Public Policy in Private Markets

Monopolization (section 2, Sherman Act)

Announcements

Case presentations: 1 case has been assigned Case 8, K&W, 5th edition Debate date: March 6th. Video due to me: March 2nd. There will be a homework on that day

Clickers: The number of points for iclicker on a day will be equal to

the number of questions on that day (e.g. 1 question = 1 point; 5 questions = 5 points). Your 10% of in-class work will be computed as the fraction of total iclicker points in the semester.

Homework 1 posted, due Feb. 14, in class, group work is encouraged.

Overview of Antitrust Laws

What we are studying

Sherman Act, section 2: Monopolization

1. Substantial market powerA. Define relevant market

B. Show market power

2. Intent to monopolize Brief history Predatory Pricing

What we are studying

Sherman Act, section 2: Monopolization

1. Substantial market powerA. Define relevant market

B. Show market power

2. Intent to monopolize Brief history Intent: Any behavior that is used to perpetuate and

extend monopoly power with the use of abusive practices (e.g. predatory pricing, sabotaging competitors)

Intent: Predatory Pricing

What is predatory pricing? “Irrationally low prices”

Anticompetitive vs. good healthy competitive behavior?

Two approaches: Average cost approach Recovery approach

Question

Which of the following best characterizes average variable costs (AVC) and average total costs (ATC)?A. AVC does not include fixed costs and

ATC does

B. ATC>=AVC

C. ATC=AVC in the long run

D. ATC and AVC are always upward sloping

Average Cost Approach

Q

P

ATCMC

AVC

TC=Variable Cost + Fixed Cost Cost includes a normal return to capital If P>ATC: cover all costs (including fixed costs, and return to

capital)

Operate

Average Cost Approach

Q

P ATCMC

AVC

If AVC<P<ATC: operate in short run (exit in long run) Exit losses > stay losses

If P<AVC: shut down immediately (short run) Exit losses < stay losses

Operate in SR, but shut down in LR

Shut down

Average Cost Approach

1. AVC Rule: if P<AVC Must have predatory intent (economically irrational) P>AVC: not challenged

2. ATC Rule: if P<ATC May have predatory intent:

AVC<P<ATC: Are prices the result of natural variation? Special deals, oversupply, perishables

Must have predatory intent: P<AVC: Irrefutable evidence of predatory behavior

Bottom line: AVC rule: lenient (smaller range of illegal pricing). ATC rule: stricter (broader range of illegal pricing)

Average Cost Approach

Current interpretation: Supreme Court: never formally adopted AVC

rule However, some Appeals Court cases (e.g. AA in

DFW) used AVC rule

Problems: Accounting cost is different from economic cost How to interpret it with multi-product firms?

Average Cost Approach

Q

P

ATCMC

AVC

Example 1: Increasing MC

Average Cost Approach

Q

P

ATCMC=AVC

Example 2: Constant MC=AVC

Recovery Approach

A.K.A.: “recoupment” Low prices may or may not be

“successful” Focus on consumer well-being:

Are consumers hurt? In SR consumers benefit from lower prices In LR consumers will only be hurt if predatory

pricing is successful: Competitors leave Recovery period (high price afterwards) is achieved

Recovery Approach

Worry only if recovery period is achieved

Illegal behavior: only if consumer is hurt Affected firms are not factored in

Generally, approach is not as widely accepted in court as the average cost approach

However, important in cases such as AA

Summary of Approaches

Average cost: AVC (lenient) ATC (stricter)

Recovery: Sacrifice? (How long? How much?), AND Recovery? (How soon? How much?)

Microsoft Case (1): Evidence of Intent

1970’s: personal computers are introduced

1985: Microsoft introduces first commercial software for PCs

Relevant Market: Product: OS for PCs

1991-1993: 50% for all OS, >70% for IBM compatible PC’s

Geographic: National

Microsoft Case (1): Evidence of Intent

Pre-announcement of software DR-DOS (rival), 1990, captures 10% MS-DOS 5.0 announced, but inexistent

Exclusionary licensing: Microsoft charges license fees based on all computers

shipped by manufacturer (OEM), with or without MS-DOS: consumer paid twice for non-MS-DOS

Penalties to non-MS-DOS OEMs (higher fees, less support, no credit)

OEMs forced to install MS-DOS Incompatibilities:

Denying software developers access to application programming interface (API)

Microsoft Case (1): Details

Microsoft’s view: Large market share = superior product Competitive market, large market share

is not guaranteed Practices are good and transparent

competition Consumers have gained Remedies will hurt innovation rate

Microsoft Case (1): Details

Consent decree (6/95): OEM contracts limited to 1 year No minimum commitment on OEM

contracts Elimination of non-disclosure agreements

for beta testers

Next time

Second Microsoft case (1998)

Poll: What Concept is the least clear?

A. Nolo Plea (16/36%)

B. Rule of reason v. Per se Rule (9/20%)

C. Market Definition (9/20%)

D. AVC v. ATC rule (3/7%) ????

E. Cross-price elasticity (15/33%)

On a scale from 1-10 what is your understanding of: (10=awesome, 1=no idea)

Nolo Plea

More Polling

AVC v. ATC rule

Cross-price elasticity