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'C' is for competition - The ABC of Economic Literacy

To understand competition, you should visit a tropical rainforest. To most visitors, rainforests, with their impressive fauna and flora, may look like places of abundance. The truth is quite different: the quality of the soil is often poor, and hardly any sunlight reaches the floor – scarcely the best conditions for opulent vegetation.

The reason why rainforests are nevertheless impressive ecosystems is the competition that they promote. The trees only grow so tall because they are competing for precious sunshine. Thousands of highly specialised plants, birds and insects compete for nutrients. The result is a thriving place of biodiversity.

In many ways, markets are just like rainforests. They bring together scarce resources and virtually unlimited wants. It is through competition between these different wants, and competition between different ways of satisfying them, that markets create prosperity out of scarcity.

In economic thinking, competition has two main functions. First, it spurs companies to try harder and be better than their rivals. They do so, of course, in order to make a bigger profit for themselves. As a most welcome by-product for society, products get better, new ones get invented and prices fall thanks to competition for the customers’ business.

The second function of competition is its disciplining effect. In a competitive world, you can never be too sure of your position. If a rival has a better idea or a better product, your days as a market leader are numbered. Competition is the best antidote to complacency, arrogance and laziness.

Competition is always both a discovery procedure and a tool of disempowerment. Both these functions are crucial for a market economy – but not only there.

Competition is equally desirable in many other places. Where cities compete for residents and their taxes, people will get better public services. Where teachers compete for promotion based on performance, their students will get a better education.

Unfortunately, many economists have trouble distinguishing between the results of competition and competition itself. However, the distinction should be quite easy: competition is always the rivalrous behaviour of competitors, not the number of competitors nor the prices they charge.

To promote competition, the most important things regulators can do is to just let it evolve. Competition does not need encouragement, nor does it need to be mandated. It is just what happens naturally when scarce resources meet unlimited demands. Rainforests do not need gardeners, either.

Loosely coinciding with this year’s election campaign, the New Zealand Initiative's Insight series is campaigning for economic literacy from A to Z. Coming up next week: ‘D’ for Debt.

Comments and questions
2

A fire destroys a rain forest. Corrupt market practices are seen as fraudulent in USA and are the fire. In NZ fraudulent market practices are alive and well in the deregulated market place where self-regulation is seen as the window dressing to keep consumers in the belief its all OK.

I think the "fire" metaphor may have been wrongly applied. It might be more apt to liken tree blights, pest and virus to corruption and the fire as the cleansing agent that will burn down wilted trees to regenerate the forest and to restore the order of things. Australian bush fires are likewise cleaning the environment for regeneration for millennia, financial crises are part of the natural order of economic progress and evolution.