Antitrust Law
Professor Morgan
Fall 2001
Cb – casebook
Ns - nutshell
I. Introduction –
A. Economic Theories: introduction to the basic assumptions underlying economic analysis and application to issues of competition and monopoly
1. The Principle of Scarcity: fundamental problem w/ which economics deals – most of us can’t have everything we want, how do we get to a point where people have as much as possible? “economists suggest ways to order human activity so as to give as many people as much of what they would like to have as possible – whether they prefer material goods, career satisfaction, leisure, close friendships, or something else.” (i.e. more than just about $).
2. People Act So as to Maximize Their Own Self Interest: “factual assertion says that individuals, left alone, will seek to exchange the skills and money they have for the mix of goods or services they want. The normative principle says that the freedom to do so is fundamental and allows members of a diverse society to experience the lives they prefer for themselves and their loved ones.” People make economic (possibly life) decisions trying to improve how much they have. Will choose whichever choice will make you better off. Maximize self-interest. People are different – don’t all make the same choices. One of the things we do is trade – we can both be better off by economic exchange b/w people w/ different wants – economic exchange is a productive activity that occurs in markets. Assumption: individuals are increasing their wants and desires from every individual choice. (consistent w/ overcoming scarcity and living in a free society).
3. Life is lived at the margin: people make decisions at the margin – we don’t make grand choices – engage in decisions as to the extra or the next (Do I really want desert or would I rather a CD). Make decisions at the edge. “The choices we make in pursuit of our self interest typically are not profound or dramatic; they consist of doing a little more of this and a little less of that. How much more or less is itself a product of our individual choice; economists describe those choices as being made ‘at the margin.’” “People are asking themselves whether the marginal revenue from doing something will exceed the marginal cost of doing it.” (okay that not all people do this – but accurate as to how groups of people in general behave).
a. Distinction b/w marginal utility of good vs. money (n.13, pg. 16):
i. Declining Marginal utility of Goods: (economic assumption – declining marginal utility of goods) – concept that relates to how much more value is another unit of the same thing. (How much would you pay for a second hot fudge Sunday?) Most people pay less for the second.
ii. Constant Marginal Utility of Money: concept that says that the utility of money does not decline. Money never declines in marginal utility. Implies that the value of $1 to Bill Gates = the value of $1 to a homeless man. Remember that money simply represents the ability to buy what a person would prefer most, that which she does not already have. Regardless of what you think of the arg – underlies many economic args – many economic arguments imply that it doesn’t make a difference. Problem w/ these arguments – seem to ignore that there is a decline in the marginal utility of money. “Watch to see if it indeed underlies what is sometimes called the conflict between ‘efficiency’ and ‘equity’ in antt.”
4. We Deal With Each Other in Markets: concept of market is a metaphor; cts discuss ‘product markets’ and ‘geographic markets.’ Market – sometimes people can realistically deal w/ each other, sometimes they can’t – those that can deal are said to be participating in the market. Market metaphor – allows economists to speak of the enormous number of ways in which free exchanges of goods and services might occur. Process by which individuals exchange goods and services for things they desire/want.
5. The Quest for Allocative Efficiency:
a. There are three different types of ways that the term efficiency is used in antt:
i. allocative efficiency: most common, getting the goods to the most valued user, people who value it the most. Implicit in that is have as much as is valued that way produced.(c- check this defn’)
ii. productive efficiency: how you get the maximum output out of the inputs you use. Discussed more below
iii. dynamic efficiency: (i) and (ii) look at things, for the most part, in a static position in time. Arg: when you’re talking dynamic efficiency, you are talking new industry (i-ii almost become besides the point). Focuses on conditions in which economic life in fact takes place.
b. Allocative: scarcity will never be completely over come – but will know have come close as possible when there is no combination of production or exchange that could make anyone better off w/o making someone else worse – optimal. (Posner and Kaldor-Hicks different test for optimal level/max economic welfare – if a person profits at the expense of another – if the gain of the person benefited is sufficient to reimburse the other for the loss, whether or not such reimburse is required b/c such a transaction increases the total welfare of society). The optimal state is often described as efficient. Allocative efficiency – all goods and services would be appropriately allocated and preferences for leisure met b/c no further acts cd make the situation better.
