Bart Wilson  

Reclaiming Fairness: Competition Policy

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To follow up on my attempt to reclaim fairness for commerce, let's consider what this means for competition policy. The 18th century meaning of unfair with its roots in commerce didn't completely disappear by the 20th century. In 1914 Congress passed the Federal Trade Commission (FTC) Act to ban "unfair methods of competition" and "unfair or deceptive acts or practices." In establishing the FTC as an independent agency, the government decided to give some teeth to punishing modern day snake oil salesmen who fraudulently advertise and deceptively market to the American public. The intents and purposes of the proscription are clear: whereas honesty promotes and expands trade and creates wealth, dishonesty and deceit choke it off. I think it's worth noting that even though Germans do not have a one-to-one translation for the English word fair (they say, "Das ist nicht fair!"), they do in the context of competition policy have a singular translation for unfair competition, namely, unlauterer Wettbewerb. Consonant with the 18th century meaning of unfair, the adjective unlauterer connotes a sense of dishonesty or untruthfulness. Commerce relies on honesty in any culture.

As odd as it may sound, the majority of time and resources of the FTC is not spent on punishing bad business practices as authorized in the FTC Act. The agency overwhelmingly concentrates on enforcing another act also passed in 1914, the Clayton Act, and specifically section 7, which prohibits mergers and acquisitions where the effect "may be substantially to lessen competition, or to tend to create a monopoly."

As an example of the Clayton Act at work, consider the FTC case against the merger of Whole Foods and Wild Oats, a case ripe for Swiftian satire. In early 2007 Whole Foods announced its plan to purchase its closest and underperforming rival Wild Oats. Shortly thereafter, the FTC issued a complaint to block the merger of these two largest operators of "premium, natural, and organic superstores." The standard that the FTC (and the Department of Justice) applies for enforcing the Clayton Act is whether they believe that the merger will result in a "small but significant and nontransitory increase in price," where "small" is defined as 5%. After surveying the industry the FTC concluded that upon consummating the merger the "affluent and well educated customers" of Whole Foods and Wild Oats might pay too much for a pint of 100% pasture grazed, 100% organic, raw colostrum. Did anyone ask the question as to why the FTC was concerned that rich people might pay 5% more for fancy groceries? It's the principle, Bart; the law is blind to the incomes of people.

What exactly is the principle behind this antitrust law? It sounds noble that the government is protecting customers from "market power," the "ability profitably to maintain prices above competitive levels for a significant period of time," but this is again a case where the modern focus has shifted away from general abstract rules of conduct towards fine-tuning the resulting ends. The argument is that the act of merging is not an acceptable means to raise prices. It seems unfair, in the modern ends-based sense, for a bigger merged corporate entity to accumulate even larger sums of profits by collecting 5% or more from their voluntarily paying customers. The problem is that this is not a general abstract rule proscribing detrimental conduct.

Sometimes firms merge to develop higher quality products, to invest in innovations, and to reduce costs. Thus to distinguish between "good" and "bad" mergers, the antitrust enforcement agencies must divine the net competitive effects post-merger in light of all these different motivations. Moreover, divining the competitive price requires defining the exact boundaries of a market, which are sometimes legally separated by ludicrously fine lines. When Nestle attempted to merge with Dreyer's in 2003, the FTC delineated not two, but three different markets for ice cream purchased in grocery stores: economy, premium, and "superpremium," where Nestle's and Dreyer's superpremium ice cream was distinguished from economy and premium ice cream by such universal constants as "more butterfat, less air, and more costly ingredients."

In the case of the Whole Foods merger, the FTC argued that the "relevant market" was only "premium, natural, and organic supermarkets." Safeway and Albertsons didn't count as competitors because Whole Foods didn't historically respond to their prices of perishables in the same way that Whole Foods did to Wild Oats. Those may be the facts given that snapshot in time, but if Whole Foods suddenly disappeared from the planet one morning, somehow I don't think their affluent, well-educated, and "mission driven" customers would starve because they wouldn't shop in an economy, unnatural, and unorganic grocery store.

Whole Foods discovered and cultivated a differentiated and profitable niche in groceries that siphoned customers away from economy and unorganic grocery stores. That prior to a merger those customers did not shop at Safeway and Albertsons because of that discovery says nothing about the myriad of unknowable circumstances, both supply-side and demand-side, that those customers would face shopping post-merger. (I doubt John Mackey, the CEO of Whole Foods, foresaw the extent of this market niche when he co-founded the company in 1980.) Who can foresee all the incalculable ways consumers of groceries could be served if Whole Foods would mismanage their hegemonic position with dishonesty or by over-pricing their products? There's a little hubris in constraining the particular circumstances of the future to the peculiar facts of the present.

