ThinkSet Podcast: Dynamic Competition: Why Innovation Needs to Shape and Drive Modern Markets

As regulators prioritize the preservation of competition, antitrust policies evolve in kind. David Teece and Xavier Boutin explore the critical role of fostering dynamic markets where innovation takes center stage, ensuring that competition and industrial policy complement each other effectively. The episode is part of the Spring 2025 issue of ThinkSet magazine, “Antitrust Across the Atlantic.”

Transcript

Xavier: Hi, David. I’m very happy and honored to interview you today on this topic of dynamic competition, on which you have published extensively. But first it’s interesting that the issue of innovation and dynamic competition is resurfacing in the antitrust public debate.

So my first question is, why is it so, and why is it resurfacing now? Is this because competition is much more than prices and products are now highly differentiated, so that products’ prices are not the only or even not the main driver of consumer welfare in many sectors anymore. What’s your opinion on that?

David: Yeah, an excellent question. Well, I first used the term dynamic competition in the early ‘90s, and, and it was novel at the time, and I think that was primarily because we were in the industrial economy. And in the industrial economy, well, certainly there was innovation, but it was before the digital revolution, and it was before the internet. So in the industrial economy, the focus was always on getting prices down and doing that through economies of scale.

But there was very much a focus on price and and less of a focus on quality. In my view, even in the industrial economy, we should have been focused on quality, we should have been focused on innovation. But the basic models used in economics didn’t really facilitate that very well. So a combination of the industrial world and the nature of the models used in economics meant that there was very much a focus on what I call static efficiency.

And I was pushing very hard for dynamic efficiency, in the Schumpeterian spirit of recognizing that the primary driver of competition is innovation. And what really matters in the long run for consumers is new product development and quality improvements, things like that, and that they would always drown out cost savings, or in fact they would cause cost savings eventually because innovation does result in lower costs and better products, not just lower costs.

So, I was frustrated, but then by the mid-90s, you did actually have some development of the Dynamic Competition framework. And there was a GM ZF merger; which the Department of Justice in the United States brought a case against GM and ZF, and that was really the first time people started addressing this head on. Rich Gilbert in the Department of Justice was, I think, the handmaiden of that.

Xavier: That is indeed very, very interesting. So, I will try to summarize a little bit where you are coming from, and you will tell me if my high-level summary is accurate. My understanding is that in this publication, you insist on the dynamic nature of competition and mostly on the risks of a static view by regulators.

In other words, I think the argument is that focusing on the number or even on the identity of competitors in a specific product category at one point in time misrepresent the tectonic forces between market players, which might not be visible at the outset but will be driving consumer welfare in the future and might also be constraining the behavior of the current market player at the point in time.

I will try an image, and you will tell me if that is accurate and if you agree with it. But my understanding is the message you are sending to regulators is:

Do not think that the firm that is going to displace Google in search or Facebook in social media is someone doing what Google or Facebook do, but better. The person who is going to displace this company is rather going to be someone who will laterally enter from a different space by developing a feature to its product that is frontally substitute or instantly complimentary, but will suck up the value of the offering.

So is it—and the message you’re sending to regulators is basically, that happens much more than you think it does, and you should be taking this into account when you intervene. So is this an accurate summary of the main driving forces of your argument.

David [04:33]: Yes it is. And there’s a qualitative aspect to that as well. Historically, if you go back over 150 years, it’s always been that what disrupts an industry almost always comes from the outside rather than from within. The difference now is that it happens very quickly, and really you can frame this in terms of potential competition.

I mean, unfortunately in economics, we really haven’t doubled down and looked as hard as we need to at potential competition and the sources of potential competition. And it’s always historically been dismissed as less important than actual competition.

But in the tech sector, I think potential competition is often more important than actual competition. I remember the book that Andy Grove at Intel wrote called Only the Paranoid Survive, because it’s a competitor that you don’t see right now, which is a real threat. And just because you don’t see it doesn’t mean that it’s not already exerting a competitive effect. If you know that you’re likely to be hit from the left or the right, but you don’t know from which side, you are going to be competitive. You’re not going to live the easy life of a monopolist because when there’s deep uncertainty, the only way to stay ahead is to basically assume that you’re under competitive threat, even, even if it’s not currently evident.

[06:00] So you’re quite right to frame this as really, the competition that matters is likely to be from somebody that’s not currently doing what you’re currently doing.

