In theories of
competition
Competition is a rivalry where two or more parties strive for a common goal which cannot be shared: where one's gain is the other's loss (an example of which is a zero-sum game). Competition can arise between entities such as organisms, indivi ...
in
economics
Economics () is the social science that studies the Production (economics), production, distribution (economics), distribution, and Consumption (economics), consumption of goods and services.
Economics focuses on the behaviour and intera ...
, a barrier to entry, or an economic barrier to entry, is a
fixed cost
In accounting and economics, 'fixed costs', also known as indirect costs or overhead costs, are business expenses that are not dependent on the level of goods or services produced by the business. They tend to be recurring, such as interest or r ...
that must be incurred by a new entrant, regardless of production or sales activities, into a
market
Market is a term used to describe concepts such as:
*Market (economics), system in which parties engage in transactions according to supply and demand
*Market economy
*Marketplace, a physical marketplace or public market
Geography
*Märket, an ...
that incumbents do not have or have not had to incur.
Because barriers to entry protect incumbent firms and restrict competition in a market, they can contribute to distortionary prices and are therefore most important when discussing
antitrust
Competition law is the field of law that promotes or seeks to maintain market competition by regulating anti-competitive conduct by companies. Competition law is implemented through public and private enforcement. It is also known as antitrust l ...
policy. Barriers to entry often cause or aid the existence of
monopolies
A monopoly (from Greek el, μόνος, mónos, single, alone, label=none and el, πωλεῖν, pōleîn, to sell, label=none), as described by Irving Fisher, is a market with the "absence of competition", creating a situation where a speci ...
and
oligopolies
An oligopoly (from Greek ὀλίγος, ''oligos'' "few" and πωλεῖν, ''polein'' "to sell") is a market structure in which a market or industry is dominated by a small number of large sellers or producers. Oligopolies often result from ...
, or give companies
market power
In economics, market power refers to the ability of a firm to influence the price at which it sells a product or service by manipulating either the supply or demand of the product or service to increase economic profit. In other words, market powe ...
.
Barriers of entry also have an importance in industries. First of all it is important to identify that some exist naturally, such as
brand loyalty
In marketing, brand loyalty describes a consumer's positive feelings towards a brand, and their dedication to purchasing the brand's products and/or services repeatedly, regardless of deficiencies, a competitor's actions, or changes in the envir ...
.
Governments can also create barriers to entry to meet consumer protection laws, protecting the public. In other cases it can also be due to inherent scarcity of public resources needed to enter a market.
Definitions
Various conflicting definitions of "barrier to entry" have been put forth since the 1950s. This has caused there to be no clear consensus on which definition should be used.
McAfee, Mialon, and Williams list seven common definitions in economic literature in chronological order including:
In 1956,
Joe S. Bain
Joe Staten Bain (4 July 1912, Spokane, Washington – 7 September 1991, Columbus, Ohio) was an American economist associated with the University of California, Berkeley. Bain was designated a American Economic Association#Distinguished Fellows, Di ...
used the definition "an advantage of established sellers in an industry over potential entrant sellers, which is reflected in the extent to which established sellers can persistently raise their prices above competitive levels without attracting new firms to enter the industry." McAfee et al. criticized this as being tautological by putting the "consequences of the definition into the definition itself."
In 1968,
George Stigler
George Joseph Stigler (; January 17, 1911 – December 1, 1991) was an American economist. He was the 1982 laureate in Nobel Memorial Prize in Economic Sciences and is considered a key leader of the Chicago school of economics.
Early life and ...
defined an entry barrier as "A cost of producing that must be borne by a firm which seeks to enter an industry but is not borne by firms already in the industry." McAfee et al. criticized the phrase "is not borne" as being confusing and incomplete by implying that only current costs need be considered.
In 1979,
Franklin M. Fisher
Franklin Marvin Fisher (December 13, 1934 – April 29, 2019) was an American economist. He taught economics at the Massachusetts Institute of Technology from 1960 to 2004.
