Declining market competition never good for futures markets

| | Futures Trading

Few will disagree with the idea that competition through a diverse set of independent traders is good for futures markets trading, but this issue should be broadened to the subtle impact of general competition across firms in the economy, not just the futures markets themselves. There is a growing set of recent research that suggests that the US is becoming less competitive and dominated by fewer big firms. See the Kansas City Jackson Hole Conference in 2018, “Changing Market Structure and Implications for Monetary Policy,” as a sample of the work. 

 

This growing industry domination may not rise to the level of classic monopolies but more likely oligopolies where the majority of business is controlled by just a few firms. Their control of pricing and market structure can be significant and this will have an impact on price discovery, firm flexibility, and hedging costs for both producers and consumers.

 

Less competition is not good for markets which have futures contracts because the price of the underlying commodity will not be determined by a large number of diverse buyers and sellers. Price discovery will be driven by off exchange behavior. Hedging will occur away from the exchange. Marketing decisions will have less flexibility. Strong vertical integration will lead to internal risk management mechanisms that will reduce transparency. Some firms will be disadvantaged through the redistribution of risk at non-market prices.


There are fewer firms that market and control grain exporting. There are fewer meatpackers. There are fewer oil refiners. The list can go on. In the cash markets, the farmer, cattle rancher, coffee bean producer have limited choice for selling their product and may have limited choice from where to buy their inputs like seed and fertilizer. Buyers and sellers are both seeing increased concentration and those with less size are left at a cost disadvantage. This requires further consolidation as risks are shifted between players. While there may be less volatility from the lower number of players, the information obtained through the competitive forces of futures trading is diminished. Each industry is unique and a high level discussion may not do justice to the structural changes faced, but increased concentration will hinder the competitive price process.  


The large banks will not make an issue of reduced competition. They have been at the forefront of consolidation. There is growing concentration of clearing in futures trading and banks have large lending books with industry market leaders. Trade groups will not advocate for more competition because they are either dominated by large firms or do not have significant market power. Consumers are fragmented groups that do not appreciate concentration issues when they see so many brands in their grocery stores. Market regulators are not concerned with broad issues of consolidation as long as there is not market manipulation or excessive positions. Exchanges have consolidated so there is little choice for trading marketplaces. More work should be conducted on the impact of market concentration and industrial organization to determine whether market concentration has gone too far.