Market structure and dynamic efficiency

1
Market structure and dynamic efficiency

• What type of market structure (e.g. competitive,
  oligopolistic) is most desirable from the
  standpoint of bringing about technological
  innovation?
• The term dynamic efficiency ( or "technological
  progressiveness") means the comparative strength
  of the tendency among firms in a given market to
  innovate--that is , to contribute to process and
  product innovation in their industry.

2
Process and Product Innovation
Process innovation Development of new
production techniques or methods of organization
that result in reduced unit production
cost. Examples high speed printing, just-in-time
inventory management, use of computer-guided
robotics, continuous process manufacturing, use
of hybrid seeds. Product innovation The
development and marketing of new or improved
products. Examples Cellular phones, pagers,
improved software applications, baked tortilla
chips, direct TV, compact disks, digital special
effects, internal frame backpacks, electronic
banking, antibiotics.
3
The Solow contribution 1

• Solow's contribution was to develop a methodology
  which made it possible to measure the
  contribution of various factors (labor , capital,
  technical change, . . . ) to productivity growth.
  A key finding

80 percent of the change in labor productivity
(output per worker per hour) in the U.S. from
1909-1949 can be explained by "technical change,
as opposed to capital accumulation or
improvements in human resources.
Robert Solow. "Technical Change and the Aggregate
Production Function, " Review of Economics and
Statistics, August 1957.
4
Function shifts due to innovation
K
PR
Output per worker per hour
B
PR
A
0
Capital/Labor ratio
5
Productivity-boosting innovations

• Engineering time and motion studies
• The assembly line
• The internal combustion engine
• Air conditioning
• The cotton harvestor
• The transistor
• Internet browser software
• Electronic bar coding/automated data capture

6
Joseph Schumpeter on structure and innovation 2

• Technical and organizational innovation is the
  key factor in bringing about secular improvements
  in the material standard of living.
• Firms (and entrepreneurs) are agents of
  innovation.
• Firms may achieve a dominant position as a
  result of a superior product, process, or
  business acumen. However, the fortunes of
  monopolistic (or oligopolistic) firms is
  perpetually under threat from aggressive,
  innovative rivals (see IBM).
• A public policy that has as its primary
  objective the promotion "allocative" efficiency
  is misguided.

2 Joseph Schumpeter. Socialism, Capitalism, and
Democracy (1942). Click here to read a quote.
7
What reasons are there to suppose that
imperfectly competitive market structures would
yield superior dynamic efficiency?

• Windfall profits realized by dominant firms
  supply the wherewithal to finance costly RD
  projects.
• RD may be subject to important economies of
  scale thus the optimal size of the dynamic firm
  may be quite large.
• Firms must enjoy a dominant position in their
  market (or at least have a reasonable prospect of
  achieving a dominant position as a result of
  innovation) to take on the risk of costly and
  uncertain RD projects.
• New knowledge (the output of investment in RD)
  is appropriable (that is, is easily ripped
  off)--yet firms must be confident up front that
  their rights to intellectual property will be
  protected. But the protection of rights to
  intellectual property (by means of patent laws,
  for example) creates a barrier to entry.

8
Price
Dynamically efficient monopoly
Supply curve if industry is competitive
PC
PM
D
MR
0
Quantity
Monopolists MC curve
QM
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