Biography
Fisher attended Harvard University, where he was inducted into ...
gave the definition "anything that prevents entry when entry is socially beneficial." McAfee et al. criticized this along the same lines as Bain's definition.
In 1994, Dennis Carlton and Jeffrey Perloff gave the definition, "anything that prevents an entrepreneur from instantaneously creating a new firm in a market." Carlton and Perloff then dismiss their own definition as impractical and instead use their own definition of a "long-term barrier to entry" which is defined very closely to the definition in the introduction.
A primary barrier to entry is a cost that constitutes an economic barrier to entry on its own. An ancillary barrier to entry is a cost that does not constitute a barrier to entry by itself, but reinforces other barriers to entry if they are present.
An antitrust barrier to entry is "a cost that delays entry and thereby reduces social welfare relative to immediate but equally costly entry".
This contrasts with the concept of ''economic barrier to entry'' defined above, as it can delay entry into a market but does not result in any cost-advantage to incumbents in the market. All economic barriers to entry are antitrust barriers to entry, but the converse is not true.
Examples
Porters Barriers to Entry
An article produced on
Michael Porter
Michael Eugene Porter (born May 23, 1947) is an American academic known for his theories on economics, business strategy, and social causes. He is the Bishop William Lawrence University Professor at Harvard Business School, and he was one of t ...
in 2008 showed stated new entrants to an industry have the desire to gain market share, and often substantial resources. The seriousness of the threat of entry depends on the barriers present and on the reaction from existing competitors.
The following shows the 6 main sources of barriers to entry:
* Economies of scale
* Product differentiation
* Capital requirements
* Cost disadvantages independent of size
* Access to distribution channels
* Government policy
Furthermore, a potential new market entrants expectations about the reaction of the existing competitors within the industry will also be a contributing factor on their decision to enter the market. The company will likely have second thoughts if incumbents have previously lashed out at new entrants or if:
* Incumbents possess substantial resources to fight back, such as excess cash and unused borrowing power.
* Incumbents seem likely to cut prices because of a desire to keep market shares or because of industry wide excess capacity.
* Industry growth is slow, affecting its ability to absorb the new arrival, likely causing the financial performance of all parties to decline.
Primary Economic Barriers to entry
* Distributor agreements – Exclusive agreements with key distributors or
retailer
Retail is the sale of goods and services to consumers, in contrast to wholesaling, which is sale to business or institutional customers. A retailer purchases goods in large quantities from manufacturers, directly or through a wholesaler, and t ...
s can make it difficult for other manufacturers to enter an industry. This is a particular problem if, prior to entry, the other firms in the market use intensive distribution strategies in order to restrict the access of potential entrants to distributors.
In response, if access to existing distribution channels is too difficult, new entrants may create their own. For example, new low-cost airlines often encourage passengers to book online instead of through travel agents.
*
Intellectual property
Intellectual property (IP) is a category of property that includes intangible creations of the human intellect. There are many types of intellectual property, and some countries recognize more than others. The best-known types are patents, cop ...
– A potential entrant requires access to production technology as efficient as that of the combatant monopolist in order to freely enter a market.
Patent
A patent is a type of intellectual property that gives its owner the legal right to exclude others from making, using, or selling an invention for a limited period of time in exchange for publishing an enabling disclosure of the invention."A p ...
s, however, give a firm the legal right to stop other firms from producing a product for a given period of time, and so restrict entry. Patents are intended to encourage
invention
An invention is a unique or novel device, method, composition, idea or process. An invention may be an improvement upon a machine, product, or process for increasing efficiency or lowering cost. It may also be an entirely new concept. If an i ...
and
technological
Technology is the application of knowledge to reach practical goals in a specifiable and reproducible way. The word ''technology'' may also mean the product of such an endeavor. The use of technology is widely prevalent in medicine, science, ...
progress by guaranteeing proceeds as an incentive. Similarly,
trademark
A trademark (also written trade mark or trade-mark) is a type of intellectual property consisting of a recognizable sign, design, or expression that identifies products or services from a particular source and distinguishes them from others ...
s and
servicemark
A service mark or servicemark is a trademark used in the United States and several other countries to identify a service rather than a product.
