The classification of Markets and Market Power

The classification of Markets and Market Power Felim O’Rourke, [email protected] Bahrain Polytechnic Kingdom of bahrain This paper is an attempt to develop a classification system for actual markets based on the level and source of the market power of the seller. The paper draws on insights into actual markets from a variety of disciplines including Economics, Marketing, Industrial Organisation, Business History and Economic Sociology. The paper suggests an analogy with the colour triangle and hypothesis that most actual markets can be classified in terms of their location on a triangle which we call the “Market Power Triangle”. This triangle relates the market power of the seller to three variables. These three variables are the number of Sellers, control of the Customer Relationship and Product Differentiation. Classification of Actual Markets There are three market types that appear to be significantly different from each other and that dominate many areas of business. These three dominant Market Types are, Commodity Type, Strong Brand, Monopoly. Other market types appear to share some of the characteristics of these three dominant market types. Commodity Type Markets In Commodity Type markets large numbers of sellers sell similar items, without any brand identification, in an open market. The items involved can be products, assets or services. The prices of all the items quoted on the London Financial Times are determined in Commodity Type markets. The number of businesses that sell their products in Commodity Type markets is enormous. World-wide most off-farm sales, for example, take place in Commodity Type markets. Examples The market for physical products, including energy, traded on Commodity Exchanges The market for financial assets such as Shares, Currencies and Bonds The market for farm products such as bulk milk and grains. The market for “Generic” drugs (drugs without patent protection). Strong Brand Markets In Strong Brand markets the Seller has identified his product to the customer by a brand and built up a high level of brand loyalty. Examples The leading World brands from Coca-Cola to Nike. Monopoly Markets Monopoly markets exist where there is only one seller of a product or service without a close substitute. Examples State Monopolies such as the Passport Office New drugs with patent protection The Basis for this market classification This market classification is widely used in many industries including the food industry .Commentators and policy-makers in the food industry distinguish between food as a commodity and branded food products. A variation of this classification is used in the pharmaceutical industry with a distinction made between patented products (monopolies) and generics (commodities). The yahoo! finance website describes companies such as Pfizer as “discovering, developing and manufacturing” drugs (these drugs are sold with patent protection) and describes Teva and Mylan as leading manufacturers of “generic” drugs. Many leading drugs are now reaching the end of their patent protection period and therefore are facing the threat of generics. Many of the companies owning the patents are attempting to enhance the original drug in a manner which will extend patent protection. An Irish company involved in this area is Elan with its Elan Drug Technologies division. Elan shows how such “product enhancement” can create “a branding opportunity” (Elan Website). In the early years of Marketing, textbooks distinguished between commodities and brands. Two of the leading Marketing textbooks from the 1920s, Brown (1925) and Clark (1927), devoted many chapters to the discussion of commodity markets before moving on to discuss brands. These market types can be distinguished in at least two ways, the price determination process and the market power of the seller. In a commodity market the price is determined by the market. Most Stock Exchanges are now computerized so that there is minimal human involvement in setting the price. In the Strong Brand market and Monopoly market the price is determined by the seller. The seller holds strong market power in the Strong Brand or Monopoly market but in the Commodity market the seller has no market power. The price determination process is linked to the market power of the seller. Where the seller has no market power it allows price determination to be controlled by the market. The importance of the market in price determination is therefore inversely linked to the market power of the seller. This means that the market power of the seller can be taken as the key distinguishing feature between the different market types. Market Power means the ability of the Seller to control the price. US Business History from 1840 to 1920 Each of these market types was particularly prominent in the US economy for a period (era) between 1840 and 1920. Commodity markets Commodity Exchanges arose where physical distance developed between Producer and Customer. As transport improved in the 18th and 19th centuries the distancing of producer from consumer led to the emergence of such specialized markets. The opening up of the US Mid-west as a major food producing region led the setting up of the Chicago Commodity Exchange in 1848. The early history of the Chicago exchange is described on the Chicago Board of Trade website, 1848, Chicago’s strategic location at the base of the Great Lakes, close to the fertile farmlands of the Midwest contributes to the city’s rapid growth and development as a grain terminal. Problems of supply and demand, transportation, and storage, however, lead to a chaotic marketing situation and the logical development of the futures market. The