econ first draft

8/8/2019 Econ First Draft

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Nottingham University Business School

MBA Program Full time (2010 2011)

Business Economics (N14M79)

Professor Dr. Jocelyn Tan Hui-Boon

Iran Automotive Industry A

collusive Oligopoly in whose

benefit?

By: Hossein Parvardeh (008325)


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Table of Contents

1.0 Introduction 2

1.1 Background on Iran Automotive industry 2

1.2 Problem Definition 3

2.0 Iran car market structure 3

2.1 monopoly or oligopoly 3

2.2 Porter five forcers and Iranian car industry 5

2.3 Iranian car market and the game theory 7

2.4 Iran car market and collusion 8

2.5 Iran car market and the customer 10

3.0 recommendations for Iran auto industry 10

3.1 Privatization of the industry 10

3.2 improving the product quality 11

3.3 expanding export 11

4.0 Conclusion 12

5.0 Bibliography 13

6.0 Appendices 15


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1.0 Introduction

1.1 Background on Iran Automotive Industry

Irans automotive industry1

is the second most active industry in the country whose

economy is built on oil and gas. This growing industry directly employs about

500,000 people, and many more are working in the related industries. The two

major car manufacturers in Iran are namelyIran Khodro and Saipa which account

for more than 94% of domestic market share. The rest of the market is a blend of

nearly ten different joint ventures with European and Asian basis. While, Iran

Khodro and Saipa are listed on the stock exchange, the government still holds

around 40 percent share in both companies.

In 2006, Iran was among the top 20 car producers in the world (figure 1,

Appendix) .Although Iranian car industry annual productions have reached

1,300,000 in 2009, the quality of the products is not generally comparable with that

of global standards. Moreover, even as the growth of domestic production has been

impressive since the mid 1990s, the Iranian international auto trade is still in its

infancy. Iranian auto industry, passing the period of maturation, is now in a

situation, in which domestic car makers are endorsed officially and explicitly by

governmental laws, and import is severely restricted. Thus, there are not adequate

requirements to develop a competitive market.

1The terms Iran automotive industryand Iran car marketis used interchangeably in this paper.


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1.2 Problem definition

In this paper, the market structure of Iranian Auto industry will be studied and

analyzed in details and a number of approaches for redirecting the market towards

a more competitive one will be offered.

2.0 Iran car market structure

2.1 Monopoly or oligopoly

Any non competitive market can be classified based the quality of interdependence

among players and the distribution size of the sellers. According to Gravelle and

Rees (2001, p190), in monopoly a sellers change of behavior will not affect the

profits of other firms or a change in their behavior. However, in oligopoly the firm

does perceive such interdependence and take it into account while making strategic

decisions. In terms of the distribution size of sellers in a market: monopoly is a

single seller of a good, and oligopoly is the case of a few sellers.

Solman and hinde (2007, P 246) , point out the two major characteristics of any

oligopolistic market as barriers to entry and interdependence of the firms.Iran carindustry enjoys both of these principal qualities of oligopolistic market to a high

degree. We will look at each of these characteristics in details in Iranian car

market.


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Barriers to entry

Iran auto industry is fully protected against the new entry by the government for

a number of reasons, among others; the government is the major shareholder in

both car companies. The government holds more than 40 % share directly both

inIran Khodro and Saipa .interestingly enough, the rest of the share are mainly

held by banks which are highly under government influence. The Government

normally justifies the protectionism policies by emphasizing the issue that the

auto industry is able to serve as a key contributor to national production

development. As we will see in later sections, the industry is way behind the

western competitors in terms of quality.

Interdependence of the firms

In all oligopolies, interdepency exist in one form or other and Iran auto industry is

not an exception. For further investigating the interdepencies on Iranian auto

market, we have divided the market into three different segments based on

affordability of the cars. We can then observe a pattern in each segment related to

eitherIran Khodro orSaipa which can be accounted for interdependency.

