The Profit Paradox | Jan Eeckhout

Summary of: The Profit Paradox: How Thriving Firms Threaten the Future of Work
By: Jan Eeckhout

Introduction

Get ready to delve into ‘The Profit Paradox’ by Jan Eeckhout, a fascinating examination of how thriving firms are threatening the future of work. In this summary, you will discover the effects of the wage premium, the rise of market power, and how merging companies can consolidate industries to control them. Learn how technology has changed the rules of the game, leading to the dominance of a few corporations. You’ll also explore the profit paradox, a concept that explains why the very technologies benefiting society often harm individual workers.

The Profit Paradox

The rise of market power and dominant firms have enabled just a few companies to dominate their markets. As a result, they can outsource menial services and employ only highly valued knowledge workers, leading to a decline in wages of common workers and creating a wedge between high- and low-earning workers. Changing technology and economic progress have allowed a few firms to develop market power, similar to the era of “robber barons” in the late 19th and early 20th centuries. Monopoly allows a company to charge higher prices, earning excess profits while benefiting society but harming individual laborers- a phenomenon known as the profit paradox. Although a competitive market only earns returns on capital, market power allows businesses to earn excessive profits. These competitive firms use their technology and power to benefit society but harm individual laborers. Warren Buffet’s ideal investment is such a business, as it helps companies capture a global market and gain a much higher payoff than before 1980, where even a minor innovation could make an incredible difference.

The Rising Dominance of Big Firms

The widespread adoption of new technologies has led to a marked increase in markups across various industries. Schumpeter’s theory of creative destruction – where companies innovate, gain power, and ultimately succumb to competitors – seems to be a thing of the past. Nowadays, many firms innovate to deter competition, merge with other companies, and exert their dominance in the market. This has resulted in a few major players controlling most industries. For instance, Facebook dominates the social networking industry with a 70% market share, while two coffin and casket manufacturers control 82% of their market. The trend is also visible in the soaring markups across industries. In 1980, the average markup was 21%, while now, it is 54% in America and similar in Europe. At certain firms, such as Apple and Facebook, profits reported in 2021 were nearly three times that of their payroll costs. This reallocation of business from low-markup firms to high-markup firms fuels the increasing dominance of the latter.

Market Domination – The Illusion of Choice

A company’s market power can be built through mergers and acquisitions. One example is the creation of AB InBev, which now holds an estimated 28% share of the global beer market and dominates the markets in the US, Belgium, and Brazil. However, this abundance of brands in stores is an illusion of choice as one company is dominant. Greater size does not necessarily lead to better efficiency or lower prices. Facebook’s ownership of Instagram and WhatsApp has also resulted in advertisers paying more to reach users. Dominant firms may also eliminate competitors through “killer acquisitions.” The key to competition is diverse ownership.

The Impact of Technology on Retail Dominance

Amazon, as well as Sears and Walmart, achieved market dominance in retail through innovative technological solutions that lowered costs and offered a broader range of products. However, this innovation also resulted in decreased competition, allowing companies like Amazon and Walmart to charge higher prices. Despite their large market share, regulatory efforts to combat their dominance have been lacking. Similar trends are observable in other industries, such as the success of Zara’s fast fashion model through the use of IT and logistics. While customers may see some cost savings, firms like Zara and Walmart enjoy higher profits due to economies of scale resulting from their distribution networks, technology, and logistics.

The Power of Intangible Assets

In today’s economy, dominant firms maintain market power through their investments in intangible assets such as research, development, and advertising. Globalization and technological change further solidify their position, creating a competitive advantage that is difficult for newcomers to overcome. This has led to an economy-wide concentration of market power, resulting in higher markups and lower pay for workers. The traditional concept of creative destruction, where new competitors enter the market and erode the profits of established firms, is no longer applicable. The only hope for consumers to see lower prices is through the emergence of new technology or government intervention. In conclusion, the way companies invest in intangible assets has become the new “moat” that protects them from competition and allows them to reap the rewards of market power.

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