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Quantitative Benefit-cost Analysis of Mergers

Quantitative Benefit-cost Analysis of Mergers. Luke Froeb Oct. 26, 2001 Federal Trade Commission. References. mba.vanderbilt.edu/luke.froeb/papers/ Coauthors, Tschantz & Werden Simulating Merger Effects Among Capacity-constrained Firms Pass Through rates and the Price Effects of Mergers

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Quantitative Benefit-cost Analysis of Mergers

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  1. Quantitative Benefit-cost Analysis of Mergers Luke Froeb Oct. 26, 2001 Federal Trade Commission

  2. References • mba.vanderbilt.edu/luke.froeb/papers/ • Coauthors, Tschantz & Werden • Simulating Merger Effects Among Capacity-constrained Firms • Pass Through rates and the Price Effects of Mergers • Merger Effects When Firms Compete by Choosing Both Price and Advertising • Does retail sector matter for manufacturing mergers? [very preliminary]

  3. Quantitative benefit-cost analysis • Goal: quantitative estimate of merger effect. • Necessary to weigh efficiencies against loss of competition • Two methodologies • Empirical comparisons, e.g. Staples/Office Depot • Model-based simulations

  4. Empirical Comparisonse.g., Staples-Office Depot • Good natural experiments or comparisons • Benefit-cost analysis still requires structural estimate of pass through • Depends on demand curvature • big pass-through iff big anticompetitive effect

  5. Model-based simulation • Model current competition • Estimate model parameters • Simulate loss of competition from merger

  6. Key parameters cost of walking Sensitivity of choice to price location of merging lots location of non-merging lots capacity of lots location of office buildings e.g. Parking Merger

  7. Simple approach: Bertrand Price-setting game • Static game • What about dynamic strategies? • Price-setting competition • What about product, promotion, placement? • Unilateral Effects • What about coordinated effects? • Does retail sector matter? • Kroger-Winn Dixie vs. Quaker-Pepsi

  8. Simple approach: Modeling Critique • How well does model capture loss of competition from merger? • Coke strategy is “share of throat” • More about placement and product than price • MCI-Sprint • Tele-market new plans to rivals’ customers • More about promotion than price • Is Bertrand a good metaphor for loss of competition?

  9. Simple approach: Does retail sector matter? • When is retail sector transparent? • Constant or constant percentage markup • two-part tariffs, and retail sector must carry profitable products • Retail sector earns no profit • When does it matter? • Double marginalizationprice effect • Two-part tariffs, and option of exclusivityno price effect

  10. Simple approach: What about advertising? • FOC’s if q=q(a,p) • {0=q+(p-mc)dq/dp, 0=-1+(p-mc)dq/da} • FOC if q=q(a(p),p) • 0=q+(p-mc’)dq/dp; mc’=mc+(da/dp)/(dq/dp) • Pre-merger: Price-only model with mc’ ≈ price+advertising model • Does advertising increase with quantity?

  11. Simple approach: Implementation • Estimate AIDS demand • Scanner data • Instruments • None needed for weekly data • LR vs. SR elasticities (Nevo & Hendel) • Prices in other cities • Correlated through costs • Results • High variance • Inelastic demand? • Goods are complements?

  12. Implementation Critique: too many parameters • AIDS has too many parameters • Confidence intervals include both pro- and anti- scenarios. • Elasticity matrix for merging products is most important. • Alternatives: Logit, nested logit, PD GEV (Bres.&Stern), mixed logit (BLP) + census data (Nevo) • But all goods are substitutes • Only fool would admit post-merger price rise to FTC • Agencies discount efficiencies as not merger-specific • So parties are reluctant to admit even small price increase. • Proposal: assume 5% MC reduction • Then simulate post-merger prices

  13. (multiple) dimensions of differentiation Implies substitution patterns PD GEVBresnahan & Stern

  14. Implementation Critique: Higher derivatives of demand • f(x),f’(x), and f’’(x) influence predicted price rise. • Need location, velocity, and acceleration • but observe only location • If we cannot estimate f’(x) • Product margins • Hall vs. Hausman in MCI-Sprint • If we cannot estimate f’’(x) • Sensitivity analysis; or • Use linear or logit for extrapolation to be conservative; or • compensating cost differentials don’t depend on acceleration

  15. Implementation Critique: Average revenue instead of price • Average revenue is quantity share-weighted price index. • Price changes cause weights to change. • Leads to inelasticity bias • Use fixed weight index when possible. • Or use disaggregated data • store-level data exist • but we don’t use them • Individual choice data exist • but we don’t use them

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