is creating markets where all winners are represented and making it difficult for Davids to challenge the goalkeepers. Over the past four decades we have made tremendous advances in technology in computing, transportation, and communications. This has fueled the rise of global supply chains, big box retailers, search algorithms, and “network effects” platforms that add more value to companies like Google, Amazon, and Facebook the more people use them. Smaller businesses are now struggling to amass the brand’s resources, expertise, and reputation to overcome the formidable barriers to entry it takes to compete with the big ones.
What should we do about it?
The simple answer is that the government is liquidating companies. However, Eeckhout emphasizes that many companies are still dominant because, due to their technologically advanced and well-run business, they often offer greater efficiency and better products. Sure, you can dissolve Google, but its search algorithm, which is the main source of income, actually works better the more people use it. A liquidation of the company could put consumers in a worse position.
Some companies have to be wound up, says Eeckhout. Others just need to be better regulated, however. One idea: a “reverse patent” system where companies like Google only have a limited amount of time to keep the data they collect private. The data is then freely available to competitors.
Another idea: a new federal competition agency modeled on the Federal Reserve. The main job of the Fed is to prevent inflation, and according to Eeckhout, the cost of market power is much higher than the cost of inflation ever before. Like the Fed, this new agency would be well staffed and with expanded powers that it can exercise independently of Congress and the President. Their main task would be to regulate monopolies and limit market power.
Eeckhout admits that dealing seriously with this issue will not make stock traders happy. Limiting market power and increasing competition would reduce corporate profits. This, in turn, would mean that companies would have lower share prices. Returning to the levels of competition we saw in the early 1980s, he writes, “Be prepared for a Dow Jones below 10,000 instead of 30,000.”
Did you like this newsletter segment? Well, it looks even better in your inbox! You can Login here.