Table 1. Iran car market segmentation based on affordability


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A closer look at the structure of each segment portrays pure monopoly in each

segment. In the affordable car segment, only Saipa plays a major role and Iran

Khodro offers only one brand of car. In the economy segment, Iran Khodro feeds

the whole market with more than 10 different types of cars and Saipa only offers

one. For the luxury cars and premium brands, there seems to be a growing

competition among Iran Khodro, Saipa and other car companies however, the

market share of this whole segment is less than 10 %.

2.2 Porter five forces and Iran car industry

According to Porter (1980) the likelihood of companies making profits in a given

industry depends strongly on five factors which will be discussed in details.

Porters model is based on the insight that a corporate strategy should meet the

opportunities and threats in the organizations external environment. For arriving at

a better understanding of Iran car industry, we will study the porter five forces in

this market.

Bargaining power of buyers

Owing to lack of variety in affordable and economy cars which are solely produced

domestically and also extremely high tariffs on luxury and imported cars, the

customers are left with not so many options. Depending on how much the

customers can afford, they can be classified as into one of the segments in table 1.


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Yet, the majority of customers are categorized in the first segment with only one or

two choices. And even for those who are willing to pay a premium amount, their

available alternatives are not even close to that of western countries.

Bargaining power of suppliers

SinceIran Khodro and Saipa are both leading reputable car companies in Iran with

more than 90% of market share, every supplier would be pleased to have them as

their customers. These two companies can easily switch suppliers in a country with

huge amount of resources.

Threat of new entrants

In Iran Car market faces no credible threat of new entry and the logic, apart from

the economy of scale, is the legal endorsement. The government is the major stake

holder in the car industry which still is deemed as nationalized industry. Aside

from the financial advantage, this industry creates thousands of jobs which the

government takes the credit for in a country whose unemployment rate is

notoriously high.


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Threat of the substitute

Due to high barriers of entry as illustrated earlier, there exists to actual threat of a

substitute. The power of buyer and supplier are both low in this market and

according to porter (1980) this makes the industry profitable.

Competitive rivalry among existing players

Even though Iran Khodro and Saipa seem competitors at the first glance, behind

the scenes they appear as business partners as if they have each gently selected a

different segment of the market to address and along with the back of the

government, are busy maximizing profit.

2.3 Iranian Car market and the game theory

Game theory provides us with the opportunity to analyze social and economic

conditions like games of strategy. According to schotter (2001), a game of

strategy is an abstract set of rules that constrains the behavior of players and

defines outcomes on the basis of the actions taken by the players.

Depicting the game theory in Iranian auto industry, one important note should be

taken into account. Liberman and Hall (2008) stated that the equilibrium in games

with repeated plays may be very different from the equilibrium in the games


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played only once. In the long run, often firms will form a type of cooperation. And

that is the case with Iran car market as will be illustrated.

As observed earlier, the equilibrium in the game theory for Iranian car market is

where the both companies, Iran Khodro and Saipa decided to stay in the segmentthat have the maximum profit and do not enter the competitors segment. (For this

game theory, we havent included the luxury segment of the market)


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2.4 Iran car market and collusion

The most salient characteristics of every oligopoly is interdependency and as a

result of that, uncertainty. Lipczinscly, et al. (2005, 0164) believed that Collusion

may be simply a tool for easing competitive pressure and generating a manageable

operating context through unified actions. According to him Tacit collusion is a

term often used to describe a collusive outcome that requires no formal agreement,

and where there is no direct communication between firms. There has never been

the word of cartel among the Iranian car companies but as illustrated earlier, in

segmenting the market we can come to the conclusion that there must be a tacit

collusion aiming at maximizing the profit.

There are numerous reasons mentioned in Lipczinscly, et al. (2005) why the

oligopolists from a collusion;

Risk management and exchange of information: Through colluding, both

parties can make certain that they will face the least amount of risk since

many of the variable in the market will become clear to them

Seller concentration and the number of firms: it is generally believed that the

less the number of firms in an industry, the more potential for the collusion

to form. In Iran car industry there are only two major players.


