Oligopoly is widespread, and, allegedly, on the rise. Yet macroeconomic models, which focus on monopolistic competition instead because of its analytical tractability, seldom consider oligopoly. A typical limitation of monopolistic competition models is that market concentration plays no role in conditioning competition. Monopolistic competition models are also unable to look into the objective of the oligopolistic firm when there is overlapping ownership due to owners’ diversification. If a firm’s shareholders have holdings in competing firms, they would benefit from high prices through their effect not only on their own profits, but also on the profits of rival firms.

This paper, available here, presents a tractable general equilibrium framework in which firms are large and have market power with respect to both products and labour, and in which a firm’s decisions are affected by its ownership structure. This framework characterises the oligopolistic market equilibrium, and then uses it to analyse whether competition intervention is appropriate, and if so how.

Section II reviews some related literature.

This paper builds on four strands of the literature. The first is literature on models of general equilibrium with oligopoly. Typically, Cournot–Walras equilibrium assumes that firms maximise profits. The authors assume instead that a firm’s manager maximises a weighted average of shareholder utilities, while considering an ownership structure that allows for common ownership. The second strand in the literature encompasses macroeconomic models with Keynesian features that have incorporated market power. The third strand focuses on international trade models with oligopolistic firms. The fourth strand relates to literature on ownership structure and oligopoly in partial equilibrium.

In addition, this paper links to papers on economic macro trends such as the evolution of institutional investment and common ownership patterns; product and labour market concentration; mark-ups and the declining labour share; and the consequences of these trends for competition and investment, and their implications for policy. The world of dispersed ownership no longer exists in the United States. The rise in institutional stock ownership over the past 35 years has been formidable, and, as a result, large firms are likely to have common shareholders with significant shares in all industries. There is growing evidence that common ownership might affect the incentives of managers, and that common owners in an industry may have the ability and incentive to influence management. In short, the link between increased passive diversification and relaxed competition may stem either from the internalisation by managers of the common owners’ interests, or from increased agency costs that allow managers to slack.

This trend is coupled with increased market concentration. There is also substantial evidence that large firms have market power not just in product, but also in labour markets. Importantly, recent research has shown that: (i) increased overlapping ownership of firms by financial institutions, and by funds in particular—what we refer to as common ownership—has led to substantial increases in effective (i.e., augmented by common ownership) concentration indices in the airline and banking industries; and that (ii) this greater concentration is associated with higher prices. Given this, increased common ownership has also raised antitrust concerns, and led to some bold proposals for remedies – as well as calls for caution.

Section III develops a one-sector model of general equilibrium oligopoly with labour as the only factor of production.

This model considers an economy with (a) a finite number of firms, each of them large relative to the economy as a whole, and (b) an infinite number (a continuum) of people, each of them infinitesimal relative to the economy as a whole. There are two types of people, workers and owners, and both types consume goods produced by firms. Corporate ownership structures allow investors to diversify both intra- and inter-industry. In addition, the authors assume that firms maximise a weighted average of shareholder utilities. This means that firms’ main objective is to maximise a weighted average of the (indirect) utilities of their owners, where the weights are proportional to the number of shares each owner holds. In other words, it is assumed that ownership confers control in proportion to the shares owned, and that this control has an impact on corporate behaviour. The extent to which firms internalise rival firms’ profits depends on market concentration and investor diversification.

In this model of a one-sector economy, increased market concentration — due either to fewer firms or to more diversification (common ownership)  — depresses the economy by reducing employment, output, real wages, and the labour share (if one assumes non-increasing returns to scale). When firms have different constant returns to scale (CRS) technologies, an increase in common ownership also leads to a more concentrated market (as measured by the HHI) because firms that are more efficient then gain market share at the expense of weaker rivals.