6. How Prices are set in Competition: (if you sell pencils for $10/pencil, you will probably not sell any – potential customers will have so many sources of better, cheaper writing instruments, will not pay $10.)
a. The Demand Side of Setting Your Price: The number of X that you sell will decrease at each higher price level. When the price is high, the quantity demanded is lower than the quantity demanded as the price comes down. Demand will be largely determined based on the buyer’s alternatives.
b. The Supply Side of Price Setting: You will assess what it would cost you to produce X and try to make the venture as profitable as possible. Cost will probably not be constant (i.e. threshold costs more expensive). You will continue to produce your good until the next item you produce costs more to produce than you could charge for it.
c. Setting the Price Based on Both Supply and Demand: you will set the price and number of goods to produce where supply and demand meet.
i. Refer to figures p. 12-14
ii. Consumer surplus: although the market price of X may be $3, there are always some buyers out there who would have paid $5 (called that person’s ‘reserve price’). In effect, those persons have money in their pockets to spend on something else – gap b/w what people wd have actually paid for an item and the benefit they receive = consumer surplus. Unsung virtue of a competitive economy.
7. The Distortions Imposed by Monopoly: when there is a monopoly – the tendency is to increase price and decrease the quantity. This tendency creates the “welfare loss triangle (dead weight loss – ‘the evil of monopoly’) – it represents what at minimum they consider to be the social loss from having an industry in the hands of a monopolist. Moreover, consumer surplus disappears and that gap becomes producer income (think about the discussion of the constant marginal utility of money).
a. some arg that the costs to society created by monopoly are much larger than the welfare loss triangle especially when you consider how much money cos or individuals are willing to expend to get a monopoly. Other exs. – cost to competitors and concentration of political power.
b. Looking in the course for situations where instead of having firms produce until supply and demand intersect, they produce to where marginal revenue and marginal cost (supply) intersect; where quantity provided is less and price is higher; where there is a Welfare loss triangle (a.k.a. dead weight loss – neither producer or consumer get it); and where consumer surplus shifts to producer income
c. even monopolists are subject to economic realities – can’t charge an infinite amount. If do, won’t sell any; if do, will attract others to the market – other firms produce/sell at lower price. Question: how easy is it for those firms to get into the market? If barriers of entry are high, more likely to believe monopoly. Self-correcting character of the market – attracting new firms.
8. The Matter of Productive Efficiency – economies of scale and transaction costs: in a great many industries, efficient production of goods and services requires relatively large scale production units, even if that means a somewhat smaller number of competing firms. Ex. Law firms – large transaction cost associating w/ acting on their own, cost of contracting for services and training new personnel are real costs of doing business that tend to decrease productive efficiency. Each law firm in some small measure reduces the amount of competition in a society, yet few would wish to exchange the often-considerable productive efficiency thus achieved for the often infinitesimal allocative efficiency thus lost. Another form of productive efficiency – “network effects” – if your phone operates one way and mine can’t communicate with it, we might as well not have phones – the value in phone system is that people can interconnect. The more people who are part of the system, the greater the value to all of them. Even though this is productively efficient – allocative inefficiencies associated w/ a monopoly will follow a one firm monopoly in this network
9. Dynamic efficiency –or- Regulation can do more harm than good: “Dynamic efficiency seeks to focus on the cond’ns in which economic life in fact takes place – including the limited information we tend to have and the practical limits on both productive and allocative efficiency.”
a. Dynamic v. allocative and productive: a and p efficiency involve ‘static’ determination – snapshots of economic activity. Approach inadequate. Allocative need room for changes in tastes; productive needs to reward inefficiency. In real world – change sis constant, enter – dynamic efficiency.
b. Anexample of dynamic analysis: busy store faces downward sloping demand curve – pricing options include that of monopolist, what keeps it from exploiting its monopoly status (even just the threat) – if it reduces output and raises prices – new firms will enter into competition with it. Dynamic efficiency – examines the barriers to entry and whether existing firm tries to block entry. If possibility of new entry is considerable, then legal intervention is unnecessary. Some aspects of monopoly are self-correcting and law can create worse consequences than the problem it sought to solve (ex. Prohibiting reaching a certain size, even if producing high quality product and selling at reasonable price, would make the nation poorer).
10. The Competence Problem: How much can Economic Activity be Analyzed?: “ultimate problem for antt law – how to analyze economic info in a way that is sufficiently general to be practical, yet sufficiently accurate to avoid making matters worse instead of better.” Two types of errors the law can make:
a. Type 1 Errors: break up companies too soon, productive, good, etc. “When the law convicts the innocent, i.e., prohibits economically productive activity our of excessive concern to prohibit misconduct.”
b. Type 2 Errors: happen when we fail to break up a cartel, too timid. “When the law fails to prohibit genuinely harmful conduct.”
