This presentation introduces a working paper by the OECD Competition division which explores the impact of competition on inequality by developing a new model to illustrate how higher profits from market power, and associated higher prices, could influence the distribution of wealth and income. The paper is available at oe.cd/1ZM. More documents available at www.oecd.org/daf/competition/inequality-a-hidden-cost-of-market-power.

1. INEQUALITY
The opinions expressed and arguments employed herein are those of the authors and do not necessarily
reflect the official views of the OECD or OECD member countries.
The full version of the paper is available online at oe.cd/1ZM.
Authors:
Sean Ennis (sean.ennis@oecd.org, Senior Economist, OECD)
Pedro Gonzaga (pedro.gonzaga@oecd.org, Policy Analyst, OECD)
Chris Pike (chris.pike@oecd.org, Competition Expert, OECD)
A Hidden Cost of Market Power
Working Paper Highlights

2. 2
0
0.1
0.2
0.3
0.4
0.5
0.6
0.7
0.8
0.9
1
Canada Germany France Japan Korea Spain United
Kingdom
United
States
Bottom 90
91 - 95
96 - 99
Motivation
• Increasing disparity in the distribution of income in
several OECD countries:
– Top 1% holds ≈ 5% of the income
– Top 10% holds ≈ 25% of the income
Top 1
Incomeshares

3. 3
0
0.1
0.2
0.3
0.4
0.5
0.6
0.7
0.8
0.9
1
Canada Germany France Japan Korea Spain United
Kingdom
United
States
Bottom 90
91 - 95
96 - 99
Motivation
• Inequality is even more accentuated in the
distribution of wealth!
– Top 1% holds ≈ 15% of the wealth (except US)
– Top 10% holds ≈ 50% of the wealth (except US)
Top 1
Wealthshares

4. Motivation
By understanding the sources of
inequality, public policies can be
designed appropriately to promote
inclusive growth.
4
The focus of research on inequality
allows us to better understand the
mechanisms behind income and wealth
inequality

5. Sources of Inequality
• Traditional explanations for observed inequality
– Differences in human capital value
– Wage discrimination against different type of workers
– Technology growth
– Insufficient fiscal transfers from rich to poor
5
Market Power
• An alternative hypothesis:
– Market power may transfer wealth from
wage earners to business owners,
reinforcing further existing inequality

6. Sources of Inequality
• How does market power affect the distribution of
income and wealth?
– The existence of corporate market power has a dual
effect
6
• It generates profits for companies above
the competitive rate of return
• It raises prices on consumers, reducing
their real income and their ability to save

7. Sources of Inequality
7

8. Literature
• Previous literature has found a positive link between
market power and inequality…
– Theoretical background:
• Baker and Salop (2015), Creedy and Dixon (1999), Furman
and Orszag (2015), Rognlie (2015),
– Quantification of the impact on wealth distribution:
• Comanor and Smiley (1975)
• Ennis and Kim (2015)
8
methodology has not been updated since then!

9. The Model
• A new dynamic model with endogenous
wealth (W), income (Y) and consumption (C)
9
W
Y
C
Market
Power

10. Model – Assumptions
1. The model captures only the effect of market power
on prices, which are all inflated in an equal
percentage
2. Market power is measured by aggregate mark-ups
3. Wealth, income and consumption shares are
constant in steady-state
4. Marginal propensities to save are constant across
wealth groups
10

11. Model – Variables & Parameters
• Variables
– F = Wealth
– Y = Income
– C = Consumption
– W = Wages
– R = Return on capital
• Parameters
– 𝜇𝜇 = mark-up (price over marginal cost)
– 𝑠𝑠′
= marginal propensity to save
– 𝑠𝑠̅ = average saving rate
– 𝛼𝛼𝐿𝐿 = share of labour income
11
Subscripts m and c are used for the
monopolistic and competitive steady
states, respectively.
Lower case letters refer to shares.

