A General Theory of Competition
by Shelby D. Hunt
(Presenting what the author calls Resource-Advantage, or R-A, theory.)
Shelby D. Hunt, A General Theory of Competition: Resources, Competences, Productivity, Economic Growth (Thousand Oaks, California: Sage Publications, Inc., 2000).
Hunt summarizes neoclassical theory’s model of perfect competition (pages 8-9) fairly well: A firm’s objective is maximization of net present value of future profits. “Acting under conditions of perfect and costless information, perfect competition theory focuses on the firm producing a single product using the resources of capital, labor, and (sometimes) land. These “factors” of production are assumed to be [...] identical with other units” and tradeable among firms costlessly. Competition is each firm adjusting the quantity it produces in reaction to prices, in the short run, and adjusting the scale of its plant in the long run. New technology is outside this model. The equilibrium position is no pure profit, only an “accounting profit equal to the rate of return obtainable in other perfectly competitive industries.” (Whatever that means.) Every firm has the best size of plant and operates at the lowest cost. Every “factor” is put to its most productive use and receives the value of its marginal product. The price of each product is what consumers are willing to pay for an additional unit and is exactly equal to its marginal cost, what society has to give up to produce an additional unit. According to neoclassical welfare economics, a static efficiency analysis, these results are indeed perfect: the best outcome possible for society.
My first problem with all this, which is constantly used to justify the economic results in the world as good, has always been that none of the conditions hold. My second reaction is that even if perfect competition did hold, we would need relative equality to get the best results for society, even on straight static efficiency grounds (for the products that most benefit people as a whole to be produced, everyone must have a relatively equal voice in what is produced— that is, cash to spend).
Hunt also has a problem with the fact that the neoclassical theory of perfect competition is generally very, very far from reality, but he also says that we should not want reality to approach the static perfect efficiency described. Thus, Resource-Advantage theory is supposed to provide a more accurate depiction of the world, and this depiction must include technological change and provide a means for analyzing dynamic efficiency, because economic growth is what is really important.
Resource-Advantage theory “recognizes that many of the resources of firms within the same industry are significantly heterogeneous and relatively immobile.” (Page 12.)
Competition, for R-A thory, is the disequilibrating process that consists of the constant struggle among firms for comparative advantages in resources that will yield marketplace positions of comparative advatage for some market segment(s) and, thereby, superior financial performance. The nature of competitive processes and how well they work (e.g., howe effectively competition increases productiviity and produces economic growth) are significantly influenced by five environmental factors: the societal resources on which firms draw, the societal institutions that structure economic actions, the actions of competitors and suppliers, the behaviors of consumers, and public policy.Page 12.
For all the emphasis on the importance of institutions, and presumably how different institutions affect outcomes, Hunt does not question or look at the institution that is the basic unit of his analysis: the firm. Without (the admittedly imaginary) “perfect competition” to keep firms in their most efficient form, I would think a lot of investigation should go into how businesses end up with their institutional forms and how such structures perform.
A very basic point against neoclassical theory:
if firms are price-takers, “it is not clear how unsold inventories or unmet demand effect price changes. If no one raises or lowers price bids, how do prices rise or fall?” (Kirzner 1979, p. 4; italics in original). That is, there is no mechanism in neoclassical theory by which price-taking firms can find the equilibrium price. Clearly, if there is such an entity as an equilibrium price, finding it requires postulating the existance of firms that are not price-takers.Page 28.
An economic system must take known resources, wholly known only by all people combined, and put them to their best use in attaining ends also known only by all people combined, and unknowable by any one person
I read some bad Hayek previously (‘a person trapped in a pit has complete freedom because he is not being coerced’). He doesn’t sound like a total moron here; in fact, I regard this as a brilliant point:
The peculiar character of the problem of a rational economic order is determined precisely by the fact that the knowledge of the circumstances of which we must make use never exists in concentrated or integrated form but solely as the dispersed bits of incomplete and frequently contradictory knowledge which all the separate individuals possess. The economic problem of society is thus not merely a problem of how to allocate “given” resources—if “given” is taken to mean given to a single mind which deliberately solves the problem set by these “data.” It is rather a problem of how to secure the best use of resources known to any of the members of society, for ends whose relative importance only these individuals know. Or, to put it briefly, it is a problem of the utilization of knowledge which is not given to anyone in its totality. (Hayek 1945/1948, pp. 77-78).Page 29.
