Imperfect Competition and Government Policy

Having looked at the situation that exists in imperfectly competive markets, we now turn our attention to government policies designed to deal with these imperfections. In the United States there are two approaches to dealing with imperfectect competition - antitrust policies designed to keep firms from acquiring monopoly power and regulation of firms that constrain their behaviors. It is no accident that both of these policy movements began in the late 19th Century in the midst of what has been referred to as the "Robber Baron" era. Before we talk about the specifics of industry regulation and antitrust policies, however, we will take some time to examine the setting of the late 19th Century.

The Setting

The late 1900s was a time of rapid economic growth fueled by immigration of workers from abroad. In the 1880s the US experienced a dramatic surge in the number of immigrants with nearly 525,000 enterring the country each year. In addition to being markedly larger than earlier immigration flows, the flow also differed in terms of area of origin. In this second wave of immigration, the majority of the immigrants were from southern and central Europe, whereas in the earlier period they were centered in northwestern Europe. It is in this period that the Italians came to Rhode Island to work in the State's mills.

This was also a period dominated by the processes of urbanization and industrialization. Whereas in 1860 more than 4 of every 5 Americans lived in rural areas,by 1920 the majority of the nation's population was urban. As in England in the early days of the industrial revolution, the urbanization was associated with concentrated rather than dispersed growth. By 1900, the major cities of the US were large by international standards. New York City with its 3.5 million inhabitant was three quarters the size of London, up from approximately one quarter only fifty years earlier, while Chicago and Philadelphia, both with populations exceeding 1 million, were all larger than Glascow, the UK's second largest city. In all of the US, by 1920 there were 144 cities with a population exceeding 50,000, up from only 16 in 1860, and over 60 percent of the urban population was living in one of these larger cities. A full 18 percent of those living in urban areas were living in the three cities with more than 1 million people, New York City, Chicago, and Philadelphia.

As you can see from the table below, it was also a period of westward movement. By 1900 Chicago had become the nation's second largest city and Cleveland, San Francisco, Detroit, and Milwaukee had joined the list of the fifteen largest cities.

Population of America's Cities

Our search for those factors most responsible for the spatial transformation of the US during this period will begin with innovations in transportation technology, or more specifically in intercity transportation. At the top of the list would have to be improvements in, and expansion of, the railroad system. Railroad track milage increased an impressive 800 percent as the railroad made its entry into the west with the opening of the first transcontinental railroad in 1869. The opening of the Union Pacific's line, together with two additional lines opened by 1900, increased sharply access to the West. This was also the era in which we saw the emergence of the iron-and-steel frame construction process which allowed for a substantial increase in the height of buildings. This would have been an uninteresting architectural development had it not been for Elisha Otis's elevator, which he introduced at the Crystal Palace Exposition in New York City in 1853. This innovation allowed buildings to be built higher, increasing sharply the potential employment in the city by increasing the potential floor space. The first modern 'skyscraper' appeared on the scene in 1885, a ten story building erected in Chicago for the Home Insurance Company of Chicago.

A second factor contributing to the urbanization was the continued industrialization of the economy. In the previous periods the US could be best thought of as a vast supply of resources that needed to be tapped for the developed world in Europe. The cities that developed were primarily mercantile cities-they were the exit points of resources from the region and the ports of entry for the immigrants and manufactured commodities into the region. What little manufacturing that was done, was done primarily to clothe and feed the people so that they could exploit the resources, and it was done primarily in the cities in the Northeast. The wealth and size of the cities was dependent upon the value of the resources in its hinterland which in turn depended upon the transportation network (ex. New York City and Erie Canal).

This changed dramatically, however, in the post Civil War period as the manufacturing sector expanded rapidly and underwent significant structural changes. The industrialization of the economy was characterized by changes in the industrial and occupational mix, the scale of operation, the form of ownership, and the location of production. At the aggregate level, in 1870 the US ranked second behind the UK with 23 percent of the world's manufacturing output. In little more than a decade the US had surpassed the UK and by 1913 the US accounted for 42 percent of the manufacturing output of the world. It should not be surprising that between 1860 and 1920 the share of our exports that were manufactures increased from 11.4% to 39.7%, while manufactured goods' share of imports declined from 50% to 17%. By 1920 we were exporting cotton manufactures, automobiles, iron and steel, and machinery.