Chicago Board of Trade’s early years were comprised mainly of establishing trading standards and measures. For example, in 1854, the standard weight of 60 pounds for wheat and 32 pounds for oats was adopted and retained for many years and as the Board expanded, steps were taken to formalize the grain trading by developing futures contracts, which standardized everything except price. Many other commodity exchanges were established throughout the US over the period 1850 to 1870. Two key features of these commodity exchanges were that they were developed and controlled by middlemen and that they organized the standardization of the item traded. Another feature of this period was the increased role of middlemen within the distribution system. Bartels (1962:22) and Chandler (1990:52) have described how the building of the railways, in the 1830s and 1840s, integrated the US economy and triggered a remarkable period of economic growth. The growth and integration of the economy created opportunities for large-scale manufacturing for distant markets which replaced small-scale craft manufacturing for local markets. Hotchkiss (1938) shows that the growth of middlemen, including large wholesalers and myriads of agents, who acted as distributors for the large manufacturing enterprises, was a feature of this new business era. Bartels (1962:24) and Chandler (1990:59) argue that these middlemen, especially the large wholesalers, had acquired a powerful position within the distribution system at the end of the 19th century. The powerful position of the middlemen, including the large wholesalers, allowed them to influence the production of goods. It was in their interest that production was standardized so it is not surprising that standardized production developed across a wide range of industries. The importance of the commodity exchanges and the powerful position of middlemen, including wholesalers, forced most producers to sell standardized products. These producers sold their standardized products in markets which were dominated by middlemen and in competition with many other sellers. Tedlow (1990:10) has described this period in the US economy as the “era of commodities”. Monopoly Markets The “cut-throat competition”, low profit margins and inherent instability of commodity markets made long-term business survival extremely difficult. Cruikshank (1987:64) illustrates this extreme difficulty by focusing on the food industry where of the 63 major firms in existence in the US in 1873 only one, HJ Heinz, was surviving in 1900. The two Clarks (1914:55) argued that the difficulty of business survival created an impetus for the consolidation of US business using Rockefeller’s Standard Oil Trust as a business model. Manns argues that the consolidation of the oil industry by Standard Oil was facilitated by massive overcapacity that led to a situation where (1998:14). “most if not all, refineries were losing money”. The last great consolidation was the setting up of US Steel, which became the world’s largest corporation, in 1901 through the merger of 10 steel companies. Bittlingmayer (1996:391) shows that the consolidation movement created a situation where most of the leading industries in the US were dominated by a handful of firms. The late 19th century in the US can be described as the “era of monopoly”. Brand Markets Clark (1914:7) and Chandler (1977:289) show that the power of the monopolies provoked a strong popular, political and legal reaction in the first decade of the 20th century. Bartels (1962:26) wrote that Roosevelt was elected on a tide of movement for economic, social and political reform of the evils which had grown out of advanced industrialization. Roosevelt, after reviving the Sherman Anti-Trust Act by taking legal action against Northern Securities in 1902, went on to take actions against 43 other major corporations before the end of his Presidency in 1909. The reaction against the Trusts forced American business to abandon monopoly as a favoured business model. This reaction, has been studied in detail, in the case of the National Biscuit Company, by Chandler (1977:335) and in the case of Kodak, by Tedlow (2001: 97). Chandler (1977:285) shows that these companies were forced to use a new business model that combined economies of scale in production with control of their distribution system. Branding was central to this new business model. A number of firms, including Heinz and Proctor & Gamble, had developed successful brands between 1870 and 1901 as shown by Koehn (1999) and Advertising Age (1975) but this business model only became high profile after 1901. A symbol of the new approach was the hiring by Lever Bros, one of the world’s great marketing organizations, of J Walter Thompson, in 1902, to advertise their Lifebuoy and Lux brands of soap in the US. Koop (2001: 7) observed this new approach, in its infancy, during his 1906/07 tour of the US and wrote that the producer ceases to be purely a manufacturer, and engages in the marketing of his products. Branding was so central to this new approach that we can describe the 20th century was “the era of Brands”. Summary Era 1 Commodity Markets became the dominant market type by the middle of the 19th century Era 2 Commodity Markets were replaced by Monopoly over the 1870 to 1900 period Era 3 The legal restrictions on Monopoly led to the growth of Branding and the birth of Marketing Three Prototype Markets These three Market Types appear to be prototype markets in that each represents the limit of a particular market in terms of the location and source of market power. We will therefore hypothesize that there are three prototype markets as follows, Commodity Type Monopoly Strong Brand In a Commodity