Markets & Competition

Both personally and professionally I love markets. As an economist, I marvel at what the market can do. As a consumer, I am grateful for what it brings to life. It is one of the most significant inventions of humanity. Although it is an old idea, it makes the modern world possible. It is the great coordinating mechanism that creates order without orders, or “spontaneous order.” Markets enable cooperation between strangers, each of whom is motivated by self-interest (which is not the same as selfish interest) but is a necessary part of an emergent order that, in the words of Adam Ferguson, “is the result of human action, but not the execution of any human design.” Markets enable cooperation as mentioned before but their power is a consequence of competition among market participants. Let me tell you a few simple stories.

The last time I was on a transcontinental flight, I flew Cathay Pacific. As the flight was preparing to depart Hong Kong for San Francisco, the captain announced, “We are good to go. It will only be a few minutes — we’re waiting for some paper work. Our flight will arrive an hour early. So please make your phone calls to let others know. There are three areas of turbulence reported on our route. We’ll try to avoid them if possible. We don’t like turbulence any more than our passengers. Enjoy your flight.”

That was a thoughtful thing to do. The pilot could have elected to keep the information to himself but cared enough to share it. Another thing I was grateful for was their arrival preparation. In many airlines, the procedure is to wake up the whole cabin nearly two hours before landing. Not on Cathay Pacific. They did not bother people until about 15 minutes before the flight landed. People got to sleep in if they wanted. In-flight service distinguishes airlines. All things being equal, I would choose to fly Cathay Pacific.

The second story relates to some fast food I got for dinner one evening last week. It was one of those big fast food chains. I got a chicken sandwich meal to go. Came home and found the food not quite up to scratch. I called customer service. The representative apologized for the bad experience and said that someone will get back to me with 24 hours. Well, what do you know! I got a call back in 15 minutes. “I am the regional manager and my name is X. I am sorry to know you were not satisfied with our food. I will investigate the matter. In the meanwhile, I’d like to mail you two coupons for complementary meals.” I received the coupons yesterday. In any competitive market, customer service is indispensable.

In the US, retailing is one of the most competitive sectors of the economy besides being one of the largest. Two of the stores that I frequent the most are Costco and Trader Joe’s. Over the years, I have bought thousands of items from Costco. Their guarantee is simple: if you are not happy with your purchase, return it. I have returned scores of items to Costco. Once I had bought a bunch of clothes that were the wrong size. (They were meant for a friend’s wife in India.) After more than a year, I went to return them. I didn’t have receipts. They spent time figuring out how much I had paid for them and refunded the money.

The main point behind all these customer service stories is this. In a competitive marketplace, sellers compete for customers. They are in business to make a profit, which they can only do if they keep their customers satisfied. They compete on prices, quality and finally on customer service, motivated not by benevolence or altruism but because they are motivated by self-love. This competition in the market leads to lower prices, higher quality and superior customer service. It is the competitive market structure that lies at the root of socially beneficial effects. At the other end of the spectrum from the competitive market is monopoly. A monopoly faces no competitors and therefore lacks the discipline of competition. Being the only provider, customers have no choice and therefore have to take what they get.

Indians have had first hand experience of monopolies, almost always the result of government action. At one point, the government had a monopoly on telephone services and on commercial air travel. We all know the effects: high prices, extremely limited supply, poor quality and insufferable customer service. The Indian government continues to have monopolistic control over other segments of the economy — and with the attendant predictable bad outcomes. Why do public sector monopolies perform so poorly relative to competitive private sector firms? Simply stated, it is because the public sector monopoly firms have no incentive to satisfy their customers. Their deal to the customer is “take it or leave it”, knowing that the customer has no alternative but to take it.

Generally, public sector firms don’t perform as well as private sector firms. Part of the reason is that they are protected by the government. They can continue to incur losses and still continue to exist because they don’t face a hard budget constraint. The government just taxes the productive sector of the economy to subsidize the unproductive public sector firms; or worse, just prints more money — which is another way of taxing people without actually raising taxes.

Managers of public sector firms are government employees. Regardless of their performance, they get paid. They don’t have an ownership stake in the health of the firm. If they waste public resources, they don’t pay a penalty. Every time I travel by Indian railways, I find it painful to look out the window, not because of the garbage but because I cannot avoid seeing the waste of material all along the tracks. Piles of concrete sleepers (or crossties) lie deteriorating in the open; tons of unused steel rail litter every kilometer of track. That’s visible waste. Who knows how much of the budget of the railways is wasted on purchasing material that is never used. Why do they buy these if they are not being used? Perhaps kickbacks are involved.

We say that the government is the buyer. But in truth, people do the buying. It is easy to understand that in a system where wastage is not penalized, and where the buyer gets a kickback, you will find evidence of colossal wastage. In the end, the people lose. But in some ultimate sense, the people are to blame. They have willingly let the government rob them by not preventing the government from being in the business of running businesses.

It’s all karma, neh?

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