Economics Extended Essay

Government intervention

implemented on Zara Garment’s

Production

To what extent was government intervention effective in addressing

the negative externalities caused by Zara's garment production in

Switzerland?
 1.​Introduction:

"With 38 Zara stores in Switzerland, 50% of their garment collection does not
st
meet the John Life requirements" (1 web). The use of unsustainable materials in

the production of Zara's garment such as polyester and cotton can lead to a high

degree of non-biodegradability. Open to international trade, Zara simultaneously

contributes to a significant amount of carbon emissions as they send batches of

garment through cargo planes. Plastic bags that are given out to consumers for

free in garment stores have currently been misused, leading to a drastic increase

in the plastic pollution rates in Switzerland.

These unsustainable actions taken place in Switzerland necessitates government

intervention. The Swiss government has attempted to internalise this negative

externality by incorporating an initiative called "Sustainable Textile Switzerland

2030", in which one of its goals aims to "decrease the greenhouse emissions by
th
50% by 2030" (6 web). Although not a direct form of an international agreement,

the Swiss government aims to reduce this negative externality by incorporating

the Paris agreement in Swiss legislations.

To effectively analyse this government intervention being implemented, I will dive

deeper into the theories of market power and market failure. This will essentially

allow us to evaluate the effectiveness of these policies and the effect on different

stakeholders. With a substantial number of Zara employees and consumers in

Switzerland, an intervention made by the government, addressing this negative

externality, will explicitly impact many stakeholders in the economy.

2.1 Secondary Data:

Internet Websites:

I have collected a significant amount of data from sources such as the

"Sustainable Textiles Switzerland" website and the official "Federal Council of

Switzerland" website. These websites gave me crucial data on the STS initiative

implemented by the Swiss government. Finding information from local Swiss

websites enhances the credibility compared to any other sources because they

tend to be more tailored to the specific regulatory and economic state of

Switzerland. I targeted websites that are published by the Swiss government as

they are more credible and undoubtedly contain the most accurate information of

certain Swiss economic activities.

Research Reports

In addition to internet websites, I have gathered a collection of research reports

published by the federal council of Switzerland. Research reports are significant as

they broaden our understanding of the government intervention that is imposed

on garment firms in Switzerland such as Zara. They effectively evaluate the

different challenges and opportunities for garment firms due to new Swiss

legislation. These reports are also optimistic because they look to predict possible

outcomes in the garment industry. Unlike websites, research reports contain

empirical evidence rather than relying on theoretical outcomes. This

simultaneously enhances the credibility of the source.

Theory Books

Although we are focusing on a real – life problem, economics is extremely

theoretical. It is always important to support real – life evidence with theory. I

specifically have this book that I borrowed from the Zurich library that provides
theoretical knowledge of microeconomics and macroeconomics. I will primarily

look at the microeconomics section as I am focusing on market failure and market

power. It would also be important to correlate theoretical and real – life

government interventions.

2.2 Primary data

Consumer Survey

I will be conducting a survey asking regular garment consumers whether they are

physically and mentally impacted by the excessive environmental damages being

created. This information is crucial as it depicts emotional and behavioural

consequences, thus suggesting the externality is felt by consumers. The only

downside to this method is that not everyone frequently goes to garment stores

such as Zara, therefore they will not be able to give us a concrete answer in our

survey. Hence, I need to find a way to primarily target a particular group of

people. I will do this by simply allowing people from my school and all over my

community to fill out the survey. The accuracy of this data is determined by the

number of responses.

Interview

It was key to interview a particular Zara shopper on whether they are willing to

pay more money in exchange for sustainable production. This determines

whether the government intervention implemented to correct the negative

externality of production is truly effective. This mainly provides us information on

whether consumer surplus is decreased or unaffected. This also gives us

additional information on what type of market structure Zara is currently

operating in. The one problem is that we are only basing this information off 1-2

Zara consumers. Hence, we will have to assume that all Zara consumers act

similarly.
3. Analysis and Findings:

3.1 Impact on the Swiss residents

Survey

𝐹𝑖𝑔𝑢𝑟𝑒 1: 𝑆𝑢𝑟𝑣𝑒𝑦 𝑅𝑒𝑠𝑢𝑙𝑡𝑠 (𝑄𝑢𝑒𝑠𝑡𝑖𝑜𝑛𝑠 𝑎𝑟𝑒 𝑓𝑜𝑢𝑛𝑑 𝑖𝑛 𝑡ℎ𝑒 𝑎𝑝𝑝𝑒𝑛𝑑𝑖𝑥)

1.​ Have you ever bought clothes from Zara?

have bought clothes from Zara.