When a service mark is federally registered, the standard registration symbol ® or "Reg U.S. ...
s may represent a kind of entry barrier for a particular product or service if the market is dominated by one or a few well-known names. Incumbent firms may have an exclusive right to use the brand name, making it expensive or impossible for new entrants to license rights to names.
*Capital requirements - Many industries require the investment of large financial resources to start a new business, which deters new entrants. For example, new airlines require millions of dollars for purchasing planes, staff training etc. In addition, new entrants often experience serious difficulties in raising funds for unrecoverable expenses, such as advertising and R&D. In the pharmaceutical industry, for instance, companies may invest heavily in research in order to develop Covid vaccines, then end up with disappointing results and lose all of their investment.
* Restrictive practices – Established policies may protect existing players and restrict entry. For instance, air transport agreements may make it difficult for new airlines to obtain
landing slot __NOTOC__
A landing slot, takeoff slot, or airport slot is a permission granted by the owner of an airport designated as Level 3 (Coordinated Airport), which allows the grantee to schedule a landing or departure at that airport during a specific t ...
s at some
airport
An airport is an aerodrome with extended facilities, mostly for commercial air transport. Airports usually consists of a landing area, which comprises an aerially accessible open space including at least one operationally active surface ...
s. Or Certificate of Need (CON) laws in some of US states may require medical service providers to file an application and prove community need before offering their services—a practice that has been found to benefit incumbents.
* Supplier agreements – Exclusive agreements with businesses that represent key links in the supply chain can make it difficult for other manufacturers to enter an industry, e.g. when suppliers offer significant discounts to certain buyers or offer their product exclusively.
* Customer
Switching barriers Switching costs or switching barriers are terms used in microeconomics, strategic management, and marketing. They may be defined as the disadvantages or expenses consumers feel they experience, along with the economic and psychological costs of swit ...
– At times, it may be difficult or expensive for customers to switch providers, especially if they have to retrain employees or modify internal information systems.
Indeed, switching costs are often intentionally made high in order to discourage customers from changing suppliers and adopting the technological innovations provided by others.
*
Tariffs
A tariff is a tax imposed by the government of a country or by a supranational union on imports or exports of goods. Besides being a source of revenue for the government, import duties can also be a form of regulation of foreign trade and polic ...
– Taxes on imports prevent foreign firms from entering into domestic markets.
* Taxes – Smaller companies typically fund expansions out of retained profits so high tax rates hinder their growth and ability to compete with existing firms. Larger firms may be better able to avoid high taxes through either loopholes written into law favoring large companies or by using their larger tax accounting staffs to better avoid paying the higher taxes.
*
Zoning
Zoning is a method of urban planning in which a municipality or other tier of government divides land into areas called zones, each of which has a set of regulations for new development that differs from other zones. Zones may be defined for a si ...
– Government allows certain economic activity in specified land areas but excludes others, allowing monopoly over the land needed.
Contentious examples
The following examples are sometimes cited as barriers to entry, but don't fit all the commonly cited definitions of a barrier to entry. Many of these fit the definition of antitrust barriers to entry or ancillary economic barriers to entry.
*
Economies of scale
In microeconomics, economies of scale are the cost advantages that enterprises obtain due to their scale of operation, and are typically measured by the amount of output produced per unit of time. A decrease in cost per unit of output enables ...
– Cost advantages raise the stakes in a market, which can deter and delay entrants into the market. Bulk buying offers buyers larger negotiating power to get the lowest price and they take advantage on that. This makes scale economies an antitrust barrier to entry, but they can also be ancillary.
