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Interview with Prof. Thomas Philippon, New York University Stern School of Business

Competition Should Be Highly Valued for Achieving
Superb Economic Performance Under Capitalism

By Japan SPOTLIGHT
There has been increasing doubt about the functioning of market mechanisms under competition indeveloped nations. But it is too much to say that economic efficiency must be sacrificed for some othervalues such as security or equality. Such cases must be strictly limited, as market competition still helps
to achieve excellent economic performance promoting human welfare. This issue is discussed in theinterview below with distinguished economist Prof. Thomas Philippon of New York University Stern
School of Business.
(Online Interview on Sept. 6, 2022)

Competition in US Industries
Today
JS: In the United States today there

seems to be much less competition
than previously in many industrial
sectors. What do you attribute thisto?

the market to keep it competitive. In the US,
they let the market become monopolized andthen they get the monopoly price.
JS: Do the regulations in the US

tend to protect vested interests?

Philippon: Yes, that is exactly right. To someextent you could say that is true in every
country; but the US used to be a place where
there was not too much protection of vested
interests. And there is a lot more now as
opposed to the tradition of free markets
dating back to Teddy Roosevelt 100 years
ago. There was a strong tradition in the US of
not helping the incumbent and not protecting
the vested interests, but this has declined.

Philippon: I think broadly there are two main
reasons: some changes in technologies, andcomplacency in regulation and market design.
In some cases you have industries where
network effects have become relatively
important, and very quick to play out.
Network effects are not new, and we have hadmany industries with network effects in theProf. Thomas Philippon
past, but if you look at the time it takes for afirm to become dominant in some industries, it used to be years. In
JS: To what do you attribute this decline?
today’s world, on the Internet it could just be a few months. This
Philippon: Some of it is down to overconfidence. If you live in aleaves less time for regulators to react and so that is one explanation
country and everything works fine, you start thinking that thingsand part of the reason we saw this happening for companies such as
work fine by themselves. You don’t realize that the reason why they
Google and Facebook. But I don’t think it’s the main reason, just one
are working fine is because there has been a lot of work in thereason. A lot of the issues in the US have nothing to do withbackground to keep them like that. And you start to think it is natural
technological changes or network effects; they are to do withand would happen without any effort, which is not true. So there isregulation and too many mergers that should not have been
this complacency there. I think that in many industries there is active
approved. In some industries there was not enough of an effort
lobbying to a greater extent than happened in the past. I don’t thinkmade to keep them competitive. A good example is broadband
that it is by chance that the rise of market power by incumbents inInternet where the US used to be a leader in high-speed Internet
the US happened at the same time as the bid increase in mostaccess and now it is far behind other countries both in terms of pricepolitical campaigns and the size of the contribution by firms toand quality. Why? Because there is no competition. To remain
political campaigns. I think that these things happen at the same
competitive, that market needs some proactive regulations. All thetime, and it is not by accident. We have seen more and morecountries that managed to keep the market for broadband cheap andcompanies paying a lot of money to finance political campaigns, andhigh-quality for households have regulators that have intervened in
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https://www.jef.or.jp/journal/

of course they get something in exchange.

Merits of Competition & Demerits ofRestricted Competition
JS: Restricted competition would lead to inflation

because the big enterprises that dominate the market
could maintain their shares and even raise prices in
response to higher costs, such as for energy orcommodities. Could inflation be caused by suchmonopolistic or oligopolistic markets today?