12. Model – Equations
• The steady-state levels of wealth, income and
consumption are driven by the following equations:
 National Income Identity
 𝑌𝑌 = 𝑊𝑊 + 𝑅𝑅
 Consumption Function
 𝐶𝐶 = 𝐶𝐶̅ + 1 − 𝑠𝑠𝑠 𝑌𝑌
 Wealth Dynamics
 𝐹𝐹𝑡𝑡+1 = 𝐹𝐹𝑡𝑡 + 𝑌𝑌𝑡𝑡 − 𝐶𝐶𝑡𝑡
12
𝑭𝑭∗, 𝒀𝒀∗, 𝑪𝑪∗

13. Solution of the Model
• Redistributive Effect of Market Power for 𝒔𝒔′ = 𝒔𝒔�:
13
𝒇𝒇𝒊𝒊
𝒄𝒄
= 𝒇𝒇𝒊𝒊
𝒎𝒎
+
ℒ
𝜶𝜶𝑳𝑳
𝒚𝒚𝒊𝒊
𝒎𝒎
− 𝒇𝒇𝒊𝒊
𝒎𝒎
,
𝒇𝒇𝒊𝒊
𝒄𝒄
- wealth share of group i under competition
𝒇𝒇𝒊𝒊
𝒎𝒎
- wealth share of group i under market power
𝒚𝒚𝒊𝒊
𝒎𝒎
- income share of group i under market power
𝓛𝓛 - Lerner index
𝜶𝜶𝑳𝑳 - share of labour income

14. Interpretation of the model
• Redistributive Effect of Market Power for 𝒔𝒔′ = 𝒔𝒔�:
• Direction of the effect:
– 𝑰𝑰𝑰𝑰 𝒚𝒚𝒊𝒊
𝒎𝒎
> 𝒇𝒇𝒊𝒊
𝒎𝒎
, competition raises the wealth share of the household
– 𝑰𝑰𝑰𝑰 𝒚𝒚𝒊𝒊
𝒎𝒎
< 𝒇𝒇𝒊𝒊
𝒎𝒎
, competition drops the wealth share of the household
• Dimension of the effect:
– The greater the Lerner Index (indicator of market power), the greater
the absolute size of the effect
– The greater the income share of labour, the smaller the absolute size of
the effect
14
𝒇𝒇𝒊𝒊
𝒄𝒄
= 𝒇𝒇𝒊𝒊
𝒎𝒎
+
ℒ
𝜶𝜶𝑳𝑳
𝒚𝒚𝒊𝒊
𝒎𝒎
− 𝒇𝒇𝒊𝒊
𝒎𝒎

15. Calibrating the model
• The model was calibrated for 8 countries representative
of more than half of the wealth in the world:
– Canada, France, Germany, Japan, South Korea,
Spain, United Kingdom, United States.
15
• Data required:
– Wealth and income distributions
– Indicator of market power
– Income share of labour
– Marginal and average propensities to save

16. Data: Wealth and Income
Distributions
• Databases:
– OECD wealth distribution database 2012
– OECD income distribution database 2014
– Household surveys by National Statistic Offices (most recent
years available)
• Breakdown by 8 population groups:
16
Bottom 20% 20% - 40% 40% - 60% 60% - 80%
80% - 90%
91% - 95%
96% - 99%
Top 1%

17. 0
5
10
15
20
25
Canada France Germany Japan Korea Spain United
Kingdom
United
States
% Mark-ups across countries
Data: Market Power Indicator
• Mark-up data estimated by Høj et al. (2007) for the period 1975-
2002, using the OECD-STAN Database.
17
Høj, J., M. Jimenez, M. Maher, G. Nicoletti and M. Wise (2007), “Product Market Competition in the OECD Countries: Taking
Stock and Moving Forward”, OECD Economics Department Working Papers, No. 575, OECD Publishing, Paris,
http://dx.doi.org/10.1787/108734233645.

