May 4, 2020 / 2:40 PM / in 24 days

Breakingviews - Chancellor: Big is beautiful will also be ugly

LONDON (Reuters Breakingviews) - It’s hard to rustle up a hearty breakfast in the coronavirus era. Eggs are in short supply at UK shops. Across the pond, bacon is disappearing from supermarket shelves. These shortages have a common origin. The food industry on both sides of the Atlantic has become highly concentrated, making supply vulnerable to the Covid-19 shock. Many other industries are in a similar spot. Ideally, now is the time for antitrust regulation and fiscal measures to make business more competitive and less concentrated. Yet when the lockdown ends, Big Business will probably emerge in an even more dominant position.

A worker gathers items for delivery from the warehouse floor at Amazon's distribution center in Phoenix, Arizona November 22, 2013.

The Great British Egg Shortage resulted from a lack of containers. There are only three egg-carton manufacturers in Europe and one of them, located in Denmark, went offline. America’s meatpacking industry is dominated by a handful of giant operators. One of them, Smithfield Foods, closed two large processing plants in mid-April after employees tested positive for the coronavirus. Last month, pork production fell by nearly 15% and beef production by even more. The White House ordered abattoirs to remain open under the Defense Production Act, which allows the president to control critical supplies, including the supply of hot dogs and hamburgers to kitchen tables.

For more than three decades, the pursuit of shareholder value has encouraged managers to cut costs and merge in the name of efficiency. Antitrust regulators have given the nod to the consolidation of industry behemoths, providing consumers didn’t suffer. Now the true costs of all this cost-cutting are becoming apparent. It’s not just that concentrated industries tend to invest and innovate less, create barriers to entry and pay their workers less and executives more. The relentless pursuit of efficiency has created heretofore-hidden vulnerabilities.

Bottlenecks have appeared in strange places – such as Europe’s egg-box manufacturers – creating a domino-like effect across whole supply chains. The effect is reminiscent of the cascade of financial failures following Lehman Brothers’ collapse. Most seriously, excessive industry concentration has contributed to shortages of critical medical supplies – of ventilators, face masks and other personal protective equipment. Amazingly, there are only two major manufacturers of Food and Drug Administration-approved hospital swabs, one of which, Copan, is based in locked-down northern Italy. Local private hospital monopolies in the United States tend to operate with a minimum number of spare beds. Group purchasing organisations – buying cartels operated on behalf of healthcare providers – have squeezed suppliers of medical equipment and drugs and driven manufacturing to cheaper offshore locations.

In an ideal world, policymakers would respond to the failings exposed by the crisis by tightening the enforcement of competition rules. The laissez-faire approach to mergers, favoured by neoliberal types, has considered the impact of mergers only on consumer welfare. Antitrust watchdogs need to ensure that industries are more resilient, which means operating with greater slack, even if that means higher prices. Nobel laureate economist Paul Romer suggests that antitrust rules could be supplemented with progressive taxes that target corporate size, such as taxes on sales or the number of employees. Romer believes that such fiscal measures would encourage companies to shrink in size.

In the real world, such an assault on Big Business is unlikely. One of the more depressing aspects of the Great Lockdown is how much kinder it has been to the Goliaths than to the Davids. On the stock market, the S&P 500 Index of large-cap firms has crushed the Russell 2000 Index of smaller companies. Amazon’s sales are soaring while small retailers remain closed. In the UK, garden centres are shuttered while liquor stores are free to sell alcohol manufactured by a handful of multinational brands.

Most U.S. small businesses operate with just two weeks of cash reserves, according to the JPMorgan Chase Institute. The chances of firm survival are correlated with size. When the lockdown ends, expect a surge of bankruptcies of small and medium enterprises. Although governments are providing loans to small businesses, monetary policy favours large ones with access to capital markets. The Federal Reserve is providing up to $750 billion to buy corporate bonds, including non-investment grade ones. The U.S. central bank has taken interest rates to zero for the first time in history. Ever-lower interest rates will drive more industry concentration.

As Jonathan Tepper observes in his book, “The Myth of Capitalism”, business cartels are more likely to hold together during periods when money is cheap – as was the case in the late 19th century, when U.S. Steel and other monopolistic “trusts” were formed. It was during the trust era that American economist and Princeton University President Arthur Hadley defined interest as “the price paid for the control of industry”. The lower the rate, argued Hadley, the easier it is for a dominant business to take over its weaker competitors. That’s how natural selection works in the corporate world, he thought.

This suggests another merger boom is coming, financed on even-easier terms than during the last cycle. The large will devour firms fatally weakened by the pandemic. Expect a wave of takeovers in stricken sectors: airlines, travel and leisure, energy and oil services, food distribution and retail. Trustbusters, of course, will be up in arms. But they will find little political support in Washington or Brussels. There are no Teddy Roosevelts or Woodrow Wilsons in the Republican Party to challenge the corporate giants. Elizabeth Warren and Bernie Sanders would have led the battle, but both failed to progress in the Democratic primaries.

In the cratered economy that emerges from the lockdown, acquisitive firms will argue that mergers save jobs. Furthermore, as the tide of globalisation recedes, pressure is building on other countries to follow China’s example of fostering national champions in strategic industries. Big is beautiful will be the new corporate mantra. In the long run, it will be ugly.

Breakingviews

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