2.​ Do you know what the term "Fast Fashion" is?

Many students know what the term “fast fashion” is, whereas some don't

recognise it.

3.​ Are you aware that fast fashion contributes to environmental

pollution?

A staggering 66.6% of the students realise that fast fashion industries contribute

to environmental damages.
 4.​ Do you think brands such as Zara have a negative impact on the

environment?

Although it is factually proven that fast fashion industries have a negative

environmental impact, some students believe that they don't. Several reasons for

this include not being able to witness the damage first hand and also the trust

they have on big fashion industries such as Zara.

5.​ Did you know that Zara's garment is often produced using synthetic

materials (Ex. Polyester)

Many students were unaware Zara typically produces their garment using

synthetic materials which have a negative environmental impact.

6.​ Do you think the Swiss government should regulate fast fashion firms

more strictly?

Fewer people believe that there should be any additional measures taken to this

case. This may also be due to the high marginal utility that Zara's products provide

to consumers.

7.​ Would you be willing to pay more for clothes that are sustainably

produced?

Just as expected, the results were diverse. Due to preference, some people may

pay extra for environmentally friendly clothes from Zara. However, an adequate

number of people are not willing to pay extra for environmentally friendly clothes.

This has a direct correlation to the law of demand. As prices increase, the demand

for the product decreases. This is true because some consumers don't see a real

benefit in paying extra just for clothes that are sustainable and environmentally

friendly.
Interview with Enviro§nmental Scientist

A recent interview with an environmental scientist was conducted to thoroughly

understand the real effect of Zara's garment production on the environment. This

was also mainly narrowed down to the Zara factories located in Switzerland. The

scientist stated that Zara's significant energy usage leads to more wastage and

greenhouse emissions. Their clothes are predominantly produced from synthetic

fibres which are inevitably derived from fossil fuels. This can release microplastics

into different bodies of water. The scientist suggests that there are many major

changes in Zara from country to country. However, the Swiss government is more

regulatory as they impose “stricter environmental standards". Textile wastage is

an ongoing concern in Switzerland and is often disregarded despite the major

recycling systems. Due to the fact that Switzerland is a landlocked country, Zara

heavily relies on transport that comes from either cargo planes or cargo trucks.

Nevertheless, the carbon emissions are more significant and have a major

contribution to the air pollution levels. The scientist also explained that it is

practically pointless to impose fines on a firm that makes significant profits and

revenue. Instead, imposing a policy would incentivise Zara to reduce their

greenhouse emissions and textile wastage. Our scientist believes that the Swiss

policy imposed on Zara is only partially effective in reducing the negative

environmental impact. This is because Zara is a large chain that spans the entire

world, therefore “one action that has been taken by the Swiss government, will

not solve the environmental problems that are globally arising due to Zara's

garment production".

3.2 Negative externality of Production:

Environmental problems explicitly arise across many retail industries. These

problems often include excessive use of non-environmentally friendly materials

for production, leading to greenhouse gas emissions. This problem can physically
affect civilians living in the surrounding area. Hence, this deduces the fact that the

overall welfare has been diminished significantly. This leads to a so-called negative

externality of production. “Negative externalities are expenses incurred by third

parties in an economic transaction for which no compensation is paid” (Book,

page 145). Negative externalities of production commonly lead to a higher social

marginal cost and lower private marginal cost, suggesting that society is more

impacted than the individual firms themselves. Due to the legislations and

regulations that are being imposed, Zara is obligated to increase their prices to

cover their capital investment costs as they are not subsidized by the government.

𝐹𝑖𝑔𝑢𝑟𝑒 2: 𝑁𝑒𝑔𝑎𝑡𝑖𝑣𝑒 𝑒𝑥𝑡𝑒𝑟𝑛𝑎𝑙𝑖𝑡𝑦 𝑜𝑓 𝑝𝑟𝑜𝑑𝑢𝑐𝑡𝑖𝑜𝑛 𝑔𝑟𝑎𝑝ℎ (𝑂𝑤𝑛 𝐷𝑖𝑎𝑔𝑟𝑎𝑚)

Figure 1 is a visual depiction of a negative externality of production that is

specifically created by Zara’s garment production. We can see that the marginal

social cost lies above the marginal private cost because society is more affected
than the individual firms. Hence the socially optimum price and level of output

intersects with the demand curve and marginal social cost curve. However, when

the negative externality is present, the firm is operating at the level where the

equilibrium quantity and price intersects with the demand curve and the marginal

private cost curve. Due to this, a deadweight loss has been created which is

represented by a black shaded triangle. The marginal social benefit is equal to the

marginal private benefit because both stakeholders do not excessively benefit

from the actual production of Zara’s garment. The negative externality is depicted

through the arrow that expands from the MPC curve to the MSC curve.