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2.5 Iran car market and the consumer

Sloman and hide (2007, p 257) believe that if oligopolists form collusions in order

to maximize their profits, that market structure can be viewed as a monopoly. In

this scenario the prices will be very high and that will not be in the interest of

consumers. Iranian car customers are paying higher amount of money for the lower

car qualities compared to that of western countries simply due to their market

structure. This type of market structure also know as assured market and sales,slow down the research and development, since companies dont feel the need to

improve and eventually the producers fabricate sub standard products.

3.0 recommendations for Iran auto industry3.1 Privatization of the industry

Koohi (2006) in his article, Iran car industry points out that the government

shouldnt support the industry blindfoldedly and by doing so the industry as well as

people will face harmful consequences. In fact, when we prohibit the import of

western-made cars or place a high rate of tariff on them, there would not be any

threats for the domestic producers and thus we would not have a competitive

market. The first step is for the government to step out of the competition and let


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the market shape itself. Sloman and Hinde (2007, P490) mention that privatization

expose the company to the market forces as discussed already and as a result,

the company will turn into a more efficient one.

3.2Improving the product quality

One of the substantial initiatives towards a better quality could be lowering the

tariffs. One concern today is that by the monopoly which apparently acts in favor

of domestic producers we might think that we are protecting our car companies,

but unfortunately this has caused deterioration in the quality of Iranian cars and as

there is no choice left for the Iranian customer except for buying national made

cars, no incentive remains for domestic producers to invest in their R&D

departments.

3.3 Expanding export

Abedini et al. (2009), in his article The Emergence of Iran in the World Car

Industry states that the Iranian car production level has multiplied by 10 over the

last decades. Although the export levels are still very low, the econometric model

of car export determinants reveals that Iran has strong advantages to develop its

exports. These are mainly the significant car production level, the existence of

large importing markets close to Iran (India and China) as well as the import-

liberalizing policy recently implemented by these neighbors. However, the first


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step will be improving the quality of cars and also opening the car industry to

international competition.

4.0 Conclusion

In this paper the Iranian auto industry was analyzed in details and the market

structure was identified as an oligopolistic one along with the chief characteristics

of monopoly. Some recommendations were offered to transform the industry into

more competitive one so as the result, both people will enjoy higher car qualities

and also the industry will take the advantage of long term benefits .


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5.0 BibliographyAbedini, J & Peridy, N. (2009). The Emergence of Iran in the World Car

Industry: an estimation of its export potential, World Economy, Vol. 32(5), Pages

790 818

Barapour, K. (2005).Condition of Irans auto industry before and after joining

WTO, Tadbir Magazine, Vol.164, Pages 122 135.

Ellis, E. (2006). Made In Iran,

http://money.cnn.com/magazines/fortune/fortune_archive/2006/09/18/8386173/ind

ex.htm, 21 November 2010

Frank, H. R. (2008). Economics and behavior (7th

Edition). McGraw-Hill/Irwin,

NY

Husan, R. (1997). The continuing importance of economies of scale in the

autoIndustry, European Business Review , Vol97(1), Pages 38-42

Koohi, I. (2006). Iran car industry Policies. Journal of applied sciences, Vol 6(2)

Pages 416 418

Liberman, M & Hall, R. E. (2008). Practice and applications of economics,

Thomson south-western, Ohio


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Lipczynski, J & Wilson, J (2005),industrial organization, competition,

strategy,policy(2nd

Edition), Pearson Education Limited, Edinburgh

Porter, M.E. (1980). competitive strategy , Free Press, New York

Saipacorp. (2010). Saipa History,

http://www.saipacorp.com/en/history/default.asp, 20 November 2010

Schotter, A. (2001), microeconomics, a modern approach (3rd

Edition), Addison-

Wesley, New York

Sloman, J. & Hinde, K. (2007). Economics for business(4th

Edition) , Prentice

Hall, Edinburgh

Thomas, K. (2010). Iran Khodro, MEED: Middle East Economic Digest, Vol 54,

Pages 22 - 23


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6.0AppendicesAppendix 1 figure 1


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