How much of this (both yours and original) depends on the firms locating at end points of the market? Of course per D'Aspremont 1979 they cant be located "too close" or no equilibrium but that still leaves a whole bunch of other possible location distributions.
Or alternatively how would it work with quadratic transport costs where locations are uniquely determined?
The “Waterbed Effect” is Nothing more than The Coase Theorem
By Melgar du Poseidon
John D. Rockefeller’s acquisition of preferential railroad rates in the 1870s seems like a historical manifestation of the "waterbed effect," where a dominant buyer forces suppliers to give them lower prices, causing the supplier to raise prices on smaller, less powerful competitors to maintain their margins.
Rockefeller’s strategies, specifically the use of rebates and drawbacks, directly crippled his rivals by forcing them to pay higher transportation costs.
The Argument for "Voluntary" Cooperation
Proponents of this view, including Rockefeller himself in his autobiography, argue that the railroads wanted to work with Standard Oil because of its superior efficiency.
Even Load Distribution: Rockefeller acted as an "evener," ensuring railroads always had a steady, predictable volume of oil to ship (e.g., 60 carloads daily). This allowed railroads to maximize their equipment usage without waiting for irregular smaller shipments.
Infrastructure Investment: Standard Oil built its own warehouses, loading platforms, and terminals. This reduced the railroads' operating costs, making Rockefeller’s discounted business more profitable for them than a competitor’s high-rate business.
Risk Assumption: Standard Oil took on its own insurance for fire hazards, further lowering the railroads' liabilities.
In the 1911 case Standard Oil Co. of New Jersey v. United States, the Supreme Court established the "rule of reason" to determine that Standard Oil was an unreasonable monopoly. While the Court focused on the company's intent to dominate and its "immoral acts" like rebate-taking, critics and economists argue that several key defensive points were overlooked or undervalued:
1. Consumer Welfare and Efficiency
The Court primarily assessed whether Standard Oil's actions "unduly" restrained trade through higher prices, reduced output, or reduced quality. However, critics highlight that the empirical record often showed the opposite:
Price Reduction: Kerosene prices plummeted during Standard Oil's rise, falling from over 30 cents per gallon in 1869 to approximately 5.9 cents by 1897.
Increased Output: Total production of refined oil grew steadily year-over-year, contradicting the classic "monopoly" behavior of restricting supply to inflate prices.
Efficiency Savings: Market share was earned through superior efficiency and economies of scale, with refining costs dropping to less than one-tenth of their original level by the late 1890s.
2. Natural Market Erosion
Critics argue the Court's ruling was "backward-looking" and failed to consider that Standard Oil’s dominance was already being dismantled by market forces:
New Competition: By 1911, Standard Oil already faced roughly 150 competitors, including major emerging players like Texaco and Gulf.
Technological Shifts: The industry was shifting from kerosene (for light) to gasoline (for automobiles) and from Eastern oil production to the Gulf States, where Rockefeller had less control.
Market Share Loss: Its market share had already begun to decline from a peak of 90% in 1899 as new competitors successfully entered the field.
3. Validity of "Predatory Pricing" Claims
A major pillar of the government's case was that Standard Oil used predatory pricing—temporarily cutting prices to drive rivals out—which the Court accepted as proof of intent.
McGee's Rebuttal: Economist John McGee famously argued in 1958 that there was little to no evidence of Standard Oil systematically using predatory pricing; it was often more profitable to buy out efficient rivals at market value than to engage in costly price wars.
Rational Incentives: Acquisitions were often "normal and usual contracts" between willing parties rather than forced liquidations.
4. Counter-Productive Remedies
The Court's remedy—dissolving the trust into 34 companies—did not necessarily protect consumer interests as intended:
Stock Value Spike: The dissolution actually tripled the wealth of Standard Oil's shareholders, including Rockefeller, as the individual pieces proved more valuable than the conglomerate.
Government-Protected Monopolies: Some economists argue that antitrust enforcement simply replaced a private, efficiency-based leader with government-sanctioned cartels and price-fixing during subsequent wars.
The Coasean Case
1. The "Optimal Bargain"
The Coase Theorem suggests that if transaction costs are low and property rights are clear, parties will bargain to reach an efficient outcome regardless of who starts with the assets.
The Argument: Rockefeller and the railroads were simply bargaining to reach the most efficient shipping arrangement. Rockefeller had the "property right" to his massive volume of oil. He "sold" the reliability of that volume to the railroads in exchange for lower rates.
