Vertical integration in microeconomics and business is an arrangement in which a business owns the production process of its products. Typically, each member of the product chain makes a separate product or service, and all the goods combine into a common demand. This is similar to the concept of a single factory producing two different products, where the products are interchangeable. However, unlike factories, the products on this vertical level are not interchangeable, and there can be no re-sale of a product that was manufactured.
Because of this horizontal arrangement, the product at the vertical level can be as specific as a car or as generalized as a toothbrush. Products that are produced in a factory have almost nothing in common with a toothbrush. Because of this, the vertical integration model is often used as a tool for separating certain products from others in the market.
Vertical integration was first introduced by Richard M. Nixon’s administration and was commonly referred to as “Nixon’s doctrine”. Nixon believed that economic systems could be built in which a firm, with the cooperation of several small companies, would control a large part of the market by using a combination of economies of scale and economies of access. This model was a powerful tool for increasing the power of industrial organizations.
Vertical integration can take many forms, including the following: the creation of multiple industries, such as electronics, pharmaceuticals, chemicals, and automobiles; a major corporation purchasing another large company and creating a new product from it; a major corporation owning a technology firm that creates the same product for other major corporations; and even the establishment of a giant corporation such as GE having the sole ownership of a small company, where they produce the product for other companies. These examples illustrate the ways that the vertical model can be used to create monopolies in the marketplace. Monopoly in the market occurs when a firm controls a certain market segment.
Vertical integration can also take the form of companies that own distribution centers. For example, if a manufacturing firm decides to focus on producing a particular item for a particular retailer, they can purchase the inventory directly from the retailer, who can then take the goods in and ship them to retailers around the world. This means that the manufacturing company has a large number of employees who can work in close proximity to one another. thereby reducing travel time and cost.
Another benefit of vertical integration is that it allows companies to reduce costs and waste by focusing on a vertical level, and not on horizontal levels. By eliminating the need to build various departments in each department, the company has more disposable capital and is able to run efficiently. Therefore, the costs of manufacturing can be brought down, the quality of goods created can be improved, and overall profits can be increased.
However, although a vertical level of integration may seem advantageous in theory, it can be very difficult to maintain in real life. When a firm manufactures products at two different locations, the logistics and transportation costs of both locations may be too great.
Vertical integration has been called “the Achilles heel of success” because it can result in failure if the firm cannot make the transition smoothly. In the retail industry, for example, if a manufacturing firm is able to produce a great new product at a huge price discount, but that price is only available for existing customers, this will not be a successful marketing strategy. In addition, since customers can only buy from a single source, it is possible that they will only buy from that one source, thus forcing the firm to raise the price, which can lead to significant financial loss. In an increasingly competitive market, it is sometimes impossible to maintain a price reduction and not lose a lot of money. Although it is possible to maintain the price of one item, such as a printer, at a reduced rate, if all the other items produced by the company are selling well, this may not be an option.