Friday, May 22, 2009

Error by Omission or Maybe Something Else

Against free market, Kwik Kian Gie wrote:
Because anything goes without government regulation, she (the producer) starts to conduct competitive strategy that kills her competitors through dirty practice, supported by her wealth. For example, she sells her products at price below cost of production. She would suffer loss, but she can bear it, thanks to her already accumulated wealth. At such price, all competitors would lose and go bankrupt. Except she, who has the largest capital. After the competitors go bankrupt, with her monopoly power, she increases her product's price very steeply.
Let me restate my take on predatory pricing: as long as there is no government regulation discriminating other producers, I don't see it as a problem --or dirty practice. And letting the market work will set the price back at producer's normal profit level. But you can not see that in Kwik's story because it was not yet finished and the next part of the story was omitted either by error or incomprehension.


The supernormal profit from after-predatory pricing monopoly power will attract the old producers and new producers to enter the market, as long as there is no government restriction. This will keep the price down again.

Also, any monopolist is subject to the consumer's demand -if you look at demand function in a monopolistic market, it's downward sloping. Thus, first, charging higher price means lower quantity demanded. Second, consumers do not solely look at a single product, she will always take into account the substitutes. For instance, if the price of espresso goes crazy, even a coffee freak like me will switch to teh botol. As a result, the predator needs to consider a whole arrays of competitors.

Where do I get this idea from? Econ 101 textbook. And by the way, the textbook always states that what matters for economic agent's decision is the marginal cost and marginal revenue (or benefit), not accumulated wealth.

Your baristas talked about this misleading op-ed during the break, and perhaps Ap will join me to serve you his comment.


  1. My favorite part is his understanding of Marxism that 'everyone will be civil servant'...

  2. This comment has been removed by the author.

  3. I mean there's good point from KKG.
    In free trade, of course Big Boy will always be the winner. That's why we need rules / regulation that give small boy room to participate.

    For example in jakarta,
    there is carrefour fr french.
    With her capital, she could easily defeat Hero, and many others existing retailer. Yes it is Giants-Hypermart another Big Boy, but where is the room for small retailer?

    Even US under Obama started to protect their product with jargon BUY AMERICA (protect US steel market)

  4. Rizal:

    Predatory pricing may not yet be particularly to Indonesia (I might be wrong on this) but your take on predatory pricing is a bit extreme. Here is from this paper Bolton et. al.:

    "[It] is now the consensus view in modern economics that predatory pricing can be a successful and fully rational business strategy; and we know of no major economic article in the last 30 years that has claimed otherwise. In addition, several sophisticated empirical case studies have confirmed the use of predatory pricing strategies."

  5. Roel, don't you realize that small retailers like Alfamart, Indomart, are still one the main destinations for customers in residential areas? The fact that they still exists (even mushrooming) shows that the business is still profitable. It also shows that the competition in the retail market is not the presumed David vs. Goliath. Remember, the franchise owners of these small retailers are mostly private enterpreneurs.

    In a different unpublished study by AC Nielsen, even the old fashioned 'tukang sayur' is still the most preferred retailers by many customers.

    Sure, newspapers regularly report the demise of traditional markets. But they are not necessarily the casualties of the hypermarkets. According to the SMERU report Rizal referred to earlier, their biggest competitors are small, semi-illegal vendors outside of the markets.

    In some ways, even the hypermarkets can't compete with the traditional market retailers, because the latter start the business very early.

    Yes, this may be counter-intuitive for the neoliberal bashers.

  6. Arya, thanks for the paper. Will read it later, but in the meantime I'll stick into my "extreme" position.

    Roel, have you ever come to Sarinah Thamrin and its surrounding area? There you'll see McD, Sbux, Pizza Hut, and many other big names. Yet you'll also see sate sabang, gule kambing, tukang rokok dan teh botol, warung tegal, and other small players. Both are alive and kicking.

    As Dede Basri used to tell me: even on the Wall Street, you see busy street vendors selling hotdogs.

  7. a.p.
    do you know that 75% Alfa shares belong to carrefour? (maybe u can googling and easily found it. And how about HERO? really tragic

    Yes, tukang sayur still survived.
    but we talk about different league.

    yeah I miss Sate Heri @ sabang
    They live & kicking, make Jakarta Vibrant. Anyway we still have to think about "wong cilik" : buruh tani, nelayan, toko kelontong
    In this case we need regulation that help them growing.

  8. Roel, I know. But at the same time, the Alfamart and Indomart retailers are franchisees. It means that.. well, you should know what it means and implies.

    In case you don't, it means that that single retailers on the corner is owned by not-so-rich next door neighbors, with some Rp500m start-up cost to start the business.

    And tukang sayur, different league.. This is the important thing. When we talk about competition, we are talking about different leagues of competition. There are Real Madrid and Barca in one league, and Persija/Persib in the other league. Each league has its own market.

    Real/Barca never makes Persib/Persija losing their fans. Real/Barca don't have to compete in Liga Djarum, vice versa.

  9. Ah, what about HERO? Once one of the richest guy in the country, now lost the leadership in the retail business? I thought you don't care about the rich guys, do you? So what now, subsidize HERO?

  10. Roel, you take up a valid question: What to do with the wong cilik, the poor.

    First, poverty, large part of it, is a problem of lacking access to market economic activities. See the works of Amartya Sen, Hernando de Soto, or Jonathan Morduch on microfinance. So, ensuring their access to most dynamic sectors in the economy not being blocked by distorting anti-market measures is critical. For example: wage regulations flexibility, legal and illegal extortion by state apparatus as well as their deliberate complex bureaucracy.

    Second, I am for the benefit for the poor, particularly direct cash transfer; but not affirmative action based on economic activities or industries. I mean if X is a poor fisherman, he deserves to get government transfer because he is poor, and not because he is a fisherman.

  11. I mean wage and labor regulation's inflexibility.

  12. Rizal, I agree with the comment of Arya. Your definition is too extreme.

    I think the assumption implicitly mentioned in your notes would make predatory pricing part Equlibrium.

    E.g : if you assume that ex post, firms will only get the normal profit, it means that you assume a Bertrand types of competition with Homogenous cost function. With this types of assumption, there will be no predatory pricing.

    yet, if you relax this assumption,i.e: difference in efficiency and or sufficient fixed cost, it could be easily seen that ex-post predatory pricing strategy, you will get super-normal profit (which is must be higher than profit in duopoly. otherwise it would not be an equilibrium)

    yet, I agree that KKG seems knows nothing. :p

  13. Ado, at least we agreed on KKG :D

    I have a question: what is wrong to have a supernormal profit if you are more efficient and have lower fixed cost than your competitors as implied from your relaxed assumption setting?