March 9, 2018

AGORA | The Amazon Problem

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It is hard to think of an aspect of our material lives that Amazon has not touched. Amazon has become such a ubiquitous and practically tangible presence despite being based entirely online. A brick-and-mortar store might tear down what has made Amazon so successful: its adaptability. Founder Jeff Bezos originally contemplated naming the firm “Relentless,” a name which hints, albeit somewhat sinisterly, at its tenacity, and its drive into untapped markets. First, Bezos wanted Amazon to be the world’s biggest bookstore. Now, the world’s biggest bookstore sells everything from clothing and jewelry to food and in-demand tech, not to mention its other guises as a music store and a video streaming service. No money-making stone has been left unturned.

The sheer scope of Amazon’s influence warrants attention, and perhaps even concern. The American market has seen enough monopolies come and go to appreciate the danger they can pose to its economic welfare. We should recognize a monopoly brewing when we see one. That said, how do we do that? What makes the case of Amazon so special, and how do we respond to it as it happens? Ethan Wu (CAS ‘21) and Christina Xu (CAS ‘18) hope to find out.

Ethan: A lot of readers might see Amazon as a useful service that gets them their textbooks and phone chargers in a timely fashion. But you’ve got to be careful not to confuse usefulness for benevolence. So let’s start by describing the lay of the land.

Despite being the fourth-largest public company, Amazon’s size is in many ways secondary. What’s much more important is the firm’s growth. Amazon’s stock price tripled between 2014 and 2017. The money it made — what Johnson school nerds might call “net operating cash flow” (see chart) — quadrupled between 2012 and 2016. The company passed into the top 10 list of biggest public companies in Q4 2015. Some analysts even think it could unseat Apple, the world’s largest company six years running.

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Christina: Amazon’s size and sway on the retail sector are unbelievable given that the company is but a year older than most of the senior class. The online retailer caused a stir in December as economists pointed towards the “Amazon effect” as a reason for persistently weak inflation: whereas the annual rate of inflation for services had remained above 2% for the past six years, consumer spending — which makes up more than two-thirds of the US GDP — was pushed down by rampant price competition amongst online retailers. Who else would lead the pack but Amazon, which wins 40 cents of each dollar spent online?

Ethan: There’s laundry list of reasons why Amazon has grown so quickly. One worth highlighting: its highly successful growth-over-profits business model. Amazon has sold its shareholders on the idea that the company doesn’t need to reap consistent profits, which get paid out to shareholders as dividends. Instead, Amazon reinvests the money it makes, letting it grow ever more quickly. As Amazon grows, it has more money to play with, allowing it to grow even faster. It’s a fortuitous cycle!

Christina: It’s also worth noting that Amazon’s most significant expenses, as is the case with many tech behemoths, were upfront investments; the cost of accommodating new customers for these firms is almost negligible. In such an environment, large companies that get an early lead can gain a large enough advantage to completely dominate their industries, raising the barrier to entry to unattainable levels for potential competitors and making survival difficult even for experienced rivals (RIP Ebay). As a result, Amazon has been able to acquire the data of millions of third-party sellers which depend on its platform. Having expanded relentlessly into new businesses, from groceries to small business lending, one might reasonably question if there is an industry Amazon can’t dominate.

Ethan: So Amazon is big, and it grows fast. It also moves markets. When Amazon announced plans in 2017 to enter the pharmaceutical industry, the stock prices of all major pharma retailers plunged. That episode repeated itself earlier this month when Amazon announced plans to launch an independent shipping service. The stock prices of shipping giants UPS and FedEx promptly dipped.

One issue here is that most of Amazon’s competitors can’t get away with its growth-over-profits strategy. Shareholders expect meaty dividends. Some, including myself, are concerned that Amazon has become too dominant, steamrolling all of the competition. That might be fine in the short run. But if you zoom out, there’s a real fear of Amazon becoming a monopolist. In that scenario, everyone loses.

