In theories of competition in economics, barriers to entry, also known as barrier to entry,
are obstacles that make it difficult to enter a given market.
The term can refer to hindrances a firm faces in trying to enter a market or industry—such
as government regulation and patents, or a large, established firm taking advantage of
economies of scale—or those an individual faces in trying to gain entrance to a profession—such
as education or licensing requirements.
Because barriers to entry protect incumbent firms and restrict competition in a market,
they can contribute to distortionary prices.
The existence of monopolies or market power is often aided by barriers to entry.
Definitions George Stigler defined an entry barrier as
"A cost of producing which must be borne by a firm which seeks to enter an industry but
is not borne by firms already in the industry."
Franklin M. Fisher gave the definition "anything that prevents entry when entry is socially
beneficial."
Joe S. Bain defined as a barrier to entry anything that allows incumbent firms to earn
supernormal profits without threat of entry.
Barriers to entry for firms into a market Barriers to entry into markets for firms include:
Advertising - Incumbent firms can seek to make it difficult for new competitors by spending
heavily on advertising that new firms would find more difficult to afford.
This is known as the market power theory of advertising.
Here, established firms' use of advertising creates a consumer perceived difference in
its brand from other brands to a degree that consumers see its brand as a slightly different
product.
Since the brand is seen as a slightly different product, products from existing or potential
competitors cannot be perfectly substituted in place of the established firm's brand.
This makes it hard for new competitors to gain consumer acceptance.
Capital - need the capital to start up such as equipment, building, and raw materials
Control of resources - If a single firm has control of a resource essential for a certain
industry, then other firms are unable to compete in the industry.
Cost advantages independent of scale - Proprietary technology, know-how, favorable access to
raw materials, favorable geographic locations, learning curve cost advantages.
Customer loyalty - Large incumbent firms may have existing customers loyal to established
products.
The presence of established strong brands within a market can be a barrier to entry
in this case.
Distributor agreements - Exclusive agreements with key distributors or retailers can make
it difficult for other manufacturers to enter the industry.
Economy of scale - The increase in efficiency of production as the number of goods being
produced increases.
Cost advantages can sometimes be quickly reversed by advances in technology.
For example, the development of personal computers has allowed small companies to make use of
database and communications technology which was once extremely expensive and only available
to large corporations.
Government regulations - A rule of order having the force of law, prescribed by a superior
or competent authority, relating to the actions of those under the authority's control.
Requirements for licenses and permits may raise the investment needed to enter a market,
creating an effective barrier to entry.
Inelastic demand - One strategy to penetrate a market is to sell at a lower price than
the incumbents.
This is ineffective with price-insensitive consumers.
Intellectual property - Potential entrant requires access to equally efficient production
technology as the combatant monopolist in order to freely enter a market.
Patents give a firm the legal right to stop other firms producing a product for a given
period of time, and so restrict entry into a market.
Patents are intended to encourage invention and technological progress by guaranteeing
proceeds as an incentive.
Similarly, trademarks and servicemarks may represent a kind of entry barrier for a particular
product or service if the market is dominated by one or a few well-known names.
Investment - That is especially in industries with economies of scale and/or natural monopolies.
Network effect - When a good or service has a value that depends on the number of existing
customers, then competing players may have difficulties in entering a market where an
established company has already captured a significant user base.
Predatory pricing - The practice of a dominant firm selling at a loss to make competition
more difficult for new firms that cannot suffer such losses, as a large dominant firm with
large lines of credit or cash reserves can.
It is illegal in most places; however, it is difficult to prove.
See antitrust.
In the context of international trade, such practices are often called dumping.
Restrictive practices, such as air transport agreements that make it difficult for new
airlines to obtain landing slots at some airports.
Research and development - Some products, such as microprocessors, require a large upfront
investment in technology which will deter potential entrants.
Supplier agreements - Exclusive agreements with key links in the supply chain can make
it difficult for other manufacturers to enter an industry.
Sunk costs - Sunk costs cannot be recovered if a firm decides to leave a market.
Sunk costs therefore increase the risk and deter entry.
Switching barriers - At times, it may be difficult or expensive for customers to switch providers
Tariffs - Taxes on imports prevent foreign firms from entering into domestic markets.
Vertical integration - A firm's coverage of more than one level of production, while pursuing
practices which favor its own operations at each level, is often cited as an entry barrier
as it requires competitors producing it at different steps to enter the market at once.
Zoning - Government allows certain economic activity in specified land areas but excludes
others, allowing monopoly over the land needed.
Barriers to entry for individuals into the job market
Examples of barriers restricting individuals from entering a job market include educational,
licensing, and quota limits on the number of people who can enter a certain profession.
Classification and examples Michael Porter classifies the markets into
four general cases: High barrier to entry and high exit barrier
High barrier to entry and low exit barrier Low barrier to entry and high exit barrier
Low barrier to entry and low exit barrier Markets with high entry barriers have few
players and thus high profit margins.
Markets with low entry barriers have lots of players and thus low profit margins.
Markets with high exit barriers are unstable and not self-regulated, so the profit margins
fluctuate very much over time.
Markets with a low exit barrier are stable and self-regulated, so the profit margins
do not fluctuate much over time.
The higher the barriers to entry and exit, the more prone a market tends to be a natural
monopoly.
The reverse is also true.
The lower the barriers, the more likely the market will become perfect competition.
Barriers to entry and market structure Perfect competition: Zero barriers to entry.
Monopolistic competition: Low barriers to entry.
Oligopoly: High barriers to entry.
Monopoly: Very High to Absolute barriers to entry.
See also Anti-competitive practices
Barriers to exit Exclusive dealing
Market power Starting a Business Index
Strategic entry deterrence Switching barriers
Zero-profit condition References