Type market the market power is totally located in the market and in the balance of supply and demand so that the seller has no control over the market price. In a Strong Brand market the market power is totally located with the seller and is based on Brand Loyalty. In a Monopoly market the market power is totally located with the seller and is based on complete control of supply. Market Power Triangle We can locate the three “prototype markets” on a triangle which will call the market power triangle. We call this triangle the market power triangle because it allows us to represent the relationship between the different actual market types in terms of the market power of the seller. C = Commodity Type market SB = Strong Brand market M = Monopoly market Other actual market types such as Weak Brand markets and Oligopoly markets can be located on this triangle. C = Commodity market SB = Strong Brand market M = Monopoly market WB = Weak Brand market O = Oligopoly market A Weak Brand market has some of the characteristics of a Strong Brand market but also some of the characteristics of a Commodity market so it is located between the Strong Brand and Commodity markets. An Oligopoly market has some of the characteristics of a Monopoly and is located close to Monopoly Influences on Market Power Markets, from a business perspective, are arenas in which buyers and sellers negotiate the terms and conditions for exchanges of goods and services. Market power or bargaining power is fundamental to the outcome. Markets are discussed and analysed in a variety of academic disciplines including Economics, Industrial Organisation, Marketing, Business History and Economic Sociology. Unfortunately these disciplines often work in isolation from each other, looking at markets from different perspectives, using different conceptual frameworks and often harbouring strong prejudices against each other. These disciplines are poor at sharing concepts and insights. The relationship between Economics and Marketing is particularly interesting. At the start of the 20th century the theory of markets in Economics was quite different to what it became in the 1920s and 1930s. Machovec (1995:16) states that markets were seen as arenas where firms competed with each other in a variety of ways and that this “rivalrous competition” was seen as leading to improvements in living standards. The American economist John Bates Clark and his son J. M wrote (1914:25) that With the preservation of competition is bound up that general progress in things economic on which hang the hopes of every class of men. Many of the early teachers of Marketing, including Brown, Cherington, Copeland, Hagerty and Litman were graduates in Economics. Bartels (1962, Preface) has described how “early marketing economists began to hold professional meetings under the aegis of the American Economic Association”. These early teachers of Marketing used the theory of markets from Economics as the theoretical background for their “practical” discussion of markets. Litman (1950: 222) wrote that There was one guiding principle to which I strove to adhere. It was that business courses in colleges should deal with fundamentals rooted in the science of economics. The other major source from which the early marketing teachers drew was the actual practice of leading businessmen. The very significant efforts of Hagerty and Litman to learn best business practice are described in their Journal of Marketing articles (1936 and 1950). Converse (1951:16) and Bartels (1965:51) have argued that Marketing in this period was a kind of “Applied Economics”. Marketing textbooks evolved a standard approach that emphasized real world markets including commodity markets. Brown’s Marketing (1925), for example, has 15 chapters dealing with important real world markets, including 9 commodity markets. The “rivalrous competition” understanding of markets in Economics was replaced in the 1920s and 1930s by the theory of Perfect Competition. Perfect Competition theory served two distinct roles in Economics. In writing about Perfect Competition in 1957 George Stigler (1965:262) stated that We wish the definition to capture the essential general content of important markets, so that the predictions drawn from the theory will have wide empirical reliability. And we wish a concept with normative properties that will allow us to judge the efficiency of policies. Perfect Competition was therefore both a model for use in analysis and an ideal market to guide policy formulation. The role of the state in regulating markets has always been a central concern of Economics. Perfect Competition is the ideal market which market regulators, in advanced economies, use in assessing real world markets. Unfortunately for Marketing as a discipline, virtually every marketing activity, including product differentiation, branding and advertising, is incompatible with the pre-conditions for Perfect Competition. Machovec (1995) shows that Marketing, seen from the perspective of Perfect Competition, became a source of “Market Imperfections” and that a strong bias against Marketing, especially advertising and branding, developed in and became a feature of the standard Economics textbook. During the 1920s the practice and skills of marketing developed rapidly. Significant advances were made in many areas of marketing including Market Research, Sales Management and Branding. In the area of Market Research, for example, Bartels (1962:106) noted that the first book on the subject was published in 1919 and that ten more books on the subject were published during the 1920s. Marketing was starting to play a more important role in large enterprises. Business leaders such as Alfred