Consumers have been rocked by shortages across markets due to the COVID-19 pandemic and the devastating Russian invasion of Ukraine. Supply chains have not recovered, and politicians continue their search for answers. The baby formula shortage of the past few weeks is the most recent installment of this dreadful saga.
When formula maker Abbott Laboratories voluntarily closed down its factory in Sturgis, Michigan, a run on baby formula ensued. Political opportunists who blame a lack of competition and rampant monopoly power for most of our current economic problems are using this episode as yet another chance to further regulate the economy. But you shouldn’t buy it.
It is true that Abbott compromises a large portion of a concentrated market for baby formula. The cause of this, however, is not anti-competitive conduct. Rather, it is restrictive regulations and protectionism.
Stringent regulation can benefit large producers. As economist Alfred Kahn so eloquently described in his two-part masterwork “The Economics of Regulation,” regulation is most often a mechanism that supplants, rather than reinforces, competition. Much commentary has pointed out that government policies and Abbott’s large market share are at play in the shortage, but many have failed to make the connection between the two phenomena.
In fact, government intervention in the form of high tariffs and red tape is the primary driver of the lack of competition in an industry dominated by large players.
Incentives and Regulation
First, as Food and Drug Administration (FDA) watchers have long known, the agency is prone to Type I errors—disallowing products to come to market that would have been beneficial. The agency fears Type II errors—permitting harmful products to come to market—to a much greater extent because the victims are easily identifiable. This causes the FDA to err on the side of caution in its investigations, resulting in long delays that carry (less-visible) costs of their own. This happened during the heat of the COVID-19 pandemic, when the FDA held up the AstraZeneca vaccine due to claims that it might cause pulmonary embolisms, even though there ended up being little evidence for this.
The story of the infant formula shortage provides another example. When four infants reportedly fell ill (and two tragically perished) after being fed formula produced at the Abbott plant, the FDA investigated. After reaching a consent decree, production was halted, even though the CDC failed to find a connection between the bacteria found in two of the infants’ samples with bacteria samples found in the Abbott plant.
An excess of caution usually seems reasonable, and in some cases it probably is. But blocking products from coming to market has its own costs in the form of denying consumers products that could help them and, in some cases, save lives. Furthermore, such actions can be pernicious to competition by slowing down supply lines and causing customers to rely on fewer producers.
The Role of Tariffs
Second, with tariffs up to 17.5 percent on imported formula, it’s no wonder that most formula in the U.S. market is domestically produced, preventing an important competitive force from operating: foreign producers. Indeed, the shortage is a glaring example of how restrictive tariffs benefit domestic producers at the expense of domestic consumers.
We’ve seen this same issue play out elsewhere. For example, domestic sugar production is protected by high tariffs. When the Justice Department balked at a proposed merger between two of the largest U.S. sugar producers, it failed to note the harm of protectionism. U.S. consumers spend an abnormally large portion of their budgets on sugar compared with consumers in other countries. Therefore, domestic companies grow larger than they would in the face of free competition from abroad.
The WIC Program
Lastly, anyone looking into concentration among formula producers should not neglect the U.S. Department of Agriculture’s Special Supplemental Nutrition Program for Women, Infants, and Children (WIC).
The WIC program is set up to help feed children in low-income families. Great intentions notwithstanding, the economic incentives are problematic. After the federal government extends funds to various states, state governments are then required by law to participate in a rebate system whereby each state WIC program auctions off the rights to supply its entire need for infant formula.
Concentration in the infant formula market is practically baked into the cake by law. According to preliminary data, the average monthly number of WIC participants was over 6.2 million in the fiscal year 2021. With forty-nine total contracts among U.S. states and territories, Abbott supplies the lion’s share of formula for WIC beneficiaries, and over half of infant formula supplies in the U.S. move through the program. By granting such a huge market share to one company, the government has distorted the market for baby formula and, once again, fostered an overreliance on policy for boosting revenue.
While the Biden administration’s show of using the Defense Production Act and employing federal planes to distribute baby formula may generate good press coverage, other, more boring fixes might solve future shortage problems for good.
An agenda to alleviate current and future formula shortages might include making permanent the FDA’s new guidance that relaxes regulatory restrictions for producers bringing formula to market. Tariffs on foreign imports should be permanently reduced or eliminated. It may not be the ultimate solution, but Rand Paul’s proposal to this effect could be a good place to get the conversation going.
If market concentration is an immediate cause of the current baby formula shortage, then it is not due to private monopolization or anti-competitive conduct. Introducing even more heavy-handed policies, rather than fixing the policies we have, will almost certainly continue to cause problems.
Alden Abbott is a senior research fellow with the Mercatus Center at George Mason University and a former general counsel with the Federal Trade Commission.
Giorgio Castiglia is a program manager with Mercatus.