Volume 43, Number 170,
July-September 2012
Economic Competition in Mexico:
A Much Needed Debate
Rogelio Huerta
COMPETITION THEORY AND THE PROFIT MARGIN ( ...continuation )

For Mexico, Estrada cites Castañeda and Mulato (2006), among others, who published an article in the Colegio de México’s journal Estudios Económicos (Economic Studies). Estrada cites this article, saying: “they believe that competition reduces profit margins in the manufacturing sector” (2010: 127). In reality, Castañeda and Mulato state in the abstract of their article: “price-cost margins are a function of the concentration index and the degree of import penetration” (2006: 177). That is, price-cost margins are greater when concentration increases and lower when imports increase. Their study refers to Mexico’s manufacturing industry and encompasses the period from 1980-1998. The concentration calculation is done using Lerner’s Index. According to the authors, this is an indicator of the presence of substantial market power. They also measure the concentration index with the c4 (proportion of sales from the four leading companies in sales in the entire industry). Both indexes are used to examine behavior both before and after Mexico’s opening up to foreign commerce.

Although the cited essay tries to prove its hypothesis in Mexico’s economic reality, we will not discuss their empirical findings here. Rather, we will focus on their theoretical and methodological foundation, which is directly related to Estrada, and says that competition reduces profit margins. This implies that productive efficiency increases or, in other words, when competition drives prices down, it improves efficiency and well-being.

Why does the profit margin fall? According to Castañeda and Mulato, when the Mexican domestic market opened up to imports, competition intensified: “we find that imports act like a disciplinary device over the markets to reduce price-cost margins in the domestic industry” (2006: 177). Moreover, they maintain that in the time period following foreign liberalization in Mexico, the impact of concentration was reduced. “As the economy became more open, the pro-competitive impact of imports reduced the impact of concentration on the price-cost margin” (2006: 187). In summary, import competition determines both the reduction of the profit margin, as well as the effect of concentration. Without a doubt, the opening of the Mexican economy to foreign markets had an influence on the lower margins, but there remains a doubt as to whether this occurred because prices fell or because prices rose more slowly. Rather, as the authors themselves write, standard behavior for an oligopolistic market would imply that prices tend to rise, even at a lower rate, as was the case for Mexico, while quantities sold tend to fall as a result of the massive influx of imports. There is a greater change in quantities sold. To prove this, we can reference the measurements the authors made.

The two authors cited use Lerner’s index in their research to measure the price-cost margin. It was calculated using the standard formula, which is expressed as follows:

pcm = Total Sales-Salaries-Intermediate Inputs / Total Sales

pcm: refers to Price-Cost Margin

Total sales are composed of prices and sold quantities, and allow us to see that if prices do not fall with greater openness, and even if they go up, the quantities sold may fall due to competition from imports. As a result of opening to external markets, companies with presence in Mexico saw reduced sales due to the appearance of goods imported without tariffs into the domestic market. To recover profits lost as a result of reduced sales, they had to keep prices constant. If price elasticity of demand was rigid, it raised prices a bit, and the final result was a reduction in total sales. Thus, if in the period under study the price-cost margin fell (measured by the Lerner Index) in the manufacturing industry, especially in sectors that produce durable goods, it was not due to price reduction but rather to a reduction in the amounts sold. The authors mention in their conclusion that international competition changed the way that companies set domestic prices. This is not proven, but it is a theoretical hypothesis based on the idea that a fall in the price-cost margin is the result of price reduction to be able to compete. What they are really saying is that oligopolistic companies compete in the international market by reducing their prices. And this is not demonstrated in the article. As previously mentioned, the reduction of the price-cost margin as they measure it could be due to a reduction in the quantities sold. This would be more in keeping with the hypothesis of the oligopoly theory that says that companies have a fixed price policy, with adjustments in production levels through greater or lower usage of the installed productive capacity.

COMPETITION AND CHANGES IN PRODUCTIVITY

In the next section, entitled Competition and Productivity, Estrada declares that, “competition introduces incentives for development and the adoption of new and better technologies, processes and products, improving company productivity” (2010: 127). In other words, competition measured by profit levels can stimulate innovation and as a result, company productivity. The theory to support this is a very detailed investigation from Nickell, basing his analysis on approximately 670 companies in the United Kingdom. As Nickell himself says: “the question that I am directly concerned with here is the impact of competition on efficiency and on company productivity growth rates” (1996: 725). He is interested in demonstrating, through logical arguments, that greater competition intensity encourages companies to seek improvements to their productivity.

Now, how does Nickell measure competitiveness? He does so in the same way as all of the authors cited, using profit margins and rates. If there is low competition, profits will be high and vice versa, greater competition leads to lower profits. “If the amount of profits are observed, we can see that profits are generated by lack of competition” (1996: 734). But he also observes that the inverse relationship can easily be established in theoretical terms: it is an increase in productivity that brings about an increase in market power, and as a result, greater participation and lower levels of competition. We are interested in knowing which is the causal relationship that can be proven in the real world.

Published in Mexico, 2012-2017 © D.R. Universidad Nacional Autónoma de México (UNAM).
PROBLEMAS DEL DESARROLLO. REVISTA LATINOAMERICANA DE ECONOMÍA, Volume 49, Number 193, April-June 2018 is a quarterly publication by the Universidad Nacional Autónoma de México, Ciudad Universitaria, Coyoacán, CP 04510, México, D.F. by Instituto de Investigaciones Económicas, Circuito Mario de la Cueva, Ciudad Universitaria, Coyoacán,
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