Competition, Cost Innovation, and X-inefﬁciency
in Experimental Markets
Published online: 28 October 2015
Ó Springer Science+Business Media New York 2015
Abstract This paper examines the relationship between competition, cost inno-
vation, and x-inefﬁciency in experimental markets. In the lab, oligopolists make
closer-to-optimal cost innovation expenditures than do monopolists, which result in
lower x-inefﬁciency in oligopoly than in monopoly. Oligopolies also increase total
surplus relative to monopoly, and consumer surplus makes up a larger portion of
total surplus in oligopoly than monopoly. The data illustrate how x-inefﬁciency
affects surplus dynamically and suggest price as a mechanism by which competitive
pressure increases cost efﬁciency.
Keywords X-inefﬁciency Á Cost innovation Á Experimental economics
X-inefﬁciency theory maintains that ﬁrms may not minimize their costs of
production, especially in markets where they experience little competitive pressure.
To date, there have been no attempts to study x-inefﬁciency using experimental
While there are always questions of external validity with experimental
research, the laboratory offers an excellent test bed for x-inefﬁciency theory because
the theory posits a behavioral response to external stimuli—an increase in
& Andrew Smyth
Economic Science Institute, Chapman University, One University Drive, Orange, CA 92866,
X-inefﬁciency is deﬁned as the difference between actual and minimum cost of production for a given
output (Leibenstein 1978).
To the best of my knowledge. For surveys of the existing theoretical and (non-experimental) empirical
literature, see Frantz (1988, 2007).
Rev Ind Organ (2016) 48:307–331