18. Data: Market Power Indicator
18
Legitimate Sources Illegitimate Sources
х Cartels
х Exclusionary conducts
х Anti-competitive mergers
х Anti-competitive market
regulations
х …
Sources of Market Power
 Product differentiation
 Brands
 Intellectual Property Rights
 Patents
 Trademarks
 Copyrights

19. Market Power Indicator
• Estimation of excess mark-ups
– Comparison of sector level mark-ups with the minimum mark-up
observed across countries
19
0
5
10
15
20
25
Canada France Germany Japan Korea Spain United
Kingdom
United
States
% Mark-ups across countries
Competitive mark-up Excess mark-up

20. Income Share of Labour
• Ameco's adjusted wage share in selected OECD-Countries,
1990-2008 in Krämer (2011):
20
Krämer, H. (2011), “Bowley’s Law: The Diffusion of an empirical supposition into Economic Theory”, Cahiers
d'Économie Politique (Papers in Political Economy), vol. 61.
0
10
20
30
40
50
60
70
80
Canada Germany France Japan Korea Spain United
Kingdom
United
States
% Income Share of Labour

21. Savings Data
• Marginal Propensity to Save (MPS)
– Review of 11 empirical papers that estimate the MPS out of a
permanent shock in income: 𝟎𝟎. 𝟏𝟏𝟏𝟏 < 𝒔𝒔′ < 𝟎𝟎. 𝟐𝟐𝟐𝟐
• Average Saving Rate
– Data collected by national statistical offices of the eight countries
for the last 50 years:
21
0
5
10
15
20
Canada Germany France Japan Korea Spain United
Kingdom
United
States
% Saving Rates
1<
𝒔𝒔𝒔
𝒔𝒔�
<2

22. Results
Marginal effect of market
power (∆𝝁𝝁 = 𝟏𝟏𝟏)
Total effect of “excessive”
market power
Results
Model Data
22

23. Impact from a 1% mark-up reduction
23
Wealth shares Income shares

24. Main Findings
• Who wins and who looses
– In general, a marginal reduction of market power generates a
transfer of income and wealth from the Top 10% to the Bottom
90%
• A squeezed middle
– The households more harmed by market power are not always
the very poor, but those with a reasonable income level (that falls
in real terms due to higher prices) and a low share of total wealth
• Relative impact of market power
– Proportionally to the current income and wealth levels, the
poorest households are the most affected by market power
24

25. Results
Marginal effect of market
power (∆𝝁𝝁 = 𝟏𝟏𝟏)
Total effect of “excessive”
market power
Results
Model Data
25

26. Impact from eliminating excessive
market power: 8 OECD countries
26

27. Comparative Results
• Impact on the Top 10% richest from eliminating “excessive”
market power :
27
-40
-35
-30
-25
-20
-15
-10
-5
0
Canada France Germany Japan Korea Spain
United
Kingdom
United
States
Rate of change in wealth of the Top 10%

28. Main Findings
• Significant impact of market power on inequality
– On an average country, excessive market power accounts for
between 6% and 21% of the wealth of the top decile
• Sensitivity of results to saving behaviour
– The impact of market power on wealth crucially depends on the
ability of households to save additional portions of income
• Implications for the effects of competition policy
– An effects-based competition policy can prevent illegitimate
market power from redistributing income and wealth towards the
richest and most powerful, thus contributing to less inequality
28

29. Future Work…
• Measure the redistributive effect or market power in
less developed countries
• Account for possible impacts of market power on
wages of managers and high-level employees
29
• Estimate mark-ups using more
recent data
• Extend the model to different MPS across
groups

30. INEQUALITY:
A HIDDEN COST OF MARKET POWER
THANK YOU
Any comments and suggestions are welcome, please send them to:
Sean Ennis (sean.ennis@oecd.org, Senior Economist, OECD)
Pedro Gonzaga (pedro.gonzaga@oecd.org, Policy Analyst, OECD)
Chris Pike (chris.pike@oecd.org, Competition Expert, OECD)