November, 2011

Reflections on inelasticity/elasticity and voluntary agreements

November 29th, 2011

INTRODUCTION
When a business seeks to implement an ethical change in what it is doing (where ‘ethical’ connotes some public policy/sustainability objective) then there will be some different types of economic impact that it will experience. In summary some key elements of these delineations include:

  1. Win-win versus non-win-win (i.e. whether, at the same time as the public policy objective ‘wins’, the business(es) and consumers can also do so, or whether consumers and possibly the business(es) will be out of pocket).
  2. Within non-win-win (which implies that consumers will now be paying more for their products), those situations where businesses can keep their profit margins intact versus those situations where those profit margins dip.

WIN-WIN VERSUS NON-WIN-WIN SITUATIONS
Win-win situations are on the face of it straightforward for business as ethical and profit considerations are aligned.   We would argue this is where most progress has been made by voluntary Corporate Responsibility initiatives over the past 25 years.

However, situations that are win-win in the long-term may be non-win-win the short-term. This creates a tension between the interests of those involved in the business (investors and employees) on long-term versus short-term bases.

There may also be a necessity for joint research by businesses to achieve the public policy objectives on a win-win basis (which if not handled carefully could come up against competition law information exchange restrictions).

ELASTICITY WITHIN NON-WIN-WIN SITUATIONS
Non-win-win situations are less straightforward than win-win ones. This is because it may or may not be possible for businesses to pass costs onto consumers, depending upon considerations of the price elasticity of demand. We need to consider two situations:

  • In some situations (where there is ‘price inelasticity of demand’ (for example for absolute essentials such as mains water or insulin for diabetics (ignoring NHS provision effects here) and other examples, noting the ranges for elastic and inelastic businesses can pass on costs to consumers without consumption dropping and profits thereby being dented. So business, if acting together across a market sector for public policy objectives (enabled through much clearer support from the competition authorities), will have the ability to pass on price increases without their businesses suffering. This means that they will require little or no additional incentive to make such changes.
  • In other situations (‘price elasticity of demand’: leisure air travel, spirits, coca-cola, cars (see the list above)) businesses are likely to have trouble passing on costs to consumers. For example for leisure air travel, price elasticity of demand means that if prices are increased then people will curb their holiday plans. So business comes out a loser – which means voluntary agreements likely to have a less favourable reception. Furthermore competition law as it is presently regulated in the UK and EU would be a barrier to the collaboration.

It is for this reason that in such circumstances co-regulation would be necessary – either from traditional regulatory sources, or increasingly from e-democratic/internet-based mechanisms.   Changes in the regulation of competition law will be required, as well as either pressure from above (government promoting a co-regulatory initiative) or perhaps e-democracy (see below).  There are other levers of change too (e.g. media/NGOs) but these are potentially less significant.  The media/NGOs could of course be important contributors to future platforms for e-democracy.

Of course, in all these situations, companies could appeal to ethical investment/ethical consumerism in order to support actions that they (as individual companies, or perhaps small groups of companies, comprising a limited proportion of the market) wanted to pursue. But as described in past briefing papers, these alternative methods have limitations in application and therefore scale of impact.

ACCELERATED DESIGN OF ROBUST VOLUNTARY AGREEMENTS  DEMANDS A NEW ONLINE PLATFORM

Will new case studies arise in the future?  Well, co-regulation under the existing law can to some extent enable new collaborations, as the recent Responsibility Deals have demonstrated. But it is not going to make the big social/environmental impact that the challenges of our time demand.

For a transformational impact we need new a new approach from regulators and an online platform – we have given it the working title of RaceToTheTop.org.  Initially this will make future voluntary agreements more transparent and risk-free (in terms of -ve cartel behaviour).  The online platform for tracking the development and implementation of voluntary agreements would be underpinned by discussion forums/comment tools  and also host the minutes of face-to-face engagement between key stakeholders in an agreement. With the addition of wider-stakeholder functionality such an Online Platform could ultimately become a broader marketplace application underpinning e-democracy.

The type of e-democracy that we ultimately envisage would be a key enabler in further developing the Big Society.  Government participation and goodwill could enable huge results in this space for relatively low cost.

The e-democratic platform (which would include the marketplace functionality we envisage) would also give greater depth to the Big Society rediverting people’s energies/frustrations towards participation, away from,  more passive or destructive activities.

OVERALL IMPACTS OF SUCH INITIATIVES
Of course, the overall effect of our thinking is the internalisation of externalities throughout the economy, which means a ‘bad news message’ for the economy overall – certainly if you are looking at things in a short-term, profit-based manner. Similarly this is a ‘bad news message’ for any area or nation that has previously had the ability to externalise costs to other areas or nations.

However, our thinking is a ‘good news message’ inasmuch as it represents the emergence of an economy with the facility to prioritise in a balanced way objectives of all kinds. Furthermore, although the project outlined here can be seen in isolation as one entailing overall the internalisation of externalities and therefore decreasing global productivity, the picture is different when one factors-in ongoing technological advancement and innovation (including that enabled by information technology (IT) that allows much of the change we advocate) and the resulting growth. With that wider picture then the outlook can still be for growth, just in a newly responsible fashion.

Notes

1) It is worth pointing out the implausibility that all positive social and environmental agendas in life might correlate to positive profit outcomes, amongst all the other possibilities. Therefore there will have to be a balancing between profit and other objectives in numerous areas.

2) It seems likely that trends would emerge: for example essentials would be less affected by the introduction of the mechanisms we suggest than (short life) luxuries.

3) Elasticity considerations tie in very powerfully with market definition. The first thing any businesses need to do when thinking about a voluntary agreement is think about who they need to reach agreement with (this essentially should identify/deal with problems of elasticity before it arises). In particular, if they do not have enough market players at the table then any agreement they make is going to run the risk of driving their customers away to nearby products/services. Consider this list of determinants when thinking about these questions.

4) It may be beneficial for markets to work together if they currently share the same environmental/social harm or can achieve the same benefit.

Researched by Tom Linton and edited by Andrew Dakers.