What Are Barriers to Entry

Topics: Barriers to entry, Economics, Market power Pages: 5 (1482 words) Published: April 4, 2011

Q. Using suitable examples define barriers to entry. Explain how barriers to entry affect our firm’s profits. Before a firm can compete in a market, it has to be able to enter it. Many markets have at least some impediments that make it more difficult for a firm to enter a market. A debate over how to define the term “barriers to entry” began decades ago, however, and it has yet to be won. Some scholars have argued, for example, that an obstacle is not an entry barrier if incumbent firms faced it when they entered the market. Others contend that an entry barrier is anything that hinders entry and has the effect of reducing or limiting competition. A number of other definitions have been proposed, but none of them has emerged as a clear favourite. Because the debate remains unsettled but the various definitions continue to be used as analytical tools, the possibility of confusion – and therefore of flawed competition policy – has lingered on for many years. The economist Joseph Stigler defined an entry barrier as "A cost of producing (at some or every rate of output) which must be borne by a firm which seeks to enter an industry but is not borne by firms already in the industry". Barriers to entry are obstacles on the way of potential new entrant to enter the market and compete with the incumbents. The difficulties of entering a market can shelter the incumbents against new entrants. Incumbents' profits are potentially higher than in a truly competitive market, at the expenses of their suppliers and buyers. The higher the barriers to entry, the more power in the hand of the incumbents. According to Ison &Wall (2007), barriers to entry are Impediments, either legal or natural, protecting firms from competition from potential entrants into a market. Giving the firm the legal protection to produce a patented product for a number of years can be a form of a barrier to entry. For example in Zimbabwe the telecommunications industry is a regulated industry. Post and telecommunications regulatory authority (POTRAZ) holds the sole patent for the supply of fixed telecommunication network. Government policy is a barrier to


entry in this business as it would involve repealing acts of parliament to allow new competitors. Developing consumer loyalty by establishing branded products can make successful entry into the market by new firms much more expensive. This is particularly important in markets such as cosmetics, confectionery and the motor car industry. Car making requires high upfront capital investment in manufacturing equipment; compliance with safety and emission rules and regulation, access to parts suppliers, development of a network of car dealerships, big marketing campaign to establish a new car brand with consumers. Willowvale Mazda Motor industries is the only remaining established car assembly plant in Zimbabwe owing to the high input costs which makes it prohibitive for new players to come and invest in new business in this industry. Heavy spending on research and development can act as a strong deterrent to potential entrants to an industry. Clearly much research and development spending goes on developing new products but there are also important spill-over effects which allow firms to improve their production processes and reduce unit costs. This makes the existing firms more competitive in the market and gives them a structural advantage over potential rival firms. Mining is one such industry where access to inputs is restricted through natural distribution and government licenses are required. Very specific/proprietary exploration knowledge and big investment in machinery impedes new players to venture into the industry. BHP for example, invested in ten years of geological feasibility studies in the Platinum mining which makes entry into such business capital intensive and prohibitive. Some industries have very high start-up costs or a high ratio of fixed to variable costs. Some of these costs might be...

References: Caves, R. E. and M. E. Porter 1977. From entry barriers to mobility barriers: Conjectural decisions and contrived deterrence to new competition. Quarterly Journal of Economics 91: 241-62. Ison, S. & Wall, S. 2007. Economics (4th Ed). Essex: Pearson Education Mueller, D. C. 1986. Profits in the Long Run. Cambridge, MA: Cambridge University Press. Oster, S. 1990. Modern Competitive Analysis. New York, NY: Oxford University Press. Porter, M. E. 1980. Competitive Strategy: Techniques for Analyzing Industries and Competitors. New York, NY: The Free Press.
Stigler, G. 1963. Capital and Rates of Return in Manufacturing Industries. Princeton, NJ: Princeton University Press. Waring, G. F. 1996. Industry differences in the persistence of firm-specific returns. American Economic Review 86: 12531265.
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