Friedrich August von Hayek would disagree, but inherent in this insight is a need for equality (of wealth or control) if “best use” is to be acheived and have any meaning when the best ends are known only by individuals.
In the view of economists in the Austrian school,
it is through the process of firms attempting to solve their individual problems (i.e., learning how to achieve superior [financial] performance through being more effecient and/or effective) that firms will, in the aggregate, solve society’s knowledge problem (i.e., learning how to use and create knowledge so as to be more efficient, effective, and thereby more productive).Page 32.
I like the idea that individual people or firms acting to do what is best for themselves can do what is best for society, but the point is hardly argued here. I think the market, under conditions of relative equality, can do a lot in this direction; but I am sure that democratic institutions, including government and co-operatives or collectives, are also necessary for everyone to put resources to the best use for everyone. (As a side note, Hunt never convinces me that doing things better should be devided into the two dimensions “more efficient” and “more effective”).
R-A theory defines resources as the tangible and intangible entities available to the firm that enable it to produce efficiently and/or effectively a market offering that has value for some market segment(s). Thus, [...] resources can be categorized as financial (e.g., cash reserves and access to financial markets); physical (e.g., plant, raw materials, and equipment); legal (e.g., trademarks and licenses); human (e.g., the skills and knowledge of individual employees; organizational (e.g., controls, routines, cultures, and competences—including, importantly, a competence for entrepreneurship); informational (e.g., knowledge about market segments, competitors, and technology); and relational (e.g., relationships with competitors, suppliers, and customers).Pages 34 to 35.
The question is, which of these resources which can give firms an advantage disadvantage the public? (For example, legal monopolies on knowledge, secrets kept from everyone else, supplier relationships that cut out competitors, physical resources made more valuable by the ability to deplete them or pollute the environment shared with others, etc.)
Uniquely different demands and sources of supply, and what it means for competition
For [Edward H.] Chamberlin (1933), theories of pure and perfect competition simply do not apply to most industries because most industries are characterized by heterogeneous demand and supply. Indeed, he uses automobiles (an industry claimed by [Joan] Robinson to be an example of an industry that for “practical purposes” is homogenous) to argue that industry demand curves often make no sense:[...] Competitive theory does not fit because competition throughout the group is only partial and is highly uneven. The competition between sport roadsters and ten-ton trucks must be virtually zero; and there is probably more justification for drawing up a joint demand schedule for Fords and house room than for Fords and Locomobiles. (1933/1962, p. 9)Page 41.
Chamberlin (1933/1962) then extends his analysis to other welfare implications of monopolistic competition. As to product quality, he argues that it will be “inevitably somewhat inferior” (p. 99) at all equilibrium prices. As to factors of production, because excess productive capacity has no “automatic corrective,” the “surplus capacity is never cast off and the result is high prices and waste” (p. 109).Page 44.
Hunt claims that such an analysis clearly means “public policy should mandate the homogeneity of demand and supply for all products”. (Page 44, the same claim is repeated on page 49.) I think this is a straw man argument, one he sets up so to help discredit the analysis itself. My reaction to the analysis would be that more should be done to reduce the extent companies have monopolistic priveleges: encourage the ease of entry of firms (including, say, by allowing employees to reconstitute themselves while dropping the baggage of management), don’t protect brand names that allow firms to create the perception of difference when there is none, and all sorts of ways to push reality toward greater competition. But mandate sameness? Lunacy.
To expand on this idea using their automobile industry example, most of the ability of differentiation to bring about little monopolies of the differentiated product is the artifact of existing intellectual property rights, which grant the holder of the patent, copyright, brand name, or other idea or intangible, a monopoly on its use. If intellectual property rights were repealed or, preferably, rewritten so as to require leasing use of all ideas and intangibles (on terms somehow regulated to prevent de facto monopoly), then anyone could go into making Rolls Royces and compete with BMW in the making of Rolls-Royces.* The developer of an idea should get some kind of fair compensation for it, or for its use.) (To ease the mind of those who fear someone other than McDonald’s being able to call a greasy spoon McDonald’s, brand names could have standards developed by the originator, but competition in providing the food, cleanliness, and service promised by the McDonald’s brand name must be allowed.)