Philippon: Yes, it is possible. While in theory it is something that you
might be worried about, in practice it’s not obvious. If you look atcurrent inflation – whether it be the US, Japan or Europe – I don’t
think we will see more inflation in sectors that have more monopoly
power. The reason is basic: if a firm has monopoly power, its prices
are already high. They don’t wait for inflation in the rest of theeconomy, they raise the prices immediately. If you look at the pricesthat Comcast charges for Internet access in places where they have amonopoly, they have been high for 10 years. That is the mostimportant thing to understand. Monopoly is bad when the prices are
already high. That is the main problem. The separate question is that
if we have an economy where there is not enough competition andthe prices are too high, then here comes another shock such as thewar in Ukraine, disruption in food and energy markets, so that there
is a global increase in inflation in the market, which changes theenvironment.
In this new environment, is it the case that firms losing monopoly
power where prices are already high are going to take advantage toincrease them even more than the other ones? It’s possible but inpractice when you look at the data, it doesn’t seem to be striking. In
other words there is plenty of inflation in sectors that are very
competitive. In economic theory it doesn’t really help much here
because it could go either way. Although we do have a lot of models
where monopolies tend to have very high prices, they don’t move a
lot, so there are theories where inflation could be a bit smaller inindustries with monopolies because their prices are already high,and they can insulate the price from inflation. So it could go either
way but in the data we see a lot of inflation in sectors that are very
competitive, and in sectors that are not very competitive, so I don’t
think that the connection is very strong for the change in price – theprice is already too high.
JS: Declining competition would seem to have othernegative impacts on the economy such as stagnant
innovation, for example. Would you agree that withdeclining competition, so-called “zombie companies”
could survive, which would be quite detrimental toeconomic efficiency?

Philippon: This is correct. The main virtue of competition is that
consumers get lower prices; firms have to compete on the market
side but also the labor market side as if you are going to lower the
price and try to sell more you will have to hire more workers. So
competition is also good for workers because it increases thedemand for labor and there are more employers to choose from. The
third big benefit is innovation. If you are a firm in a very competitive
industry and you want to gain market share, you can cut your price –which many firms do. But at that point there is only so much you cancut as you do have costs to cover. So if you still want to be able tocompete you must innovate. And that is going to motivate you toinnovate – we do see that in the data, direct evidence that morecompetitive industries have more innovative firms. That is the main
benefit. We also see the cleaning-up effect eventually, which is where
in a highly competitive industry, firms that are not very efficient do
not survive. The zombies do not have enough breathing space toexist. Therefore, competition is good for growth.
JS: On the question of innovation, some would argue

that large enterprises could create scale economies
and certain technologies could be developed wellunder such large-scale economies. In that sense,
would you concur that large enterprises could havebenefits in terms of innovation?

Philippon: Yes. It is correct that when we say competition is goodfor innovation, we don’t mean that we go all the way to perfectcompetition with millions of small producers. What we mean is that
if we have the choice between one firm or two, or having three, fouror five, you are going to be better with the latter. And these three tofive firms are still very big. Many industries are never going to have
200,000 small firms; it is never going to happen. This is because of
the scale effect. You do want to have large firms but three, four orfive rather than just one big firm. You could have many industries
that work very well with competition among a few large firms. One
example would be Airbus versus Boeing – industries where the scaleeffects are enormous. When Europe decided to have Airbus tocompete with Boeing, who have been the biggest beneficiaries ofthat? It is probably everyone else in the world. Because with
Americans and Europeans competing, everybody has a better
airplane at a lower price. Now, these are still two very big firms andvery far from perfect competition because they get government
subsidies. But I think it is very clear that many industries and many
companies are better off with two competitors rather than one. It
doesn’t mean that government subsidies aren’t warranted
sometimes; they can be. And it doesn’t mean that firms should besmall. But it does mean that once you have too few, it is bad, andusually for the wrong reason. You can try to quantify the degree ofscale economy, and there is an empirical question: is it the case thatscale economies have increased so much today that many industries
have a natural monopoly? And I don’t think that is true, you don’t see
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that in the data. Estimates of scale economies may have increased alittle but have not exploded to the extent that there are monopolies
everywhere. Oftentimes it is used in political economy by people whowant to have their monopoly rights, so they use the scale story as an
excuse. We don’t have to believe them, though.

Negative Impact of GAFA & How to Dealwith It
JS: On the question of giant platform companies like

GAFA, you mentioned the networking effect. Theirindustry is a sort of scope economy. Could a scope
economy be justified to restrict competition or is thecurrent situation of giant monopolies disastrous forthe economy?