P. Sloan of General Motors and Neil McElroy of P&G developed new thinking on the role of marketing (Sloan, 1965). Advertising Age (1975) describes how McElroy, in 1931, just six years after graduating from Harvard, proposed the Brand Management system within P&G. During the 1930s and 1940s the management of the marketing function in the larger corporations expanded rapidly and became more professional. The rapid growth of opportunities in marketing and marketing management inevitably increased the focus within marketing on the management of the function. Bartels (1965:178 described how a new “managerial approach to the study of marketing” started to emerge around 1940. This new managerial approach was designed to train practitioners for careers in marketing which were opening up as US business, as described by King (1965:76) adopted the “Marketing Concept”. The textbooks written for the new format usually contained almost no discussion of markets or market theory. One of the first books to reflect this change of focus was written by Alexander, Surface, Elder and Alderson in 1940. Most modern textbooks on Marketing devote only a small number of pages to market theory. An exception is Baker (1996:69) who in his textbook on Marketing devotes a full chapter to market theory but also confirms that this emphasis on market theory is not usual. Modern Marketing, in addition to avoiding markets, does not discuss market power. In most cases the term is not even used. In Armstrong and Kotler’s “Marketing” (2003) there are about 2,500 listings under the subject index but this index does not refer to market power. A non-exhaustive survey of leading marketing textbooks could not locate any reference to market power in the subject indexes. While mainstream economics was developing its theory of Perfect Competition a branch of economics focused on imperfect competition and this branch is called Industrial Organisation. The IO discipline started off in the 1930s and since then it has developed a sophisticated theoretical framework for the analysis of real world markets with solid empirical support. IO looks on markets from the perspective of the seller and focuses on the “market power” of the seller. Market power is measured by the ability of a firm to achieve superior profit margins. Cabral (2000:12) shows that the structure-conduct-performance (SCP) paradigm is central to Industrial Organisation. This paradigm, based on the work of Mason (1939) and Bain (1959), sees the performance of an industry being determined by the conduct of the firms in the industry and the conduct of the firms being determined by the structure of the industry. When Cabral uses the word “performance”, as above, he means market power and profit margins. Industrial Organisation, according to Cabral (2000:12) sees the structure of an industry as determined by three variables. The three variables that Cabral sees as determining industry structure are the number of sellers and the degree of differentiation (2000:12) and the history of the evolution of the industry (2000:247). The structure-conduct-performance paradigm has transferred into Business Strategy and is now an important concept in that discipline. Economic Sociology has developed as a discipline over the last 25 years. Economic Sociologists are critical of economic theory and some of their conclusions parallel those of Marketing. Granovetter in a ground-breaking article (1985:483) concluded that Classical and neoclassical economics operates with an atomized, undersocialized conception of human action. Fligstein has written (2001:7) that the criticism of market theory [in Economic Sociology] is so important that The elements that hold the field (the modern sociology of markets) together is its opposition to the neoclassical model of perfect competition. More recently Swedberg argued that (2003:133) In their attempt to develop further the theory of markets, economic sociologists should, in my opinion, take concrete markets as their point of departure-how these work in real life and what their consequences are for the economy as well as for the society at large. It is somewhat surprising that Swedberg’s work, which argues that Economic Sociologists should study concrete markets and which contains over 2k references, does not have a single reference to the Marketing discipline. It is also somewhat ironic that Economic Sociology, which appears to studiously ignore the discipline of Marketing, has reached the same conclusion as Marketing about the importance of relationships in determining market behaviour. It is also interesting to note that the conclusions of Economic Sociology and Marketing about the importance of social relationship in determining how markets work is consistent with Classical Economics. Adam Smith wrote in the Wealth of Nations, in reference to the division of labour that It is the necessary, though very slow and gradual consequence of a certain propensity in human nature which has in view no such extensive utility; the propensity to truck, barter and exchange one thing for another (1970:117). Business History, including the works of Chandler and Tedlow which deal with the emergence of the great corporations in the late 19th century US economy, gives important insights into markets and market power and some of these insights are used in the analysis below. The analysis below attempts to draw on these disciplines to understand the determinants of market power. Number of Sellers The number of competitors is a key determinant of the market power of the seller. This is shown by economic theory and is universally accepted. At one extreme is the situation where there is no competitor and as a monopolist the seller has the ability