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Public Policy in Private Markets

Public Policy in Private Markets. Collusion. Announcements. HW: HW 2, due 2/28 (posted); HW 3 due 3/6 (day of 1 st debate) Reading assignments: K&W 10 & 11 for next week (2/21, 2/23) K&W 9 (4 th edition) for the following week (2/28, 3/1) - posted.

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Public Policy in Private Markets

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  1. Public Policy in Private Markets

    Collusion
  2. Announcements HW: HW 2, due 2/28 (posted); HW 3 due 3/6 (day of 1st debate) Reading assignments: K&W 10 & 11 for next week (2/21, 2/23) K&W 9 (4th edition) for the following week (2/28, 3/1) - posted
  3. What does this mean from an economics/public policy angle? Size of the company and nature of business Large amount of time connected to the network Revelation of individual preferences Revelation of connections Business opportunities: On-line advertising, games, dating, etc. Sales: music, video, clothing, etc. Search engine? Antitrust concerns: Dominance of company = abuses? US (2011), EU (2012): privacy concerns
  4. Overview of Antitrust Laws
  5. Sherman Act, Section 1 Collusive restraints of trade “Every contract, combination, … or conspiracy in restraint of trade or commerce among the several states, or with foreign nations is hereby declared illegal. Every person who shall make any such contract … shall be deemed guilty of a misdemeanor and … shall be punished by fine … or by imprisonment … in the discretion of the court”
  6. Sherman Act, Section 1 “Every contract” - PER SE RULE, no room for “but…” Key question: Did you collude? Caveat: if there is absence of explicit contract (or agreement) – per se rule can’t be applied
  7. Recap of Chapters WJ Ch 9 & 10 Why is the prisoner’s dilemma game a useful way to think about incentives to collude? How do factors such as cost structures, product differentiation, elasticity of demand, and frequency of sales affect the likely success of collusive agreements?
  8. Prisoner’s Dilemma Action by Westinghouse (C,C) highest joint profits Incentive to deviate (Collusion is unstable) (D,D) is the equilibrium (it is a safer location too) Action by GE
  9. Factors Facilitating Collusion Identical costs across firms (e.g. sugar vs. cars) Different costs = different prices No product differentiation (e.g. vitamins) Different products = different prices Few firms / high concentration Fewer firms = easier to coordinate and monitor
  10. Factors Facilitating Collusion Slow rate of technological advance Little change in products = easier coordination Steady rate of demand growth Unstable demand = harder price coordination Low elasticity of demand This means less substitutes, more price control, more market power Low frequency of sales Prices of frequent sales (e.g. daily) are more difficult to monitor & are more disruptive to cartel
  11. Interpretation of Section 1 Judicial interpretation of section 1 takes its shape from three key decisions: U.S. v. Addyston Pipe & Steel (1899) U.S. v. Trenton Potteries, et al (1927) U.S. v. Socony-Vacuum Oil, et al (1940)
  12. U.S. v. Addyston Pipe & Steel (1899) 6 pipe makers: coordinated who would get each municipality contract. Avoid “cutthroat” price competition. Defense: essential to avoid destructive price wars + prices were “reasonable” Judge Taft: Naked and ancillary price fixing. Per se rule applied only to naked price fixing
  13. U.S. v. Addyston Pipe & Steel (1899) Ancillary price fixing: agreement not to engage in head-to-head competition Naked price fixing: Main purpose is to fix prices, divide the market, or generally eliminate competition What does this mean? RULE OF REASON
  14. U.S. v. Trenton Potteries, et al (1927) 23 suppliers of bathroom fixtures admitted to a price-fixing agreement Tried to convince jury of reasonable prices Jury returned a guilty verdict (held after appeal) “The aim and result of every price-fixing agreement is . . . the elimination of one form of competition. The power to fix prices, whether exercised reasonably or not, involves the power to control the market.” PER SE RULE, regardless of type of price fixing
  15. U.S. v. Socony-Vacuum Oil, et al (1940) 27 corporations + 56 individuals charged with fixing price of gasoline. 16 companies and 30 individuals convicted Federal judge instructs jury to apply a per se rule. Conviction was overturned on appeal but reversed again by the Supreme Court Justice Douglas: “Under the Sherman Act any combination formed for the purpose and with the effect of raising, fixing, pegging, or stabilizing the price of a commodity in interstate or foreign commerce is illegal per se.” Per se rule confirmed (standard for 60+ years)
  16. Collusive Restraints of Trade Practices covered by Section 1: Direct Agreements To fix price To Allocate markets Geographically By type of customer Other Collusive restraints Gray area (circumstantial evidence) Conscious parallelism, trade associations, patent holders
  17. Collusive Restraints of Trade Practices covered by Section 1: Direct Agreements To fix price To Allocate markets Geographically By type of customer Other Collusive restraints Gray area (circumstantial evidence) Conscious parallelism, trade associations, patent holders
  18. Direct Agreements: price fixing Conspirators agree on price PER SE illegal since Trenton Potteries But price fixing can also be achieved indirectly EXAMPLE 1: Socony-Vacuum case: large firms had agreement with small refiners to buy excess supply The price was thus kept (artificially) high in times of excess supply Why was this illegal?
  19. Example: indirect price fixing EXAMPLE 2 Coupon case (1984) 4 supermarkets in CT and MA Conspiring to drop double coupons Is this price fixing? 4 firms pleaded Nolo contendere Fines: Waldbaum ($400,000), Supermarkets General ($350,000). Total $830,000 Court gave this out to consumers in coupons
  20. Direct Agreements: price fixing
  21. Direct Agreements Market allocation Geographic allocation is rare (easier to detect) Bidders agree on who takes what: Subcontract bid-rigging: unsuccessful bidders subcontract with successful one Bid suppression: some conspirators agree not to submit a bid so that another conspirator can successfully win the contract. Complementary bidding: some of the bidders bid an amount knowing that it is too high Bid rotation: bidders take turns being the designated successful bidder
  22. Direct Agreements Market allocation Types of bidding are not mutually exclusive Example 1: Electrical equipment industry (1950’s) Combination of bid rotation and complementary bidding and geographic allocation Based on the phases of the moon and regions: who occupies low bid (and where) during which weeks or phase of the moon Government case first (criminal case), $2 mill. in fines, 7 executives in jail (30 days) Private cases followed: $400 mill. in total treble damages
  23. Direct Agreements Market allocation Example 2: Insurance (Late 2004) NY state cases (brought by NY attorney general) Insurers: AIG, ACE, Hartford Broker: Marsh & McLennan Companies give insurance needs to broker Broker gets bids but asks insurers for special commission (kick backs) to secure business Broker asks for artificial bids to certain insurers so as to award bid to targeted insurer Broker makes sure he gets largest kick back (not necessarily lowest price for customer)
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