The per-unit cost will be lower in scale economies due to the spread of fixed costs to larger volumes, technology efficiencies and better supplier terms, therefore new entrants join the industry either on a large scale or at a cost disadvantage.
Cost advantages can sometimes be quickly reversed by advances in technology. For example, the development of
personal computer
A personal computer (PC) is a multi-purpose microcomputer whose size, capabilities, and price make it feasible for individual use. Personal computers are intended to be operated directly by an end user, rather than by a computer expert or tec ...
s has allowed small companies to make use of
database
In computing, a database is an organized collection of data stored and accessed electronically. Small databases can be stored on a file system, while large databases are hosted on computer clusters or cloud storage. The design of databases sp ...
and
communication
Communication (from la, communicare, meaning "to share" or "to be in relation with") is usually defined as the transmission of information. The term may also refer to the message communicated through such transmissions or the field of inquir ...
s technology which was once extremely expensive and only available to large corporations.
*
Network effect
In economics, a network effect (also called network externality or demand-side economies of scale) is the phenomenon by which the value or utility a user derives from a good or service depends on the number of users of compatible products. Netw ...
/Demand-side benefits of scale – When a good or service has a value that increases on average for every additional customer, this exerts a similar antitrust and ancillary barrier to that of economies of scale.
Customers are more willing to buy crucial products from larger companies than newcomers. It increases the difficulty of entering the industry or reduces the initial profit margins for new entrants.
* Government regulations – Government regulations are rules having the force of law, prescribed by a superior or competent authority, relating to the actions of those under the authority's control. Licences, for example, may be required when entering a specific field, particularly in industries that are heavily protected by the government. As a result, the field is dominated by government-owned firms (e.g energy), or existing players are protected in the market (e.g Taxi service or TV). The regulations themselves may set the barriers for not letting others to enter a market, or requirements for licenses and permits may raise the level of investment required, creating an antitrust barrier to entry.
However, sometimes government regulations may make entry easier, such as AIR-21 which requires airports to make facilities available to access by all carriers.
*
Advertising
Advertising is the practice and techniques employed to bring attention to a product or service. Advertising aims to put a product or service in the spotlight in hopes of drawing it attention from consumers. It is typically used to promote a ...
– Incumbent firms can seek to make it difficult for new competitors by spending heavily on advertising that new firms would find more difficult to afford or unable to staff and or undertake. This is known as the market power theory of advertising.
[Moffatt, Mike. (2008) ]About.com
Dotdash Meredith (formerly About.com) is an American digital media company based in New York City. The company publishes online articles and videos about various subjects across categories including health, home, food, finance, tech, beauty, l ...
The Market Power Theory of Advertising
'' Economics Glossary – Terms Beginning with M. Accessed June 19, 2008. Here, established firms' use of advertising creates a consumer perceived difference in its brand from other brands to a degree that consumers see its brand as a slightly different product.
Since the brand is seen as a slightly different product, products from existing or potential competitors cannot be perfectly substituted in place of the established firm's brand.
This makes it hard for new competitors to gain consumer acceptance.
It reflected by brand promoting and the increase of customer loyalties.
* Capital –
Investments
Investment is the dedication of money to purchase of an asset to attain an increase in value over a period of time. Investment requires a sacrifice of some present asset, such as time, money, or effort.
In finance, the purpose of investing is ...
in equipment, building, and raw materials may represent ancillary barriers, particularly in the case of
sunk cost
In economics and business decision-making, a sunk cost (also known as retrospective cost) is a cost that has already been incurred and cannot be recovered. Sunk costs are contrasted with '' prospective costs'', which are future costs that may be ...
s,
which can increase the strength of barriers to entry. Sunk costs may also lead to monopoly profits, improper resource allocation and low efficiency.
For
capital-intensive
Capital intensity is the amount of fixed or real capital present in relation to other factors of production, especially labor. At the level of either a production process or the aggregate economy, it may be estimated by the capital to labor ratio, ...
industries, entrants will also need much more financial capital.
