The Great Reversal: How America Abandoned Free Markets - Economic History & Policy Analysis for Investors & Scholars

This has been the year when the reading public was deemed ready to deal with the topic of market power. A wide variety of great books have come out, like Tim Wu’s treatise on Bigness, Uwe Reinhardt’s posthumous book on American health care, a full legal manual on antitrust by Jonathan Baker and of course the two books that hatched from Barry Lynn’s Open Market Institute: Rana Faroohar’s polemic against the FANGs, “Don’t be Evil” and Matt Stoller’s very readable and comprehensive history of 20th century American populism, the appropriately named “Goliath.”It’s also been the year of tremendous popular Economics books like Shleifer and Gennaioli’s “Crisis of Beliefs,” Alesina, Favero and Giavazzi’s “Austerity” and blockbuster sequels from both Acemoglu & Robinson and the prolific Thomas Piketty.Thomas Philippon trumps them all. He’s written the book of the year. The Great Reversal succeeds at so many levels, it’s impossible you will not find something to like about it.It’s in five parts (even if they are labelled as four):1. The Economics of market power in America2. The European Experience of increasing competition3. Corruption of the US political system as a potential explanation of market power4. Industry examples in the US5. What’s to be doneComfortably the best, and worth buying the book for, is the first part, which is itself split into five chapters.In the first chapter Philippon explains that the essence of capitalism is competition. Competition for resources allows us to discover prices (p.22) and prices drive the allocation of resources. Free competition allows new companies to enter a profitable field and allows us employees to quit our jobs and go work for a competitor of our employer. Philippon quotes my favorite author, Mancur Olson, here, to ominously add that spontaneous defense of competition is unlikely, because the interests who stand to lose from competition are far more concentrated than all of us are, who stand to benefit.In the second chapter he defines the opposite of competition, market power. He tells us where to look for it (high concentration, high profits and high prices are the tell-tales) and lays out the economic ills it entails:1. inequality, as consumer surplus becomes economic rent that accrues to the much more concentrated managers and owners of corporations2. dead weight losses, shown on a chart, amounting to profits neither the producers nor the consumers make when oligopoly leads to cuts in production relative to output under competitionPhilippon also explains what’s good about market power: super-efficient producers like Walmart can often channel profits into even more efficient production, from which we all benefit.In the third chapter he establishes that over the past two decades market power has soared in the US. He does the math first, to account for all sorts of issues, including that1. some markets are local, some national and some international2. efficiency in some industries has increased due to the concentration among market leaders3. we enjoy more free goods than we used to4. there was no escaping domestic consolidation in industries facing foreign competitionand still arrives at the inescapable conclusion that the US is much less of a free market than it used to be. There are fewer companies than before, profits have soared as a percent of GDP, and companies make much bigger distributions to their owners as a percent of the assets they control.In the fourth chapter he lists the evidence regarding the decline in corporate American investment and productivity: relative to what went before, the past two decades have seen unmistakable overall declines in net investment as a part of corporate profits, and even larger declines for high concentration industries. The decline also holds for investment in intangible assets such as patents.The conclusion is clear: yes, we cannot a priori know if market power will lead to more or less investment. Sensible arguments can be made both ways. The evidence, however, is of (i) significantly higher concentration having gone hand-in-hand with (ii) significantly higher payouts to the owners of capital and (iii) significantly lower investment. That’s the way it’s gone, period. And that’s bad for long-term growth.The fifth chapter about America shows a potential source for this lack of dynamism over the past two decades: any way you care to measure things, there’s fewer young firms in the US. Additionally, the number of IPOs is a shadow of its former self and there’s fewer listed companies as well, with mergers among existing companies running at twice the levels experienced today than when Michael Douglas starred in Wall Street. What’s stopping free entry? The author argues that increased regulation probably has a lot to answer for.Next, Philippon moves on to Europe, which, remarkably, has travelled in the opposite direction! First, he shows conclusively that Europe has not suffered from the same increases in profit margins, rises in industry concentration or fall in the labor share of income as the US. Next, he shows that prices have risen a lot slower in Europe than in the US over the past two decades, with at most half of the difference being potentially attributable to differences in income growth.From there, the author hazards an explanation: clearly, the competition authorities in Europe have more teeth than their US counterparts; perhaps that is because it’s more important to Germany, for example, that they be independent from French influence, than it is that they accommodate occasional German interests. So Europe has had more success running the American model than America itself. And then again, Philippon argues, maybe we need to wait a bit longer and regulatory capture will also make it to the East coast of the Atlantic. But for now, it resolutely hasn’t and the benefits are there for all to see.The next part of the book, regarding lobbying, money and politics in the US was, quite simply, sickening. The math is laid out and (astonishingly clever!) research is listed that proves beyond a shadow of a doubt that lobbying (i) is targeted very well and (ii) bears results. The numbers actually are not enormous, but a very strong argument is made that money spent to buy influence is an “endogenous” variable, and thus impossible to measure correctly. This observation apart, however, there’s nothing Philippon notes that you cannot read elsewhere. Regardless, many people will read here first that the prime occupation of a US representative is to raise money. Not good.Chapters follow on how these findings relate to Banking, Healthcare and the FANGS. I found all three rather facile and not to the standard of the rest of the book. The observations made are of the kind you’d make from 10,000ft: finance still takes the same vig out of the economy as it did a century ago; US healthcare delivers poor results for money that is not explainable by observing that the US is a rich country that should consume more of high-end stuff (like healthcare) and the FANGS are no bigger a part of the S&P 500 than GM once was but are less well-integrated in the economy because they hardly employ anybody. Yawn. And the connections are not made to the front of the book.Next comes a chapter about the monopsony power our employers exercise on us when there’s so few of them left and this leads to the conclusions.The book does get the strong closing chapter it deserves. The author first expresses his astonishment at the fact that free markets have turned out to be rather fragile. The idea that they were inevitable seems to be at odds with the facts, basically. Next, he puts a number on how much money we’ve all lost due to the rise of market power. (Buy the book and read it, it’s on page 293)Philippon closes with three recommendations:1. we must fight for free entry: we must protect new entrants from incumbents, and we must be very afraid of incumbents who remain perennially profitable2. if the government is never guilty of over-regulating, then it’s not regulating enough3. protect transparency, privacy and data ownershipamen