* A few fun facts help make the case that brand names should not be private property, under the complete control of whoever owns it to the absolute exclusion of others. What brand name, above any other, can you take to truly mean something? To be more than propaganda, to be true substance? Rolls-Royce seems like an excellent example of a name that only they should be allowed to use. Except that Rolls-Royce doesn’t make cars anymore. From their web site: “Rolls-Royce Motor Cars was sold by Vickers to Volkswagen, although BMW hold[s] the rights to the name and the marque for use on Rolls-Royce cars, having acquired the rights from Rolls-Royce plc for £40m in 1998. BMW will take over responsibility for Rolls-Royce cars from the beginning of 2003.” If the name can be sold without the manufacturing process, let alone the factory, why should any company having a monopoly on making products under a given “marque”?
Later, Chamberlin argued against using pure competition as a competitive ideal because intra-industry supply and demand are both naturally heterogeneous. (Page 45.) [This is undoubtedly true, but does it really call into question the ideology that more competition is better?] Differences in products are natural because human beings, as individuals, demand differentiated products:
product differentiation is neither “the reprehensible creation by bisinessmen of purely fictitious differences between products which are by nature fundamentally uniform” (1950, p. 87), nor “an optical illusion based upon ignorance” and “imperfect knowledge,” nor a result of “irrational” preferences (1950, p. 88).Page 46.
I’d feel much more secure about the naturalness of product differentiation if the incentive to make the consumer perceive difference where there is none were taken away by allowing competitors to produce under rivals’ brand names. Perhaps Proctor & Gamble wouldn’t go to the trouble of making and advertizing several ‘competing’ detergents if there was the risk they would actually become competing!
Hunt and other people that I have read before him convince me that the little monopolies created by product differentiation are not our biggest problem. An analysis by Cowling and Mueller (1978) that Hunt looks at (page 49) estimates 4% to 13% of GDP welfare losses, but it does appear to be based on arbitrary assumptions: profit over the 12% annual return average is regarded as waste. (I agree with Cowling and Mueller classifying advertising as waste, at least to some extent.)
Even assuming that the costs of mini-monopolies (or even full-scale “commodity”monopolies) is smaller than their estimate, logic suggests the costs are still significant: at the least, firms can charge a higher price, they avoid a direct competitor continually forcing quality improvement. Further, by thus raising revenues and so also the net present value of the company, its stock effectively hoards money that could go to productive investment elsewhere. Why invest in innovation when you can buy Microsoft stock, knowing that whatever operating system Microsoft puts out (practically with or without innovation), it will suck money from nearly everyone who uses computers? (The relatively weak power of workers – poverty is so extreme that there is nearly always someone willing to work for less – also inflates return on investment, meaning to me that worthy investments but with returns below 12% or 18%(!) are not made.)
Hunt again suggests we must accept heterogeneous (mini-monopoly) products...
R-A theory agrees [with the Austrian view] that the problem that heterogeneous, intra-industry demand poses for the neoclassical tradition cannot be solved by the simple expedient of further subdividing industry[. ...] No matter how finely the categories are defined, most firms in most industries will still be quantity-takers and price-makers, rather than price-takers and quantity-makers. Therefore, the use of partial equilibrium analysis and the achievement of its alleged welfare ideal require that homogeneous-industries-with-demand-curves would have to be created by government mandate. Such government intervention then poses the question, as Chamberlin (1933/1962, p. 259) put it, should the government mandate that the automobile industry produce Packards, Plymouths, or Peugeots? If downward-sloping demand curves for novels (Mankiw 1998, p. 363) represent waste that is “subtle” and “hard to measure” (p. 370), but waste nonetheless, which novel should government madate?Page 53.
...and more ranting from me about laws making ideas absolute property
O.K., we have long ago established that “partial equilibrium analysis” has about as much to do with the real world as wind-up dolls have to do with real people. Businesses are quantity-takers and price-makers, and we wouldn’t want it any other way. Whether companies are finding (or rather creating) a new market or taking a piece of an existing market with a new way of producing something, it makes somewhat more sense to talk about taking the size of the market as given and choosing the price. This is good, as it means that businesses need to innovate and even take risks, and perhaps create things that improve people’s lives, rather than taking the world as unchanging.