4. Actions Taken by Zara:

4.1. Mid Term Climate Risk Assessment

𝐹𝑖𝑔𝑢𝑟𝑒 3: 𝑀𝑖𝑑 𝑇𝑒𝑟𝑚 𝐶𝑙𝑖𝑚𝑎𝑡𝑒 𝑟𝑖𝑠𝑘 𝑎𝑠𝑠𝑒𝑠𝑠𝑚𝑒𝑛𝑡 (𝑍𝑎𝑟𝑎 𝑓𝑖𝑛𝑎𝑛𝑐𝑖𝑎𝑙 𝑠𝑡𝑎𝑡𝑢𝑠 𝑡ℎ𝑖𝑛𝑔𝑦)

Zara has made some extremely notable changes in machinery in 2024 compared

to 2023. “In 2024, Zara reduced more than 434,000 tonnes of GHG in our scope 1

and 2 with respect to 2018” (Zara Financial status thing). The Swiss government is
imposing a policy that directly aligns with the Paris agreement. Figure 2 is a risk

assessment that lists how different climate policies would affect Zara’s business

through physical and transition risks. As seen on figure 2, the Paris agreement has

a high influence on the market and regulatory system. In terms of the market, this

means that consumers will seek to shift to more sustainable products from Zara.

However, when the needs of this policy are not met, Zara would be faced with

extreme consequences such as paying expensive fines. Although substantial

investment in sustainable technology is required, it has a minor impact on the

company. Usually, additional investments in extraordinary logistics puts a risk on

their financial status. However, this is not seen with Zara due to their enormous

scale of production and high annual revenue. The brand's reputation and

purchase of raw materials are not affected by the Paris agreement.

4.2. Financial Status

Zara’s Global Financial Status (2023 and 2024):

2023 (In millions) 2024 (In millions) Percentage change

Cost of Raw $14,962 $16,643 11%

materials and

Consumables

Wages, Salaries and $4,479 $4,688 4.6%

similar
 Extraordinary $680 $900 24.4%

logistics investments

Net profit $5,395 $5877 8.9%

Using the table above, it is inevitable that the cost of raw materials has “jumped

by around 10% in 2024 as the fast-fashion retailer used more flights to move
th
clothes from production centres in Asia” (27 June – investing). However,

Switzerland had restricted the additional transport of Zara’s garment with the goal

of reducing the air pollution caused by cargo fuel. Although Zara necessitates

investments in physical capital that is more environmentally friendly, they didn’t

pass down the costs to employees by reducing their wages. We can see that the

wages and salaries went up in fact due to escalating inflation all over the world at

the time of 2024. Zara has simultaneously increased their investments on

extraordinary logistics. The primary factor of this are the legislations and

regulations imposed by the government in many European countries including

Switzerland, requiring the company to invest in eco-friendly machinery. Despite

the significant investments in physical capital, the net profit had still increased by

8.9% due to the oligopolistic nature of Zara. The total cost of production had

increased by around 10.4%. The total cost of production has been calculated by

adding the cost of raw materials, wages, salaries, and extraordinary logistics

investments together. However, there are some implicit costs that must be

considered such as manufacturing overheads, inventory holding costs and

product development. These costs are variable and alter every year.
5. Zara as an Oligopoly

Zara goes under the category of an Oligopoly, defined as “ a market structure

where a small number of firms have significant control over market prices and

output, often leading to limited competition and potential collusion among the

firms” (Investopedia). An oligopoly is also often characterised by interdependence,

product differentiation and high barriers to entry.

5.1 Concentration Ratio

To clearly determine whether Zara is an oligopoly, the concentration ratio of the

fast fashion industry must be calculated. Alongside Zara, the top 2 fast fashion

firms with large market shares include H&M and Shein.

Market Shares of each Firm:

Zara / inditex: $41.62 Billion USD

Shein: $38 Billion USD

H&M: $22.3 Billion USD

Total Market share: $148 Billion USD

41.62 + 38 + 22.3
148
· 100 = 68. 9

𝐶𝑅3 = 68. 9%

Using the information provided by the calculations, the three biggest fast fashion

industries dominate 68.9% of the world's global industry sales. This high

concentration ratio suggests that Zara is in an Oligopoly as there are a few

dominant firms and a substantial number of smaller firms that do not have an

influence in the market. Consistent price levels and output suggests that Zara

operates in a non-collusive oligopoly.