 

Xavier: That is very interesting. But then it blurs the line between innovation that is substitute, which is maybe the type of innovation regulators would see coming and see as the main relevant driver. But then it blurs the line between this and innovation that looks to be complimentary but will have a drastic impact on the market.

So this type of innovation is not distracting directly the business model of the incumbents, but looks complementary, which is an interesting feature of entering these markets.

[07:00] So do you think we have focused too much on innovation that is destructive in the short term? And do you think that we should have a more holistic view of the type of innovation that impacts the dynamics of markets?

David: I am glad you raised that point, and yes, I do. Look, from an economic point of view, innovation that’s complimentary—that doesn’t disrupt in the sense of putting existing asset values to zero, but nevertheless creates tremendous improvements in performance—that’s actually better for the economy than destructive innovation because you preserve asset values and enhance them but still deliver a great value to consumer.

So we’ve sort of developed an implicit bias to believe that if it’s not destructive, it’s not good. But in fact, if you think about it from an economic point of view, a deep point of economic point of view, if you can have strong competition and strong improvement in consumer welfare and not destroy productive assets, but actually enhance them through what we call repositioning or transformation, organizational transformation, that’s actually better. So I do think this issue needs to be looked at again, that competition that doesn’t destroy is as good as competition, if not better than a competition, that does destroy.

Xavier [08:32]: So where does it bring us for antitrust? Because we are discussing sort of a different view of the world—one that takes more seriously the real determinants of consumers, and that takes a view of, as you say before, the fact that if you’re a company that looks in a comfortable situation, the fact that you don’t know where the disruption is going to come—from the left, from the bottom, from the right, from the top—then you’d better innovate all the time. So would you go as far as saying that market power is always transient, and there is always potential competition that constrain at any point in time the behavior of players that would otherwise look like holding significant market power?

That’s my first question—practical antitrust practitioners’ question.

And my second, more practical question is, because we are talking of companies entering all the time new markets—first or second or third: How do you make the difference between entry through acquisition or product development that is just dynamic competition, trying to stay ahead of the game, which should benefit consumers? And how do you differentiate that from just offensive or defensive leveraging, which is preemptively occupying a market segment to avoid someone developing as a threat in this market segment, which might also be a legitimate concern?

How do we delineate between the two, and do you think we would be able to do that by assessing the value of nascent competitors or the likelihood of future competition? Or how would you try to sort out the two various paradigms?

 

David: No, that’s a very big and very complex question, and I’ll try and answer at least a part of it. Well, first of all, while it does mean that competition is vigorous and that market power can be transitory, it doesn’t mean that it’s always transitory. So adopting the dynamic competition framework is not a free pass.

But it does, [11:00] in my view, require that the agencies look at competition more holistically. The relevant market concept may have lost some of its utility here. The agencies actually have an advantage over incumbents in terms of assessing competition because you can do investigations and get information from potential entrants that incumbents in the industry cannot do.
The investigative powers of the agencies mean they can actually get to know more about the unknown unknowns, or what to an executive is an unknown unknown. The agencies can actually dig deeper through using their investigative powers.

There’s an opportunity to do that, but most importantly, what the agencies need to do is [12:00] understand organizational capabilities. Not every new entrant, or not every potential entrant, is going to be a real competitor. Antitrust has proceeded with what I call a missing variables problem, which is, other than looking at incentives, we often don’t have a lot to say about who really is going to be a strong competitor. We’ve got a lot to say about who’s incented to compete, but that runs out of steam pretty quickly. And in my view, we’ve got to bone up and understand organizational capabilities, which requires understanding technology and the technological assets a company has, the technological trajectory in which they’re moving, and the organizational design they have because the organizational design will affect whether or not a company can compete.

[13:00] For instance, let’s take Intel right now. Can it compete with TSMC and enter the business of being a contract fab. It’s not clear they can, even though they’ve got fabs; it’s not clear Intel can compete with TSMC because the organizational structure that’s needed to deal with third-party customers and to deal with design changes, the agility that’s required, is just not there in the organizational structure.

I think it requires us to take a deep look and to start to bone up in understanding how organizations work and what the flexibility of an organization is, and that that can give us at least a better understanding of not just nascent competitors but existing competitors and their likely evolutionary path.

Xavier [14:00]: So that is indeed something I find interesting, this focus on the firm’s organization as an asset because indeed, as you just described, some firms are just very good at scaling up or solving complex organization theory problems. For instance, your example of flat versus vertically integrated companies fits very well in this model in the sense that a vertically integrated company might have more vested interest and might seem like, for instance, less reliable partner as a pure upstream player. So that is indeed a very interesting element.