B. Common Law Antecedents of the Sherman Act: concern with monopolies and restraints of trade extends at least as far back as the early periods of the developing British law of prop and commercial transactions
1. Common Law (“CL”) did not tolerate the grant of monopoly!: seeThe Case of Monopolies (King’s Bench 1603; cb p. 1):
a. Facts: Darcy v. Allein – Queen Elizabeth I had issued a patent giving Darcy (a nobleman) exclusive rights to importing playing cards into England. Queen granted monopoly over playing cards (at that time patent was = to a monopoly). Darcy had authority to make decisions about playing cards. Allien, a haberdasher (aka. Salesman) made and sold some playing cards and Darcy challenged this infringement of his monopoly.
b. Darcy argued: he was performing a public service by this monopoly – by keeping people from playing cards all the time, which would amount to sloth. That he was a nobleman keeping people (esp. lower class) from sinning. B/c the cards were a “vanity,” monopolizing the production of the cards was a “virtue.”
c. Held: Ct will not enforce monopoly. (NB: the only mechanism for the court here is not to enforce, today antt laws much more pro-active.)
d. Reasoning: (ns – monopoly harms actual and potential competitors, denies others the opportunity to practice a trade and injures the public through higher prices and poorer quality.) Evils of monopoly:
i. Loss of jobs: can’t stop people from making things that people want to buy.
ii. increase in cost, decrease in quality
e. Government (“Gov”) v. Antitrust (“Antt”) Laws: the governments ability to grant a monopoly versus the antt laws – continuing battle b/w the two
2. The Origin of the Rule of Reason: sometimes you must have at least a moderate restraint of trade – Question: is the restraint reasonable? – Mitchel v. Reynolds (King’s Bench 1711): demonstrates that this court understood – Ks retrain trade all the time – need to figure out whether that restraint facilitates trade or restricts trade. Here, limited and reasonable restraint
a. Facts: P leased a bakery from D. Lease agreement had cond’n that for 5 yrs the D would not practice bakery in the parish. P was buying the bakery, but also the trade that went with it (‘good will’). This was part of the consideration that the D could not compete w/ P for 5 yrs. Concern: if old baker moves across the street and still bakes, then he keeps his costumers and the P has bought nothing. The lease enforcement device was a bond – if the D breaks the K – has to pay a fee ($50). D broke the covenant not to compete and P sued D on his bond.
b. D arg: I have a right to work. The Case of Monopolies: said an arrangement where someone got a monopoly is against the CL and ct will not enforce. B/c monopolies are void, any contract that purports to restrain competition shd also be void. This kind of arrangement is what the CL prohibits.
c. Lord Parker distinguishes b/w general and particular restraints:
i. General (invalid) restraints: (ex. Whole country – monopoly - [not at this time period of course]) not enforced by courts. General restraints condemned b/c their aim is to limit competition – of no benefit to either party. (person agreeing had to be protected from himself – public entitled to intercede b/f he became a welfare charge or deprived the public of the benefits of his competitive labors.)
ii. Particular (maybe valid) restraints: w/ a specific restraint, the ct will look at the context to see if reasonable – i.e. look at the costs and the benefits – is it subordinate to the main purpose of the transaction.
a. Later became known as ancillary restraints: these partial or ancillary restraints were upheld if limited in time and geographical space and supported by good consideration.
d. In this case: the restraint was an integral part of the transaction. Ct says buying and selling businesses is good – advantageous to have a market in businesses. In order to have these transactions, sometimes you have to have a little restraint of trade. In some circumstances, have to permit at least a moderate restraint of trade, limited in scope + part of deal. Sometimes it takes restraint of trade in order to have trade at all.
3. Note on the CL context for the Sherman Act (not discussed in class p. 23): CL of restraint of trade consisted of cases from both England and the US, toward the end of the 19th, US cases tended to be more critical of cartels, mergers and monopolies.
a. Craft v. McConoughy (Ill 1875): Ct held that the secret combination of 5 grain dealers (acted separately but divided all profits by formula) created a monopoly against which the public interest had no protection. Son of deceased grain dealer seeking his profit, the court of equity would not lend its aid in the division of profits of an illegal transaction b/w associates.
b. Richardson v. Buhl (Mich 1889): (Co. sought monopoly in matches, trying to buy up all the match cos.) Ct held that monopoly in trade or in any line of business in the country was odious to our form of government – ct refused to enforce transaction to help a firm become part of it.
c. Chicago Gas-Light & Coke Co. v. People’s Gas Light & Coke Co. (Ill 1887): two comps serving gas to Chicago originally had monopoly territory, but expired and when they agreed to keep territories but then one infringed on the other’s, the ct would not restrict. Ct held the new contract tends to create and perpetuate a monopoly in the furnishing of gas to the city, therefore, against public policy and unenforceable.
d. But in England…: at the same time as this, English CL was placing greater emphasis on freedom of contract than upon legal protection of freedom of trade and upheld practices that wd have been struck down here.