to control the market price. At the other extreme is the situation where there are a large number of competitors selling identical products and in this situation the seller has no ability to control price. The relationship between the number of sellers and market power has been studies in detail by Industrial Organisation. Cabral summarized the results as follows the more concentrated the industry is, the greater the market power” (2000: 160). The above discussion of the relationship between the number of sellers and the market power of an individual seller assumes that there is no collusion. In Europe in the middle ages, before the emergence of the free market, a key position was held by producer organizations. These producer organizations were called guilds and the guilds controlled key aspects of their industry in order to limit competition. Guilds were a central component of the economic and social life of Europe during this period. The history of the Hallamshire Guild of Cutlers by Binfield and Hey, for example, shows how in the middle ages the rules of the guild were enforced by the courts (1987). An interesting example of the impact of additional suppliers on the market price is given in a US Food and Drugs Administration study on the impact of generic competition on prices (US FDA website), published in April 2006. This study shows that where the number of generic competitors exceeds 20 that the price can be expected to fall by over 90% from the price of the patented product. Level of Product Differentiation Economics does not provide insights into the impact of Product Differentiation on market power. Economic analysis of markets usually starts off with an assumption that products are standardized. This is just one of the assumptions that underpin the theory of Perfect Competition which was developed as an ideal market to guide policy formulation as shown by George Stigler (1965). The impact of differentiation on market power however has been studied in Industrial organization. Cabral summarises the conclusions of IO as follows The greater the degree of product differentiation the greater the market power” (2000: 215) Product Differentiation as a means of gaining competitive advantage is a central idea of Marketing. Armstrong and Kotler, for example, write that to the extent that a company can position itself as providing superior value to selected target markets, it gains competitive advantage. - positioning begins with actually differentiating the company’s marketing offering” (2003: 261). Control of the Customer Relationship Economics has nothing to say about the importance of the Customer Relationship. Economic analysis, in its model building, traditionally assumed that such relationships have no bearing on purchase decisions and to the extent that they may impact on purchase decisions are “market distortions”. Industrial Organisation does not refer directly to the importance of the customer relationship but has concluded that there is a third variable, in addition to number of sellers and degree of Product Differentiation, that impacts on market power. Cabral calls this “The particular historical details of the evolution of an industry” (2000: 247). In discussing the importance of history, Cabral refers to the longevity of brands in the food market, including Heinz and Campbell. It is clear, from the context of the discussion, that when Cabral talks about the importance of history he includes the importance of the seller’s relationship with the customer through branding. A central concept in modern marketing is the importance of the customer relationship. Armstrong and Kotler (2003:12) write that Increasingly, marketing is shifting from trying to maximize the profit on each individual transaction to building mutually beneficial relationships with consumers and other parties. The importance of the customer relationship is so central to modern marketing that the need to control the relationship is assumed. There is no discussion of the situation where the seller does not control the customer relationship because in that situation the seller is not involved in “marketing”. The discussion of such situations is outside the domain of the modern discipline. However in the early years of marketing the issue of control of the customer relationship was of central importance. In the era of commodities customer relationships were controlled by middlemen. Koop has described in detail the operation of middlemen around 1907. Koop (2001:66) went on to note that the reliance on middlemen had the major disadvantage from the manufacturers point of view, that he remains in ignorance of the names of the customers to whom his goods are sold … and his hold on the market is far from strong. Marketing involved firms taking responsibility for the distribution of their products and this involved replacing the middlemen as far as possible. Koop (2001:7) described this process they wish to come into closer contact with the consumer and to do away with some of those persons who stand between them; in such cases they may be said to market their own products. Koop (2001:7) observed this new approach, in its infancy, during his 1906/07 tour of the US and wrote that the producer ceases to be purely a manufacturer, and engages in the marketing of his products. When the pioneering companies in the development of Marketing, such as Proctor and Gamble, were attempting to develop their brands they found it necessary to wrest control of the physical distribution of their brands from the middlemen. This struggle, which for P&G lasted from 1913 to 1923 in the US, is described in “The House that Ivory Built”. P&Gs struggle for control of the physical distribution of their brands