beyond the reach of the invisible hand: impediments to economic activity, market failures, and...
TRANSCRIPT
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Beyond the Reach of the Invisible Hand: Impediments to Economic Activity,
Market Failures, and Profitability
Dennis A. Yao
Strategic Management Journal, Vol. 9, Special Issue: Strategy Content Research. (Summer, 1988), pg. 59-70.
By Amit Jain
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MARKETS ARE EFFICENT
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Basic Relationships
1. Entry barriers as operational combinations of IEAs
2. IEAs cause market failure
3. Absent IEAs, entry barriers may not cause market failure
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Shortcomings of Economic Theory
The Efficient Market:◦Consumers and producers act as price takers◦Markets exist for all commodities◦Buyers and sellers have complete information◦Thus, all firms will make normal (average) profits
Perfectly competitive markets lead to long-run profits that are average
Good strategy leads to survival, not excess profits
So why do we observe companies making excess profits?◦ Market failure has created ‘supra-normal’ profitability◦ Strategists are interested in identifying factors that
create an imperfect market (i.e. imperfect competition)
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Industrial Organization – Barriers to Entry: A source of market failure
Industrial Organization (IO) Literature◦Barriers to Entry (Bain 1956, Caves and Porter
1977), such as product differentiation or capital requirements
Example of product differentiation◦The perception of a product as being different works
only if the buyer is uninformed about the products in the market Absence of cost-effective credible information Imperfect information
Therefore, there is more to market failure (and more sources) than B2E
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Impediments Theory – another source of market failure
Transaction Costs
Production Economies
Sunk Costs
Imperfect Information
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Transaction CostsTwo relevant types
◦Free-rider problem: Costs of excluding non-buyers from use of a product or service Excluding non-subscribers from benefits of product
review◦Costs of communication and information
Writing long-term contracts when all future contingencies cannot be predicted
Strategies for dealing with transaction costs◦Vertical integration◦Culture change: match employee’s goals with
organization’s goals◦Develop long-term relationships with outside
organizations
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Production Economies, Sunk Costs, Imperfect Information
Production Economies◦ Economies of Scale, Learning Curve, Economies of Scope
Sunk Costs◦ In absence of sunk costs, entry and exit become costless
(‘contestible’ markets)Imperfect Information
◦ Absence of perfect buyer information leads to above average price-cost margins
◦ Ways to exploit: provide information oriented strategies Reputations: brand loyalty. Product differentiation through advertising Signaling quality through warranties “Price reflects Quality” – high price, high quality.
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Concluding Thoughts and Comments
The paper integrates B2E with IEA.However, the paper’s implications on transaction
costs is limited.◦ Here’s an extended definition: The firm exists by
minimizing transaction costs, which includes costs associated with opportunism, complexity, and uncertainty.
Can transaction costs theory encompass impediments theory?◦ Since production economies (quasi-rents), sunk costs
(sunk investments), and imperfect information (uncertainty) are handled within the boundaries of the firm, then transaction costs may be sufficient.
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