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Japan and the World Economy 7 (1995) 443-445

and the
RLD
ECONOMY

Product innovation with mass-production:

Insufficient or excessive?: Comment
T h o m a s Russell *
Santa Clara University, Santa Clara, CA 95053, USA

It is a pleasure to be invited to discuss Professor Nishimura's rich paper. In the

language of a Broadway theater, this paper is what is known as a "twofer",
because it is really two papers for the price of one.
These two papers are:
1. An analysis of the degree to which markets provide the correct variety of
retail establishments in a circular city.
2. An analysis of the degree to which markets provide the correct variety of
manufactured goods in the presence of economies of scale.
In both cases the conclusion is the same. Markets may provide too much
variety or too little variety, depending o n the circumstances, and in both cases the
reason is the same. Market outcomes are determined by the behaviour of the
marginal actor, but socially optimal outcomes must be responsive to the wants of
the average actor. In the two circumstances considered by Professor Nishimura,
marginal and average wants may not coincide.
All of this is worked out in the paper in some detail. In my comments I will not
respond to these technical details for two reasons. (1) The mathematical argument in the paper is extremely clear and intuitive so there is no point in repeating
it and (2) Because of previous work in this area, it is known that the central thrust
of Professor Nishimura's argument must be correct.
The circle of ideas discussed by Professor Nishimura was, to my knowledge,
first discussed by James Meade. For example in Meade (1973), p. 33, he states:
"Because of economies of large-scale production there will be r o o m in the
market for only a limited number of products from which consumers m a y make

* Tel.: 408 554-4764. Fax: 408 554-2700.

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444

T. Russell~Japan and the World Economy 7 (1995) 443-445

their choices. There may, for example, be room in the market for only two car
models although there are, say, six models - A, B, C, D, E and F - all of which are
equally easy to produce. Some consumers may prefer models C and D to have
been put on the market, whereas in fact it is models A and B which have been
selected for production. This is clearly analogous to a 'public good'. All consumers who are interested in cars at all have to share the same range of choice
between available models. The actual car which I buy is a 'private good'; it enters
my utility function and not yours. But the range of cars from which we can choose
is a 'public good' which we must share in common."
Perhaps because of his Mandarin style, Meade's ideas did not take root in the
soil of North American economics. In a number of contributions, Lancaster, for
example, re-examined the problem of the trade-off between variety of products
and economies of scale (Lancaster 1975, 1979, 1980). Commenting on the last of
these papers, Leffler (1980) noted the earlier work of Meade, and went on to note
that the two problems discussed by Professor Nishimura, the optimal location
problem and the optimal variety problem have the same mathematical structure.
In this discussion Leffler quoted from Meade (1974), "the number and variety of
products produced may, in fact, turn out to be greater or to be less than optimal,"
to which Leffler himself added "and, I may add, may turn out to be optimal."
The equivalence between locational inefficiencies and production inefficiencies, however, has historical as well as mathematical roots. Meade wrote his 1974
paper on production inefficiency as an explicit reworking of an earlier paper by
Stern (1972) in which Stern generalized the location problem of Hotelling and
reached the same conclusion as Professor Nishimura, that there could be too few
or too many stores. (Stern, however, did not have the discount store feature of
Professor Nishimura's model.)
Even this, however, is not the beginning of the story. If one wished to ask the
question, where does the tension between average and marginal behaviour first
appear in economics, an obvious candidate would be Pigou's famous example of
the two roads (Pigou, 1919, p. 94). Recall that in this example, there are two roads
between cities A and B, one uncongested but slow because it is bumpy, the other
potentially fast but therefore congested. Decision making by the marginal driver
will lead to a level of congestion on the fast road which equalizes the time of
transit on the two roads. This however, cannot be socially optimal, since, if we
move one driver from the congested to the uncongested road, that driver's transit
time (utility) is unchanged, but all other drivers on the congested road find that
their time of transit is reduced so their utility goes up. Thus marginal action is not
average maximizing.
Professor Nishimura's results are therefore completely consistent with what we
already know. The central question, it seems to me, is what we should therefore
do. In particular, I have some concern that in the wrong hands the S t e r n - M e a d e Lancaster-Nishimura conclusion that in these cases markets may be inefficient is
just as dangerous as the kneejerk view on the other side which is that if consumers

T. Russell~Japan and the World Economy 7 (I 995) 443-445

445

want something and it makes profits it must be socially desirable. Much as we all
love the old ways, we surely cannot become economic Luddites, arguing against
every new large store or mass produced good just because marginal may not
maximize average.
For example it is a pleasure to stay at a traditional Japanese inn which has been
in the same family for 500 years. However, it is also a very expensive experience.
Should the citizens of Japan be denied the right to stay at a Holiday Inn because it
may be socially efficient?
To be more precise, let me address two specific questions to Professor
Nishimura. First, what in this analysis identifies those cases in which market
failure is more likely to be a problem, and which specific factors should governments look into in deciding whether or not to suppress innovation?
Second, if it is decided not to use market forces to determine the variety of
products, be it stores or manufactured goods, what should be done instead?
Meade, for example, was very explicit that even though there was a potential
problem with the variety of automobiles producing under increasing returns to
scale, he would not recommend that the choice of which autos to produce be left
to a government bureaucrat.
Professor Nishimura talks about setting up a regulatory mechanism with three
dimensions, but getting the level of this triple just right is clearly a delicate matter,
and the potential for capture would seem to be quite high. The analysis in
Professor Nishimura's paper is very thought provoking, but where do we go from
here?

References
Lancaster, K.J., 1975, Socially optimal product differentiation, American Economic Review 65,
567-585.
Lancaster, K.J., 1979, Variety, equity and efficiency (Columbia University Press, New York).
Lancaster, K.J., 1980, Competition and product variety, Journal of Business 53, $79-S103.
Leflier, K., 1980, Comments on the economics of product positioning, Journal of Business 53.
S105-S114.
Meade, J.E., 1973, The theory of economic externalities (Sitijoff-Leider, Gen~ve).
Meade, J.E., 1974, The optimal balance between economies of scale and variety of products: An
illustrative model, Economica 41,359-367.
Pigou, A.C., 1919, Economics of welfare (McMillan, London).
Stern, N., 1972, The optimal size of market areas, Journal of Economic Theory 4, 154 173.