Publications
its effectiveness. Although italics and bolding are used
throughout the book for emphasis of key points, the
writing style is cumbersome at times and the visual
organization of the text is quite dense. This is ex-
acerbated by the fact that the type style and printing
quality are mediocre, a drawback in an age where
readers are used to very sharp, readable text. Many
examples in the text are based on livestock markets,
which seems natural given the author's affiliation, but
also may limit the text's appeal to a broader audi-
ence. Another useful improvement would be to have
practice problems and discussion problems at the end
of the chapter. Such exercises would fit in well with
the book's goal of reaching potential practitioners of
futures trading and risk management. Presumably a
second edition would also achieve the valuable task
of updating the data used in much of the sections on
analysis.
In summary, however, Agricultural Futures and
Options provides a unique and practical resource to
those teaching about futures and options markets. Its
clear messages and methodologies make the text an
important contribution to future practitioners of risk
management.
Deborah H. Streeter
Cornell University
John Sutton. Sunk Costs and Market Structure:
Price Competition, Advertising, and the Evo-
lution ofConcentration. Cambridge, MA: The
MIT Press, 1990, xiv + 577 pp., $39.95.
Although not apparent from the title, this industrial-
organization (10) study provides an important theo-
retical and empirical treatment of the food processing
industries of six industrialized nations. One of the
best-established empirical regularities in 10 is the in-
verse association between market size and sales con-
centration. Sutton, using a novel game-theoretic
framework, explores this relationship in a huge book
that displays profound scholarship. Building on the
rapid advances in 10 theory of the 1980s, Sutton
overcomes a major deficiency in the "new 10,"
namely, its inability to test predictions because they
are so sensitive to the most minor alterations in pa-
rameters.
This book has great heuristic value as an exemplar
of methodological approaches that can connect the-
ory to facts. Sutton follows four paths to wisdom:
pure logic in the form of economic theory (based on
the meta-assumption of profit maximization); mea-
surement to operationalize the abstract symbols of the
theory; tests that confront the theory's conclusions
with cross-sectional data; and, most abundantly, case
studies derived from extensive company interviews
with food firms and deep industry histories. In this
sense, the book can be compared to Multiplant Econ-
omies of Scale by F. M. Scherer, et al., widely re-
garded as the most original 10 book of the 1970s
(Caves).
Books Reviewed 513
Following an overview chapter, Sutton devotes the
first 55 pages to developing a set of theoretical models
with testable implications for the degree of market
seller concentration. These alternative models in-
volve four key notions that are well accepted in the
new theories of 10 and that Sutton developed in a
series of rigorous papers published during the 1980s:
(1) competition as a two-stage game, wherein the first
entry-decision stage is linked to the second price-
competition stage; (2) the oligopolistic models for the
second stage that vary according to the toughness of
price rivalry, the toughest being Bertrand, the weak-
est being a joint-profit maximizing cartel, and Cour-
not identified as an intermediate case; (3) the entry
decision that turns on (i) the toughness of pricing that
a would-be entrant anticipates, and (ii) the size of
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sunk costs relative to the size of the market (roughly
speaking, sunk costs are those fixed costs required to
set up a minimally efficient scale (MES) plant that
have no salvage value), and (4) the distinction be-
tween homogeneous products and products differ-
entiated either horizontally or vertically.
There are three cases. Sutton starts with the case
that yields the clearest predictions about equilibrium
concentration levels and that most readers will find
analytically the most approachable. When sunk costs
(exogenously determined) are high and products are
homogenous, the degree of concentration depends only
on market size and the toughness of competition. He
proves that, no matter the size of the market, mo-
nopoly pricing always leads to relatively lower con-
centration than tough price rivalry, with the Cournot
case in-between. This paradoxical result is actually
quite logical: with cutthroat pricing postentry firms
fail to cover their sunk costs and exit, whereas with
monopoly pricing profits are invariant to the number
of sellers, so fewer need to exit.
The theoretical treatment quickly escalates to a more
challenging level of analysis when the homogeneity
assumption is relaxed and the sunk costs are made
endogenous. With sunk costs exogenously fixed, in
a result reminiscent of Chamberlin's monopolistic
competition model, horizontal ("physical") product
differentiation allows one to predict only a lower bound
to concentration, but in general concentration is lower
when market size increases and is also lower in the
heterogeneous-product case than in the homoge-
neous-product case for the same market size. If, on
the other hand, sunk costs are endogenous, we are
thrust into a world where advertising matters. Firms
can sink advertising or product-development costs into
their products at stage one, which will unambigu-
ously shift the demand for its products relative to those
of rivals in stage two. From this model an unusually
robust prediction can be made: equilibrium levels of
concentration are invariant to the size of the market,
because as markets expand a competitive escalation
of advertising occurs, and the need to cover these
rising costs offsets any tendency toward market frag-
mentation. Therefore, to explain the observed high
concentration levels in advertising intensive indus-
514 May 1992
tries one does not have to appeal to Bainsian barriers
to entry so much as to a simple mechanism: con-
sumers' willingness to pay rises when firms invest in
advertising. That is, sales respond to advertising be-
cause advertising is effective in increasing "per-
ceived product quality" (or advertising-induced brand
image, if one prefers).
Empirical research has been frustrated by the prog-
ress in 10 theories of the 1980s because the predicted
equilibria depend so sensitively on such alternative
model assumptions as whether scope economies are
present, whether some firms enjoy first-mover ad-
vantages, whether new products expand market size
or simply cannibalize existing markets, and a host of
market characteristics that defy easy measurement.
To his credit, Sutton has struggled mightily, and I
judge successfully, to extract testable if weak pre-
dictions from a range of models incorporating as-
sumptions relevant for the food industries he next
studies.