And indeed, when we are thinking, for instance, of foreclosure or strategic acquisitions, it’s often this organizational capability that some of the startups are missing. Some of the startups are very good at developing a product, but they’re not necessarily very good at selling it, or they’re not very good at servicing consumers, which is what some companies that have been there for a while actually have—they have a book of business, they have relationships.

And that goes beyond the scale capabilities debate that is well known in pharma. So, for instance, if you speak to people in the pharmaceutical industry, they will always tell you that the cost of phase two/phase three testing is the main driver of M&A. So indeed, maybe for this debate in the digital sector, you might need to look at the organizational capabilities that the startup has had to scale up.

But then again, I am going back to my question about: how do you sort out the pro-competitive from the anti-competitive. Do you think that the assessment of the ability of companies to deliver and execute is going to be an important driver of delineating—for instance, whether an acquisition is going to be pro-competitive or actually trying to bring back a maverick that would disrupt the business.

In the good path of the preservation of market power, which would be the antitrust concern, how would you do this assessment in practice?

David: Well, I do this assessment in practice by digging into the organization and understanding its capabilities. And that involves also the capabilities of the management team.

But at a high level, it’s around understanding complimentary assets, and actually I wrote a paper in ‘86 called “Profiting from Innovation,” where I may been the first to [17:00] really drive home the importance of complimentary assets for success and innovation. And different firms have owned different assets, and you can’t assume that you can frictionlessly build any asset.

There’s stickiness there, and there’s path dependency, and when you dig in and look at organizations up close, you can understand that M&A activity is often necessary to patch up deficiencies, to bring products to market quickly to the benefit of consumers.

There’s significant work to do in taking research that is focused on assisting managers to make decisions—to making that fit for helping regulators make decisions. But I do believe that a granular assessment of capabilities is necessary. And, absent that, we’re going to make enforcement errors.

Xavier: Thanks a lot. I like a lot the point around listening to academics and the state of science and trying to be a bit broader in the interest in [19:00] the production of knowledge. Not only in the fields of economics, but also as you say, strategic management; maybe not only IO, but organization theory. I think that is indeed a very interesting insight.

The last point I thought we might want to address is taking a step back and seeing the more general role that regulators could have in facilitating this dynamic competition and improvement of product. You have described the relevance of dynamics in technology developments, and importantly the relevance of complex complementarities in this process. When we think of complementarities, we think of assets—assets might be private, public, tangible, intangible.

[20:00] The last question I would have is going away from antitrust, where we’re saying it’s better if antitrust regulators, generally speaking, take the right decisions. But is there a more general role for policymakers who own and decide on, for instance, public assets and all sorts of policies? Do they have a role to actually direct and further nurture this dynamic process of constant improvement of product characteristics?

David: Yeah. Absolutely. Once you recognize that innovation is a primary driver of competition, then there’s many factors beyond the ambit of the competition agencies that are going to affect competition. Things that drive entrepreneurship, research and development, and assisted commercialization of research and development—those things impact competition as well.

[21:00] So for me, the good news here is that if you take an innovation-first approach to antitrust—in other words, if you see innovation as the primary driver of competition, and it’s not just about preserving innovators to make sure that they don’t get gobbled up, but also recognizing that large firms can be successful innovators and across multiple fields—if you put innovation front and center, then industrial policy and competition policy can come together.

In some cases, they’ve been at war with each other, particularly in Europe, to be quite frank, and in the UK. And I see various politicians like Starmer in the UK essentially waving his little finger at the Competition and Markets Authority and saying, “I guarantee you in the future”—and he is talking to investors—“that we’re going to make sure that what the Competition and Markets Authority does is consistent with creating a good environment for business here in the UK.”

[22:10] The good news is that if we put innovation front and center, then no longer do we have to put competition policy in a silo, and industrial policy and competition policy can work hand in hand. I believe there’s great political pressure behind that motivated by the desire to improve productivity in the economy. It’s an opportunity and a requirement of us in the antitrust area to actually try and broaden our framework so that we can work hand in glove with the industrial policy community.

Xavier: David, thanks a lot. On behalf of all the future auditors of this podcast, I think, they will have learned a lot thanks to you.

David [23:00]: Well, thank you, Xavier. They were excellent questions, and I’ve enjoyed learning from your work, and I’m sure I’ll learn a lot more in the future.