An additional indicator of the meteoric growth of the manufacturing sector is the changing composition of the labor force and the occupational mix. In the period 1840-1910, the share of employment in agriculture fell from 2 of 3 to 1 of 3. The main gains in employment were in the manufacturing sector. During this same period, the share of jobs in the manufacturing sector increased from less than 9 percent to more than 22 percent of total employment.

In addition to moving from the farms to the factories, the factories were also getting much larger. The table below provides some indication of the increasing scale of operation. In each of the four industries, there were substantial increases in the average size of the factories as measured by both the average number of employees per establishment (Emp/Est) and the volume of output per factory (Out/Est). Between 1909 and 1919, the share of wage earners working in establishments with over 1,000 wage earners increased from 15.3% to 26.4%. It was only in the major cities where these firms were likely to find the workers for their factories. There was also a definite pattern of specialization among the major industrial cities. For example, at the end of this period Chicago had become the center for agricultural implements, while Pittsburgh was the center of the iron and steel industry.

Scale of Operation: Selected Industries

As for the degree of concentration, this was the era of the Robber Barons; Carnegie, Rockefeller, Vanderbilt, the individuals who saw in the US the potential for growth in a number of industries. This was the era of substantial merger activity when the corporation emerged as the dominant form of business ownership as individuals sought to finance the rapid expansion of these capital intensive industries. By 1919, nearly 7 of every 8 workers was employed by a corporation.

To counteract the growing power of the country's employers, labor began to organize. In 1869 we had the first labor union Knights of Labor which proved to be unsuccessful. The first successful union was the American Federation of Labor founded in 1886, a true business union that avoided social causes which helped assure its success. This ushered in a bloody period of conflict betwen workers and management in this country. Some of the more ntable disturbances were the 1877 national strike called in response to the Pennsylvania Railroad's decision to cut wages 10% in recession, the Haymarket explosion of 1886 in which a lockout at a McCormack reaper factory resulted in violence, and the Pullman strike in 1893, called because Pullman wanted to raise rents on his tenants' apartments at the same time as he lowered wages.

This concentration of powered was also responsible for the Progressive movement at the turn of the century. It was out of this national movement that we saw the emergence of policies to regulate existing big business and preserve competition.In the next section we will look at the regulation of American industry which will be followed by a discussion of antitrust legislation.

Regulation

The consolodation of market power in the late 19th Century was nowhere more evident than in the oil industry that had become dominated by the Rockefellers and their company Standard Oil of Ohio. In an effort to solidify their control of the industry, in 1879 an agreement was drawn up that established a trust to manage the properties of Standard Oil that already controlled 90 percent of the refining capacity in the country. While possibly the most notable, the concentration of market power in the oil industry was in no way unique. In tobacco the consolodation was led by James Duke, in meat-packing it was Swift and Armour, in steel it was Andrew Carnegie, in copper it was Guggeheim, and in explosives it was DuPont.

It was time for Big Government to rise up and reign in the power of these industrial titans, and the government embarked on a number of programs to 'protect' the American way. The first of these was passage of the Interstate Commerce Act in 1887 which established the Interstate Commerce Commission (ICC) to prohibit anti competitive practices. From this beginning, the regulation of American industry has evolved over the years as governments have attempoted to control certain aspects of private sector behavior for public interest. The move toward regulation of industry emerged from a belief that economic and social problems created by a conflict between private interests and public goals could not be solved by unrestrained competition. The regulation of American industry can be roughly divided into two categories - economic regulation and social regulation.

