The Amazon Economy

Summary

  • Amazon undoubtedly brings efficiency to the shopping process, but there is a considerable price to pay for this.
  • By monopolizing online market access, it forces most other online sellers to either join Amazon or become irrelevant.
  • Amazon increasingly owns the underlying infrastructure of commerce, and this gives it ample opportunity to tilt the playing field in its favor.
  • Another shadow side is that this is eroding local businesses, choice, economic dynamism and community in large parts of the US.
  • And while the consumer experience is seamless, the labor model that Amazon uses isn't very attractive, its wages are low and employment conditions uncertain.

In a previous article, we explained how Amazon (NASDAQ:AMZN) really has enormous market power, but this is sort of hidden from sight because it isn't (yet) completely dominating e-commerce, let alone US retail sales.

Another reason competition authorities have yet to take action against Amazon is that it is very efficient, generates very low margins (at least on its core e-commerce business) and tends to slash prices for consumers.

But it is dominant in at least one very important sense:

We haven't found figures for 2017, but a safe bet would be that this percentage has only increased further. And we're almost in 2018 already.

This increasing domination of search proposes a rather bleak choice for most of the rest of the merchants. Either they join Amazon's Marketplace or they try to go it alone.

By joining Marketplace, they have to abide by Amazon's rules, and as we explained in a previous article, this confers Amazon with a host of leverage, tilting the whole playing field in its advantage. Here a quick (but by no means comprehensive) summary:

  • Amazon can produce whole categories at a loss in order to quash competition, aided by cheap finance, as Quidsi and Zappos have experienced.
  • Its fast and cheap shipping are becoming the norm and something that smaller suppliers increasingly find difficult to match, increasing the pressure to join Amazon.
  • Joining Marketplace, independent suppliers and resellers have to accept the terms and conditions, like no interaction with customers outside Amazon's platform and little in the way of marketing or branding.
  • Amazon's platform itself is strengthened by more third-party Marketplace sellers so it becomes even more the first point of departure for consumers.
  • The company gains knowledge of new verticals and transaction data from third-party sellers, which it can then use against them.
  • It can tilt the playing field (fulfillment, search and recommendation algorithms, or even removing the sell button or the seller altogether) in order to extract better conditions, something which it regularly does with publishers.
  • It can also use the seller data to see what sells best and to produce similar items and tilt the playing field in favor of its own products.
  • Amazon Prime is another powerful instrument to get even more people to its platform and stick with it, as the transport cost reductions are cumulative, for instance.
  • Alexa can further reduce brand power of suppliers and make the shopping experience seamless and sticky.

As life outside Amazon is ever less viable for increasing number of suppliers and resellers, the grip of the company over large swaths of the economy becomes tighter as it's able to compete and increasingly dictate the rules of competition at the same time.

As we have described in our previous article, the inexorable rise of Amazon is eroding small local businesses everywhere. This has three negative effects on the economy:

  • It is eroding economic dynamism.
  • It is eroding choice and innovation.
  • It is eroding local communities.

Economic dynamism

There has been a pretty substantial decline in economic dynamism in the US:

(Source: US Census Bureau, Washington Post)

This is mainly caused by a decline in the formation of new firms:

(Source: US Census Bureau, Washington Post)

With a surprising observation from Gallup:

The U.S. now ranks not first, not second, not third, but 12th among developed nations in terms of business startup activity. Countries such as Hungary, Denmark, Finland, New Zealand, Sweden, Israel and Italy all have higher startup rates than America does.

This is surprising, as many of the countries that now have more start-ups than the US are high-tax and/or heavily regulated economies, which is indicative of the causes of this decline.

Now, it is really difficult to pin all, or even most, of this down to the growth of Amazon (or previously Wal-Mart (WMT)), but there can be little doubt that the company has a stifling effect on brick-and-mortar retailers, which, according to the ILSR (.pdf):

Brick-and-mortar retailers create about one out of every eight jobs, and account for a large share of the commercial activity in most towns and cities. If they are locally owned, they also generate a second tier of economic activity, as they spend some of their revenue with nearby suppliers and service providers, sending money flowing into numerous local paychecks.