On the other hand, firms don’t want to compete. That is what all of Michael Porter’s strategies, mentioned later in this book, are about. But because firms don’t want to compete and often avoid direct competition and nearly always avoid producing identical commodities, it does not follow that this is good for society and that more direct competition would be bad. Without neoclassical equilibrium nonsense, economic logic still suggests that more direct competition is better.
Promoting competition should always mean more economic freedom, rather than less. One solution is more socialist but far better for a growing, changing economy: directly compensate producers of ideas, and let anyone publish the novel. Such a solution is glaringly obvious because the mini-monopolies of a particular novel or a Plymouth is possible only because of the government’s definition of intellectual property rights and its fierce protection of same. The problem of downward-sloping demand curves (due to protected monopoly on the differentiated products) is as surely a result of government as Hunt’s “mandating homogeneity” bugaboo would be.
With other solutions that modify the original source of the problem, there would be at least as many different products. Nor would every product have a copy-cat; rather, anything providing above-average returns on investment would be a target (see Adam Smith and everyone since), as would anything that an entrepreneur spots as being inefficiently produced and which he or she thinks she can improve on.
R-A theory’s definition of a product: a “market offering”
For R-A theory, a product or market offering should be broadly defined. A market offering is a distinct entity composed of a bundle of attributes, which may be tangible or intangible, and which may be viewed as a “want-satisfier” by potential buyers. “Most market offerings have blends of tangible (e.g., an automobile’s engine, tires, and transmission) and intangible attributes (e.g., an automobile’s warranty, reliability, and prestige).” (Page 54.)
(...how intangible can you get?)
This definition of a market offering is, to me, an abdication of an economic theory’s responsibility to describe reality. Lumped together as “intangible attributes” are things that really exist on paper (warranty) or otherwise in fact (reliability) with things that are wholly psychological (prestige). The psychological matters, but it should not be put on the same plane as legal rights or expected performance. The next sentence only further elevates the imaginary by associating it with reality: “If tangible attributes predominate, market offerings are referred to as goods; if intangibles predominate, they are services.” Under this definition, if a con man sells you the Brooklyn Bridge, you are simply buying a service.
Definition of “generic” competition
Three aspects of Clark’s (1940) generic competition merit special attention. First, competition is not a random pairing of anonymous buyers and sellers, as in perfect competition, but a rivalry among competitors. Second, the ability of firms to charge high prices is limited to the extent that buyers have the option of obtaining similar products from rivals in the marketplace. And third, sellers seek to “equal or exceed the attractiveness of others’ offerings.”Page 56.
Definition of “effective” competition
Clark (1954) defines competition as:
a form of independent action by business units in pursuit of increased profits . . . by offering others inducements to deal with them, the others being free to accept the alternative inducements offered by rival business units. Active competition consists of a combination of (1) initiatory actions by a business unit, and (2) a complex of responses by those with whom it deals, and by rivals. (p. 326)
(Pages 58-59, Hunt, A General Theory of Competition, 2000)
Me: the more that firms can get away with bundling, the less competition there is
I wanted to point out earlier, and will arbitrarily do so now, that the more a company can combine numerous products and services, or many ‘tangible and intangible attributes’, into one “market offering,” the less competition that is possible (or probably existed in the first place). This includes the car example: the more the engine, lights, warranty, etc. can be sold separately (or, more realistically, combined and resold to consumers by an intermediary) the more competition there is. I think this is something that can be legislated against directly, such as by mandating prices be given for every distinct product and that firms sell to anyone who offers that price. On the other hand, if there were more competition to begin with, firms could not bundle because competitors would more exactly meet people’s demands by providing exactly what they wanted at a lower price. I would like to prevent mini-monopoly bundling by somehow making the internal processes of companies more open, rather than ‘command and control’ regulation. The simple fact is that the market disappears within corporations. The more open segments of corporations are to market competition and interaction, the greater all the benefits of competition (chiefly, efficiency) will be. Removing protection for corporate secrets, and even requiring openness, would help; competitors could then see what they could produce better or more efficiently.
