AGENDA 2025: Less competition for more sustainability?

AGENDA 2025: Less competition for more sustainability?

This article is part of the D’Kart Spotlights: AGENDA 2025, in which experts from academia and practice comment on aspects of the Competition Policy Agenda presented by the Federal Ministry of Economic Affairs and Climate Action (BMWK). The contributions already published can be found here.

In our spotlight series about AGENDA 2025, several authors have expressed their views about competition and sustainability. Felix Rhiel and Frank Schlütter do the same, but with a focus on risks associated with industry cooperation.

“what we need now is a green revolution”

“all of us – including competition enforcers – also need to make sure that we’re doing what we can to help.”

Margrethe Vestager

Time is short in our need to combat the climate crisis and manage global resources more sustainably. To achieve the climate-neutral transformation of the economy, we need extensive course-setting measures in all areas of politics and society. Sustainability is therefore also a central component of the BMWK’s Agenda 2025 for competition policy. In particular, instruments of regulatory policy (“Ordnungspolitik”) should be instrumental in ensuring the transformation to an “ecological-social market economy.” Various proposals have already been developed in this context at the EU level as well, as can be seen in the new draft horizontal guidelines recently published by the EU Commission.

The debate on competition and sustainability currently focuses primarily on whether and under what circumstances companies can be allowed to cooperate in order to promote sustainability initiatives. Antitrust law may well face a difficult trade-off here. The goal is to prevent competition law requirements from acting as an impediment to more sustainable economic processes. At the same time, however, there is the concern that taking into account sustainability aspects can lead to the “greenwashing” of cartels.

In this post, we would like to shed light on the relationship between competition and sustainability and argue that, in our view, it is more competition, not less, that would in many cases help to achieve sustainability goals.

Why do we need competition policy for sustainability?

At first, it may seem surprising that there is a focus on competition policy in the sustainability debate. From an economic perspective, the ecological challenges can largely be conceptualized as problems of externalities and the provision of public goods. It is clear, however, that by no means can all the external effects be attributed to those who caused them. Considering, for instance, the pricing of greenhouse gases, according to the Federal Environment Agency, the emission of one ton of CO2 would have to cost between €200 and €700 to reflect the social costs of the emission. The German CO2 tax, however, currently amounts to only €30 per ton of CO2. Yet, the pricing of greenhouse gases is probably the most developed instrument of its kind. Other pressing ecological problems, such as pollution and the consumption of natural resources are not priced or regulated to nearly the same degree. Therefore, other policies and accompanying measures will also be explored to achieve the necessary level of ecological change.

Can competition slow down the ecological transformation?

There is concern that stronger competition will prevent or at least slow down the sustainable behavior of companies. For example, a company risks falling behind its competitors if it offers more sustainable but more expensive products. In this case, a company is subject to the so- called “first-mover disadvantage.” Such a disadvantage can also arise if the introduction of more sustainable products leads to a change in social norms and thus to an increased appreciation of these products. Relative to the “first-mover”, a “second-mover” benefits in this case from an already increased willingness-to-pay for sustainable products (Inderst, Rhiel, and Thomas 2021). Thus, even if companies want to produce more sustainably, competitive pressure may disable their ability to do so. Therefore, to solve this supply-side coordination problem, there is debate over corporate cooperation to allow some sustainability accord.

Moreover, it is argued that competitive markets are responsible for an erosion of moral values and thus also for less sustainable behavior. In line with the excuse “If I don’t do it, someone else will,” it is feared that competition crowds out social preferences. According to this view, competition may, thus, not only stifle any supply-side sustainability initiatives, but might also push companies to behave less sustainably.

Consumers’ and companies’ appreciation of sustainability

These concerns are taken into account in a recent research paper by Mathias Dewatripont and Nobel Laureate Jean Tirole entitled “The Morality of Markets”. The authors analyze moral decisions by companies in a very broad sense. Their findings can also, however, be well applied to the question of how sustainability and competition are related. One of the surprising results is that in many cases competition has no influence on a company’s moral decisions. In particular, when companies can flexibly adjust their prices, only consumer preferences and a company’s social aspirations determine how moral and sustainable production is. In this context, the strength or weakness of inter-firm competition is of no consequence for the degree of sustainability.

In addition, the article also addresses the case where firms cannot set their prices flexibly. Important examples of this are price-regulated and also digital markets in which many services are offered at zero prices. Accordingly, in the case of inflexible prices, there is a correlation between the intensity of competition and sustainability, since companies can no longer compete with each other on the price dimension. In particular, if more sustainable products increase demand, stronger competition leads to more sustainability in the market.

A well-known example from antitrust practice, the so-called “Chicken for Tomorrow” case from the Netherlands, also fits these findings. In 2013, Dutch producers and sellers of chicken meat wanted to enter a sustainability agreement to raise the minimum animal welfare standard for chicken meat sold in the Netherlands by 2020. The Dutch Competition Authority (ACM), however, prohibited this agreement in a highly publicized decision. The authority had concluded that the environmental benefits did not outweigh the disadvantages of restricting competition.

