This document is available in two formats: this web page (for browsing content) and PDF (comparable to original document formatting).  To view the PDF you will need Acrobat Reader, which may be downloaded from the Adobe site. For an official signed copy, please contact the Antitrust Documents Group.

Slide 1

Federal Trade Commission/Department of Justice
Hearings on Single-Firm Conduct
Berkeley, January 2007




The Economics of Monopolization
A Simple (as possible) Antitrust Analysis


Timothy F. Bresnahan

Stanford University




Slide 2

Much Recent Action in the Courts

  • Boundary with law or regulation
    • Trinko (Supreme Court)
    • Xerox (Federal Circuit)
  • Pricing
    • Spirit (6th Circuit)
    • AA (District Court)

  • Bundling & c.
    • LePage's (3rd Circuit)
    • Microsoft (DC Circuit)
    • Dentsply (3rd Circuit)

All working on the standards for monopolization / exclusion under § 2


Slide 3

A Rule of Reason Enquiry

  • Structure is economic
  • Economics enters at two key junctures
    • Market power (should be competitive effects!)
    • Causation from alleged anticompetitive acts to changes in market power
  • Much can be gained by thinking carefully about the competitive effects and causation arguments first

Consistent with judicial analysis in bundling cases


Slide 4

Difficult!
  • Most exclusionary conduct would be an ordinary and competitive business practice in some or even most industries.
  • Legal Perspective
    • § 2 leads to an unstructured rule of reason analysis
  • Economic Perspective
    • Monopolization leads to a highly structured competitive effects analysis


Slide 5

Dentsply:
Economic Analysis of Monopoly Maintenance

  • There is a monopoly in prefab artificial teeth.
  • There could be competition in the market from a number of far smaller and lower priced competitors.
  • But exclusive contracts with dealers block smaller competitors from offering consumers effective tooth choice.


Slide 6

… Horizontal competitive effects
  • The impact of Dentsply’s contracts is to reduce competition in the market for prefab artificial teeth.

…Vertical restraints logic
  • Dentsply’s contracts are with third parties, the dealers. Their economic effect is to prevent valuable distribution contracts between the third parties and Dentsply’s competitors.
    • vs. Efficient Vertical Contracts


Slide 7

Theory of (Anti)Competitive Effects

More Market Power for Defendant(s)

Arrow pointing up   Exclusionary Act

Less Market Power for Defendant(s)

 


Slide 8

Dentsply Theory – Much for Plaintiff to Show

  • There is a monopoly in prefab artificial teeth.
  • There is a monopoly in prefab artificial teeth.

    [D]


  • There could be competition in the market from a number of far smaller and lower priced competitors.
  • There could be competition in the market from a number of far smaller and lower priced competitors.

    [D]


  • But exclusive contracts with dealers block smaller competitors from offering consumers effective tooth choice.
  • But exclusive contracts with dealers block smaller competitors from offering consumers effective tooth choice.

    [D]


    Slide 9

    Much for Plaintiff to Show
    Market Power (Competitive Effects) & Causation

    • There is market power, but there could be competition…
      • Usual investigation of market power (analysis of substitution to competitors, entry barriers) ..
      • … rendered more difficult for plaintiff by the requirement to show that a more competitive regime could arise.
      • The most direct route for plaintiff: show that entry barriers arise from challenged acts
    • Bulk up this enquiry of causation
      • Why do third parties go along with anticompetitive contracts?
      • Why is use of third parties an effective barrier?


    Slide 10

    Much for Plaintiff to Show
    Test vs. Efficiency Theories
    • (v.1) Would the anticompetitive acts be profitable for defendant and make business sense without diminishing competition?
      • aka the “sacrifice” test.
        • Does the act involve a departure from ordinary business (competitive) behavior that is costly to the firm?
        • Will the firm recoup that cost only through monopoly power?
    • (v.2) (Called for by every monopolization defendant in living memory.) Calculate how well off is society (or are consumers) with and without the conduct.
      • My theoretical colleagues’ “assume you have a can opener”


    Slide 11

    x v. Microsoft 3.1
    US v. Microsoft (Browser Case)


    Slide 12

    Microsoft Monopoly Maintenance Example

  • There is a Windows monopoly.
  • There is a monopoly in prefab artificial teeth.

    [D]


  • There could be dynamic competition for the operating system market if Internet entrepreneurs built standards in new markets.
  • There could be competition in the market from a number of far smaller and lower priced competitors.

    [D]


  • But contracts with distributors and with other complementors kept the Internet entrepreneurs from getting a market test.
  • But exclusive contracts with dealers block smaller competitors from offering consumers effective tooth choice.