The ILSR has calculated that up until 2015, Amazon has displaced sales of brick-and-mortar retail to be responsible for 135 million square feet of retail vacancy. From ILSR:

For perspective, that’s the equivalent of 1,267 vacant Home Depot stores, or about 700 empty big-box stores plus 22,000 shuttered Main Street businesses. As Amazon’s sales expand, these vacancies will mount... Over the last fifteen years, the number of local, independent retail businesses in the U.S. fell by 108,000 - a drop of 40 percent when measured relative to population.

And economic dynamism is reduced in another way by the rise of Amazon, as independent producers and retailers are also key to introducing new products and services and helping them find buyers. This mechanism is in full display in Amazon's first category, books. From ILSR:

according to the market research firm Codex Group. Even though it dominates the market, capturing about half of book sales, Amazon accounts for only 7 percent of new book discovery. Local bookstores account for 20 percent.

Monopolizing online market access allows the company to extract ever-higher fees and put existing suppliers at a disadvantage in search and recommendation algorithms and even copying its best-selling stuff. This reduces funds for innovating and reduces the number of competitors. Industries populated by lots of small businesses tend to be more innovative, introducing more new products than industries dominated by a few large companies.

And while an ever-increasing majority of shoppers start search at Amazon, are hooked by Amazon Prime and the Echo, and buying from Amazon becomes habitual, they tend to do less comparison shopping. This gives the company pricing power. From ILSR:

Amazon adjusts its prices constantly, making at least two-and-a-half million price changes a day. These non-stop price changes, notes Lina Khan, a law scholar and fellow at New America Foundation, mean that, for both consumers and regulators, “it may not be apparent when and by how much Amazon raises prices.”

And of course, it's got plenty of other means at its disposal to put its thumb on the scales - through the search and recommendation algorithms, for instance.

Community

The assault on local brick-and-mortar retail is also eroding the local tax base of communities. With property tax responsible for 55% of the local tax base (especially that of local businesses), this is eroding the tax base of many local communities.

In fact, there is often huge competition with the offer of subsidies and tax rebates for Amazon when it does want to establish a (fairly scarce) local presence. From ILSR:

In its 2016 report “Empty Storefronts,” Civic Economics estimates that the land use changes triggered by Amazon resulted in a drop of $528 million in property tax revenue in 2015, losses that are expected to mount as Amazon’s market share continues to grow.

And with a hollowing out of retail outlets, the problems are not just an erosion of the tax base or a decrease in economic dynamism. Rising storefront vacancies and dying malls are increasing crime rates and reducing social capital and a sense of community. From ILSR:

Counties with economies dominated by a few large businesses, sociology research has found, have lower levels of voter turnout, interest and knowledge of politics and current events, local newspaper readership, participation in associations, and engagement in protest activity. As a result of this economic concentration, the researchers wrote, “the independent middle class of local owners is eroded,” and continued, “Our findings suggest that the absence of an independent middle class signals an equally absent civic spirit among local residents.” In their paper, the researchers link their findings to contributions that local business owners make to social trust, cross-cutting social networks, and the “problem-solving capacity” of a community.

This isn't all that surprising, as local businesspeople are often the linchpins of their communities.

In the Amazon economy, shopping is a solitary experience that eliminates an important source of social interaction and community building: going out to shop and run errands. From ILSR:

Looked at in the context of a single interaction, these connections can seem small, but taken together, they create tangible meaning and define much of our sense of place and belonging. Research has found strong links between a vibrant local business community and positive outcomes that range from social connectivity to civic engagement.

