Rising Costs, Oligoploies, and Promotional Marketing

A few things have been bothering me lately about the relationship between marketing budgets and hard-to-enter markets, and I finally figured out the source of my frustrations.

First, let me say, I am not an economist. In fact I have no education in the field beyond my 101 course in college, so I am sure my terms and assumptions are rather half-baked.

The premise is this. The price of goods inflates when a market that lacks competition spends large amounts of money on promotional marketing. Companies that have little competition will decrease their focus on reducing their unit costs or increasing their offering through innovation and increase their focus on effectively promoting their offering. In fact companies can establish oligopolies by increasing promotional marketing spending to the point that they substantially reduce the cost to acquire a new customer. At this point, the barrier to entry for a new competitor increases substantially.

Of course this is very natural when new industry is emerging or when innovation in an industry increases the competitive offering of one company over the others in the industry. More alarming, though, is when this phenomenon occurs without major innovation in existing and well established industries.

As gas companies de-regulated many markets saw the emergence of gas marketing oligopolies where no real competition was introduced surrounding the product transmission or distribution, but rather with the administrative and marketing segments of the industry scrambling to scale quickly enough to reduce customer acquisition costs to the point that an oligopoly was formed. Without control over innovation in the product or distribution mechanisms, these firms sole business became acquiring customers via massive promotional marketing efforts.

Marketing contributes more to the cost of pharmaceuticals than does research. When a drug hits the market it usually has between five to twelve years to make money before its patent expires and the drug can be made as a generic. During this period, the drug company often has a micro-monopoly in the form of its patent. The most effective way to recover the drug costs is to reduce the cost of acquiring new customers as much as possible by pursuing as aggressive marketing campaign as possible.

Whether the barrier to entry be excessive capital requirements, network externalities, patent, or other government regulation, it is interesting to observe the correlation between rising costs, promotional marketing, and lack of competition in an industry.