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Marketplaces
In order to understand any business you must first understand the environment in which it
plays. Marketplaces are merely places where buyers and sellers come together. Anywhere that
buyers and sellers come together to trade, there is a marketplace. It is at the New York Stock
Exchange, it is the shopping mall in your favorite home town. It is EBay, Amazon, and Craigslist.
It is anywhere that buyers and sellers come together to trade.
Marketplaces, like businesses, are not all alike. Marketplaces have structure in which
businesses compete. Marketplaces have design. You might think of marketplaces as
environments. Think of salmon and bears. Salmon live in a particular environment, bears live
in another. When Salmon are swimming around, having fun in the deep blue sea, they are
happy. Bears like to romp above water, in and about forests and cool weather. They are
happiest when their environment is clean, filled with male and female bears and few bearhunters. When Salmon go to play in the environment in which bears enjoy, salmon become
something other than fish,,,,,, they become food.
In the same way, when businesses fail to understand their environment,, they become food.
Larger firms devour them. This isn’t an evil, it is a natural progression of the life of
marketplaces. Marketplaces are, by nature, a competitive environment. Do well or become
food – simple.
So, studying marketplaces is important and I want to make it rather easy for you to consider as
you read the text. I give to you how I think of marketplaces. You will find this in your texts but,
probably, not given in this way. Recall, the environment metaphor. Bear country turns Man
country gradually. Civilization encroaches into Bear-space. It is more like a transition than an
event. So It is with Markets. They don’t go from one type to another as if passing through
some gate where the environments are different on the other side of the gate. Rather, it is a
transition, where the environments meld together, sometimes gently, sometimes with pieces of
one in the side of the other. You might think of salt water and fresh water. They are different
but when they merge, they form an estuary. The environment changes, sometimes slowly,
sometimes quickly.
I see Marketplaces on a scale, a continuum. I place it on a line with arbitrary points. On the left
side is the theoretical place of Monopolies and on the other extreme side is the other
theoretical place called Perfect Competition. In between, I place two other markers which,
again, are theoretical spots. In reality, they just mark some place, like an estuary, where the
marketplaces which touch are in the process of melding.
The Marketplace Line
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4
Those positions on the Marketplace Line are not scientific placed. They are somewhere on the
line, perhaps #2 could be a bit to the right and #3 a bit to the left, who knows. These spots are
not meant to be fixed spots but theoretical places which move, depending on the
circumstances. But, what is true, is that #1 Marketplace type is to the extreme from #4 and #2
and #3 are in between in the relative positions in which they appear on the line.
When one moves from one to the other, they will pass in the order you see, maybe not from
left to right, perhaps, in some environments, the line should be horizontal; but the relative
positions will be the same. In some environments, the distance from #3 to #2 will be very small
and in others it will be great. But, the transition will be that #3 will not move to #1 without
going through #2. The relative positions will be the same, almost everywhere.
#1, I say, is where Monopolies exist. Monopolies are characterized by:
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Number of sellers: just one (said in a low, Sean Connery voice – there can be just one)
In a real Monopoly, only is there just one seller but there are no options, no competitors, no
choices. The reason Monopolies don’t really exist is that there is always another choice. You
don’t have to buy. There is always the choice. There is a common misunderstanding that
monopolies are those places where there is just one seller. Well, truth is; one choice. There
is always that competition one-market sellers have and that is our refusal to buy.
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Product: same. There is one option. That option transcends the marketplace at any
particular time. That product remains from time to time. The story of AT&T is on subject.
There was no innovation, a black phone with a cord that curled. Then came the great
innovation: white. WOW! White.. think of the brain power that it took to create WHITE.
White phones, who knew!
Basis of Competition: You must, or the choice to NOT buy is difficult, very difficult.
Innovation: not needed. If you have to buy what I have, why change.