The Result: This wasn't "force"; it was an efficient contract that lowered the railroad's operating risks.
2. Internalizing Externalities
Coase focused on how parties handle "externalities" (side effects).
The Argument: Smaller, erratic shippers created a "negative externality" for railroads (empty cars, unpredictable schedules, higher overhead). Rockefeller internalized these costs by providing "eveners" (steady daily shipments).
The Result: The higher prices paid by smaller refiners (the "rising side" of the waterbed) weren't a penalty—they were simply the true, un-subsidized cost of shipping in small, inefficient batches.
3. Transaction Costs
The Coase Theorem highlights that the "ideal" outcome only happens when it's easy to bargain.
The Argument: Standard Oil reduced transaction costs for the railroads. Instead of negotiating with 100 small refiners, the railroad negotiated with one.
The Result: The "waterbed effect" is just the market correcting itself once the "transaction cost subsidy" for small players is removed.
Conclusion:
From a Coasean lens, the waterbed effect isn't a market failure; it's a market correction where the most efficient player finally gets the "wholesale" price they deserve, and the less efficient players stop getting a free ride on the system's overhead.
In the real business world, prices are determined through competition, at one level. Then along comes a Jeff Bezos, a Henry Ford, a Bill Gates, a Walton family, a John D. Rockefeller.... These enterprising sorts see opportunities to increase productive efficiency by organizing processes differently. Which gives them lower per unit costs (and also gives their suppliers lower per unit costs in what they sell). Which transfers to consumers in lower retail prices.
The 'waterbed effect' is just a logical fallacy dressed up as a 'new' economic theory by ambitious academics. Ida Tarbell sold the same sophistry in her 'history' of Standard Oil.
To make it even simpler (for those with no practical business experience). If you are a manufacturer or even a wholesaler, your costs to deliver your products to buyers have many components. In addition to the expense of making whatever it is you sell, there are costs of transportation, packaging, sales and marketing, invoicing, collecting etc. Selling one unit to each of 100 customers, has higher peripheral costs than selling 100 units to 1 customer.
I look forward to Tommaso reacting to your critique with his characteristic reasonableness and good cheer.
How much of this (both yours and original) depends on the firms locating at end points of the market? Of course per D'Aspremont 1979 they cant be located "too close" or no equilibrium but that still leaves a whole bunch of other possible location distributions.
Or alternatively how would it work with quadratic transport costs where locations are uniquely determined?
The “Waterbed Effect” is Nothing more than The Coase Theorem
By Melgar du Poseidon
John D. Rockefeller’s acquisition of preferential railroad rates in the 1870s seems like a historical manifestation of the "waterbed effect," where a dominant buyer forces suppliers to give them lower prices, causing the supplier to raise prices on smaller, less powerful competitors to maintain their margins.
Rockefeller’s strategies, specifically the use of rebates and drawbacks, directly crippled his rivals by forcing them to pay higher transportation costs.
The Argument for "Voluntary" Cooperation
Proponents of this view, including Rockefeller himself in his autobiography, argue that the railroads wanted to work with Standard Oil because of its superior efficiency.
Even Load Distribution: Rockefeller acted as an "evener," ensuring railroads always had a steady, predictable volume of oil to ship (e.g., 60 carloads daily). This allowed railroads to maximize their equipment usage without waiting for irregular smaller shipments.
Infrastructure Investment: Standard Oil built its own warehouses, loading platforms, and terminals. This reduced the railroads' operating costs, making Rockefeller’s discounted business more profitable for them than a competitor’s high-rate business.
Risk Assumption: Standard Oil took on its own insurance for fire hazards, further lowering the railroads' liabilities.
In the 1911 case Standard Oil Co. of New Jersey v. United States, the Supreme Court established the "rule of reason" to determine that Standard Oil was an unreasonable monopoly. While the Court focused on the company's intent to dominate and its "immoral acts" like rebate-taking, critics and economists argue that several key defensive points were overlooked or undervalued:
1. Consumer Welfare and Efficiency
The Court primarily assessed whether Standard Oil's actions "unduly" restrained trade through higher prices, reduced output, or reduced quality. However, critics highlight that the empirical record often showed the opposite:
Price Reduction: Kerosene prices plummeted during Standard Oil's rise, falling from over 30 cents per gallon in 1869 to approximately 5.9 cents by 1897.