is also described by Brown (1925: 474) in the following words, The decision of Proctor and Gamble to sell Ivory soap and Crisco almost entirely to retailers direct (effective July 1, 1920) has become the classical example in this connection. The company “literally discharged 30,000 jobbers’ salesmen who were friendly to 350,000 retail distributors.” The issue of control of the distribution system was of such importance in the 1920s that Brown devoted a full chapter to “Selling Direct to Retailers”. Fred Clark in his “Principles of Marketing”, published in 1927, had three chapters devoted to middlemen and one chapter, X1V, called “The elimination of Middlemen”. In that chapter Clark wrote that “There has developed a very definite elimination of middlemen in the marketing of manufactured products” (Clark: 271). Modern Marketing takes it so much for granted that a firm cannot build its relationship with the customer without control of its distribution system that we appear to have lost sight of its significance. Economic Sociology also stresses the importance of social relations in determining the functioning of markets. Fligstein wrote that (2001:7) economic sociology has demonstrated repeatedly that different aspects of the social relations between market actors are significant for the survival of those actors’ firms and the output and functioning of the market. The disciplines of Industrial Organisation, Marketing, Business History and Economic Sociology suggest that the market power of the seller is affected by a third variable in addition to number of sellers and degree of product differentiation. IO calls this third variable “historical evolution”. Marketing calls it “customer relationships” and Economic Sociology calls it “social relations”. Cabral in his discussion of the importance of historical evolution, in a market context, focuses on the establishment of strong brands. Since brands are central to developing customer relationships it is clear that Cabral is also convinced of the importance of customer relationships in determining the functioning of markets. Business history shows that in the early years of Marketing, the struggle to develop brands was closely linked to gaining control of the distribution system and the elimination of middlemen. Integrating the insight into the importance of controlling the distribution system from Business History with the understanding in Marketing and Economic Sociology of the importance of the Customer Relationship allows us to conclude that “control of the Customer Relationship” is a key variable in determining Market Power. We conclude from the above analysis that there are three key influences on Market Power and Market Type. These variables are the Number of Sellers the level of Product Differentiation the Control of the Customer Relationship The Market Power Triangle The analysis above suggests that actual Market Types can be located on a triangle and that there are three variables determining the Market Type. This suggests an analogy with colour as shown below. The colour triangle is used to represent the relationship between colours. The colour triangle shows how all of the visible colours can be got from mixing the three primary colours. Any colour of paint or light, based on mixing the primary colours, can have from 0 % to 100% of any one of the three primary colours. The total of the mix must, however, add up to 100%. Colour Triangle x, y, and z represent the three primary colours x, y and z each with a range of 0% to 100% x + y + z = 100% The colours got from mixing the three primary colours can be represented by a triangle in three dimensional space as above. Each of the vertices represents the pure form, or 100%, of one of the three primary colours. All other positions on the triangle represent a combination of the three colours. The centre of the triangle represents a 33.3% mixture of each of Red, Green and Blue giving White. A position on one of the sides of the triangle represents a mixture with 0% of the colour associated with the opposite vertex and the mixture made up of the two other primary colours. Because the colour triangle is based on mixing the primary colours, there are trade-offs between the primary colours as a combination with more of one colour must have less of the other colours. We will hypothesize that the relationship between the three variables determining Market Power is like the relationship between the three primary colours. This would give a triangle in three dimensions which we will call the Market Power Triangle. No = Number of Sellers CCR = Control of Customer Relationship Diff = Product differentiation The Market Power Triangle x, y, and z represent the three variables determining Market Power x, y and z each with a range of 0% to 100% x + y + z = 100% The three variables determining Market Power are defined in terms of their contribution to the Market Power of the seller. In terms of the Number of Sellers variable, one Seller is defined as 100% and a large number of Sellers is defined as 0%. In terms of the Product Differentiation variable, complete Differentiation is defined as 100% and complete Standardization is defined as 0%. In terms of the CCR variable, complete control by Middlemen is defined as 100% and complete control by the Seller is defined as 0%. One vertex of the Market Power Triangle represents the situation where there is only one Seller. The second vertex represents the situation where the product is completely Differentiated. The third vertex represents the situation where Middlemen completely control the Customer Relationship. The centre of the triangle represents an equal combination of the three variables, therefore some Product