The Biggest Winner From The Amazon Effect Is The Unscrupulous

With Amazon dominating retail purchases around the world, globalization is truly flourishing. Amazon successfully embedded itself into the American consumer habits, being the go-to destination for online shopping.

Online marketplaces such as Amazon create a pseudo perfect economy, a state of almost perfect competition. This Economics 101 factor leads suppliers and online retailers to compete with each other mostly on one factor: Price.

When price becomes the most important factor in a marketplace, it provides great rewards for the sellers with the lowest prices. Differentiated products, niche items and high tech products generally escape Perfect Competition due to the sheer sizer of the market and the endless variety available.

But for basic low tech items, the Unscrupulous Manufacturer is King. Let’s take a simple white bath towel as an example. A quick search in the US Amazon Marketplace quickly identifies the financial potential of being the lowest cost supplier: A $8 bath towel — is generating over $300,000 a month for the top suppliers, or almost 40,000 towels every month.

Now imagine that the US made manufacturer sells the towel for $12 and the Chinese manufacturer for $8. The Chinese manufacturer manages to capture most of the sales volume on the Amazon Marketplace.

Then comes the Unscrupulous Manufacturer. To cut costs, he buys stolen cargo, employs children and effectively trap his employees in a state of slavery. This enables him to produce the towels for under $3 each in his country.

The Unscrupulous Manufacturer then pays a company to import his towels in the USA and distribute them via Amazon (Amazon FBA fulfills and ships the towels directly to customers). He sets his price at $7 per towel, and beats the legitimate competition, becoming quite wealthy regardless of his lack of morals.

Albeit theoretical, this story captures the dark side of the Amazon Effect. It rewards anyone willing to break the rules, and indirectly punishes the ones that follow the rules: The tax paying, responsible sourcing, healthcare paying manufacturer.

Amazon and other similar marketplaces have no control over the legality of goods being sold on their marketplace. Bad products may get bad reviews, but good products built with slave labor will be sold with no issues, and receive great user reviews (Wow, the towels are so soft and affordable! I got 10 for my whole family!).

It is difficult to rely on consumer education to support ethical manufacturers when there is no visibility on how ethical the product manufacturing process is. The sad reality is that until all nations provide an effective rule of law, human rights and worker rights, the countries with the looser standards will take the largest chunks of the generic product markets.

As a Venture Capital Firm that focuses on physical goods, we take this very seriously. Our investment policy considers the dark side of the Amazon Effect on a daily basis. Because of it, we have to exclude fantastic companies that are, unfortunately, too exposed to the Unscrupulous Manufacturer.

Amazon is a fantastic platform, however for many product categories, it is more of a curse than a blessing. There is no short term solution to this problem. For now, the Unscrupulous Manufacturer will continue to generate wealth on online Marketplaces.