Research Paper 10, November 2006

Market Power, Price Formation and Primary Commodities.

There has been widespread concern for many years over the very abstract nature of orthodox economic theory, especially that of the neo-classical school which has dominated the profession since the late 19th century. Such disquiet is frequently felt among non-economists, but a great many dissident economists have also expressed their disquiet over the years. A large part of the difficulty centres on the concept of “perfect competition”, not least the explicit removal from the basic theory of economics of the notion of market power.

This is of importance for development today for two reasons. Firstly, the pressure placed on developing countries since the 1980s has been to liberalise, deregulate and open up markets in all areas of their economies; that pressure continues in spite of extensively reported evidence of its damaging effects. Secondly, there is specific concern in areas of trade which are vitally important to developing countries, and the poorest countries in particular – agrarian in economic structure and commoditydependent in international trade as they are. In recent years, many people who have investigated the crisis of commodity prices have linked it closely with declining market power among agricultural producers, combined with excessive power at the buyers’ end of international supply chains.

This paper argues that the bias of conventional economics needs to be replaced with a more realistic theoretical basis, which will hold market power at its core. It can be divided into three parts. First of all the paper discusses the challenges to the basis of economic theory that have been posed over a long period, and especially challenges to the fundamental concepts of perfect competition and general equilibrium. Along the way, it notes the astonishing number and variety of leading economists who have themselves commented on their discipline’s failure to explain adequately how markets work and how prices are formed, although one might have thought that those were at the very heart of its subject matter.

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