* Uncertainty – When a market actor has various options with overlapping possible profits, choosing any one of them has an opportunity cost. This cost might be reduced by waiting until conditions are clearer, which can result in an ancillary antitrust barrier.
* Incumbency advantages independent of scale – Incumbents often have advantages over newcomers, including proprietary technology, know-how, favorable access to raw materials, favorable geographic locations, established brand reputation and learning curve cost advantages. It is reflected by
learning curve effects
In industry, models of the learning or experience curve effect express the relationship between experience producing a good and the efficiency of that production, specifically, efficiency gains that follow investment in the effort. The effect has ...
and
economies of scale
In microeconomics, economies of scale are the cost advantages that enterprises obtain due to their scale of operation, and are typically measured by the amount of output produced per unit of time. A decrease in cost per unit of output enables ...
, and it is one of the most critical barriers to entry strategies.
*
Vertical integration
In microeconomics, management and international political economy, vertical integration is a term that describes the arrangement in which the supply chain of a company is integrated and owned by that company. Usually each member of the suppl ...
– Vertical integration, a firm's coverage of more than one level of production while pursuing practices which favor its own operations at each level, is often cited as an entry barrier as it requires a similar large-scale effort on the part of competitors.
*
Research and development
Research and development (R&D or R+D), known in Europe as research and technological development (RTD), is the set of innovative activities undertaken by corporations or governments in developing new services or products, and improving existi ...
– Some products, such as
microprocessors
A microprocessor is a computer processor where the data processing logic and control is included on a single integrated circuit, or a small number of integrated circuits. The microprocessor contains the arithmetic, logic, and control circu ...
, require a large upfront investment in technology which will deter potential entrants. The existing firms in the market may also use efficient investments in research and development to increase technological economies of scale, and boost industry development, which work against entrants who lack the funding and resources to enter the market.
However, critics also point out that entry barriers can reduce the efficiency of R&D because firms have no incentive to efficiently invest in innovation.
*
Customer loyalty
The loyalty business model is a business model used in strategic management in which company resources are employed so as to increase the loyalty of customers and other stakeholders in the expectation that corporate objectives will be met or sur ...
– Large incumbent firms may have existing customers loyal to established products. As a result, the presence of established strong brands within a market can be a barrier to entry.
* Control of
resources
Resource refers to all the materials available in our environment which are technologically accessible, economically feasible and culturally sustainable and help us to satisfy our needs and wants. Resources can broadly be classified upon their a ...
– If a single firm has control of a resource essential for a certain industry, then other firms may be unable to compete in the industry.
*
Inelastic demand
A good's price elasticity of demand (E_d, PED) is a measure of how sensitive the quantity demanded is to its price. When the price rises, quantity demanded falls for almost any good, but it falls more for some than for others. The price elastici ...
– One strategy to penetrate a market is to sell at a lower price than the incumbents. This, however, is ineffective with price-insensitive consumers.
*
Predatory pricing
Predatory pricing is a Pricing strategies, pricing strategy, using the method of undercutting on a larger scale, where a Article 102 of the Treaty on the Functioning of the European Union#Dominance, dominant firm in an industry will deliberately ...
– Predatory pricing is the practice of selling at a loss to make competition more difficult for new firms that cannot bear such losses as easily as a large dominant firm with large lines of credit or cash reserves. Illegal in most places, predatory pricing, however, is difficult to prove. ''See
antitrust
Competition law is the field of law that promotes or seeks to maintain market competition by regulating anti-competitive conduct by companies. Competition law is implemented through public and private enforcement. It is also known as antitrust l ...
.'' In the context of international trade, such practices are often called
dumping.
*
Occupational licensing
Occupational licensing, also called occupational licensure, is a form of government regulation requiring a license to pursue a particular profession or vocation for compensation. It is related to occupational closure.
