The Quality Hit From Cartels and Monopolies
- Greater competition is seen as boosting quality in markets where prices are firmly regulated. The evidence is not as clear in markets where prices are not regulated.
- A study of the airline industry in the U.S. showed that major incumbent airlines reacted to the entry of low-cost carriers or newly merged airlines by providing higher quality of travel; they increased the number of ﬂights and number of seats available to travelers and reduced the number of cancellations and delays.
- Competition watchdogs rarely look at quality-related impacts when assessing industry consolidation. It is hard to decide on the relevant quality dimensions to consider and to actually measure those dimensions.
There are a number of ideas we hold to be true about economic liberalism. One is that more competition is better than less competition: when firms try to one-up each other, lower prices, greater efficiencies, and more abundant consumer choice tend to follow.
A second is that the quality of a product or service has more than a functional value. Higher quality, for example, not only is an outcome of innovation but also a driver of innovation. It results in safer products and services and fuels economic growth.
But does greater competition lead to higher quality? There is no simple answer. The evidence suggests that competition does boost quality in markets where prices are firmly regulated.
But in freewheeling markets where prices are not regulated, the evidence is not as clear, says Ricard Gil, an associate professor at Smith School of Business at Queen’s University. As companies battle one another, there can be a race upwards or downwards: firms can opt to boost quality to build their reputation and differentiate themselves from other market players, or be so caught up in price wars that quality improvements are ignored.
Gil has studied the curious relationship between competition and quality in the airline industry in the U.S. Over the last three decades, air travel has undergone huge changes. For one, a wave of mergers and consolidation reduced the number of competitors. On the other hand, the wide adoption of regional jets made it easier for low-cost carriers to enter many markets and give legacy carriers a run for their money.
What the Flight Data Show
Gil and colleague Myongjin Kim of the University of Oklahoma wanted to see if there were any changes in quality due to the entry of new or merged airlines. Like any researchers investigating product or service quality, they had one big challenge from the start: deciding on what quality really is. In the end, they designed the study using quality measures such as ﬂight frequency (flight schedules, seat availability, average plane size) and reliability (cancellations and arrival and departure delays).
They collected market and ticket data from 1993 and 2013, tracking the behaviour for seven major airlines in 7,762 markets.
Gil and Kim found that major incumbent airlines reacted to the entry of low-cost carriers or newly merged airlines by providing higher quality of travel; they increased the number of ﬂights and number of seats available to travelers and reduced the number of cancellations and delays. At the same time, the researchers found no statistically significant increase in ticket prices.
This study is hardly the final word on the issue, though it does establish a link between increased competition and better quality outcomes in a major industry.
"Quality is so hard to measure and quantify but that doesn’t mean you can’t try"
Gil says their research should remind strategic-minded leaders to react to mergers or new major entrants with competitive levers other than prices.
And it reminds policy makers to evaluate the impact of competition on both prices and quality. “Failing to recognizing the impact of competition on quality,” he says, “may lead policy makers to underestimate or overestimate total gains of changes in regulation and industry liberalization.”
The reality is that when competition watchdogs assess the impact of industry consolidation or cartels on consumer welfare, they tend to focus on prices and ignore quality. There are good reasons: it’s hard to decide on the relevant quality dimensions to consider and to actually measure those dimensions. Quality, after all, is both subjective and objective assessments. Consumers may also have limited ability to accurately assess the difference in quality in one product versus another, and firms may be challenged to convey those quality differences in ways that consumers understand.
“If I tell you something costs $5, you know what $5 is,” says Gil. “When it comes to quality, we all have our own scales. If I tell you that with one airline you’ll experience an average 15 minute delay, if you’re from Canada, that’s the norm. If you’re from somewhere else, maybe a one-hour delay is the norm. Quality is so hard to measure and quantify but that doesn’t mean you can’t try.”