****possible THESIS tie-in****
Perhaps greater equality of wealth would help. Workers would earn closer to the value that they contribute, and overall would have significant resources. They would know what could be done better or more efficiently better than anyone, and could form their own company or collective to do it. Again, though, if conditions were such that groups of workers in companies could split off to become that company’s competition, co-ordination among groups in more than one company could force greater efficiency wherever the opportunity were great enough. (In this imaginary world, production, accounting, marketing, and distribution might be done by (possibly changing) assortments of firms that have true market relationships with each other, rather than subsumption within a corporation or long-term exclusive contracts.
Also, the corporation could no longer have a priveleged legal status (limited liability, etc.) for people within a business to easily split off and form their own, competing, entity.
John Maurice Clark on competition and the incentive to innovate; Hunt on Clark’s goal
If a potential innovator expects neutralization to be complete before he has recovered the costs of innovation, his incentive vanishes. . . . On the other hand, if neutralizing action were permanently blocked, the initiator would have a limited monopoly, in the sense of a permanent differential advatage. . . . The desirable case lies somewhere between too prompt and too slow neutralization. I will not call it an “optimum,” because that term suggests a precision which no actual system could attain. (1954, pp. 327-28)
Clark’s hope was that his dynamic theory of effective competition would provide a framework for understanding actual forms of competition and for fostering the ones most conducive to a dynamic welfare ideal. He knew, however, that “the threat of failure looms large, in that readers whose conception of theory is identified with models of determinate equilibrium are likely to decide that no theory has been produced” (1961, p. x). He was prescient, to say the least. His 500-page 1961 book—having not a single differential equation or geometrical representation—was not incorporated into mainstream economics.
Page 60.
Although firms pursue profit, [marketing theorist Wroe] Alderson (1957) maintains that they do so as if they had a primary goal of survival (p. 54). The survival goal results from firm owners and employees believing that they can obtain more in terms of financial and nonfinancial rewards by working toward the survival of their existing firms than by acting individually or by becoming members of other firms. [*] Firm growth, therefore, is sought because of the conviction that growth is necessary for survival (pp. 103-8). In a market-based economy, however, survival depends crucially on a firm’s ability to compete with other firms in seeking the patronage of specific intermediate buyers and/or ultimate households.
Page 61.
* (Hey, I think I sort of had just touched on this. To reiterate, think how much greater the competition would be if jointly forming other firms were a possibility!)
Alderson wrote: “no one enters business except in the expectation of some degree of differential advantage in serving his customers” (p. 106)—
The functionalist or ecological approach to competition begins with the assumption that every firm must seek and find a function in order to maintain itself in the market place. Every business firm occupies a position which is in some respects unique. Its location, the product it sells, its operating methods, or the customers it serves tend to set it off in some degree from every other firm. Each firm competes by making the most of its individuality and its special character.
Hunt (2001) page 62, citing Alderson (1957) p. 101.
R-A thory (like differential advatange theory) denies
that firms have the requisite information to maximize profits, and [...] affirm[s] that institutional factors (such as moral codes) at times will mitigate profit seeking. The substitution of “superior financial performance in the face of uncertainty” for “profit maximization in the face of certainty” or even for “profit maximization in the face of estimable probability distributions” is a critical distinction between R-A thory and the neoclassical tradition.
Page 63.
I don’t see where this fuzziness about “superior financial performance” is a better approximation of reality than wealth maximization. In either case it is what firms seek, not what they obtain. What about mergers that in a sense destroy firms and concretely destroy jobs, even executive jobs? (Not that they’re necessarily so great for the stock, either.) In any case, the “institutional factors” that restrain profit seeking would mostly seem to be those that allow the individual executive to profit at the expense of the institution. (For example, Kenneth Lay and Enron.) As for “moral codes”, tell that to the people in Bhopal, almost any oil-producing region, or the people being sprayed in Colombia and Peru with crop-killer. That corporations will try to maximize the net present value of future profits is as close to reality as any assumption can be (their primary legal responsibility being to stockholders); to fudge on it is ridiculous. On second thought, an infinite time horizon is pretty unreasonable; but given the greed of firms that already have “superior financial performance” seeking to “maximize” financial performance is more accurate than Hunt’s definition.
when resources are imperfectly mobile, inimitable, and imperfectly substitutable, they are more likely to thwart effective neutralization [of comparative advantage in resources that give a competitive advantage]. That is, when resources are tacit, causally ambiguous, socially complex, or interconnected or they exhibit mass efficiencies or time-compressed diseconomies, they are less likely to be quickly and effectively neutralized and more likely to produce a sustainable competitive advantage.