Professions that can have a ...
– Examples include
educational
Education is a purposeful activity directed at achieving certain aims, such as transmitting knowledge or fostering skills and character traits. These aims may include the development of understanding, rationality, kindness, and honesty. Vari ...
,
licensing
A license (or licence) is an official permission or permit to do, use, or own something (as well as the document of that permission or permit).
A license is granted by a party (licensor) to another party (licensee) as an element of an agreeme ...
, and
quota
Quota may refer to:
Economics
* Import quota, a trade restriction on the quantity of goods imported into a country
* Market Sharing Quota, an economic system used in Canadian agriculture
* Milk quota, a quota on milk production in Europe
* Indi ...
limits on the number of people who can enter a certain profession.
*
Product differentiation
In economics and marketing, product differentiation (or simply differentiation) is the process of distinguishing a product or service from others to make it more attractive to a particular target market. This involves differentiating it from com ...
of incumbents - Incumbent firms show advantages in
advertising
Advertising is the practice and techniques employed to bring attention to a product or service. Advertising aims to put a product or service in the spotlight in hopes of drawing it attention from consumers. It is typically used to promote a ...
,
brands
A brand is a name, term, design, symbol or any other feature that distinguishes one seller's good or service from those of other sellers. Brands are used in business, marketing, and advertising for recognition and, importantly, to create an ...
, customer loyalties or product differentiation which can enable them to be first in the market.
* Number of competitors - During a period when the number of companies is increasing, the possibility of market entry is higher, Conversely, the likelihood of market entry is less during a period defined by a large number of business failures.
*
Price
A price is the (usually not negative) quantity of payment or compensation given by one party to another in return for goods or services. In some situations, the price of production has a different name. If the product is a "good" in the c ...
- Intensive
price competition
A price is the (usually not negative) quantity of payment or compensation given by one party to another in return for goods or services. In some situations, the price of production has a different name. If the product is a "good" in the c ...
can hinder entrants, who may be unable to set their prices as low as incumbents. As a result, industries with high barriers to entry often contain a monopoly or oligopoly with dominant power in terms of price. This dominance allows them to charge a higher price or, if other firms join the market, to use their market power and cash flow to lower prices, beating out the new competition.
* Technology and technological change - Technological change, often seen in high technology sectors, can have a tremendous impact on economies of scale.
* Market concentration - Market concentration, though it usually has only a minor effect, can still work against new entrants.
*
Seller concentration
In economics, market concentration is a function of the number of firms and their respective shares of the total production (alternatively, total capacity or total reserves) in a market. In any industry, a handful of firms that hold a significan ...
- Seller concentration can have a major effect on new entrants, making it difficult for them to enter the market, contributing further to seller concentration.
* Divisionalization - Typically in highly profitable
oligopolistic industries, it is cheaper for an incumbent to establish a new department than it would be for new entrants.
* Selling expenses - A change in demand function may be endogenous to market entry due to sales efforts.
* Incumbent's expected reaction to market entry - If incumbent firms expect new entrants to represent a threat, and are capable of preventing market entry, they may take action to prevent new entrants from competing.
* Possession of
strategic raw materials - An ability to access strategic raw materials provides advantages for the accessing companies, such as an absolute cost advantage.
Classification and examples
Michael Porter
Michael Eugene Porter (born May 23, 1947) is an American academic known for his theories on economics, business strategy, and social causes. He is the Bishop William Lawrence University Professor at Harvard Business School, and he was one of t ...
classifies the markets into four general cases :
*High barrier to entry and high
exit barrier (for example,
telecommunications
Telecommunication is the transmission of information by various types of technologies over wire, radio, optical, or other electromagnetic systems. It has its origin in the desire of humans for communication over a distance greater than that fe ...
,
energy
In physics, energy (from Ancient Greek: ἐνέργεια, ''enérgeia'', “activity”) is the quantitative property that is transferred to a body or to a physical system, recognizable in the performance of work and in the form of heat a ...
