Jimmy Durante used to note how “everybody wants to get into the act.” It seems that the act right now is big corporations establishing Internet-based businesses.
Last week General Motors, Ford and Daimler-Chrysler announced that they were establishing a new Internet-based division to handle all their purchases of components and other supplies. And on Wednesday, Cenex-Harvest States, DuPont and Cargill announced that they are launching an electronic mall for the agricultural industry.
Why is everyone trying to get into the e-business act, and how will these new enterprises affect consumers and existing businesses?
The first question has been asked before and is pretty easy to answer. Many businesses have decided that the Internet really is the wave of the future, and they better try to ride the wave rather than risk being drowned.
How will such businesses affect consumers? They have the potential to make goods and services cheaper and better by improving business productivity through better use of information.
These recent announcements involve famous companies, but business-to-business e-commerce has been going on for a year or two already and is probably more important to the overall economy than the more visible retail e-businesses such as Amazon.com and eBay.
Most business-to-business sites are used buy and sell raw materials, components and excess inventory. The big automakers were already doing a lot of business with their suppliers electronically. Many of the suppliers complained that they had to deal with different communication, specification and pricing protocols for each of the three big manufacturers.
Adopting a common standard would simplify matters for such vendors. It could lower costs for everyone and could lower car prices, increase autoworkers’ wages or fatten the auto firms’ dividend checks. All of these possible outcomes are generally good for the economy.
The new agricultural entity, Rooster.com, is similarly business-to-business. But as all students learn in introductory economics courses, agriculture is special.
There are so many farmers, and each farmer is so small relative to the total sector that what economists call “perfect competition” does exists. In other words, farmers are “price takers,” not “price makers,” both when they purchase inputs and when they sell their products.
So while Rooster.com is business-to-business, it‘s much more like a retail business than the automakers’ new entity. The automakers may deal with hundreds or thousands of vendors, but the new ag site potentially may reach hundreds of thousands or even millions of farm customers.
My hunch is that the number of farmers who start to use this service will be limited at first. But the farmers who do will be the larger, more innovative, better-educated ones who produce a big share of total output.
Over time, more farmers will probably use the service, and it may come to dominate the field. Whether and when this will happen is an unknown, just as we don’t know how shopping malls, big-box retailers and daily newspapers will be affected by competition from Internet businesses.
On balance, this new site will probably lower costs for farmers somewhat, contribute modestly to keeping food costs down, and may accentuate the plight of existing small farm supply businesses.
However, there is another important difference between the auto component and farm supply sites: the opportunity for gaining potentially abusive market power with these e-commerce innovations. I think that potential is high in the automakers’ new entity, but very low in the agricultural one.
Adam Smith, the father of modern economics, wrote: “People of the same trade seldom meet together even for merriment and diversion, but the conversation ends in a conspiracy against the public, or on some contrivance to raise prices.”
That was true 200 years ago when competitors might meet in a pub or coffeehouse. It is as true today when they meet on the Net.
The automakers’ Internet components clearinghouse is clearly a choke point. That is, anyone doing business with those companies has to use that new entity. If you don’t, you are shut out of the business.
The clearinghouse is owned and controlled by three companies and is limited to them, though I am sure they would entertain having Toyota and Honda as additional partners.
The Internet is a great innovation precisely because it generates a great deal of information and makes it readily available for analysis. Information is power.
Perhaps the multitude of vendors will have the same capacity to access and analyze the information generated by the clearinghouse as will the big three auto companies. But I doubt it.
Everybody knows what a monopoly is: It is the sole producer and seller of a given good or service and has the power to set its price, which buyers can either take or leave. The general public correctly believes that monopoly power has the potential for abuse.
Economics students also learn that monopoly is inefficient because it wastes resources. Economic theory clearly demonstrates that when monopolies exist, the level of resources used and the quantity of goods produced is not optimal for society. This is a matter of general agreement among economists. Where they differ is on how to best deal with the problem.
The new auto components operation clearly has potential to be a monopsony.
This is a variation of monopoly where there is only one buyer of a good rather than only one seller. In the real world, a monopsony happens most often in labor markets, where there is only one employer in a market. The mining company town is the classic example, as are professional sports. When the courts struck down rules prohibiting free agency for baseball players, they recognized that team owners were acting as a monopsony.
One entity buying for three supposedly competing car companies clearly creates potential for collusion. That is a fancy term for what Adam Smith described as “people of the same trade conspiring.”
I need to make clear that I know nothing of the details of how this new entity will function. I doubt that forming some sort of buyers cartel was high on the list of the automakers’ objectives in designing this new enterprise. I am sure that their lawyers were consulted to see how it squared with U.S. antitrust law. But a high potential for monopsonistic collusion still exists.
You may ask how the new ag site will be different.
Cenex-Harvest States is a large business. Cargill and DuPont are huge ones. But there is a key difference: The new Rooster.com entity will add one more alternative to a long list of choices farmers already have. Farmers can use the new service or they can continue to buy and sell through existing channels, many of which are very efficient businesses.
The automakers offer no choice. Go through their site or do not do business at all. The farm entity is like canoeing down one channel in a multibranched estuary. If you don’t like that particular route you can take another.
Moreover, the farm site is clearly open to additional businesses. Describing the three founding businesses as “anchors” establishes an analogy to a mall, where other specialty stores are welcome and which the mall owner many expand.
The auto components site is clearly a closed business serving three purchasers and imposes considerable barriers to entry.
There are no similar barriers in agriculture. Millions of farmers produce food and fiber, and ultimately billions of households consume these products. If one entity attempts to dominate the flow between producers and consumers and extract monopoly profits, there are few barriers to either producers or consumers making a successful end run.
I can buy a hog from my cousin who farms. My neighbor can buy wheat when he is traveling in Northwest Minnesota and can get it ground many places.
That’s not true in the auto business.
E-commerce clearly has the potential to improve economic efficiency, which clearly benefits consumers, and society as a whole even when it squeezes some existing firms.
Both these new sites may make such contributions to productivity. But the auto component enterprise clearly seems to carry some potential for exercising monopsony power that would hurt consumers and waste resources.
© 2000 Edward Lotterman
Chanarambie Consulting, Inc.