As you can see from the table below, the regulation of American industry took place in two waves that were centered in the 1930s and the 1970s. The first wave was economic regulation which actually began with the formation of teh Interstate Commerce Commission in 1887. At that time when the robber barons were weilding the type of market power that provided the wealth necessary to build Newport's summer cottages along Bellevue Avenue, there was a move to reign in the abuses of market power and that move started with the railroads. The movement did not gain much momentum, howver, until the 1930s when we saw a number of legislative actions taken as part of the New Deal.

The earliest piece of social regulation came in 1906 with establishment of the Food and Drug Administration. It was not until the 1970s, howerever, that we saw the big push behind social legislation. It was at this time we saw the Environmental Protection Agency and the Occupational Safety and Health Administration established.

History of Regulation of American Industries

Economic regulation tends to be indutry specific and focuses on government control of economic decisions. This type of action is justified to limit the actions of monopolies, promote universal service, limit destructive competition, increase monopolistic behavior in competitive markets, and nurture infant industries. For a local example of government regulation of industry would be the Block Island Ferry which many of you may end up taking to get you to the island. This ferry service is regulated by the state because of the belief that the island is best served by a single provider of transportation services. The rationale is that since there is a high fixed cost in the purchase of the boats, the average cost of providing service declines with increases in output. In this case the $10 million price tag on the boat could be spread across 50,000 people who use the service now or over 25,000 people if a new service came in and the riders were split between the two services.

In addition to the potential cost savings due to naturtal monoplies, governments also got into the regulation business because they wanted to maintain universal access. In the case of the Block Island Ferry, if you were in the ferry business you would most likley be interested in the summer business when the tourist flow is heaviest and not in the long winter months when the seas are heavy and the passengers scarce. If you had your choice, you would likely shut down the operation or possibly move it South in the winter, but this would deny year-round residents access. The same would be true in the phone business where it would be much cheaper to supply service to an individual living in a downtown Providence apartment than someone in a remote area of Foster.

To provide an incentive for the universal access teh government would allow the firm to charge more than costs during the peak season and to offset the loss in the slow season, what we would call cross-subsidization of prices. It would also have to restrict entry and exit which is why in the Summer of 1998 a proposal for a second ferry service to teh island was defeated. A potential competitor appeared that would provide service for the high profit summer months, a process called cream skimming.

As for the prices that should be set, this offered economists considerable difficulty. The reason is that if a firm is actually a declining cost industry, then there are problems with the optimal P = MC rule. If costs are declining, then MC<AC and if P is set at MC, the P<AC. On each unit of output the price is set at a below cost level so that the firm will by definition lose money. One approach was to set prices equal to average cost, but this was extremely difficult in situations where firms produced many products. An alternative pricing scheme for regulated firm in which prices must exceed marginal cost to enable the firm to make a profit is the Ramsay Pricing Rule. For a multiproduct firm, the ratio of P to MC should be inversely related to elasticity of demand for teh products. Where demand is inelastic prices should tend to be higher which is what we would expeoct in an unregulated world.

An alternative approach that has been quite common and controversial is the guaranteed rate of return. The idea behind this approach is simple - people are in business to make money and that this should be no different in regulated industries than unregulated industries. If the government kept the rates of return lower in regulated industries, then capital would not flow into them. The government would thus establish a rate of return that the company could earn, and allow the firm to set prices to achieve this rate or return. Unfortunately, this presented two problems. The first was the lack of any incentive to minimize costs. The firm could simply charge some mark-up on the cost and thus there was no incentive to cut costs since the cost savings would not show up as profit but as lower mandated prices. For an extreme example of the problems associated with the cost-plus basis for pricing, you can examine military procurement where we see examples of hammers and toilet seats priced way above private market prices.

The rate of return criterion also introduced a bias into the decisions of regulated industries. If the rate of return were regulated, then the size of the profit that you could earn was dependent upon the size of the capital base - a higher capital base means a higher allowed profit. This tended to bias production decisions in terms of high fixed cost operation. In the ferry business it meant large outlays for ferry, in the electric utility business it meant investment in capital intensive generating facilities - the real push behind nuclear power generating plants.

