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Evolutionary economics: an alternative approach to competition policy -

the case of automobile distribution

Simonetta VezzosoUniversity of Trento, Italy

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evolutionary approachesto competition

additional arguments for anti-competitive effectsof vertical restraints?

additional arguments for positive effects of vertical restraints?

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PRODUCERS

DEALERS

CONDITIONS

price

territory

customers

buying

resale

competitingproducts

sale to other dealers

actual sources of supply

sale

limited number of dealers

only approved dealers

sale price

purchase price

etc.

ABOUT THE NOTION OF VERTICAL ARRANGEMENTS AND RESTRAINTS

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THEORETICAL ANALYSIS OF VERTICAL RESTRAINTS

„OLD“ HARVARD SCHOOL

CHICAGO SCHOOL

„MODERN“ ECONOMICANALYSIS

market power

efficiencies

ChicagoTCE

Agency

„new“ Harvard

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GUIDELINES

„economic approach“

aim of enhancingconsumer welfare

efficient allocationof resources

recognition ofefficiencies ofvertical restraints

vertical restraints possiblyanticompetitive only if market power

BER 2790/1999

exemption up to 30% market share

core restrictionsnot exempted

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MOTOR VEHICLE SECTOR

BER 123/85

BER 1475/95

BER 1400/2002

Report closing-off of newdistribution techniques

differences amongsale prices in member States

cars less of a „special good“

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BER 1400/2002

stricter than BER 2790/1999

exemption depending onmarket share threshold

core restrictions

no cumulation of exclusive andselective distribution

link between sales and service broken

reinforcement of multi-branding

more protection of dealers‘ economicindependence

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INNOVATION OF DISTRIBUTION

FORMATS

neoclassical theories of

competition

evolutionarytheories ofcompetition

- innovation and learninghardly taken into account

- focus on price competition and the efficient allocation of resources

innovation and learning occupy a central position

- focus on competition as a discovery,innovation process

NEED FOR A DIFFERENTTHEORETICAL FRAMEWORK ?

SUITABLE THEORETICAL FRAMEWORK ?ADDITIONAL ARGUMENTS?

APPRAISAL OFTHE NEW POLICY

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evolutionary approaches to competition

Schumpeter/Neo-Schumpeterian

Resource literature

competition

motor of economic development

changes

from within the economic system

unexpected, unforeseable

new productsnew servicesnew technologies

market imperfections as part of competition

new organizations

market processes

evolutionary processes of variation and selection

importance ofvariation

influences

biological evolution theories

behaviouralist organization theory

Hayekian and Austrian

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Schumpeter/Neo-Schumpeterian

Resource literature

knowledge problem

individual

system

competition asdiscovery procedure

knowledge

subjective

dispersed (local)

difficult to communicateHayekian and Austrian

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key insightsabout competition

competition as a process

evolution of the economic system depending (also) on competition

creativity and heterogeneity of economic agents as a key to diversity

subjectivity and dispersion of knowledge

trial, error and discovery for knowledge‘s growth

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GENERAL PERSPECTIVE ON MARKETPROCESSES OVER SEVERAL MARKET STAGES

evolutionary variationand selection processesin vertically linked markets

P P P P

D D D D

Consumers

h1h3

h4h2

gatekeeper

variation selection

selection

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P P P P

D D D D

Consumers

h1 h3 h4h2 variation

selection

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P P P P

D D D D

Consumers

h1 h3 h4h2

variation selection

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P P P P

D D D D

Consumers

division oflabour

matter ofdiscovery

organizationalinnovations

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P P P P

D D D D

Consumers

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vertical restraints are part of these very complex

and mutually interdependent processes of

experimentation on different markets in the vertical chain

New perspective

evolutionary theoretical framework

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Schumpeter/Neo-Schumpeterian

Hayekian and Austrian

Resource literature

firms as bundles of resources

- resource diversification - resources combinations- resources protection- imitation of successful resources

competitionstrategies

firm‘s growth

depending on its own capabilities

complementarities among resourcesdecisive for competitive advantage

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All firms within the vertical chain have subjective, fallible, and often local or tacit knowledge– this is neglected in neoclassical analyses of vertical restraints

• Heterogeneous and local knowledge:– retailers might have superior knowledge compared to manufacturers– vertical restraints (e.g., selective distribution systems) may restrict

retailer's freedom to make its own decisions on the basis of its specific knowledge

• Consequence, e.g.: – "Protection of the freedom" of the dealers can lead to a more efficient

distribution

EVOLUTIONARY ARGUMENTS FOR ASSESSING VERTICAL RESTRAINTS/1

Subjectivism, Heterogeneity, and Local Knowledge

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• Vertical restraints can restrict the freedom to experiment and reduce the amount of variety that is being generated and tested

