A critique of professor church's report on the impact of vertical and conglomerate mergers on competition

Journal of Competition Law and Economics

Volumn 1, Issue 4, 2005, Pages 785-795

  Cooper, James ^a   Froeb, Luke ^b   O'Brien, Daniel ^c   Vita, Michael ^a  

^a FEDERAL TRADE COMMISSION   (United States)

^b VANDERBILT UNIVERSITY   (United States)

^c US Department of Justice   (United States)

Author keywords

[No Author keywords available]

Indexed keywords

EID: 31844434765     PISSN: 17446414     EISSN: 17446422     Source Type: Journal    
DOI: 10.1093/joclec/nhi025     Document Type: Article

References (56)

1. Jeffrey Church, Impact of Vertical and Conglomerate Mergers (2004), http://europa.eu.int/ comm/competition/mergers/others/merger_impact.pdf.
2. Report by EAGCP, An Economic Approach to Article 82 (2005), http://europa.eu.int/comm/ competition/publications/studies/ eagcp_july_21_05.pdf.
3. Nellie Kroes, Member of the European Commission in Charge of Competition Policy, Speech at Fordham Corporate Law Institute: Preliminary Thoughts on Policy Review of Article 82 (23 September 2005), http://europa.eu.int/ rapid/pressReleasesAction.do?reference=SPEECH/ 05/537.
4. In this manner, Professor Church's report resembles Jean Tirole, The Theory of Industrial Organization (MIT Press 1988).
5. Church, supra note 1, at iv-v.
6. Strategic complements and substitutes are the "normal" cases for Bertrand and Cournot competition, respectively.
7. The reviewed literature started with Michael A. Salinger, Vertical Integration and Market Foreclosure, 103 Q. J. Econ. 345 (1988),
8. and includes Gerard Gaudet & Ngo Van Long, Vertical Integration, Foreclosure, and Profits in the Presence of Double Marginalization, 5 J. Econ. & Mgmt. Strategy 409 (1996);
9. Alexander Schrader & Stephen Martin, Vertical Market Participation, 13 Rev. Indus. Org. 321 (1998);
10. Richard S. Higgins, Competitive Vertical Foreclosure, 20 Managerial & Decision Econ. 229 (1999);
11. and Eric Avenel & Corinne Barlet, Vertical Foreclosure, Technological Choice, and Entry on the Intermediate Market, 9 J. Econ. & Mgmt. Strategy 211 (2000).
12. Church, supra note 1, at 53.
13. Id.
14. Gaudet & Long, supra note 7.
15. Salinger, supra note 7.
16. Church, supra note 1, at viii.
17. The price rivals pay for the input may rise or fall, e.g. Salinger, supra note 7. If it falls, the effective input price paid by all downstream firms falls, and welfare necessarily rises. If the price charged rivals rises but not by much, welfare will still rise. Only if the price charged rivals rises by enough to offset the elimination of the double markup will welfare fall.
18. Church, supra note 1, at 54.
19. Avenel & Bartlet, supra note 7.
20. This discussion is somewhat out of place, as the model is about entry deterrence, whereas the other literature is static and ignores entry, e.g. Salinger, supra note 7
21. Janusz A. Ordover, Garth Saloner & Steven C. Salop, Equilibrium Vertical Foreclosure, 80 Am. Econ. Rev. 127 (1990);
22. David Reiffen & Michael G. Vita, Comment: Is There New Thinking on Vertical Mergers?, 63 Antitrust L. J. 917 (1995). Professor Church does not classify models by whether they are static or dynamic, although we believe that the distinction is important. The argument that prices will rise because competition is "softened" is very different from the argument that prices will rise because entry will be deterred. Further, in models of entry deterrence, the possibility of harm necessarily is more speculative than in static models, and for that reason should be given less weight against known benefits. In the analysis of horizontal mergers, for example, likely short-run losses from either unilateral or coordinated effects are given more weight than future benefits, simply because the benefits are less certain and occur further in the future.
23. Although vertical integration reduces consumer welfare under these assumptions, it may or may not reduce total welfare, depending on the nature of upstream scale economies.
24. Church, supra note 1, at x.
25. Ordover, Saloner & Salop, supra note 16.
26. Jay Choi & Sang-Seung Yi, Vertical Foreclosure with the Choice of Input Specifications, 31 RAND J. Econ. 717 (2000).
