Australia is an economy that has allowed the big to get bigger to such an extent that the barriers to entry in many vital and emerging industries are simply too high for new domestically funded entrants to swallow. This has led to multinationals buying their way into our market, further reducing competition. The latest is the purchase of ASX listed Origin Energy by serial asset accumulator and tax avoider Brookfield.
We are all used to thinking about economies of scale, the bigger we get, the greater the opportunity to spread the capital cost incurred over a wider base. The obvious example is IT, the costs can be huge, but they scale rapidly downwards as the number of nodes in use increases. It costs less to run each node as you increase numbers than it cost to run the first one.
This ignores the natural increase in transaction costs that used to occur when you scaled, but the use of IT, when done well, radically reduces the friction caused by transaction costs.
When you consider the economics of scope, the same sort of thinking applies, but you seek to leverage the capabilities built in one domain into others. Amazon is the poster child, leveraging the automation of their book selling IT investments into operating the Amazon store, then into Web services, retailing, hardware, and many other products and services.
What has happened is that we have seen the two types of economies of scale and scope give each other a dose of steroids.
Take a step further back, and you see that the expansions of scope are generally coming from adjacent markets that are fragmented, and often regulated.
Fragmented markets naturally coalesce into markets that are increasingly dominated by a few firms. The power of scale in a market overwhelms the fragmentation, and you end up with fewer firms competing, and taken to its logical conclusion, you have an oligopoly. In some cases, oligopolies end up as a monopoly by another name, such as Google in search, Microsoft in office software in the 90’s. They have been ‘defragmented’ by the application of capital that delivers economies of scale.
Then follows the search for scope, the usage situations where capabilities from one market are extended to other markets, at a lesser cost than the adjacent markets could do on their own.
Into this mix you throw regulatory barriers.
The cost of managing compliance is going up and up.
Corporations as they scale apply capital to the management of their compliance, and the wider the scope of activities, the greater leverage they get from that investment.
Look at the fossil fuel companies in Australia. Largely they are multinationals with huge scope and scale, too big for governments to take on. As a result, the increasing returns on the capital employed historically in scale and scope, are now being applied to compliance, particularly tax compliance, as they seek lower tax regimes that insulate returns. The purchase of Origin Energy is a further example of the process.
The strategic policy dilemma for Australia is clear.
For the long-term health and innovative vigour of the economy necessary for us to climb out of the basement in the innovative economy list, there needs to be tough decisions taken that will have a short-term cost, while increasing the odds of a long term benefit. Unfortunately, there are no votes in that equation.
