3  Efficiency issues for small distant economies

The focus of this review is the basis and application of competition law. Competition law has the purpose of regulating commercial conduct in the sector of the economy for which there is de-centralised production, competition and consumption decisions. As von Hayek (1945) put it:

We must look to the price system as … a mechanism for communicating information if we want to understand its real function – a function which, of course, it fulfils less perfectly as prices grow more rigid…. The marvel is that in a case like that of a scarcity of one raw material, without an order being issued, without more than perhaps a handful of people knowing the cause, tens of thousands of people whose identity could not be ascertained by months of investigation, are made to use the material or its products more sparingly. [8], [9]

Antitrust policy is the set of laws designed to prevent firms from exercising market power by the firms’ restricting output and engaging in other anticompetitive behaviour.[10] Competition law can be viewed as affecting the balance of co-operation and competition among commercial firms and limiting their practices. Particularly in small economies, there is a trade-off between numbers of firms and economies of scale that competition policies should reflect. The tension between scale and numbers of firms is aggravated by geographic isolation. Further tension can occur where economies are widely dispersed within national borders, resulting in even smaller geographical markets within the small economy. As we have indicated, we do not explore the issue of intra-country dispersion in this paper.

3.1  Industrial concentration

The industrial structure we have reported for New Zealand is in accord with positions, well established in the literature, that small economies are characterised by relatively high industrial concentration levels and the presence of few-firm oligopolies. This point is illustrated by Scherer et al (1975) as shown in Table 1. It provides evidence that industrial concentration in manufacturing tends to increase as the size of an economy’s population decreases. Gal (2001) expresses it differently reporting that studies of manufacturing industries in small economies show a considerably larger fraction of all output is produced at less than minimum efficient scale. Firms grow in all sorts of ways, via competition in the product and ownership markets and by other arrangements with other firms seeking to attain improvements in productive efficiency and scale. In small economies, however, the extent to which such efficiencies can be achieved may be limited by the size of the domestic market thereby limiting economies of scale, economies of scope—where the costs of producing two or more products are less than the costs of producing them separately—and raising transaction costs in which there are savings associated with specialisation that attends larger market sizes.[11] Based on the evidence presented in Arnold et al, New Zealand would appear below Sweden in Table 1, characterised by high concentration in a small market. The alternative for tradable goods and services in small economies is to expand by exporting.[12]

USA = 100

+ The index of the inverted logarithm of the population

Caves, Porter and Spence (1980) argue that the small country handicap is manifest in three standard sources of economic performance. We summarise these as:

1. Allocative efficiency: Small countries’ markets can often only support a few firms in industries where scale is important. There are two cases:
   1. Incumbent firms that can profitably raise prices above competitive levels to earn supra-competitive profits, this leads to an inefficient allocation of economic resources across sectors;
   2. Small markets can impede the ability of firms to achieve minimum efficient scale (MES). As a result, unit costs may be higher;
2. Productive efficiency or x-efficiency: the ability to produce output at minimum resource cost. This intra firm allocative efficiency may be impeded if entry of competitors is not credible or in governance arrangements in which there is no market for control; for example, under trust ownership;
3. Dynamic efficiency: Small markets affect the incentives to, and resources for, innovation and appropriate investment. The outcome of dynamic efficiency is allocative and productive efficiency over time.

Each of these effects[13] is briefly discussed in this section.