The SCP approach draws on theories of market structure. These theories can be adapted to examine the behavior of firms and industries. However, these theories do not always give us exact relationships between structure, conduct and performance.
Structure can be measured by a multitude of indicators. Unfortunately, many economists tend to measure structure by concentration. This is primarily because data is easy to find in government statistics. As a consequence, there is a danger of overemphasizing the importance of concentration.
The SCP approach has been criticized for providing a ‘snapshot’ of competitive conditions.
The approach does little to explain how the industry has evolved into its current state and what, if any, the future changes of industry structure and firm behavior are likely to be.
It is often difficult to decide which variables belong to structure, which to conduct and which to performance. For example, the extent of advertising, vertical integration and diversification gives useful information as to the structure of an industry.
However, these are also strategies which firms can choose to follow to gain a competitive advantage over rivals.
There are difficulties in measuring many of the variables. For example, how would one measure profitability? How does one measure entry barriers and the rate of entry? How do we measure the extent of vertical integration?
What exactly do we mean by performance? Performance is some measure of the degree of success in achieving desired goals. Is it possible to have a set of uniform performance indicators? Differences in firm objectives may make the links between firm behavior and performance difficult to assess.
For example, if firms are sacrificing potential profits in order to reduce risk by investing in more certain activities, then researchers should be more interested in variability in profit rates and not profits levels per se. Alternatively, if managers are maximizing their own satisfaction through excess expenditures, then it is no longer clear that large firms will necessarily make abnormal returns. In other words, firms insulated from competitive pressure may choose a ‘quiet life’ and no longer strive for greater efficiency and higher profits. Despite its critics, the SCP approach is one of the most popular and enduring approaches to analyzing competitive markets.
For example, European banking has experienced competitive change over the last decade. Government deregulation has increased competition and allowed banks to compete not only in domestic but also in other European markets. The extent of diversification has increased, which has caused the distinction between banks, building societies and insurance companies to become blurred. There has been entry of foreign banks into many European countries, leading to intensified competition. The number of banks has declined in many European markets in recent years. The trend is apparent across different types of banks, including the mutual savings and co-operative banks as well as the domestic commercial banks.