Some of the egulatory lag has some incentives , so does price caps designed to set targets, you beat them you keep profit.

Pricing of access to bottleneck services - local loop in phones, local transmission lines in electric.

There are also instances wherr the government actively discourages competition. Two example would be the liscencing of sellers as we would have in many prodfessions andf in the cab business and in the agricultural sector.

Social legislation, on the other hand tends to be product specific and cuts across industry lines. Here the focus is on specific attributes of teh product. The justification for this type of government activity is most often the existence of externalities or the existence of imperfect information. The earliest piece of social regulation came in 1906 with establishment of the Food and Drug Administration at a time when the delivery of food was undergoing exceptional change. In 1934 in the midst of teh depression that many saw as the result of speculative excesses and abuses in the financial markets, the Secuities and Echnage Commission was established. It was not until the 1960s, however, that we saw the big push behind social legislation. This was a period where America turned to the government for solutions to its problems and Washington became home to a "brotherhood of scholars," "action intellectuals" who would lead the attack on these social and economic problems. These were clearly good times to be an economist - and a liberal. On the macroeconomic front, passage of the Revenue Act of 1964 ushered in what Rukstad appropriately refers to as the "Zenith of Keynesian Economics." By mid decade there was talk that the business cycle, the scourge of capitalist systems, had been tamed and that active government policies could defeat the problem of economic instability. There may have been room for refinement, for fine- tuning the model, but it was firmly in place so that there was little surprise when President Nixon, a conservative Republican, announced "Now I am a Keynesian."

Buoyed by their success and confident that government could right the wrongs of the market system, economists and policy officials turned their attention elsewhere. Michael Harrington's book The Other America had brought poverty to the attention of the American people at a time when they were increasingly insulated from it in their rapidly growing suburban communities and President Johnson sought to address it with his War on Poverty. There were also the problems of the environment, popularized in Rachel Carson's book The Silent Spring, that ultimately led to Earth Day and the formation in 1970 of the Environmental Protection Agency (EPA). And if that were not enough, the science community had delivered on Kennedy's promise to put a man on the moon before the end of the decade.

Beginning in the 1970s, however, there was a backlash against regulation and we began to see the move toward deregulation. In part this was a reacion to the stagflation that hit the American economy in the 70s. We were experiencing for the first time unacceptably high levels of inflation and unemployment and one of teh culprits was regulation which was generally viewed as raising the costs of industry and lowering the productivity advances. One idea was that the balance of power between small groups of producers being regulated and the many consumers would favor the producers who could effectively lobby for their position. Others were concerned with the balance of power because you would actually find industries that wanted to be regulated since regulators could be controlled by the industries. This was likely to happen because the agencies were often staffed by industry experts and that the regulators often went on to lucrative private sector jobs in the industry.

There was also the problem of inefficiency mentioned earlier. Firms had little incentive to lower costs if profit was regulated away and there were thus not too likley to help in the battle to constrian price inflation. This movement toward deregulation in teh US translated into a move toward privatization in those countries that had gone the nationalization of industry route. In both instances we were seeing a roll back in the power exerted by the government. The major deregulation decisions in teh US appear in the table below.

Major Deregulation Decisions

What are some gneralizations we can make as a result of the deregulation? The evidence is very clear in the trucking industry and less so in the airlines and even less so in telecommunications. In general we can acknowledge that the deregulation has resulted in:

• lower prices altrhough in the airlines many of the nonprice benefits have been eliminated with more delays and lost luggage
• new entrants in the markets and more competition. In the airline industry the move toward hub-spoke systems has tended to lower competition
• local service has not been damaged
• expansion in size of the firms as a result of mergers and acquisitions
• unions in the affected industries have been weakened

Antitrust

With the passage of the Shaman Antitrust act in 1890, the government set about the task of influence the ways firms compete. The law has been the subject of continuing debate, but it is clear that the central focus was on market power. The legislation states:

Section 1 "every contract, combination in the form of trust or otherwise, or conspiracy in restraint of trade or commerce among the several states, or with foreign nations, is declared to be illegal"

Section 2 "every person who shall monopolize, or attempt to monopolize with any other person or persons, to monopolize any part of the trade or commerce ...shall be deemed guilty of a felony"

In time the deficiencies inherent in the law became apparant. There were no definitions for the terms used in the law and there was no agency assigned the task of overseeing enforcement of the law. Some of the deficiencies were alleviated in 1903 with the establishment of the antitrust division of the Department of Justice, but real progress did not appear until 1914. At that time the Clayton Act and the Federal Trade Commission Act were passed by Congress. The first of these laws declared illegal four specific practices which may substantially lessen competition or tend to create a monopoly. The illegal practices were:

• price discrimination: This would have outlawed the rebates received by Rockefeller as he drove his competitirs from the market.
• tying contracts: This made it illegal for a seller to force a buyer to buy other products sold by the seller. It also outlawed the practice whereby a seller would force a company not to sell a competitirs product if it wanted to sell its product.
• acquisitions of competing companies: Firms were restricted in their ability to buy up other companies if it reduced competition.
• interlocking directorates. This prohibits competitors from having the same peopel on their corporate boatrds.

In the second act, a five member commission was established to eliminate unfair competition in commerce by investigating unfair practices and issuing cease and desist orders.

These were supplemented by the Robinson-Patman Act of 1936 that further strengthed the restrictions on price discrimination, which was really aimed at preserving small businesses in the face of growing chain stores and mass retailers, and the Celer-Kefauver Act of 1950 that placed further restrictions on mergers that would reduce competition.

What sounds good on paper, however, has not always been so easy to interpret. The courts have been rtaher consistent with their upholding of section 1 of the Sherman Act. the primamry target of their attenntion has been price fixing agreements among competitors. The courts have simply outlawed these practices and accepted no excuses. This was not the situation with Section 2, however, which was not enforced until 1911 when a decision was made to break up teh American Tobacco Company and the Statndard Oil Company.

Where the courts have had considerable more difficulty has been in their attack on tacit collusion where there is no explicit agreement on pricing.It is extremely difficult to prove that the price increases were a result of anticompetitive behavior and not the common response to changing market conditions. Another area where prooof has been difficult is in the area of predatory pricing. The concept here is that a firm will charge lower than its costs to drive out a competitor and then raise price to monopoly levels - a procedure called dumping that is also outlawed in international trade agreements. This is a charge brought against many of the nation's biggest companies, but it is one that is seldom won.

Yje thrust of the legislation was weakened, however, with the adoption of the rule of reason. At this time size by itself was eliminated as a bad and monoploly was only to be restricted when it was accompanied by 'objectionable' policies. Cases against Kodak, International Harvester, IBM, and Microsfot have all been dropped because of this rule of reason. One of the places where we see this is in the merger policies. As we saw earlier, there have been a number of waves of meger activity in the US. These mergers tend to be of three types: horizontal where the merger is among competitors, vertical where suppliers or distributors are acquired; or conglomerate where there is little relationship between the various components.

Of the three, it has been the horizontal mergers that have been the focus of attention. The Justice Department has established guidelines for mergers which were relaxed in the the early 1980s and the activity responded and continued into the 1990s. What happens next will be determined in part by what happens with teh suits brought in 1998 against Microsofyt and Intel that dominate the computer operating and processor markets.

One of the issues is market power and size. The question of market power was often measured by the concentration ratios - the percentage of sales by the largest companies. this is not the only index. The problem of defining the market is related to the boundaries of teh market and product differentiation. A technique they use is cross-price elasticities.

Curbing restrictive practices. Tying and exclusive dealings is where Microd=soft is being attacked. One feature is that "If you want to sell my product, you cannot sell someone elses.

Enforcemant of antitrust Federal Trade Commission and the Antitust division of the Department of Justice. They make use of private law system - can sue another compoany for anticompetitive behavior for treble damages. MCI sued AT&T

Current controversies. How stringent with mergers and acquisitions?