27. Yongmin Chen, On Vertical Mergers and Their Competitive Effects, 32 RAND J. ECON. 667 (2001).
28. Church, supra note 1, at 81.
29. Id. at 80.
30. Id. at 70.
31. There is a significant literature on two-stage game models of vertical control in which upstream and downstream firms can write non-linear contracts. The results in this literature depend in subtle ways on the details of the oligopoly game, such as whether downstream decision variables are strategic substitutes or complements and whether firms observe their rivals' contracts. For more on these issues, see James Cooper, Luke Froeb, Dan O'Brien & Michael Vita, Vertical Antitrust Policy as a Problem of Inference, 23 Int'l J. Indus. Org. 639 (2005), and the references cited therein.
32. Church, supra note 1, at ii.
33. In the main body of the report, Professor Church provides a more careful definition of "market power": "The concern here is not with market power as conventionally defined by economists - the ability to raise price above marginal cost - but with antitrust market power. Antitrust market power is significant and durable, where significant means prices exceed average cost and durable means that these prices can be sustained in the long run."
34. Id. at 9.
35. Professor Church focuses on average cost instead of marginal cost, but both the marginal and average cost margins of the downstream firm can rise when successive monopolists merge, even though market power clearly does not increase in this case. The accepted legal definition of "market power" - "the ability to raise prices above those that would be charged in a competitive market"-does not appear to have any grounding in a reduction of welfare, but rather focuses on a departure of price from marginal cost.
36. NCAA v. Board of Regents, 468 U.S. 85, 198 n.38 (1984).
37. Similarly the FTC and DOJ define "market power" in the Horizontal Merger Guidelines as "the ability profitably to maintain prices above competitive levels for a significant period of time." U.S. Dep't of Justice & Fed. Trade Comm'n, Horizontal Merger Guidelines §0.1
38. see also Eastman Kodak Co. v. Image Technical Services, Inc., 504 U.S. 451, 464 (1992) ("Market power is the power 'to force a purchaser to do something that he would not do in a competitive market.' It has been described as 'the ability of a single seller to raise price and restrict output.'")
39. (quoting Jefferson Parish Hosp. Dist. No. 4 v. Hyde, 466 U.S. 2, 14 (1984);
40. Fortner Enterprises, Inc. v. U.S. Steel Corp., 394 U.S. 495, 503 (1969)).
41. Some, however, have argued that a focus on own-price elasticity departs from a proper reading of courts' interpretations of market power, which typically means the ability to affect market-wide price, not merely one's own price.
42. See, e.g., Benjamin Klein, Market Power in Antitrust: Economic Analysis After Kodak, 3 S. Ct. Econ. Rev. 43, 71-85 (1993).
43. For example, a reasonable reading of Professor Church's definition could lead to an antitrust challenge of a vertical merger that creates a competitive advantage for the merging parties due to the elimination of the double markup problem and other vertical externalities.
44. This is true as long as consumers prefer one-stop shopping.
45. If consumers have different preferences for one-stop shopping and firms cannot price discriminate, some consumers may benefit and some may lose. The net effect on consumers will be ambiguous.
46. Church, supra note 1, at ii.
47. Id. at 4-5.
48. Id. at iii.
49. Id. In the main body of the report, Professor Church also notes: "Unfortunately, it does not appear to be possible to provide such a mapping [between key variables that can be observed and implications] for vertical mergers."
50. Id. at 8.
51. This is quite consistent with the view we articulate in Cooper, Froeb, O'Brien & Vita (2005), supra note 25, that the theory in this area is too sensitive and relies on too many variables that are hard to observe to provide a practical basis for policy.
52. Church, supra note 1, at iii.
53. Id.
54. Id. at iv.
55. For example, Timothy J. Brennan, Saving Section 2: Reframing Monopolization Law (AEI-Brookings Joint Center for Regulatory Studies, Related Publication 05-27, 2005), http://www.aei.brookings.org/admin/ authorpdfs/page.php?id=1202.
56. Church, supra note 1, at viii.