• Vertical restraints reduce the independent sources of innovation• Independent variation and selection processes on the producer and

retailer level may lead to more generation of knowledge than in the case of (partial) vertical integration– several independent variation and selection processes within the vertical

chain might improve the quality of the experimentation process– smaller bundles of hypotheses that are tested in the market improve the

quality of the selection process• Consequences, e.g.:

– intrabrand competition as an experimental process can be important, even if interbrand competition is effective

– less vertical restraints might lead to positive innovation effects, and might also alleviate market entry

EVOLUTIONARY ARGUMENTS FOR ASSESSING VERTICAL RESTRAINTS/2

Freedom to Experiment and Variety

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• Communication costs can be very high:– knowledge difficult to articulate and communicate– limited capability to absorb

• Advantages of vertical restraints:– e.g., long-term exclusivities, may help establishing a climate

supportive to a fruitful communication (reduces cognitive distance)

– leading to improved division of labor between firms contributing heterogeneous knowledge-bases

EVOLUTIONARY ARGUMENTS FOR ASSESSING VERTICAL RESTRAINTS/3

Communication Costs

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• Interdependencies / complementarities between activities and competences can justify vertical restraints aiming at ex-ante qualitative coordination

– vertical arrangements as means for discovering new complementarities and synergies

• Systemic character of innovations can justify vertical restraints– innovation of complex products might require simultaneous innovations of many

components– necessary: system (or vertical) leadership for the coordination of innovations– vertical restraints as a means by which the "hub“ exercises its coordinating role– alternative option: modularization through defining of interfaces ("interconnection

knowledge"), within which independent experimentation is possible• Competition for vertical leadership

– vertical restraints should not allow the vertical leader to perpetuate its power by• unduly restricting the other party‘s freedom to experiment• making entry more difficult

– ensuring that competition for vertical leadership remains possible

EVOLUTIONARY ARGUMENTS FOR ASSESSING VERTICAL RESTRAINTS/4

Complementarity and Vertical Leadership

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competition asevolutionary variationand selection processesin vertically linked markets

new policy in the car sector

positive effects of the newer rules on

evolutionary competition?

evolutionaryperspective

firms as a bundles of resources (capabilities, heterogeneous knowledge)

evolutionary argumentsconcerning vertical restraints

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unbundling of saleand repair services

retailers heterogeneous in regardto their knowledge and skills

better if they found by themselves if outsourcing is an efficient choice

vertical rivarly between dealers and retailers

also because of similaritiesof knowledge and skills

lowering of entry barriersinto the retail market

new firms need not offersimultaneously distributionand repair services

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more protection of dealers‘ economicindependence

step to a long-term development ?

really independent dealers of emerge

that can develop their own innovative distribution formats

and test them on the market ?

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Is the new policy sufficient to break up the

traditional distributionstructures?

no cumulation of exclusive andselective distribution

should selective distributionbe prohibited ?

retailers free to sellthe products the waythey think more appropriate ?

important for the producer tochoose whom to sell his items

also because of possible synergies between resources/competences

important that other,independent dealers emerge

MORE OPEN

QUESTIONSe.g.

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improved communication between firms with heterogeneous knowledge-bases

ex-ante qualitative coordination of interdependent / complementary activities and resources

better coordination of innovations in the case of systemic innovations

Evolutionary arguments against vertical restraints

limitation of the freedom to decide on one's subjective, local knowledge

freedom to experiment restricted

less variety generated and tested

restriction of competition for vertical leadership

Evolutionary arguments in favour of vertical restraints:

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• Knowledge problems of competition authorities: – lack of specific information and foreseeability of market processes – very difficult to decide correctly in single competition cases– consequence: "per-se rules" are better than a "rule of reason",

but which increasingly is the tendency in EU competition law• Knowledge problems of firms in regard to vertical restraints:

– positive efficiency effects of new vertical restraints due to organizational innovations cannot be predicted ex-ante• rule of reason under Art. 81 (3) is difficult to apply

– But: 30% market share as "safe harbour" in Block Exemption Regulation allows for free experimentation• no need to substantiate efficiency benefits ex-ante or ex-post

Problems of Regulating Vertical Restraints from an Evolutionary Perspective

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CONCLUSIONS

possible to identify additional arguments in favour of vertical restraintsfrom an evolutionary perspective

evolutionary theories should complementneoclassical competition theories

possible to identify additional argumentsagainst vertical restraints from anevolutionary perspective

more research needs to be done!

also, better understanding ofhow evolutionary competitionworks (i.e. conditions, etc.)

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EXAMPLES OF POSSIBLERESEARCH TOPICS

how much diversity/heterogeneity among actors do we need for evolutionary competition to work?

is the „relevant market“ notion still important in an evolutionary context?

does resale price maintenance negatively affect evolutionary competition at the retail level?

how important is price flexibility to provide retailers with innovation incentives?

do vertical restraints distort vertical competition?

how do we combine the governance (efficiency)and the competence perspectives on vertical arrangements forthe purposes of competition policy?