    [D]


    Slide 13

    Economics of the PC Industry Very Relevant

    • Internet Entrepreneurs were not horizontal competitors for Windows.
      • Browser from Netscape, Java from Sun not operating systems
      • Industry experience is that vertical disintegration leads to competition for the market
      • Microsoft Internal documents foreground this (rare) feature of this industry


    Slide 14

    PC Industry View of Vertical Disintegration
    Andrew S. Grove

    The Old Vertical Computer Industry -
    Circa 1980

    sales and distribution        
    application software        
    operating system        
    computer        
    chips        
      IBM DEC Sperry Univac Wang


    The New Horizontal Computer Industry-
    Circa 1995

    (not to scale)

    sales and distribution
    Retail Stores
    Superstores
    Dealers
    Mail Order

    application
    software
    Word
    WordPerfect
    Etc.

    operating system DOS and Windows OS/2 Mac UNIX

    computer
    Compaq
    Dell
    Packard Bell
    Hewlett-Pachard
    IBM
    Etc.

    chips
    Intel Architechure
    Motorola
    RISCs


    More competitive,
    More innovative


    Slide 15

    Two (of many) Internal Discussions

    • Paul Maritz:
    Apps
    Java runtime
    Windows
    Arrow pointing right
    Apps
    Java runtime
    "Java OS"
    • Bill Gates

    A new competitor "born" on Internet is Netscape Their browser is dominant with 70% usage share, allowing them to determine shich network extensions will catch on. They are pursuing a multi-platfrom strategy where they move the key API into the client to commoditize the underlying operating system. They have attracted anumber of public network operators to use their platform to offer information and directory services. We have to match and beat thier offerings including working with MCI, newspapers, and other who are considering thier products.

    One scary possibility being discussed by Internet fans is whether they should get together and create something far les expensive that a PC which is powerful enough for Web browsing. This new platform would optimize for the datatypes on the Web Gordon Bell and other approached Intel on this and decided Intel didn't care about a low cost device so they started suggesting that General Magic or another operating system with a non0Intel chip is the best solution.


    Slide 16

    Antitrust in Network Industries
    … is ordinary antitrust

    Government’s theory of the case: competition for the market against Windows.

    Competition in the market is rare in industries like this.


    Slide 17

    … the rest of Microsoft is much like Dentsply
    • Anticompetitive contracts were with third parties, such as sellers of computers and providers of online access.
      • Prevent widespread distribution of browser, java
    • Plaintiff needed to show lack of distribution was causal and Defendant could show (as in Dentsply) that it was not


    Slide 18

    Microsoft’s Trial Defenses

    • We have no market power
      • Competition or the imminent threat of competition from everything (down to the electric toaster) against Windows
    • Our reaction to the browser wasn’t strategic
      • No competitive threat from the Internet entrepreneurs, the CEO “had no idea what Netscape was doing at that time.”
    image of train wreck


    Slide 19

    Microsoft Remedy Fizzle

    Government Settles

    States Go On

    Class Action Attorneys Emerge

    image of fire truck and a dog


    Slide 20

    Defense Options

    Argue that vertical restraints can’t ever be anticompetitive.

    Argue that vertically restricting the existing distribution system isn’t anticompetitive because (either)

    Entry barriers in distribution are low.

    Distributors could refuse exclusive contracts if they were anticompetitive.

    Present affirmative efficiencies story of exclusivity (free riding?)

    Argue that there is never monopoly power.

    Argue that there is no monopoly power (no entry barriers and no efficient entrants)

    Argue that competition would not change absent exclusive contracts (causation)


    Slide 21

    Common Elements in
    Dentsply and Microsoft

    Potential of Existing Monopoly to Change

    Dentsply, Competition in the market for teeth
    Microsoft, Competition for the operating system market

    Causal Link Between Alleged Acts and Monopoly Maintenance

    Dentsply, Exclusive contracts nakedly excluded competitor
    Microsoft, Exclusive (de facto) contracts excluded browser & java; entry barriers in operating system market would have fallen othewise

    Both changes in market power and causal links are amenable to economic analysis


    Slide 22

    Easy Errors to Make (Ignoring Economics)
    • Proper Assessment of Competitive Effects requires proof of harm to competition, not just to competitors
    • Plaintiff error: we were harmed,
      …so competition must have been harmed.
    • Defendant error: they were harmed,
      …so this is case about harm to competitors, not harm to competition.
    • Plaintiff: Prove market power but not that it could go away
    • Defendant: Attempt, implausibly, to disprove market power pretrial
      • Leaves economist expert incredible


    Slide 23

    Lessons from Dentsply and Microsoft

    Monopolization is dependent on highly industry specific conditions.

    • Market must be capable of having two competitive regimes.
      • Economic Analysis relevant
    • Exclusionary practices must have enough causal heft to move market to less competitive regime.
      • Economic Analysis relevant
    • …monopolization cases will be rare (≠ nonexistent).
    • …enquiry will be highly specific to industry and will turn on economic analysis of changes in competition and of causal impact of alleged exclusionary practices