These results are in line with some recent macroeconomic facts — including persistently low increases in output, employment and wages in the presence of high corporate profits and financial wealth — and indicate that such facts are linked to increased market concentration. When firms are large relative to the economy, an increase in market power implies that those firms have an incentive to reduce both their employment and investment below the competitive level. Even though such firms make sacrifices in terms of output, they benefit from lower wages and lower interest rates on every unit of labour and capital that they employ.

Section IV extends the model to allow for multiple sectors with differentiated products.

The authors then extend their base model to allow for multiple sectors and for differentiated products across sectors, with constant elasticity of substitution (CES) aggregators. Investors are allowed to diversify both in an intra-industry fund and in an economy-wide index fund. In this extension, a firm deciding whether marginally to increase the number of its employees must consider the effect of that increase on three relative prices: (i) the increase would reduce the relative price of each of the firm’s own products, (ii) the increase would boost real wages, and (iii) the increase would augment the relative price of products in other industries (because overall consumption would increase). This third effect, referred to as inter-sector pecuniary externality, is internalised only when there is common ownership involving the relevant firm and firms in other industries.

The authors find that, in this extended model, common ownership leads to increased firm mark-ups; to anti-competitive effects proportionate to increasing intra-industry diversification (i.e. common ownership); and to a decline in the labour share. On the other hand, common ownership can have a pro-competitive effect when it increases economy-wide diversification, as long as the elasticity of labour supply is high in relation to the elasticity of substitution among product varieties.

Section V discusses the implications of these findings for competition policy.

Competition policy (broadly understood to encompass regulation that promotes competition) can influence aggregate outcomes by directly intervening in product and labour market concentration. The models developed in this paper illustrate how the level of competition in the economy has macroeconomic consequences, from which it seems reasonable to conclude that competition policy may stimulate the economy by boosting output and inducing a more egalitarian distribution of income. If returns to scale are non-increasing, then employment, output, real wages and the labour share all decrease under higher market concentration and common ownership.

In the one-sector model, the equilibrium modified HHI is the same for product and labour markets, and is proportional to the markdown of wages relative to the marginal product of labour in the economy. Under either constant or decreasing returns to scale, it is always welfare-enhancing for worker-consumers if public policy reduces diversification (common ownership) and increases the number of firms. Competition policy in the one-sector economy can foster employment and increase real wages by reducing market concentration (with non-increasing returns) and/or the level of diversification (common ownership), which serve as complementary tools. Under increasing returns, however, there is a trade-off between market power and efficiency; and a decrease in the equilibrium markdown does not always translate into an increase in worker-consumer welfare.

In the multi-sector case, common ownership is associated with the internalisation of demand effects in other sectors. This means that—depending on the elasticity of substitution, the elasticity of labour supply and the number of firms per industry—worker-consumers could potentially be better off under complete indexation of the economy. In any case, if maximising employment is the goal, then it is better to set the intra-industry index fund ownership to zero, and, if returns to scale are decreasing, produce with the maximum possible number of firms. As a result, traditional competition policy on market concentration is adequate to foster employment in an economy with multiple sectors. As regards common ownership, it can have a positive or negative effect on employment. Although its effect is negative in the intra-industry case, it could be positive in the case of economy-wide common ownership. As such, competition policy should focus on the former, while former research should be devoted to the latter.

Comment:

This is a very far-reaching and ambitious paper. Despite looking beyond the common ownership debate into the wider economic and social implications of cross-shareholdings, it comes back to competition and the role it can play in remedying the effects of common ownership. In a way, this makes sense – we are talking about market concentration and its consequences, and the obvious instrument to deal with market concentration is competition law. At the same time, given the sheer scope and size of the problems the authors identify, one cannot help but wonder whether other public policy tools might not be more appropriate.

In any event, that is beyond the scope of this paper – which is broadly focused on developing an extremely stylised model. While it fits well with the empirical evidence and wider trends that the authors debate, its level of abstraction makes it difficult to extract policy recommendations from it, and that is not the authors’ focus. However, it has been the focus of a number of papers, which I will review next week.

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