A short chapter on sampling and measurement leads
to the hefty core of the book on cross-sectional test-
ing. Sutton first limits his search to food industries
that are comparably defined in the six high-income
countries he samples: France, Germany, Italy, Japan,
the United Kingdom, and the United States. Selec-
tion is further constrained by the requirements of re-
liable data on market size, concentration, significant
plant set-up costs, and advertising outlays. The result
is a convenience sample of 20 food and beverage in-
dustries defined at roughly the four-digit SIC level of
detail; of which six are identified as homogeneous-
goods (e.g., processed pork products) and fourteen
advertising-intensive industries (e.g., baby foods).
Sunk costs, drawn entirely from U.S. data, are built
up from information on minimum-efficiency plant
scales (MES) and total depreciable assets in the in-
dustry; further refinement of the asset data could have
removed some non-sunk investments, such as the
substantial value of transportation equipment owned
by food manufacturers.
Although he makes no claims to sample random-
ness, Sutton proceeds to what many will regard as
the least interesting stage of his analysis-an econo-
metric cross-section test explaining four-firm con-
centration levels. As always, operation alizing theo-
retical constructs involves compromises, and Sutton
is well aware of the roughness of his proxy measures,
particularly in the case of advertising. Nevertheless,
the econometric evidence across 90 or more obser-
vations convincingly confirms the major theoretical
predictions: concentration is related to the size of sunk
costs only in the homogenous food-products case. If
Sutton's model is correct, then previous cross-sec-
tional regressions explaining concentration levels were
misspecified because they pooled homogeneous and
heterogeneous products. [I am not sure I accept this
criticism in the case of models that explain long-term
changes in market structure. J
Perhaps the most refreshing feature of Sutton's book
are the 100 historical case studies that trace the evo-
Amer. J. Agr. Econ.
lution of concentration from the earliest documented
period. (The U.S. salt story begins in 1817.) If you
harbor doubts about physics as a model for econom-
ics and believe that history matters, this is the book
for you. Sutton lavishes more than 350 pages of text
on histories, much of it in intolerably tiny type. One
chapter covers two of his strongest cases, salt and
sugar, which are homogeneous and have high set-up
costs. Another chapter covers the four homogeneous-
goods industries with low set-up costs, about which
Sutton's model really makes no predictions; the only
point made by these case studies is that market size
and toughness of price rivalry have no systematic in-
fluence on market concentration. The remaining
chapters deal with illustrations of how packaged-food
industries with heavy advertising evolved into more
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or less tight oligopolies. The frozen foods, coffee,
chocolate, and beer industries are particularly well
documented. Sutton permits himself an excursion of
sorts into three industries (canned soups, margarine,
and soft drinks) where cross-country comparisons
plausibly demonstrate the existence of first-mover
advantages for the likes of Campbell Soup (in the
U.S.), Unilever (in the U.K.), and Coca-Cola (in Eu-
rope). He also examines the case for product prolif-
eration as a concentration strategy in the breakfast
cereals industry.
The case histories are fun to read. (I confess to
having read the book from back to front first and then
in its intended order, which is instructive as to how
theory can impose order on an apparently chaotic
world.) Sutton largely avoids the temptation of forc-
ing the results into a preconceived mold, yet shows
sensitivity to policy interventions that have affected
the toughness of price rivalry. The three historical
stages of the Japanese sugar refining industry well
illustrate the structural impacts of changing policy
environments.
There are limitations to Sutton's approach. Histor-
ical verification often flounders on the question of
replicability by other, future writers. The case studies
appear to identify two mechanisms that cause frag-
mented industries to collapse: aggressive price-cut-
ting by a maverick firm in homogeneous-products in-
dustries and competitive escalation of advertising in
differentiated products industries. But how can pol-
icy reverse the process, particularly in advertising-
intensive industries? Mandated divestiture will not
work, suggests Sutton, "policy instruments. . . would
need to be focused on the advertising mechanism it-
self" (p. 245). I would that he had speculated about
how one tilts advertising effectiveness, including the
FTC's specific remedy in the cereals case of com-
pulsory trademark licensing. Perhaps more probing
analyses of cases where advertising effectiveness has
recently shifted upward (as in the U.S. prepared pasta
market) or downward (canned tuna) would yield pol-
icy-useful insights. Changes in minimum efficient scale
also are relegated to a black box. His model specif-
ically excludes cross-market strategies for firms,
whether across market segments or across countries.
Publications
Thus, predatory pricing (used to monopolize the early
U.S. cigarette industry) and multimarket diversifi-
cation by multinational food companies is out of the
book's scope. In short, the book contains little of
normative or prescriptive interest.
Sutton's book has the potential for restoring civil-
ity to 10 research. It points the way to how to heal
the rift between the cross-sectional Bainsian tradition
(rich empirical regularities discovered, but built on
an inductive paradigm) and the paladins of the "new
10" (a plethora of theoretical constructs to fit every
situation, devoid of empirical generalizations). Sut-
ton's models yield remarkably robust, testable pre-
dictions about lower bounds. The two-stage game al-
lows two-way interaction between market structure
and conduct, a distinct advance over the Bainsian one-
Books Reviewed 515
way causal chain. He has restored advertising and
product differentiation to their rightful places at the
round table, throwing down the gauntlet to revision-
ist thinking that has rejected their importance for
market structure and conduct.
John M. Connor
Purdue University
West Lafayette
Reference
Caves, Richard E. Review of The Economics ofMulti-Plant
Downloaded from http://ajae.oxfordjournals.org/ at University of York on December 2, 2014
Economies. J. Econ. Lit. 16(1978):627-628.