IDEAS home Printed from
   My bibliography  Save this paper

The role of information in the relationship between competition and x-inefficiency: theoretical ambiguities of "product market competition"



This work delves into the so far unsatisfactory attempt made by theory to provide formal proof of the thesis, which is widely shared and supported by empirical evidence, that a stronger product market competition reduces the degree of firm x-inefficiency. Both through an in-depth critical examination of existing literature and through the development of a simple but original theoretical analysis, this work tries to grasp and highlight the reasons for the ambiguous and contradictory results achieved in literature so far: faced with a problem of internal inefficiency arising from an information problem, theoretical research has not paradoxically taken into account the major information role which competition may play, acting as an “assessment standard”. Particularly, competition is not enabled to reduce the manager’s information advantage and hence has no direct impact on agency costs. In addition, it has been proved that in the main models defined in literature no economic mechanism actually exists through which product market competition can influence agency costs and accordingly the degree of corporate x-inefficiency. What ensues therefrom is that the ambiguous results attained by literature, showing the existence of a non monotonic relationship between competition and internal efficiency, exclusively stem from the effects of competition on direct and strategic profitability arising from a reduction of unit production costs: the marginal benefit engendered by cost reduction, beyond a certain degree of competition, decreases as competition increases (as the number of enterprises grows), so that the employer is induced to demand to his manager increasingly lower optimal (second best) levels of effort. This conclusion is supported by the fact that many of the models existing in literature feature an implicit hypothesis of increasing returns to scale.

Suggested Citation

  • Alessandro Graffi, 2006. "The role of information in the relationship between competition and x-inefficiency: theoretical ambiguities of "product market competition"," LIUC Papers in Economics 197, Cattaneo University (LIUC).
  • Handle: RePEc:liu:liucec:197

    Download full text from publisher

    File URL:
    Download Restriction: no

    More about this item

    NEP fields

    This paper has been announced in the following NEP Reports:


    Access and download statistics


    All material on this site has been provided by the respective publishers and authors. You can help correct errors and omissions. When requesting a correction, please mention this item's handle: RePEc:liu:liucec:197. See general information about how to correct material in RePEc.

    For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: (Laura Ballestra). General contact details of provider: .

    If you have authored this item and are not yet registered with RePEc, we encourage you to do it here. This allows to link your profile to this item. It also allows you to accept potential citations to this item that we are uncertain about.

    We have no references for this item. You can help adding them by using this form .

    If you know of missing items citing this one, you can help us creating those links by adding the relevant references in the same way as above, for each refering item. If you are a registered author of this item, you may also want to check the "citations" tab in your RePEc Author Service profile, as there may be some citations waiting for confirmation.

    Please note that corrections may take a couple of weeks to filter through the various RePEc services.

    IDEAS is a RePEc service hosted by the Research Division of the Federal Reserve Bank of St. Louis . RePEc uses bibliographic data supplied by the respective publishers.