European Union

Essay by vvasimm December 2010

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Barriers to Entry and Exit

Entry and exit barriers limit the number of firms competing in a product market or industry. Entry barriers lessen the degree of competition by imposing hurdles that decrease the ability of new entrants to operate profitably. One result is that firms operating in an industry protected by strong entry barriers tend to benefit from higher prices, and thus profits, than do firms operating in an industry without strong entry barriers. In contrast, exit barriers increase the degree of competition within a product market or industry by imposing obstacles that make exit difficult or costly. The rivalry between firms in an industry with strong exit barriers tends to be more intense than the rivalry between firms operating in an industry where exit is easy or relatively costless. One result is that firms in an industry with strong exit barriers tend to suffer lower prices and, thus, profits.

What entry and exit barriers have in common is their strong impact on the nature of competition: In the case of entry barriers, competition is lessened, while in the case of exit barriers, competition is magnified. This relationship between competition and entry and exit barriers has important ethical implications associated with erecting and maintaining various forms of entry and exit barriers. Competition benefits consumers; it ensures that firms operate efficiently and share the resulting gains by lowering prices, boosting innovation, improving quality, and/or further increasing profitability. Firms can also benefit from competition; consider the case of Pepsi and Coke, whose rivalry has significantly increased cola consumption. However, all else being equal, firms prefer to erect and maintain barriers to entry that furnish them some level of protection from highly competitive forces. Different barriers will benefit consumers versus firms in different ways. Some forms of barriers to entry...