What is foreseeable is that dishonesty and deceit stifle trade, and this is the distinguishing feature of the FTC and Clayton Acts. The former proscribes foreseeable harms by a general rule (when is dishonesty or deceit ever a good thing?) and then lets the competitive process unfold as it may, whereas the latter presumes that competition post-merger is a foreseeable effect and directs the FTC and DOJ to do the impossible: predict the particular. Current prices, however, are not predictable indicators of future competition, nor is competition the effect of a merger. Competition is a process governed by a set of rules. Good general rules with which everyone is already familiar (or should be), like don't misrepresent or don't be dishonest, tend to give rise to good outcomes.

The bulk of current horizontal merger enforcement is built upon the premise that there is some stationary state of pre- and post-merger competition with a concomitant price. Prices and competition, however, are not ends; they are means, dynamic means for discovering which goods will best serve which customers who each have their own particular circumstances and tastes. Even though firms may discover post-merger that we are willing and able to voluntarily pay more, the important long run rules governing their conduct remain constant: honesty, candor, and ingenuousness. The everyday rules of the game of life that far pre-date the modern market economy still apply. Fairness isn't an end in markets. Fairness is the very means by which markets work.


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COMMENTS (4 to date)
Steve Cernak writes:

Well, some good points in this post mixed in with some incorrect ones. When judging mergers, the FTC and DOJ ultimately apply the same standard -- but it is not the SSNIP, it is whether the merger "may substantially lessen competition". If you want to grumble, the FTC actually has a slightly easier threshold to meet to get a preliminary injunction to stop a merger -- and that played a role in the circus that was the Whole Foods case. The "small but significant nontransitory increase in price" is part of the method both agencies use to define a market -- and yes, that can yield market definitions that seem odd, narrow and the opposite of dynamic -- and you listed two great examples. But maybe the FTC is learning -- after blocking the Staples acquisition of Office Depot in 1997 because of its effect on the market for "office consumables sold in office superstores", rumors point to the FTC allowing the current Office Max/Depot merger to go through.

Still, I'm not sure I see the point -- so you want competition law to be reduced to FTC Act Section 5's "unfair methods of competition"? You might think you know what that means but nobody at the FTC does. It has been interpreted very broadly periodically over the decades and there's currently a debate among the four current commissioners about what it means and whether the FTC should try to issue guidance on it. Check out Josh Wright's speeches at FTC.gov. http://www.ftc.gov/speeches/wright/130619section5recast.pdf

Quinn writes:

"Fair" is a toxic word. It can be used to excuse any action taken, and exists in a state where no matter the effort presented against it, it can be defended. Why allow the government to take land from a private individual? "fairness", why institute minimum wages? "fairness" of course. Why limit the success of an individual or business? Well if we don't do it would be, "unfair".

Chris Koresko writes:

This post is long but interesting. It seems that there are a couple of deep ideas here, some explicit and others not:

* There are two definitions of the word "fair". One is older and more closely tied to honest dealing, while the other is broader and more associated with attractive outcomes.

* Current law is written to advance both of these notions of fairness. It makes sense to use the law to encourage honest dealing because dishonest dealing is clearly destructive. It makes less sense to use law to encourage attractive outcomes because outcomes are unpredictable and difficult to define objectively and coherently.

My thought: Attempts to enforce attractive outcomes are likely to conflict with honest dealing, because the enforcer must be granted largely arbitrary power which will often be used in ways that disrupt honest deals.

Steve Cernak suggests there is evidence from the actions of the FTC that it is learning from its past mistakes, so that it is changing its enforcement of unchanged laws. That more or less implies that it is able to exercise its power with a fair bit of discretion.

Reading this post more broadly than it was written, it looks like a call to restrict government intervention to cases in which there is both a clear violation of some social norm and a clear benefit to acting against it. That would tend to move government in the direction of being unambiguously a force for social good.

Bart writes:

As Steve Cernak correctly points out, the SSNIP is used as a standard to define the relevant market, but it also indicates that the antitrust enforcement agencies are concerned about relatively small increases in prices (even though the Guidelines do not specify a precise post-merger criterion). I should have expressed this distinction.

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