Most spectacular cases have been Standard Oil, US Steel, the Aluminum Company of America, IBM, AT&T, and Microsoft.

conduct ve structure

why has antitrust been accepted as scope of government activity? distribution of incpome, restriction of output, lack of inducement to innovation

vs economies of scale and required scale for innovationm

Preventive - to hinder formation of monopoly

Attempt to harmonize profit motive with public interest

Focus on prohibition of certain business practices

Channeling market structure along competitive lines

AntiTrust Policy

Overview

Central focus is market power

agreements among competitors

price-fixing

behavior of single firm

predatory pricing, tie-in-sales

monopolization

merger and acquisitions

Competing views of goals

1 promote social welfare by allocative efficiency

prohibit practices raising P, restricting Q

restrict mergers that reduce competition?

Bork - not if lower costs

restrict internal growth due to efficiency?

Bork - this is OK

2. populist sentiment favoring small business not efficiency

Judge Learned Hand (Alcoa)

3. redistribute income from firms to consumers

incompatability of alternative views

Origins

bloated robber barons-pressure from farmers

efficient, high growth production

1890-1920 = merger boom, growth, falling prices

Who Can Sue

FTC - DOJ - individuals/firms

indirect party suits-limited after 1977 case (retailers must sue manufactures, not consumers)

Important Concepts

Market Power

def: when price is raised above the competitive price

alternative measures: interrelatd by the equation MC = MR = P(1+1/e)

1 compare P & MC

2 estimate elasticity

3 market share - requires market definition

which products to group together

which geographic areas to group together

cross price elasticities of demand and supply

demand substitutes - if +DPA generated +DQDB

supply substitutes - if +DPA generated -DQSB

identification of substitutes?

similar price movements

cross price elasticities - sum of elasticities = 0 s

if own price elasticity high - so is cross price elasticity

1984 Merger Guidelines (DOJ) - Interpretation varies over time

Legislation

Sherman Act - 1890

Law

Interpretation/Enforcement

Courts 1 impotent against single firm monopolies

2 impotent against manufacturing (commerce)

Clayton Act - 1914

Background

deficiencies with Sherman

Law

declares illegal four specific practices where the "effect may be to substantially lessen competition or tend to create a monopoly"

Section 2 prevents price discrimination

Section 3 prevents exclusive dealing and tie-in contracts

full-line forcing

exclusive dealings

tying arrangements

Section 7 prevents acquisitions of competing companies if reduce competition

rules against stock market purchases

Section 8 restricts interlocking directorates

Federal Trade Commission Act - 1914

Background

established new govt agency Federal Trade Commission (FTC)

five member commission, appointed by president, 7 years

Law

'unfair methods of competition in commerce are hereby declared

unlawful'

amended to include consumer protection

Enforcement

FTC - cases heard by admin law judge @FTC, appeal to fed courts

cease and desist - prohibits specific acts

DOJ - cases heard in federal court

injunction - prohibits certain acts

Antitrust Restrictions - Cooperation Among Competitors

Price-Fixing/Output Allocation Agreements

1897 US vs Trans Misouri Freight Ass. - can not set price to avoid destructive competition

1899 US vs Addyston Pipe(cast iron) - same, merged companies to avoid problem

asymmetry - price fixing(no) vs merger(yes)

1927 US vs Trenton Potteries Inc. - not defend price fixing on reasonable grounds

Depression - some blamed it on competition- wanted cartels

rule of reason

1918 Chicago Board of Trade vs US - after close, no trades except at end of day price

1979 Broadcast Music Inc. vs. Columbia Broadcasting System - ASCAP and BMI could

set license fees - reduced transactions costs

1984 NCAA vs. Oklahoma - NCAA could not restricct TV

Information Exchange

trade associations - provide information?