)
*High barrier to entry and low exit barrier (for example,
consulting
A consultant (from la, consultare "to deliberate") is a professional (also known as ''expert'', ''specialist'', see variations of meaning below) who provides advice and other purposeful activities in an area of specialization.
Consulting servic ...
,
education
Education is a purposeful activity directed at achieving certain aims, such as transmitting knowledge or fostering skills and character traits. These aims may include the development of understanding, rationality, kindness, and honesty. Va ...
)
*Low barrier to entry and high exit barrier (for example,
hotel
A hotel is an establishment that provides paid lodging on a short-term basis. Facilities provided inside a hotel room may range from a modest-quality mattress in a small room to large suites with bigger, higher-quality beds, a dresser, a ref ...
s,
ironworks
An ironworks or iron works is an industrial plant where iron is smelted and where heavy iron and steel products are made. The term is both singular and plural, i.e. the singular of ''ironworks'' is ''ironworks''.
Ironworks succeeded bloomeri ...
)
*Low barrier to entry and low exit barrier (for example,
retail
Retail is the sale of goods and services to consumers, in contrast to wholesaling, which is sale to business or institutional customers. A retailer purchases goods in large quantities from manufacturers, directly or through a wholesaler, and t ...
,
electronic commerce
E-commerce (electronic commerce) is the activity of electronically buying or selling of products on online services or over the Internet. E-commerce draws on technologies such as mobile commerce, electronic funds transfer, supply chain manageme ...
)
These markets combine the attributes:
*Markets with high entry barriers have few players and thus high
profit margin
Profit margin is a measure of profitability. It is calculated by finding the profit as a percentage of the revenue.
\text = =
There are 3 types of profit margins: gross profit margin, operating profit margin and net profit margin.
* Gross Prof ...
s.
*Markets with low entry barriers have many players and thus low profit margins.
*Markets with high exit barriers are unstable and not self-regulated, so the profit margins fluctuate very much over time.
*Markets with a low exit barrier are stable and self-regulated, so the profit margins do not fluctuate much over time.
The higher the barriers to entry and exit, the more prone a market tends to be a
natural monopoly
A natural monopoly is a monopoly in an industry in which high infrastructural costs and other barriers to entry relative to the size of the market give the largest supplier in an industry, often the first supplier in a market, an overwhelming adv ...
. The reverse is also true. The lower the barriers, the more likely the market will become
perfect competition
In economics, specifically general equilibrium theory, a perfect market, also known as an atomistic market, is defined by several idealizing conditions, collectively called perfect competition, or atomistic competition. In Economic model, theoret ...
.
Market structure
A structural barrier to entry is a cost incurred by new entrants to a market that is caused by inherent industry conditions, such as upfront capital investment, economies of scale and network effects.
For example, the cost to develop a factory and obtain the initial capital required for manufacturing can be seen as a structural barrier to entry.
A strategic barrier to entry is a cost incurred by new entrants that is artificially created or enhanced by existing firms.
This could take the form of exclusive contracts, whether supply or demand-side, or through price manipulation in non-competitive markets.
A market with
perfect competition
In economics, specifically general equilibrium theory, a perfect market, also known as an atomistic market, is defined by several idealizing conditions, collectively called perfect competition, or atomistic competition. In Economic model, theoret ...
features zero barriers to entry.
Under perfect competition firms are unable to control prices, and produce similar or identical goods.
This means that firms cannot operate strategic barriers to entry.
Perfect competition implies no
economies of scale
In microeconomics, economies of scale are the cost advantages that enterprises obtain due to their scale of operation, and are typically measured by the amount of output produced per unit of time. A decrease in cost per unit of output enables ...
;
this means that structural barriers to entry are also not possible under perfect competition.