Page 64.
I’m not sure what all that said, but I stand by my claim that long-term competitive advantages that allow outlandish returns on investment (above the absurd level of return caused by wealth inequality) are usually creations of the legal environment or, less likely, other monopoly power. Pharmaceutical companies, oil companies, Microsoft— doesn’t the argument make itself? Wal-Mart is something of a special case; at its present size its ability to bully suppliers seems to be a key “comparative advantage.” This is not exactly a market outcome, and could be greatly mitigated by enforcing the one assumption of neoclassical economics that I think should be legally required: if you’re going to sell something, you have to sell to everyone at the same price. No more exclusive contracts or special deals for the big guys. I’d also like to suggest that the lack of competition in all areas spills over into a lack of competition in things where one company is consolidating a monopoly. Sure, Wal-Mart is raking in huge profits, but why invest in creating a competitor to seek some of those profits, when you can get an over 10% return on capital all over the place in safe, established businesses— or buy Wal-Mart stock itself. Firms that actually do something better would always attract more than enough competition to keep their quality up, prices down, and profit reasonable.
The postulated “experience effect” that would push down costs with a high market share through time does not seem to exist. (Pages 70-71.)
Industry-based theory
Industrial-organization economics (IO), such as that of Bain (1956, 1968) state:
Because barriers to entry enable firms in concentrated industries to collude, superior financial performance results from collusion and the exercise of monopoly power in concentrated industries. For IO theory, public policy should be aimed at decraising the monopoly element in concentrated industries by restricting mergers, breaking up large corporations, and reducing barriers to entry.
Page 73.
Michael Porter’s Five Forces and Three Strategies
Porter’s (1980) “five forces” framework maintains that the profitability of a firm in an industry is determined by (1) the threat of new entrants to the industry, (2) the threat of substitute products or services, (3) the bargaining power of its suppliers, (4) the bargaining power of its customers, and (5) the intensity of rivalry amongst its existing competitors. These forces [...] drive down the rate of return on invested capital [...]. “Because, hovever, a firm is not a prisoner of its industry’s structure” (p. 7), strategy should aim at altering industry structure by raising barriers to entry and increasing one’s bargaining power over suppliers and customers.
After choosing industries and/or altering their structure, Porter (1980) advocates choosing one of three “generic” strategies: (1) cost leadership, (2) differentiation, or (3) focus [on a market segment small enough that there are no competitors].
Pages 73-74.
Public policy should seek to uniformly lower barriers to entry in all industries and to keep bargaining power between all entities (in some sense) “equal.” One important way to do all of this is to have relative equality of wealth: more people or groups of people have the resources to break into industries, and workers and small businesses at least would have more bargaining power, getting a little closer to the big corporations; the larger market brought into existence by (global) equality of wealth would itself promote the Smithian benefits, including more choices of partners to sell to or buy from.
****ooh, that was a THESIS tie-in****
Problems with industry-based theory: “(1) empirical studies show that highly concentrated industries are no more profitable than their less concentrated counterparts (Buzzell, Gale, and Sultan 1975; Gale and Branch 1982; Ravenscraft 1983), (2) other studies show that the industry market share-profitability relationship is spurious (Jacobson 1988; Jacobson and Aaker 1985)”. (Pages 74-75.)
Recall, though, that high profit was only one predicted effect of “monopoly”; inefficiency was the other. Also, how was profit measured? In theory, return on investment is equalized across firms and industries.
Resource-based theory
For neoclassical thory, firm resources (labor and capital) are factors of production, and all resources are perfectly homogenous and mobile. That is, each unit of labor and capital is identical with other units, and all units can move without restriction among firms within and across industries in the factor markets. Firms are viewed as combiners of homogenous resources by means of a known, standardized production function.
In contrast, the fundamental thesis of resource-based theory is that resources (to varying degrees) are both significantly heterogeneous across firms and imperfectly mobile.