Philippon: If you look at GAFA, it is clear that two things are true atthe same time. There is a very strong technological change, and thatchange explains in part why we have more concentrated industries
and monopolies. So technology change is a big factor, but it is not
the only one. It’s also bad regulation at the same time. One reason
why we have bad regulation in this industry is because regulators
have not done their job properly in part, but to be fair it’s harder forthem because these scope economies go much faster than before.
There have been scope economies in many industries, such as
pharma. It’s all fixed cost – once you have discovered the drug andyou know how to manufacture it, the cost per unit is very low. This isa perfect example of a strong scale economy which we have had for
centuries, and we know how to regulate it. If you look at the industry,
they are big firms but there is more than one. With GAFA we didn’t
do that, partly because the speed at which they get the scope
economy is way faster than in the past. Their technology happens to
be multi-purpose so once they have the platform set up and thesoftware they can use it cross-platform and branch out relatively
quickly. The scope economy is there, so it can play out extremely
fast before the regulators can even think about it. This was the casewith Facebook, WhatsApp and Instagram. At the time when Facebook
made the decision to make these acquisitions, the regulator was way
behind, it was just too quick. I think this was part of the reason but
still not an excuse to do nothing.
JS: What should regulators do to catch up to the

speed of innovation in this area?

Philippon: The first thing that played out was the acquisitions. So it
turns out that these firms can do acquisitions very quickly and they
can do acquisition of companies at a very young age before thecompanies are big enough to call for investigation. Now weunderstand that, and the regulators will pay more attention to thesemergers. To be honest – perhaps it was not so obvious in real time
but at least now we know – in these industries we should be more
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careful of mergers, even in cases where the target of the merger issmall. Big lesson number two is that it is not realistic to expect toregulate these industries entirely via antitrust, or entirely via
regulation. It is by telling them in advance what they are supposed to
do. The consensus seems to be that we will need a hybrid model
where there is regulation and antitrust and a balance between the
two. This will be a challenge in the future – the European Union has
moved a bit faster on the regulatory side, but the Americans prefer tostick to the more classic antitrust approach. They are suing thecompanies over various practices and conditions. What we don’tknow yet is the right balance between these two approaches. We
know we need both, but I don’t think we know exactly what thebalance is.
JS: The key would seem to be the market price. How

can public policy restore public confidence in themarket price?

Philippon: There are two aspects – the competition aspect, which istrue for many industries, and then there is the specific aspect withsome platforms to do with social media. For the price, ensuring
competition goes a long way to ensuring that people have a choice –they have the basic right to change providers if they don’t like it. It isshocking in the US that some people don’t have a choice in somecommunities – they get a company charging them a hefty price for a
lousy service and there is nothing they can do. They don’t have a
choice, and that is shameful and should change. Once people have a
choice and they can switch providers, it would be progress.
Secondly, for big global firms we still have the issue of tax
evasion. We have made some progress but making sure that big
international firms pay their taxes is a challenge and evasion isperceived by many people as being unfair. That takes care of theclassic part of the equation. The second half is the social media
aspect which is much more difficult. This is not an issue for many
companies except Facebook, Google and Twitter, but involves theregulation of news and social media. That is an old problem also
linked to how you regulate newspapers. Every country in the world
has its own specific regime for news. News is social good, and has
to be done to scale; it’s very hard to have a pure simple competitivemodel. Countries found a balance before social media, and thisbalance was disrupted by social media. They needed to find a way tohave Twitter and newspapers at the same time. That is a bigger issue
than just economics.
JS: Perhaps it would be difficult to reach a consensus

among regulators on this issue. Complacency could
be bad for the economy, and the regulators need tocontinue stimulating enterprise behaviors.

Philippon: It’s possible for regulators to do too much to a point thatit becomes inefficient. But there is a difference between somethingbeing plausible and being likely. There are more reasons to be
worried that regulators don’t do enough than there are reasons toworry that they do too much. On balance, I would always push forthem to do more rather than less because there are a lot of lobbying
interests on the other side to prevent them from doing something.
In most industries it’s clear-cut. In the social media space it’s
tricky. Nobody has a magical solution, and all you can hope for isthat countries act independently. Australia recently did something tohave a deal between social media and news outlets; every country istrying something different, so I don’t see any magic solution. It is amatter of a balance of power between the big Internet firms and theoutlets. It’s not healthy for a company like Google or Facebook tocapture all the added-value in that market – they don’t produce thenews. So we need to find some balance in that market.