Barrier to entry: absolute. In monopolies, it is often that it is just illegal to play if you aren’t
the ONE. Copyrights, for instance, makes it illegal to use that product. Patents build
barriers for years so that you can’t produce another medicine like theirs. Sometimes, it is
that the resource that is needed is owned by one supplier. Weyerhaeuser bought all the
alder wood forests and created a near monopoly.
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Seller is a price giver. There is no bargaining, take it or leave it but the seller knows, you
really can’t leave it. Guess on a sliding scale, with up being high and down being low..where
is the price point on the scale? High or low? Can you see why we find Monopolies
repugnant. It takes away the concept of Customer Sovereignty.
Demand line for product is perfectly perpendicular,
Price: perfectly inelastic
The only example I can think which comes close is a trash company in Bellingham,
Washington. There are others like this but I am only going to think this far. That trash
company, SSC, is the ONLY option you have for trash pickup. Not just that, but if you are
living in a single family residence, you MUST, by law, buy their minimal product. Even if you
don’t need it, you buy it – by law. Here you must, no choices.
#2, in my scale is Oligopolies. Oligopolies are characterized by:
 Number of sellers; a few, let’s say 3. It could be four, or 2, or even five. But it is a few. I
say “about 3, to be exact.” This is 3 that matter. In fact, the marketplace might have
hundreds of sellers but only a handful that matter. Microchips is an Oligopoly. There
are two major sellers, Intel and AMD. There are, actually, many many many more. But
they are irrelevant in pricing. They make little if any difference in what the marketplace
is doing. When AMD or Intel decides to do something, the Marketplace is attentive.
 Product; the product is different, the products change, both incrementally and
“destructively.” That is, one new product will destroy the previous one. Products,
between sellers, are based on Differences. Think of iphone and Samsung’s S3 phone.
Both are similar in what they do but they are based on differences. Each company slams
the weaknesses of what the other fails to do and extols what their product does do.
 Basis of Competition; Difference. A great economist, Michael Porter, said that there are
two different ways to compete. You can compete on the basis of Differences and you
can compete on the basis of COST (note, not price but Costs). In Oligopolies, it is all
about the BIG DIFFERENCES.
 Innovation: Product and process innovation are high, even extreme. Be different or you
are food. Not just different in comparing your product to the next best competitor but
different from your LAST product. GM goes out with new cars each year that compete
with Toyota as well as last year’s model. Difference is the thing.
 Barrier to entry. The wall is high, wide and deep and it takes a great deal to get on the
other side. It is possible, but it takes a huge effort. The wall might be based on the kind
of capital needed to play in that Marketplace. It might take skill and special knowledge,
it might take political acumen. But, whatever barriers exist, it is near impossible to get
over, but it is possible. You can, for instance, make large planes that fly hundreds of
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people from one continent to another. But, even if you had billions of bucks,, enough to
start, what skills would you need? Where would you put it, that sort of business is not
like Mary Kay products, you can’t make them in your garage. What community is going
to let you build big airplanes in their neighborhood? What permits would be needed and
which City Council will give them to you without, well, campaign investments?
Price searcher. This is a marketplace where we are trying to find that sweet spot for
price. Where, as sellers, do we place the price, high or low? As sellers, we want it as high
as we can get it, that place where, based on our cost structure and the Quantity
demanded, we will find that best spot, where our net profits are the highest. We must
grabble with that. We don’t know so we search, We raise and lower, we study what
happens. Recently, Starbucks announced that they “might” have to increase prices –
price searching, discovering what resistance there is or what apathy exists at the
purported price increase. If there is enough apathy from the mere suggestion, they will
increase and see what happens, they will measure it by time of day of the sale, by
geography, by what else is selling. It could be that raising the price of one drink which
costs a great deal to make will drive people to another drink which is cheap to make.
They might lose sales but increase their Net Profit. They will have many marketing and
financial analysts looking to discover the BEST price.
Demand Line: More perpendicular but not, moving away from perfectly perpendicular.