As Zara withholds significant power and control over the market prices, there is a

possibility that this power is abused, causing a drastic reduction in consumer

surplus. This power is effectively utilised by exploiting the consumers through

several ways. In many countries including Switzerland, Zara has purposefully cut

the supply of certain products to incentivise consumers to buy limited quantity

products. This inevitably encourages overconsumption which positively

contributes to Zara’s abnormal profits. These abnormal profits refrain the

government from imposing taxes and fines on the firm as it does not affect them

financially considering the great abnormal profits.

𝐹𝑖𝑔𝑢𝑟𝑒 4: 𝑆ℎ𝑜𝑟𝑡 𝑟𝑢𝑛 𝑛𝑜𝑟𝑚𝑎𝑙 𝑝𝑟𝑜𝑓𝑖𝑡 𝑓𝑜𝑟 𝑎 𝑚𝑜𝑛𝑜𝑝𝑜𝑙𝑖𝑠𝑡 (𝑇𝑒𝑥𝑡𝑏𝑜𝑜𝑘 𝑝𝑎𝑔𝑒 197)

Figure 4 is an accurate visual representation of a monopolist earning normal

profits. Normal profits are defined as when the total costs equal the total revenue,

therefore zero profit. As we can see on the diagram, a significant number of firms

operate when marginal costs are equal to the marginal benefits as this is the
profit maximisation rule. At this point, the average cost is equal to the average

revenue, therefore profits are zero. Before becoming an established fast fashion

firm, Zara made normal profits in the late 20th century during their temporary

period under monopolistic competition. However, as we can see on the table that

was previously provided, Zara has made a staggering $5877 million in profit over

the course of a couple of decades.

𝐹𝑖𝑔𝑢𝑟𝑒 5: 𝑂𝑙𝑖𝑔𝑜𝑝𝑜𝑙𝑖𝑠𝑡 𝑚𝑎𝑘𝑖𝑛𝑔 𝑎𝑏𝑛𝑜𝑟𝑚𝑎𝑙 𝑝𝑟𝑜𝑓𝑖𝑡𝑠 (𝑡𝑒𝑥𝑡𝑏𝑜𝑜𝑘 𝑝𝑎𝑔𝑒 197)

With Zara’s large annual abnormal profit, the average cost is less than the average

revenue as seen on figure 5. Due to Zara’s success in being productively efficient

and the benefit from internal economies of scale, the average cost would reduce

over the years. Zara reinvests the abnormal profits into rapid product turnover,

defined as “Inventory turnover ratio is a financial ratio showing how many times a

company turned over its inventory in a given period” (investopedia). Due to the

strong brand loyalty that consumers have created with Zara, they are incentivised

to purchase garments from Zara as they follow current trends while

simultaneously being inexpensive. Overconsumption of garment produced from

additional emission of greenhouse gases.

Consumer Survey

Did you
Do you
Do you know Would
Are you think the
think that you be
aware Swiss
Do you brands Zara's willing to
Have that fast governm
know such as garment pay more
Ti you ever fashion ent
what the Zara is often for
me bought contribut should
term have a produced clothes
sta clothes es to regulate
"Fast negative using that are
mp from environm fast
Fashion" impact synthetic sustaina
Zara? ental fashion
is? on the materials bly
pollution firms
environm (Ex. produced
? more
ent? Polyester .
strictly?
)

06/
08/
20
25 Yes Yes Yes Yes No Yes No
21:
08:
12

06/
08/
20
25 No Yes Yes Yes yes No No
21:
09:
34

06/
08/
20
25 Yes Yes Yes Yes No No No
21:
21:
48

06/
08/ Yes No No No yes No No
20
25
21:
22:
19

06/
08/
20
25 Yes Yes Yes Yes yes Yes Yes
21:
24:
10

06/
08/
20
25 Yes No Yes Yes No No No
21:
32:
53

07/
08/
20
25 Yes Yes No Yes yes Yes Yes
03:
01:
51

07/
08/
20
25 Yes Yes Yes Yes yes Yes Yes
11:
38:
31

09/
08/
20
25 Yes No No No No Yes Yes
09:
36:
31
Interview Questions:

1.​ In your opinion, explain what negative externalities of production are?

2.​ What type of negative environmental acts are associated with Zara?

3.​ How does Zara operate in Switzerland compared to other countries?

4.​ Are there specific environmental concerns that are linked to Zara's operation?

5.​ Are most of these interventions regulatory or are they an initiative taken by the

fast fashion markets?

6.​ Are these interventions effective? Do you see a reduction in environmental

impacts?

7.​ What challenges does the Swiss government face in internalising this problem?