Increased Output: Total production of refined oil grew steadily year-over-year, contradicting the classic "monopoly" behavior of restricting supply to inflate prices.
Efficiency Savings: Market share was earned through superior efficiency and economies of scale, with refining costs dropping to less than one-tenth of their original level by the late 1890s.
2. Natural Market Erosion
Critics argue the Court's ruling was "backward-looking" and failed to consider that Standard Oil’s dominance was already being dismantled by market forces:
New Competition: By 1911, Standard Oil already faced roughly 150 competitors, including major emerging players like Texaco and Gulf.
Technological Shifts: The industry was shifting from kerosene (for light) to gasoline (for automobiles) and from Eastern oil production to the Gulf States, where Rockefeller had less control.
Market Share Loss: Its market share had already begun to decline from a peak of 90% in 1899 as new competitors successfully entered the field.
3. Validity of "Predatory Pricing" Claims
A major pillar of the government's case was that Standard Oil used predatory pricing—temporarily cutting prices to drive rivals out—which the Court accepted as proof of intent.
McGee's Rebuttal: Economist John McGee famously argued in 1958 that there was little to no evidence of Standard Oil systematically using predatory pricing; it was often more profitable to buy out efficient rivals at market value than to engage in costly price wars.
Rational Incentives: Acquisitions were often "normal and usual contracts" between willing parties rather than forced liquidations.
4. Counter-Productive Remedies
The Court's remedy—dissolving the trust into 34 companies—did not necessarily protect consumer interests as intended:
Stock Value Spike: The dissolution actually tripled the wealth of Standard Oil's shareholders, including Rockefeller, as the individual pieces proved more valuable than the conglomerate.
Government-Protected Monopolies: Some economists argue that antitrust enforcement simply replaced a private, efficiency-based leader with government-sanctioned cartels and price-fixing during subsequent wars.
The Coasean Case
1. The "Optimal Bargain"
The Coase Theorem suggests that if transaction costs are low and property rights are clear, parties will bargain to reach an efficient outcome regardless of who starts with the assets.
The Argument: Rockefeller and the railroads were simply bargaining to reach the most efficient shipping arrangement. Rockefeller had the "property right" to his massive volume of oil. He "sold" the reliability of that volume to the railroads in exchange for lower rates.
The Result: This wasn't "force"; it was an efficient contract that lowered the railroad's operating risks.
2. Internalizing Externalities
Coase focused on how parties handle "externalities" (side effects).
The Argument: Smaller, erratic shippers created a "negative externality" for railroads (empty cars, unpredictable schedules, higher overhead). Rockefeller internalized these costs by providing "eveners" (steady daily shipments).
The Result: The higher prices paid by smaller refiners (the "rising side" of the waterbed) weren't a penalty—they were simply the true, un-subsidized cost of shipping in small, inefficient batches.
3. Transaction Costs
The Coase Theorem highlights that the "ideal" outcome only happens when it's easy to bargain.
The Argument: Standard Oil reduced transaction costs for the railroads. Instead of negotiating with 100 small refiners, the railroad negotiated with one.
The Result: The "waterbed effect" is just the market correcting itself once the "transaction cost subsidy" for small players is removed.
Conclusion:
From a Coasean lens, the waterbed effect isn't a market failure; it's a market correction where the most efficient player finally gets the "wholesale" price they deserve, and the less efficient players stop getting a free ride on the system's overhead.
In the real business world, prices are determined through competition, at one level. Then along comes a Jeff Bezos, a Henry Ford, a Bill Gates, a Walton family, a John D. Rockefeller.... These enterprising sorts see opportunities to increase productive efficiency by organizing processes differently. Which gives them lower per unit costs (and also gives their suppliers lower per unit costs in what they sell). Which transfers to consumers in lower retail prices.
The 'waterbed effect' is just a logical fallacy dressed up as a 'new' economic theory by ambitious academics. Ida Tarbell sold the same sophistry in her 'history' of Standard Oil.
To make it even simpler (for those with no practical business experience). If you are a manufacturer or even a wholesaler, your costs to deliver your products to buyers have many components. In addition to the expense of making whatever it is you sell, there are costs of transportation, packaging, sales and marketing, invoicing, collecting etc. Selling one unit to each of 100 customers, has higher peripheral costs than selling 100 units to 1 customer.