Monopolistic competition
Monopolistic competition is a type of imperfect competition such that there are many producers competing against each other, but selling products that are differentiated from one another (e.g. by branding or quality) and hence are not perfect ...
can allow for medium barriers to entry. Because the enterprises can earn their short-term revenue through innovation and marketing new products to push the price higher than average costs and marginal costs, barriers to entry can be made higher. However, due to the low cost of the information in monopolistic competition, the barrier of entry is lower than in oligopolies or monopolies as new entrants come.
An
Oligopoly
An oligopoly (from Greek ὀλίγος, ''oligos'' "few" and πωλεῖν, ''polein'' "to sell") is a market structure in which a market or industry is dominated by a small number of large sellers or producers. Oligopolies often result from ...
will typically see high barriers to entry, due to the size of the existing enterprises and the competitive advantages gained from that size. These competitive advantages could arise from economies of scale, but are also commonly associated with the excess capacity of capital held by incumbent firms,
which allows them to engage in temporarily loss-inducing behaviour to force any potential competitor out of the market.
The distinguishing characteristic of a
duopoly
A duopoly (from Greek δύο, ''duo'' "two" and πωλεῖν, ''polein'' "to sell") is a type of oligopoly where two firms have dominant or exclusive control over a market. It is the most commonly studied form of oligopoly due to its simplicit ...
is a market featuring solely two firms. Competition in a duopoly can vary due to what is being set in the market: price or quantity (see
Cournot competition Cournot competition is an economic model used to describe an industry structure in which companies compete on the amount of output they will produce, which they decide on independently of each other and at the same time. It is named after Antoine Au ...
and
Bertrand competition Bertrand competition is a model of competition used in economics, named after Joseph Louis François Bertrand (1822–1900). It describes interactions among firms (sellers) that set prices and their customers (buyers) that choose quantities at the p ...
). It is generally agreed that a duopoly will feature higher barriers to entry than an oligopoly, as firms within a duopoly have a greater potential for absolute advantage with respect to demand.
A market with a
monopolistic
A monopoly (from Greek el, μόνος, mónos, single, alone, label=none and el, πωλεῖν, pōleîn, to sell, label=none), as described by Irving Fisher, is a market with the "absence of competition", creating a situation where a spec ...
firm will often have very high to absolute barriers to entry. The incumbent firm can obtain tremendous profits through a pure monopoly market, therefore there are very large incentives for the creation of strategic barriers, as they want to continue to earn excess profits in the short and long term.
These barriers can take several forms, including cost advantage,
advertising
Advertising is the practice and techniques employed to bring attention to a product or service. Advertising aims to put a product or service in the spotlight in hopes of drawing it attention from consumers. It is typically used to promote a ...
, and strategic reaction in the form of temporary deviation from equilibrium behaviour.
See also
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Anti-competitive practices
Anti-competitive practices are business or government practices that prevent or reduce competition in a market. Antitrust laws differ among state and federal laws to ensure businesses do not engage in competitive practices that harm other, usuall ...
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Exclusive dealing
In Economics and Law, exclusive dealing arises when a supplier entails the buyer by placing limitations on the rights of the buyer to choose what, who and where they deal. This is against the law in most countries which include the USA, Austra ...
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Starting a Business Index
The Starting a Business Index is a sub-index of the World Bank Ease of Doing Business Index.
Authors of the methodology
This methodology was developed by Simeon Djankov, Rafael La Porta, Florencio Lopez-De-Silanes and Andrei Shleifer in a paper ...
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Strategic entry deterrence In the theories of competition in economics, strategic entry deterrence is when an existing firm within a market acts in a manner to discourage the entry of new potential firms to the market. These actions create greater barriers to entry for firms ...
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Zero-profit condition
In economic competition theory, the zero-profit condition is the condition that occurs when an industry or type of business has an extremely low (near-zero) cost of entry to or exit from the industry. In this situation, some firms not already in ...
References
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Anti-competitive practices
Imperfect competition
Monopoly (economics)