In a subsequent study in 2020, the ACM clearly points out the following: First, preserving competition in this case probably did not stall the development toward a more sustainable supply of chicken meat. Despite not allowing the agreement, animal welfare standards for chicken meat have risen significantly in recent years. According to ACM’s 2020 study, the goals envisioned by the Chicken for Tomorrow initiative have even been far exceeded. Second, the increase in the animal welfare standard is in part attributed to company efforts, but primarily to a shift in consumer preferences for sustainability. Market-wide animal welfare labels, which allow consumers to more easily identify chicken that meets high animal welfare standards, have probably played a large role in this shift.

Are companies entering ambitious agreements?

This case raises doubt over whether companies resolutely commit to ambitious sustainability goals or if they at least have difficulties anticipating the potential improvements. For example, Schinkel and Treuren (2021) warn that companies have incentives to impose maximum price increases for minimal sustainability commitments. Therefore, it is also highly questionable whether weakening competition is an effective means of achieving the desired transformation toward greater sustainability. The doubts over the corporate motivation for ambitious sustainability targets are also justified by other examples of existing and approved agreements. Only last year the European Commission, for instance, imposed fines of almost €1 billion on German carmakers because they had agreed not to offer exhaust gas purification technologies that went beyond the legally required level.

Preventing abuse of power

Another fundamental advantage of competition, which is deeply rooted in the tradition of Ordnungspolitik, is that it limits market power and protects the demand side by preventing concentrations of power. Without competition, firms gain power that they could potentially use to influence the political process in their favor in a variety of ways – for example, to weaken environmental regulations (Showalter 2021). Indeed, there are examples where companies with a high dependence on fossil resources have used their political power to delay climate action. Strong antitrust enforcement can therefore be an important cornerstone of comprehensive and effective climate and environmental protection policies.

Where do the big innovations come from?

It is clear that the environmental challenges are massive. If we want to maintain our standard of living and prevent a collapse of the ecosystem, huge innovations are needed. The question therefore also arises as to the conditions under which market players are most likely to deliver these green innovations. So far, we have argued that weakening competition among firms is unlikely to produce the desired results. In line with this assessment, recent research has also shown that green innovations are positively related to sustainability preferences and that this relationship is stronger in industries with high levels of competition (Aghion et al. forthcoming).

Moreover, such exemptions in competition law can only address existing firms. There is a risk that new companies entering the market will face a disadvantage, for example, if cooperation involves an exchange of information or the standardization of products or production processes. There are, however, strong path dependencies in activities concerning innovation: Companies that invested in dirty products in the past are more likely to do so in the future (Aghion et al. 2016). Therefore, in line with Schumpeter’s “Creative Destruction” hypothesis, young companies, in particular, have the potential to trigger disruptive change. While existing companies always have to weigh up between cannibalizing existing products and introducing new ones, this trade-off does not exist for new companies entering the market. They can focus more fully on bringing a new innovative, and possibly disruptive, product to the market.

Moreover, the market entry of new companies can have a positive impact on the innovation activity of existing companies. Aghion et al. (2009), for example, argue that market entry, at least in technologically advanced industries, boosts the innovative activity of existing firms because it increases the incentive to remain competitive. One example that certainly underscores this dynamic is Tesla’s entry into the automotive market. Competition with Tesla has probably provided a greater impetus for innovation among existing carmakers than many sustainability agreements ever could. When considering changes to competition law, it is therefore very important to ensure that approving agreements between established companies does not result in making it more difficult for new competitors to enter the market.

Competition and sustainability are often positively related

We have argued that competition and sustainability are generally not opposed to each other. On the contrary, competition is often actually conducive to sustainable economic activity. The transformation to an ecological-social market economy sought by policymakers should therefore not aim to restrict competition, but rather – in line with the principles of Ordnungspolitik – to ensure consistent compliance with the competitive framework. At the same time, we recognize that in some cases there may indeed be tension between more competition and more sustainability. This is particularly the case when there is evidence of a first-mover disadvantage preventing sustainable business decisions. In this case, in our view, a precise weighing of the advantages and disadvantages of sustainability agreements is necessary.

We have outlined some critical aspects of such agreements here. For example, past antitrust examples raise doubts about both the necessity of sustainability agreements and the credibility of corporate motives. Moreover, an approved cooperation requires constant monitoring by the regulatory authorities. Here, too, experience in antitrust law shows that the possibility to cooperate in certain aspects may lead to companies entering into illegitimate agreements, which can have significant consequences for the welfare of society as a whole.

Of course, it does not follow from these considerations that companies alone will manage the transformation toward greater sustainability in competition. True to Walter Eucken’s motto “Whoever reaps the benefits must also bear the losses,” government guidance and regulation is needed where societal costs are not sufficiently internalized by private actors. But if, for political or societal reasons, government measures are not sufficient to remedy the market failure caused by the externalities, it is risky to allow another market failure – namely, an increase of market power – in the hope that this will allow changes to be implemented more effectively.

Felix Rhiel and Frank Schlütter studied economics together at the Rheinische Friedrich-Wilhelms University in Bonn. Felix works as an economic consultant in an international consulting firm. Frank is a postdoc at the Université catholique de Louvain.

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