Tirole’s Nobel a sweet surprise

Surprising because although Tirole is well-known among scholars of industrial organization, his area of specialization, he is hardly known to other economists and certainly not to the public. I was barely familiar with his work. His economics is not the type that gets one interviews with Charlie Rose or quoted in the Wall Street Journal.

Nevertheless, this award is gratifying for a number of reasons. First, he is a superb and prolific scholar. His work merits recognition. Second, Tirole’s area, the effects of monopoly power on an economy’s performance, was once deemed important but has been sidelined for decades.

Yet it is particularly relevant now because we are in an era of consolidation in many economic sectors through acquisitions and mergers that often reduce competition. This is true in finance, in airlines, in railroads, in some areas of manufacturing, in pharmaceuticals and chemicals and even, in some cases, in retailing. The degree to which such consolidation reduces competition and confers a degree of monopoly power for remaining firms varies from sector to sector. But there is considerable harm to the public in some. Yet the issue is barely on the public’s radar screen and is ignored by politicians of both parties.

The 2014 Nobel also is gratifying because it recognizes a European economist. While this is not new, economists working in the United States, whether born here or elsewhere, have gotten a disproportionate share of economics Nobels since the prize was first awarded in 1969. There are a great many outstanding economics departments at U.S. universities. But this has also contributed to a harmful degree of insularity among U.S. economists, who tend to ignore work done elsewhere, especially if it is by an economist who got a doctorate outside our country, or who works anywhere except the very top-ranked universities in foreign capitals.

Tirole falls in the middle of such non-U.S. economists. He has been at Toulouse, a regional university in southwest France, for nearly two decades. However, he did get his doctorate at MIT 33 years ago and his books are published in English as well as in French.

Like many French economists, his undergraduate work was not in economics but engineering, with a degree from the highly prestigious Ecole Nationale des Ponts et Chaussees (National School of Bridges and Roads) in Paris.

Tirole is a microeconomist. That is, he focuses on economic issues at the level of individuals, households and companies rather than on a national economy. The national level is what we call “macroeconomics.” That should not be in particularly high regard right now since the economic debacle that began to unfold in late 2007 is emblematic of macro’s profound weaknesses. Macro dominated in last half of the 20th century, but micro is where the most interesting and useful works goes on now.

Again, Tirole’s work is on issues that were important more than a century ago — the behavior of firms with monopoly power and the effects of such behaviors on households and on the economy.

Early economists such as Adam Smith, David Ricardo and John Stuart Mill had emphasized how market economies can allocate resources very efficiently without government intervention.

But by the 1880s, as the center of gravity of developed economies shifted to large corporations rather than the small companies common at the time of Smith and Ricardo, it seemed clear to many noneconomists and those in government that the unregulated actions of large corporations with broad shares in a particular product caused outcomes that were not optimal for anyone other than the monopolists. Abusive pricing and poor service by railroads and manufacturers stood out.

Applied policy ran ahead of economic theory. The Interstate Commerce Act of 1887, which regulated railroad rates, and the Sherman Antitrust Act of 1890, which could be used to break up artificial monopolies, were not rooted in any particular economic model. They were pragmatic. But economics caught up and theory demonstrated that, indeed, monopoly power could cause great harm, not only in terms of unfairness to the consuming public, but in the form of economic inefficiency — waste of resources that rendered an economy poorer than it need be.

The idea that economies could be more efficient and equitable if governments regulated monopoly power became accepted wisdom among economists and governments at various levels. Much of this was beneficial, but as is often the case, the pendulum swung too far. Eventually, regulation often extended to mind-numbing and economically inefficient detail. And some regulators became “captive” — looking more to preserve the position of existing companies in a particular sector rather than to protect the public.

The result was that the pendulum swung the other way as both economists and elected officials decided less regulation would be better. The extensive de-regulation of transportation during the Carter administration and of financial services subsequently reflected this change in views. Fewer and fewer resources were devoted to breaking up monopolies.

The last large case brought against Microsoft by the Justice Department under Bill Clinton was quickly dropped by that of George W. Bush even though the government seemed likely to prevail. Antitrust was increasingly seen by Republicans as anti-business.

The study of monopolies faded in importance within economics. But a small cadre of people continued the work. Tirole was a key player in this. The core of his work is that effective government control of monopoly power cannot take a one-size-fits-all approach. It has to be tailored sector by sector. But if so tailored, it can produce significant improvements in economic efficiency.

It was telling that Canadian Pacific, one of a handful of Class I North American railroads, announced that it wanted to acquire CSX, another large railroad, at the same time Tirole’s award was announced. The fact that hardly anyone in Congress or the administration batted an eye reflects the disregard given to possible harm from increasing corporate concentration. (Canadian Pacific’s stock price did drop, however.)

If the 2014 award focuses attention on competition policy and Tirole’s analyses become better known, it may be to the benefit of tackling an age-old issue.