Price: inelastic
#3 in my scale is Monopolistic Competition. Monopolistic Competition Is based on:
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Number of sellers: LOTS. That is the precise accounting term, lots.
Product: almost the same, a small difference in color, or size, or something that is based
on look and feel but not any different technology, or what I call REAL difference. What
is the difference between Starbucks Coffee versus Peat’s Coffee or the one other place
you like going? There are missionaries of coffee who think that there are REAL
differences between coffees. But really? Some think there are real differences between
Pepsi and Coke, or Coke and the generic Cola Brand of your favorite grocer.
 Basis of Competition: mostly, it is Cost with a bit of difference. But, the big thing is cost.
(note, this is NOT Price but Costs) When you lower your costs, you increase your net
profits. When you lower costs in comparison to your competitors, you have options.
You can return the cost advantages to either your stockholders (in dividends or
investment in the future), you can return it to your employees (in higher pay or
benefits), or you could return it to customers (in lower prices to them). This is where
Wal-Mart, Southwest airlines, IKEA try to make their niche, in fanatical cost reductions.
Innovation; not so much, mostly advertising sort of innovation, like changing the phone
from black to white, staying open longer, opening a drive-up window to get your meds
(Walgreens) or having your customer buy in large quantities (Costco) The product itself,
however, is substantially the same and cost structures have management’s attention more
than research and development.
 Barrier to entry: some. There is some but not so much. There might be a license to get,
some hard and some difficult. If you want to go into this sort of business, you might
need a license that takes a simple, small, fee. Or it might be a license that takes a special
body of knowledge like CPAs or Lawyers. Notice, there are lots of them. There are some
barriers, some harder to get than others, but not so much.
 Price searcher. The idea is to find that sweet spot where customers will pay for that
difference, to add this or that to make it interesting enough so that higher prices are
allowed. It takes some dancing to find where that spot is. So we search for it.
 Demand Line: it is on the soft side of the 45 degree curve, that is it is moving to
horizontal. It isn’t horizontal.
 Price is elastic, but not perfectly
#4 in my scale is Perfect Competition: the characteristics are:
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It is a theoretical place, it doesn’t exist.
Number of players; unlimited, thousands, swarming
Product: homogeneous, same, no difference from one seller to the other. Commodities
are of this type.
Basis of competition: cost, there is no difference.
Innovation: no product innovation, but there is process innovation
Barrier to entry: none, nada, zip, zero. This one of the reasons why there are so many
competitors,, anyone can get in,,,and out, with no gateways. This is one reason why this
is just a theory. There are always some barriers, if only your time, there are still scare
resources which must be sacrificed.
Price taker: The price is the ONLY price. Since there is NO difference between one
seller’s product to another, price is all that matters. As a seller, you can’t reduce the
price. Well, you can, but since price is the only thing, if you reduce your price every
other competitor much match it or go out of business. They will match your price and
there will be a new, lower price normal and you end up with no competitive advantage
but a lower margin. You can’t raise your price because no one will buy from you. You
take the price, can’t move it up or down.
Demand line: perfectly horizontal. At every quantity demanded, there is still just one
price.
Price is perfectly elastic, perfectly. The idea that something would be perfect should
suggest it doesn’t exist.
In reality, there is movement up and down the line. Notice, as you move from right to left, the
demand line moves from perfectly horizontal to perfectly perpendicular. As you move right to
left, there are higher and higher barriers with a corresponding few number of players. As you
move from right to left, price matters less and less and differences matter more and more.
BTW, oligopolies are where the greatest profits exist. Think of it. The big firms in American are
where the most profits are. 80% of the total profits in business are from Corporations but less
that 20% of the businesses are corporations. Corporations can raise capital for big expansion
and great research. Intel requires billions of dollars in research every year. No mom and pop
store can raise that sort of cash to expand. Marketplace structure matters.
I hope this helps you in understanding marketplaces.