1921 American Column v The United States - Asoc of 400 was illegal

1925 Maple Flooring Manufacturer's Ass vs US - 22 companies, 70% of marke OK

1969 US v Container Corp of America - info exchange was illegal

Oligopoly Behavior

parallel behavior not OK

1939 Interstate Circuit Inc v US - 2 film distributors raised prices at same time - evidence of collusion

1946 American Tobacco Co v US - in 30s all cigarette co raised prices together - not OK

Theatre Enterprises Inc vs Paramount Film Distributing Co - distributors could decide not to release fims to theatre - parallel behavior OK

Mergers

Types

horizontal vertical conglomerate

Mergers among Competitors

1904 Northern Securities Co vs US -RR Holding Co. of 2 competitors

1911 Standard Oil of NJ v US - variety of illegal behaviors - merger per se not illegal

1920 US v United States Steel - merger created monopoly, but no illegal behavior=OK

1962 Brown Shoe Co vs US - merger of 2 companies blocked on market share grounds in cities

sensitive to failing firms defense

Mergers among Potential Competitors

1964 El Paso Natural Gas - merger of 2 pipelines blocked because one non supplier to CA could have done so .

1967 Proctor&Gamble 1967 - unload Chlorox since they could have entered the market

1973 US v Falstaff Brewing Corp. -

1974 US v Marine Bancorporation - need to show entry is feasible and procompetitive effects likely

DOJ Merger Guidelines 1984

Antitrust Restrictions: Strategic Behavior of Single Firm

Rivalrous Behavior

Undesirable Competitive Behavior

1945 US vs Aluminum Co of America

1 power cos could not sell powewr to other aluminum producers

2 price fixing with foreign co - not import to US

3 price of aluminum raised to independent fabricators

4 produce overcapacity

ruling - monopoly per se not bad, practices were illegal

1953 US v United Shoe Machinery Corp. - only long term lease of machines and services - must be able to sell machines

1948 US vs Griffith - chain could not subsidize theaters in competitive markets - did not need to show intent

1979 Berkey Photo v Eastman Kodak - Kodak did not have to preannounce change in camera specs

Predation

Predatory Pricing

1967 Utah Pie Co v Continental baking Co - low prices were anticompetitive

1975 Telex vs IBM - IBM could cut prices if above cost

Essential Facilities

1912 US v Terminal Railroad Ass of St. Louis - group of RR owned all RR bridges

Vertical Arrangements

Vertical Integration

1947 US v Yellow Cab - vertical integration via merger could be illegal

1957 US v E. I. du Pont de Nemours & Co. - du Pont as supplier to GM could not have big stake in GM

Resale Price Maintenance

Exclusive Territories

1963 White Motor Co v US - restrictions not per se wrong

1966 US v GM - GM attempt to prevent resale of cars to discounters no good

1967 US vs Arnold, Schwinn & Co. - all restrictions bad

1977 Contiental TV v GTE Sylvania - overturned Schwinn

Exclusive Dealing - dealer can not sell competing brands

Tie-in-sales

1936 IBM v US - IBM could not make you use its cards

1947 Internatonal Salt v US - IS could not make users of machines buy IS

1958 Northern Pacific RR v US - leasee of land not need to use their RR

1984 Jefferson Parish Hospital v Hyde - the hospital could contract out to one anestesiology service

Readings

Aghion&Bolton. "Contracts as Barrier to Entry" AER 1987

Baker&Bresnahan. "The Gains from Merger or Collusion in Product Differentiated Industries" J of Ind Eco 1985

Bittlingmeyer. "Did Antitrust Policy Cause the Great Merger Wave?" J of L&E 1985

Ross. "Winners and Losers Under the Robinson-Patman Act" J of L&E 1984

Scheffman&Spiller. "Geographic Market Definition Under the US Department of justice Merger Guidelines" J of L&E 1987

Stigler&Sherwin. "The Extent of the Market" J ofL&E 1985

The Block Island Ferry service is considered by some to be a natural monopoly. What does this mean

What does universal access mean when it comes to Block Island ferry service? What does it mean when it comes to telephone service? What will the regulatory service do to preserve universal access?