Differentiation, control of the Customer Relationship contested between Middlemen and Seller and a small number of competing Sellers. Each side of the triangle represents a situation which is the complete opposite of the situation represented by the vertex opposite, eg the side opposite the vertex representing complete Product Differentiation, represents complete Standardization. It is possible to define the three prototype markets in terms of these three variables as below. Prototype Market Definition Market Type Definition Commodity Type Middlemen control the Customer Relationship Large Number of Sellers No Product Differentiation Strong Brand Complete Product Differentiation Seller controls the Customer Relationship Large Number of Sellers Monopoly One Seller No Product Differentiation Seller controls the Customer Relationship We can assess the adequacy of the model by examining the adequacy of the definitions of Market Types. The Commodity Type definition certainly applies to all items traded on Commodity Exchanges and all items for which prices are given on the financial pages of quality newspapers. The definitions of Strong Brand and Monopoly also appear to have validity. Trade-offs The model implies that there are trade-offs between the three variables. It is difficult to assess a three way trade-off but easy to assess a two way trade-off. We can, for example, examine the trade-off between Product Differentiation and Control of the Customer Relationship. The model implies that in a market where Middlemen control the Customer Relationship that there will be a tendency towards Product Standardization. The commodity exchanges established in the US in the 1848 to 1870 period, including the Chicago Commodity Exchange, were key forces driving standardization in particular industries. The model also implies that where Product Standardization is easy it should make easier for Middlemen to control the Customer Relationship. Standardization is relatively easy in raw material markets and it is not surprising that in many of these that Middlemen control the customer relationship. The model also implies that in a market where the Seller controls the Customer Relationship that there will be a tendency towards Product Differentiation. George Day (1999; 10) concluded that the “market driven” organization has superior capabilities in market sensing – reading and understanding the market. It also excels in market relating – creating and maintaining relationships with customers. Finally, the market-driven organization has capabilities in strategic thinking that allow it to align its strategy to the market and help it anticipate market changes. The model also implies that in a market where Middlemen control the Customer Relationship that there will be many Sellers. It is likely that control by Middlemen of the Customer Relationship will lead to increased numbers of Sellers as market entry costs will be lower and it will be in the interest of the Middlemen to encourage market entry by new Sellers. It is also logical that a large number of Sellers will create opportunities for Middlemen so a correlation between the number of Sellers and the control of the Customer Relationship is to be expected. The value of the model The model can be used to integrate insights from Marketing, Economics, Industrial Organisation, Business History, Economic Sociology and Business Strategy Each of these disciplines has important insights into the operation of actual markets but differences in perspective, conceptual frameworks and the discipline history have limited the ability of the disciplines to share concepts and insights. The model may help to focus attention on an aspect of customer relationships which is largely ignored in Marketing. Marketing stresses the importance of customer relationships in a positive way but does not stress the negative aspects of the issue, which is what happens if a firm does not control its customer relationship. This analysis indicates that the failure of a firm to control its customer relationship will hand market power to middlemen. A hundred years ago wholesalers were a dominant category of middlemen who held market power in many industries. In our era if a firm fails to control its customer relationship by branding it may well be handing over market power to large retail chains. The model may allow Marketing to contribute more effectively to the discussion of strategic issues. Hunt (1994) has shown that leading thinkers have been pointing out the weaknesses of Marketing in the area of strategy since the 1980s. Day (1992:323) wrote in the early 1990s that while Marketers appear comfortable with the assertion that marketing should play the lead role in charting the strategic direction of a business that other business functions and academic disciplines don’t share this assumption and have been actively eroding the influence of marketing in the strategy dialogue. Day then goes on say that Within academic circles, the contribution of marketing, as an applied management discipline, to the development, testing and dissemination of strategic theories and concepts has been marginalized during the last decade. Business analysts, in the discussion of strategic issues, often use the market categories, identified by the model. This is especially true of financial commentary on the pharmaceutical industry. On Monday 26th July 2004, for example, the newswires reported that Mylan Industries and King Pharmaceuticals had agreed to merge. Both Dow Jones and Reuters, in reporting on the proposed merger, discussed the drug market in terms of patent protection, branding and generics. Dow Jones (Abboud and Berman 2004) described Mylan as a “generic drug-maker” and said that