Christina: Many antitrust experts posit that Amazon has yet to engage in the usual anticompetitive behavior that brings large companies into courts — rather than harming consumers, so far it’s slashed retail prices and made the online ordering process simpler. As a former head of the Justice Department’s antitrust division remarked, “I don’t lie awake at night worrying that there are so few creative people in this country that one company might turn out to be the best at everything.”

Perhaps one sticking point is Amazon’s prestige as an empire. As the pioneer behind Prime shipping, the creator of Alexa, the producer of award-winning television shows, and the owner of Whole Foods Market, how could this company do wrong? To any outside observer, there seems to be no direction for Amazon but upwards. To stunt the growth of a company that seems to roll out an ingenious new idea on a semiannual basis seems ridiculous. This past summer, US regulators performed only a perfunctory review of Amazon’s $14 billion acquisition of Whole Foods, raising the eyebrows of some vocal antitrust advocates.

Ethan: Count me as one of those advocates. I’ve argued in the past that Amazon must be broken up. It functions as a de facto commerce utility, but isn’t regulated like one. Even putting that aside, the company has too many tentacles in too many industries. Amazon Web Services is a huge player in cloud computing. As you mentioned, Amazon’s acquisition of Whole Foods gave it one of the top American grocers. It forces established brands like Nike to move to Amazon-first product distribution. Amazon is the axis around which most all other companies rotate.

One common reply is that Amazon isn’t actually hurting consumers. But the same could have been said about Rockefeller’s Standard Oil — before it started jacking up prices. The question is not whether Amazon is hurting consumers. It’s whether we, as capitalists, can tolerate one firm owning a monopoly.

To illustrate the point, Lina Khan, a legal scholar, has a clever juxtaposition. From a 2015 New York Times article, “Even as Amazon became one of the largest retailers in the country, it never seemed interested in charging enough to make a profit. Customers celebrated and the competition languished.” And from Ida Tarbell’s history of the Standard Oil company, “One of Mr. Rockefeller’s most impressive characteristics is patience.”

Christina: I agree that the “Amazon isn’t hurting consumers” argument is just a bit too surface level. But I would also say that the company’s impact on consumers is important to consider. While it is difficult to emerge from the tunnel vision of Amazon’s seeming benevolence towards consumers as a price slasher and convenience provider, one could argue that Amazon’s focus on pleasing consumers is a function of its stage as a company. Amazon currently operates at razor thin profit margins — an average of 0.74% over the past five years.

This may not always be the case, particularly if (or when) shareholders begin to demand higher returns. If Amazon gets to the point where it becomes a necessity to households, it may be able to more effectively wield its pricing power without losing customers. Quick minor example: this past January, Amazon raised their base Prime price by 18% from $10.99 to $12.99 per month. While I wasn’t able to find data on whether or not the price increase impacted subscription numbers, I would wager that most people didn’t notice (Amazon increased its annual subscription cost from $79 to $99 in 2014 and the Prime subscriber base continued its steady upward growth). Amazon’s centrality in the average American household (63% of American households have a Prime subscription) render its services fee inelastic to consumers. Moreover, the more effectively Amazon wipes out its smaller competitors, the fewer alternatives consumers will have to turn to if Amazon does up their prices.

Something must also be said about Amazon’s ability to promote certain brands and sponsored products. It’s easy to view Amazon as a neutral incentive-free online platform; Amazon is giving us the lower prices that other online sellers aren’t — Amazon is looking out for us! However, Amazon most certainly has incentive to boost the brands that pay advertising premiums, regardless of their quality. So I would be a little skeptical about the “Amazon can do no harm to consumers” mentality.

Ethan and Christina are tackling an issue so huge in its scope that they could spend a year poring through it and still only scratch the surface. That said, their insight can lead to some questions of our own, which, as responsible consumers in an economy that should be run on democratic ideas, we would do well to consider. Do we share Ethan and Christina’s skepticism towards Amazon’s intentions? Is direct recourse to antitrust measures the best step to take? Plenty remains to be said; the debate goes on.