Working Paper: NBER ID: w28482
Authors: Louis Kaplow
Abstract: The flow of resources across sectors to their best use, with concomitant entry and exit, is central to the functioning and welfare properties of a market economy. Nevertheless, most industrial organization research, including applications to competition policy, undertakes partial equilibrium analysis in a single sector, often with a fixed number of firms. This article examines competition policy in a simple, multi-sector, general equilibrium model with free entry and exit. Even partial equilibrium analysis yields some lessons, such as that accounting for free entry often makes strengthening competition policy more rather than less attractive. When admitting flows between sectors, familiar prescriptions readily reverse. But such results may be partially offset or overturned yet again when incorporating free entry and exit in nontargeted sectors. Finally, the analysis of efficiencies also changes qualitatively with free entry because even fixed costs are fully borne by consumers in equilibrium.
Keywords: Competition Policy; General Equilibrium; Market Power; Welfare Economics
JEL Codes: D43; D51; D61; K21; L13; L40
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| Strengthening competition policy (L49) | Increased social welfare (D69) |
| Strengthening competition policy (L49) | Reduced deadweight loss (H21) |
| Reduced deadweight loss (H21) | Increased consumption (E21) |
| Increased consumption (E21) | Increased social welfare (D69) |
| Tougher competition policy lowers prices relative to marginal costs (D40) | Increased social welfare (D69) |
| Tougher competition policy can mitigate inefficiencies associated with excessive market power (L13) | Increased social welfare (D69) |
| Introduction of free entry and exit (L11) | Altered efficiency landscape (D61) |
| Tougher competition policy (L49) | Costs on other sectors (H59) |
| Exit of firms (D21) | Reduced welfare (I38) |
| Valuation of variety in the economy (D46) | Overall welfare impact (D69) |