Does a Larger Number of Companies Mean Fiercer Competition?

Competition among firms may be exhausting for the parties involved, but it benefits consumers by lowering prices and improving quality. Many scholars have studied competition, and various laws and policies have been devised to promote it. However, there remain aspects reflecting an insufficient understanding of the nature of competition, and there is a possibility of making errors when measuring and evaluating the degree of competition.

In economics, the benchmark for competition is perfect competition. In other words, a desirable competitive state is one in which numerous firms produce identical goods. The concept of perfect competition shaped the view that competition intensifies as the number of firms increases, and economists provided this view with logical rigor through mathematical models showing that as the number of firms rises, prices fall and consumer welfare increases. Moreover, this result holds even when the number of inefficient firms increases. Accordingly, it is common in economic research to measure and analyze the degree of competition by the number of firms.

At the policy level as well, the number of firms is an important factor in assessing the degree of competition. There is a strong tendency not only to regard a situation in which one firm or a small number of firms dominate a market as less competitive, but also to believe that preventing inefficient firms from exiting through government support is pro-competitive.

In the Brown Shoe decision (1962), it was declared that what antitrust law seeks to protect is competition, not competitors, yet the conclusion was that the goal of protecting competition could be achieved by protecting small merchants.

Is it really beneficial to consumers for even inefficient firms to remain in the market and compete? The findings of the economists mentioned earlier rely on the rather strong assumption that all firms produce identical goods. If, instead, firms produce goods that differ slightly from one another, reflecting real-world competitive conditions more closely, what result would follow?

Recently, I obtained a research finding that when firms produce differentiated goods, the entry of a highly inefficient firm reduces total output and, in turn, decreases consumer welfare. This suggests that the exit of inefficient firms through competition, while reducing the number of firms, can benefit consumers.

Simply increasing the number of firms does not necessarily intensify competition or always benefit consumers. Therefore, evaluating the degree of competition solely by the number of firms may be mistaken. Then how should we understand competition and assess its degree?

Classical economists such as Adam Smith, whose 300th birth anniversary is being marked this year, regarded the active efforts of firms to sell more cheaply than their rivals as the essence of competition. Austrian economists such as Hayek also viewed competition as a process of discovering what consumers prefer and in what quantities, as well as which methods of production are efficient. In other words, competition is not a particular market structure or state, but a set of actions and a process aimed at satisfying consumers.

If we accept this concept of competition, then the degree of competition is more closely related not to the number of firms, but to how freely firms can engage in profit-making activities by satisfying consumers. This is why, when seeking to promote competition in a market, one should first take issue not with the presence of a few large firms, but with regulations that hinder firms’ activities.

Hoesang Jung, Professor, Department of Economics, Kangwon National University

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Original title: 기업의 수가 많다고 경쟁이 치열해질까

Author: Hoe-sang Jeong

Date: 2023-06-20

Source: https://www.cfe.org/bbs/bbsDetail.php?cid=press&idx=25806