{Page 75.}
Edith Penrose in her long-neglected work (1959) avoided the term “factor of production” because of its ambiguity.
she viewed the firm as a “collecion of productive resources” and pointed out that “it is never resources themselves that are the ‘inputs’ to the production process, but only the services that the resources can render” (pp. 24-25; itaalics in original).
{Page 75.}
Lippman and Rumelt (1982) propose that firms differ from rivals in efficiency because “entrepreneurs produce new production functions that increase efficiency.” Rivals do not know exactly which production technologies produced the efficiency – “causal ambiguity” – and so cannot easily imitate their more efficient competitors (Lippman and Rumelt drop the neoclassical assumption of perfect information). Rumelt (1984) places causal ambiguity as one of many “isolating mechanisms” preventing imitation. Others include specialized assets, team-embodied skills, patents, trademarks, and reputation. {Page 76.}
All this is presented from a firm’s point of view rather than society’s. Thus, Wernerfelt (1984) concludes that superior profitability results when a resource for production has some quality that constitutes a barrier to acquisition, imitation, or substitution by rivals. Dierickx and Cool (1989) conclude that nontradable resources (such as firm-specific skills, dealer loyalty, and reputation) are those critical for competitive advantage. {Page 77.}
That secrecy, absolute and long-term intellectual property rights, restrictions on the freedom of high-knowledge workers to join competitors, and certain other methods of creating advantage-giving resources might be good for a firm but bad for the economy is not considered. Bargaining power, that is, sheer size, is also a “competency” or “resource” which the resource theorists fail to mention. Along with an efficient distribution system, it is what Wal-Mart has: the power to force suppliers to give it favorable terms and its competitors unfavorable terms. It’s a competitive advantage, but there’s not much about it that has to do with competing.
Reed and DeFillippi (1990) point out that the causal ambiguity of firm competencies stem from their “tacitness, complexity, and specificity.” In most cases, the firm itself does not know what it is doing that makes its production efficient. {Page 81.}
Heterogeneous Resource-Based Competition: R-A affinities with resource-based theory
R-A theory denies that competition is equilibrium seeking and that perfect cometition is an ideal form. Competition, for R-A theory, is the disequilibrating, ongoing process that consists of the constant strugge among firms for a comparative advantage in resources that will yield marketplace positions of competitive advantage and, thereby, superior financial performance. The achievement of superior financial performance—both temporary and sustained—is pro-competitive when it is consistent with and furthers the disequilibrating, ongoing process that consists of the constant struggle among firms for comparative advantage in resources that will [etc. (same as above) ... In this case] it contributes to social welfare because the dynamic process of R-A competition furthers productivity and economic growth through both the efficient allocation of scarce tangible resources and, more important, the creation of new tangible and intangible resources.
Specifically the ongoing quest for superior financial performance, coupled with the fact that all firms cannot be simultaneously superior, implies not only that the process of R-A competition will allocate resources in an efficient manner but also that there will be [..] both proactive and reactive innovations developed that will contribute to further increases in efficiency and effectiveness. [...] it is the quest for superior performance by firms that results in the proactive and reactive innovations that, in turn, promote the very increases in firm productivity that constitute the technological progress that results in economic growth. [...] it is technological progress, not changes in the capital/labor ration, that accounts for most economic growth[.]
{Pages 86-87.}
Hunt concludes that perfect competition is not the ideal.
****THESIS tie-in ABOVE****
Firms learn what works by competing
firms learn by competing as a result of feedback from relative financial performance signaling relative marketplace position, which in turn signals relative resources[..]. Through competition, firms come to know (or believe that they know) their relative resources and market-place positions.
{Page 89.}
Seems to me, for these feedback signals to work most efficiently, the firm can’t be too large: each part must be directly affected by the market on both the buying and selling end.
Institutional Economics
John R. Commons, 1862 to 1949:
institutions both constrain and license behavior by indicating what “individuals must or must not do (compulsion or duty), what they may do without interference from other individuals (permission or liberty), what they can do with the aid of collective power (capacity or right) and what they cannot expect the collective power to do in their behalf (incapacity or exposure)” (Commons 1924/1968, p. 6; italics in original).