Industrial Policy & the Overall Economy
JS: Many countries today seem to be keen on

industrial policy, due to concerns about national
security in general. Will this trend pose a danger tocapitalism, which is inherently competition-oriented?

Philippon: In many cases, not much will happen. It is easy to go on
TV and say that you want to bring back production of X, Y, Z in Japanor in Europe instead of importing from other countries. But when it
comes down to the cost, these promises go away quickly. It doesn’t
make sense to build things at home when you can import themmuch cheaper. And the reason you can import them cheaper isbecause people are better than you at making them, and you should
focus on the things you are good at. There are some exceptions
related to trade disruptions during the pandemic, and we learned that
there are a few sectors where we want to be more strategic in how
we diversify; but if you look at the number it is very small.
For the health sector, it is true that some countries want to havemore control, but the number of industries where it is critical is verysmall. The energy part is different and covers a wide range of stuff. It
is also more political because it is part of the strategy in the US –there are big links with China and the issue of decoupling.
In many cases, monopolies will use this as an excuse to keep theirmonopoly powers. If you look at the AT&T case in the US, when
AT&T was dismantled and broken up, one of the arguments against it
was that we would lose the Cold War against the Russians because
we wouldn’t have secure communications. So they were playing out
the threat of Russia to justify the monopoly at home. That made nosense, but we hear these arguments all the time. Or that we need tobe bigger to compete with China – which may be true in one or twocases but is mostly completely bogus.
In Europe also the proposed merger of train producers Alstom andSiemens – they used all kinds of arguments to justify their merger,
saying it was because of China or Brazil. Ultimately it was nothing to
do with that, it was just two firms trying to get political leverage to

get monopoly power, and thankfully they got shut down and didn’t
get their merger. So I would be most worried about firms using it asa bad excuse for bad policy.

Income Equality vs. Economic Efficiency
JS: Finally, regarding the direction of “newcapitalism”. The Japanese government is now
pursuing a new capitalism policy focusing on income
equality rather than economic efficiency. In many
parts of the Japanese economy, there are still many
areas that require new competition, such as digitaltransformation. This cannot be expanded withoutcompetition and is currently hampered byregulations. So deregulation might be a good way tonurture a good economy in Japan. However, thetrend of discussion in Japan is leaning towards
reducing income inequality which could potentially
increase zombie companies and economic
inefficiency. How do you feel about this?

Philippon: Similar to my opinion on industrial policy. First, in manycases competition is good, including for inequality. In the US, thedata suggests that in labor markets where there are too few firms theworkers suffer. In fact, for workers who are low-skilled – if there is
only one employer in town, it is going to pay a low wage and theseworkers have no choice and can’t move. So there are in fact many
places where competition is good for efficiency but is also good forequality.
It’s not always the case – I think the prime example is with foreign
trade. Anything that can increase domestic competition you should
do. It’s good for efficiency, and it’s good for equality.
With respect to trade policy, I agree that the naïve view of global
trade has gone for everyone and it’s not coming back. We are looking
more seriously at where we want free trade and where we want some
protection. That’s a fair discussion but my only concern there is that
it is quantitative; I am sure that there are some cases where you
could justify protection. The problem is that out of 10 cases,
probably one is going to be like that while nine are going to be local
monopolies using that as an excuse to protect themselves. They aregoing to use inequality as an excuse to protect themselves. If thecurrent buzzword is “fear of China”, they are going to use this toprotect their monopoly. If the buzzword is “inequality”, they aregoing to use that. They don’t care, and that is what I am worried
about.

Written with the cooperation of Joel Challender who is a translator, interpreter,
researcher and writer specializing in Japanese disaster preparedness.

Japan SPOTLIGHT • November / December 2022

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