It's sort of curious that Amazon seems to recognize this itself as its headquarters moved from the suburbs to downtown Seattle. Here is what Bezos wrote to shareholders at the time (ILSR):

“Our employees are able to take advantage of existing communities... I also believe an urban headquarters will help keep Amazon vibrant, attract the right talent, and be great for the health and well-being of our employees.”

The problem with Amazon is similar to that of Wal-Mart, but much harder to trace back to Amazon. When Wal-Mart establishes a Big Box supermarket in a community, at least it has a presence, but Amazon isn't even physically present in most communities, so its insidious effects can't be traced back to it.

Labor model

While Amazon has an eroding effect on the dynamism of local economies, it often does this without any local presence whatsoever (also avoiding sales tax). Where it is present, with its fulfillment centers, it practices a labor model that isn't innovative at all.

The company pays below average for the warehouse sector, even if it moves about seven times as much in sales per warehouse employee compared to brick-and-mortar retail stores (in Illinois, per ILSR):

Drawing on more than 1,300 wage postings on Glassdoor.com, we found that that Amazon’s fulfillment center positions pay an hourly mean wage of $12.32, which is 9 percent less than the industry average for comparable work, according to Bureau of Labor Statistics (BLS) data... Across these eleven metro areas, we found that Amazon wages were an average of 15 percent below the wages for comparable positions. It’s important to note here that though there are examples of better warehouse jobs, much warehouse work is not very well-paid to begin with, and Amazon is dragging those low wages down further.

It's difficult to build thriving local communities on such low wages, as they don't leave all that much for local services like fitness centers, restaurants and the like. So even where Amazon does actually have a local presence, its effect is likely to be quite limited.

Fulfillment centers are strictly no union workplaces, and production quotas are set intentionally too high in a practice that is best described as "management by stress."

The work pace is grueling, and given the pay and conditions, it isn't a surprise that turnover is very high. Amazon is in the top three for high turnover, with median tenure of just one year. It relies heavily on temporary contracts and subcontracting. The latter enables Amazon to distance itself from the responsibilities (benefits like health insurance) and liabilities (conflicts, legal cost, bad publicity, training, injuries, etc.). And these temps earn even less.

The company has taken the outsourcing to considerable lengths with initiatives like:

  • Amazon Flex, paying independent people with cars to act as delivery vans.
  • Mechanical Turk, a platform connecting people to execute micro tasks like data entry. In 2015, it had already signed up half a million people.

These are not well-paying jobs by any stretch of the imagination, for the Mechanical Turk. From ILSR:

Though it’s difficult to come up with an hourly wage figure for workers who use the platform, The Verge has reported an average of $2 to $3 in 2014.

Similarly, the Flex drivers need to have their own car. They are paid by the delivery, not by the hour, and they have to cover their own expenses.

The goal is, of course, complete mechanization, where the warehouses are run by a future generation of the Kiva robots (the company that Amazon bought in 2014) and delivery by self-driving trucks and drones.

Conclusion

We don't doubt that Amazon is terrifically efficient, that it succeeds in making the purchase process as frictionless as possible and that it is very cheap.

But all this efficiency comes at a considerable cost - a cost that is often difficult to trace back to Amazon, as it has so little local presence. One cost is that it is monopolizing market access, which we discussed in a previous article. The growth of Amazon has a negative effect on wages, employment, small businesses and economic dynamism, the local tax base and community life.

Where it has a presence, it is often heavily incentivized by subsidies or tax rebates, and the labor model it introduces is not one that establishes stable middle-class careers, but one dominated with piecework, low wages, high turnover and uncertainty due to lack of fixed contracts.

Amazon is also shifting much of the cost and responsibilities on its subcontractors and employees.

Much of this is economic progress. It's the displacement of a labor-intensive locally based retail model with one which has a global scale, and it is highly efficient and is very competitive.

But this progress has a price not unlike the effect Chinese imports had on certain manufacturing sectors and communities. And as we showed in a previous article, not all of this efficiency onslaught is the result of a competitive field that is level.

This article was written by

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