{Page 91.}
B. Ranson (1987), basing his ideas on those of Thorstein Veblen (1857-1929) gives (as “the institutionalist theory of capital formation”) what I consider a good definition of economic progress:
“a community accumulates the agents possessing productive potency by all activities that raise [1.] its level of technology and [2.] its effectiveness in coordinating behaviors that apply technology” (p. 1271)
{Page 92.}
Anything that increases knowledge of how, physically, to provide for needs and wants more efficiently or to provide for previously unfulfilled needs or wants, and any improvements in the organization of people to provide for these— these constitute economic progress.
Corporations are nonmarket
J. Adams (1992): the corporation is “a complex, multimodal nonmarket exchange system, combining workers, technicians, and managers in a common enterprise” (p. 405). {Page 93.}
Transaction Cost Economics
Ronald Coase (1937)
pointed out that firms can avoid both search and contract negotiation costs by producing some of their own production inputs. Therefore, he maintained, each firm expands its operations until the marginal cost of producing an input in-house equals the market price of that input. Indeed, his extension of perfect competition explains [...] the existence of small firms as well. That is, individuals band together under the direction of an entrepreneur to purchase inputs and jointly produce an output because, compared with each individual acting alone, “certain marketing costs are saved” (Coase 1937/1952, p. 338).
{Pages 93-94.}
Hunt cites other transaction cost economists as stating their main point to be that minimizing transaction costs mostly dictates the choice of one form of capitalist organization over another form. To quote my margin notes: ‘Ha! Try laws and bargaining power.’
The actual transaction costs are mainly “negotiation, monitoring, and enforcement costs necessar to assure that contracted goods and services between and within firms are forthcoming” (Alston and Gillespie 1989, p. 193). Page 94. These costs are the result of opportunism: lying and cheating another party due to self-interest. {Page 95.}
I don’t see many reasons that societal institutions to prevent opportunism among market participants couldn’t be more efficient than institutions in each corporation to prevent opportunism internally.
Economic Sociology
As Powell and Smith-Doerr’s (1994) review points out: “Competition no longer occures on the basis of firm-to-firm combat, but among rival shifting alliances competing against one another on a project-by-project basis” (p. 384).
{Page 97.}
Here is a classic bit of spin that comes from looking at the economic interests of firms, not society:
Powel and Smith-Doerr (1994) emphasize that network relationships do not imply a lessening of competition. Rather, the relationships among autonomous firms in strategic networks that allow for trust-based governance also “allow them to be more competitive in comparison to nonaffiliated outsiders” (p. 390).
{Page 98.}
Note how the possibility of “a lessening of competition” is supposedly disproven by the allied firms becoming “more competitive in comparison to nonaffiliated outsiders”— two unrelated and potentially opposing matters. Trusts and oligopoly sure are competitive, aren’t they?
Such “embeddedness” can also hurt a firm’s adaptiveness. {Page 98.}
Coleman (1988) argued that social capital “comes about through changes in the relationships among persons that facilitate action.” (p. S100). It includes the obligations and expectations of mutual trust. Coleman is concerned that because “most forms of social capital are created or destroyed as by-products of other activities” they have a public goods quality and society underinvests in social capital. Pages 98-99.
In the economic sociology view, “opportunistic behavior by economic actors should be assumed to be neither universal nor nonexistant.” Markets cannot simply be assumed to choose efficient forms for institutions, as neoclassical economists do by invoking “as if” evolution metaphors. The concrete social relations of economic actors should be viewed as neither automatically good nor bad for desirable economic outcomes. Page 99.
R-A affinities with Institutional Theory
Both institutional economics and R-A thory agree that neoclassical theory is wrong in its tendency to equate “capital” with tangible, physical resources. They both add “human capital” and R-A theory also highlights organizational capital, the specific competences of specific firms, as contributing to a society’s wealth-producing capability. Page 100.
both institutional economics and R-A thory agree on the “capabilities” view of the nature of resources. That is, both agree that the term “resources” has no meaning apart from a relationship to human beings. Indeed, rather than resource allocation, R-A thory emphasizes the importance of resource creation in economic growth[.]
{Page 100.}
Resource-Advantage Theory
Resource-advantage theory considers each premise to be a candidate for empirical testing (but it attacks neoclassical theory not on the unrealism of its assumptions but on the grounds that R-A theory offers superior explanatory and predictive power.)
R-A theory claims to incorporate perfect competition as a special case.
Page 105.