What behavior of Microsoft is the government challenging under its antiturst laws?

Review Quizz

1. Which industry was among the earliest to be deregulated in teh US?

a. automobiles

b. airlines

c. steel

d. computers

Of the industries mentioned here, the only one that was regulated was the airlkine industry which was deregulated in 1978.

2. One of the limitations of the rate of return regulation of prices is that the firm's price:

a. will not cover average cost

b. will provide excess profits

c. will not provide any incentive for efficiency

d. will not cover total cost

The major problem with rate of return regulation is that it takes away the incentive for efficiency offered by profit. Under no conditions will price cover total cost and P will not cover average cost in declining cost industries where the P = MC rule is applied.

3. One of the limitations of the rate of MC = P rule for setting prices in a declining cost industry is that prices:

a. will not cover average cost

b. will provide excess profits

c. will not provide any incentive for efficiency

d. will not cover total cost

A declining cost industry is one in which the average cost curve is falling over the range of output levels in the industry. When average cost is declining marginal cost is below average cost. If price is set such that it equals average cost, then by definition price will be less than average cost. Since price is also average revenue, average revenue will be less than average cost so average profit will be negative.

4. Which of the following is an example of cross subsidization of prices?

a. the difference in the price a movie theatre charges for children and adults

b. the difference in the price Honda charges for its topof teh line Accord and bottom of the line Civic

c. the similarity in the price that the postal service charges for local letters and long distance letters

d. the difference in the price that the postal service charges for regular mail and next day delivery

Cross subsidization is the pricing procedure where a firm sets a price in one market above cost to allow it to offset a price below cost in a second market. AT&T when it had a monopoly on phone services used cross subsidization to keep local prices down. Airlines also used it when they provided service to smaller cities.

5. Which of the following behaviors was classified as illegal under the Sherman Antitrust Act of 1890

a. a firm setting a price above the competitive level

b. a firm setting output below the competitive level

c. a firm agreeing with its major competitors to lower prices

d. a firm laying off its workers without advance notice

The Sherman Act did not outlaw any decision on the part of a monoply that was made independent of other firms. What was outlawed was and price fixing that resulted from cooperation on the part of competitors.

6. If you happen to get to the point where you are asked to sit on the board of two computer companies, this would be outlawed by:

a. the predatory pricing clause in teh Clayton Act

b. the provision against interlocking directorships in the Clayton Act

c. the price discrimination clause in the Robinson-Pat5man Act

d. the Celler-Kefauevr Antimerger Act

7. Preditory pricing is not looked upon favorably by the antitrust laws. An example of predatoy pricing would be:

a. the difference in the price a movie theatre charges for children and adults

b. the difference in the price Honda charges for its top of teh line Accord and bottom of the line Civic

c. the setting of a price such that P > AC

d. the setting of a price such that P<FC

e. the setting of a price such that P < AVC

8. Microsoft has been attacked on the grounds that it is 'forcing' the coputer manufactures that use its operating system to use its browser. This behavior is unlwful as a result of:

a. the predatory pricing clause in teh Clayton Act

b. the provision against tying in the Clayton Act

c. the price discrimination clause in the Robinson-Patman Act

d. the Celler-Kefauevr Antimerger Act

9. Antitrust activity is not an area where we find considerable consensus. For example. some people beleive that the law should focus on structure while other believe that the law should focus on conduct. Which of the following behaviors would be allowed under the assumption that antitrust should be concerned with conduct and not structure.

a. the break-up of IBM because of its domination of the computer industry (in 1980s)

b. the breakup of Intel because of excessive market share in the processor market

c. the decision by Microsoft to expand its office suite to include an internet browser

d. the decision by Archer Daniles Midland to fix prices

10. Which of the following is generally recognized as a potential problem with imperfect competition?

a. leads to inequitable distribution of income

b. they lead to restriction of output and

c. lack of any inducement to innovation

d. leads to rent seeking behavior