generic drug-makers were attempting to expand into the “highly profitable branded-drugs business” and in discussing the problem of off-patent drugs said “competition in this commodity business is intense, squeezing margins to razor-thin levels”. Some writers on strategy, such as Porter (1985), focus on strategies for competitive situations and therefore ignore the monopoly market. Two of Porters “generic strategies”, Cost Leadership and “Differentiation”, fit in very well with the market categories of the model. The model links in well with the structure-conduct-performance (SCP) paradigm of IO and Business Strategy. The SCP paradigm focuses on the importance of industry structure in determining performance in terms of profit margins. Industry structure, as defined in IO, and market type, as defined in this paper, are closely related concepts. Each of the concepts is defined in terms of three variables as below, Industry Structure Market Type Variable 1 Number of Buyers and Sellers Number of Sellers Variable 2 Degree of Product Differentiation Degree of Product Differentiation Variable 3 History of the Industry Control of Customer Relationships When we compare the three variables used to define Industry Structure and Market Type we see that they are very closely related concepts. Variable 1 for Industry Structure includes the number of Buyers and the number of Sellers whereas the comparable variable for Market Type does not include the number of Buyers. Ekelbund and Hebert (1999, 21) wrote that Historically industrial organization has followed closely the styles of general micro-economics, both in theory and practice Traditionally micro-economics in defining competitive markets included the number of buyers and sellers and IO has continued this practice. Including only the number of sellers, and therefore the number of competitors, in our definition makes the variable simpler. The weakness in the Market Type definition arises where there are very few buyers. Variable 2 is identical for both definitions. The definition of Variable 3 for Market Structure in IO is weak as IO with its emphasis on measurement has had difficulty with this definition. Indeed to Cabral “history of the industry” is not seen as an important variable as he also wrote (Cabral: 12) that, The aspects that characterize market structure: the number of buyers and sellers, the degree of product differentiation and so forth. Replacing industry structure with market type gives us a new version of the paradigm as follows, market type-conduct-performance. An example would be with a commodity type market. A Commodity Type market is characterized by price competition and price instability and this usually results in low profit margins and even periods when almost all producers lose money. This may well be an easier paradigm for both students and business persons to use since it is building on the market types with which they are familiar. To a large degree the Market Power Triangle model is just an adaptation of the first element of the structure-conduct-performance paradigm using the insights of Marketing, Business History and Economic Sociology and discarding “the styles of general micro-economics”. The model allows the integration of the study of Commodity Markets into Marketing. As shown above the discussion of Commodity Markets was a central area in early Marketing but has largely disappeared since the 1940s. From WW2 until recently the prices in real terms of most raw materials, usually traded in Commodity Markets, have been in long-term decline. The last few years have seen a reversal of this trend and it is no longer possible to largely ignore Commodity Markets. The model may also help to contribute towards a more satisfactory conceptual framework for Marketing and help to arrest the decline of the discipline. Michael Halbert wrote over 40 years ago (1965: xxv) that There is a great deal of data and knowledge already available about the operation of the marketing system; there is relatively little available to marketing theorists about the conceptual and formal requirements for organising and analyzing this knowledge" and "that adequate theory will present us with a much more coherent, understandable and useful picture of the entire marketing process. If this model is valid it will contribute to the development of a “much more coherent, understandable and useful picture of the entire marketing process”. Conclusion This paper offers a hypothesis about markets and a linked model of markets. The hypothesis, if valid, would provide a powerful tool for integrating insights into actual markets from a variety of disciplines. This would provide us with a far better understanding of actual markets. A hypothesis in scientific research is a suggested explanation where additional facts are being gathered to test the explanation. A hypothesis is provisionally accepted as valid if the facts are consistent with the hypothesis. The insights into actual markets, from a variety of disciplines, used in this paper are consistent with the hypothesis. These insights and their interpretation by the author, however, cannot be taken as random or sufficiently extensive to provide an adequate test of the hypothesis. The Market Power Triangle is therefore offered as a hypothesis about actual markets and any confirmation, development or refutation is invited. REFERENCES Abboud, L. and Berman D. K. (2004), Dow Jones Newswires, 07-26-04. Advertising Age, editors (1975), The House that Ivory built, Lincolnwood, Illinois: NTC Business Books. Alexander, R. S. Surface, F.M. Elder, R. F. and Alderson, W (1940), Marketing, Boston: Ginn. Armstrong, G and Kotler, P. 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