Chapter: Which of the following is a violation of federal antitrust laws? (EN)

I. Introduction to Antitrust Laws

Antitrust laws are statutes developed by governments to protect consumers from predatory business practices by ensuring that fair competition exists in an open-market economy. These laws prevent activities that restrain trade, reduce competition, and lead to monopolies. In the United States, the primary federal antitrust laws are the Sherman Act, the Clayton Act, and the Federal Trade Commission Act. Understanding the specifics of each law is crucial for identifying violations.

II. The Sherman Act

The Sherman Act, passed in 1890, is the cornerstone of U.S. antitrust law. It prohibits two primary types of anti-competitive behavior:

Section 1: Restraints of Trade: This section prohibits contracts, combinations, and conspiracies that restrain trade. It targets agreements between competitors that reduce competition. Violations under Section 1 are typically classified as per se violations or judged under the Rule of Reason.
- Per Se Violations: These are agreements that are considered inherently anti-competitive and are automatically illegal. Examples include:
 1. Price Fixing: An agreement between competitors to set prices, raise prices, lower prices, or stabilize prices. This includes agreements on price ranges, discounts, or credit terms.
 - Mathematical representation: If p_i represents the price set by company i, price fixing occurs when p₁ = p₂ = … = p_n, where n is the number of conspiring firms.
 2. Bid Rigging: An agreement between competitors on who will win a bid. Common forms include complementary bidding, bid suppression, and bid rotation.
 3. Market Allocation: An agreement between competitors to divide territories or customers. For example, Company A agrees to sell only in the East Coast while Company B sells only in the West Coast.
 4. Group Boycotts: An agreement between competitors to refuse to deal with a particular supplier or customer.
- Rule of Reason: For restraints of trade that are not per se illegal, courts apply the Rule of Reason. This involves a detailed analysis of the agreement’s likely competitive effects, considering factors such as:
 1. Relevant Market: Defining the product and geographic market affected by the agreement.
 2. Market Power: Assessing the market share and ability of the parties to the agreement to influence prices or exclude competition.
 - Herfindahl-Hirschman Index (HHI) can be used to measure market concentration. HHI = Σ (si)2, where si is the market share of firm i and the summation is taken across all firms in the market. Higher HHI values indicate greater market concentration.
 3. Anti-Competitive Effects: Determining whether the agreement harms competition by raising prices, reducing output, or diminishing innovation.
 4. Pro-Competitive Justifications: Evaluating whether the agreement has any legitimate business justifications that outweigh its anti-competitive effects.
Section 2: Monopolization: This section prohibits monopolization, attempts to monopolize, and conspiracies to monopolize. It focuses on single-firm conduct that harms competition. To prove monopolization, the following elements must be established:
1. Possession of Monopoly Power: The ability to control prices or exclude competition in the relevant market. Typically, a market share above 70% is considered evidence of monopoly power, but it’s not a strict threshold.
2. Willful Acquisition or Maintenance of Monopoly Power: Demonstrating that the monopolist engaged in exclusionary conduct, not simply superior products or skill, to acquire or maintain its dominant position. Examples of exclusionary conduct include:
 - Predatory Pricing: Setting prices below cost to drive out competitors. This requires demonstrating that prices are below an appropriate measure of cost, such as average variable cost (AVC).
 - AVC = Total Variable Costs / Quantity
 - Predatory pricing requires Price < AVC
 - Exclusive Dealing Agreements: Agreements that prevent customers from dealing with competitors. These can be illegal if they foreclose a substantial share of the market.
 - Tying Arrangements: Requiring customers to purchase a second product (the tied product) in order to purchase a desired product (the tying product). Illegal tying arrangements require market power in the tying product and affect a substantial amount of commerce in the tied product.

III. The Clayton Act

The Clayton Act, passed in 1914, supplements the Sherman Act by addressing specific practices that could substantially lessen competition or tend to create a monopoly. Unlike the Sherman Act, it primarily focuses on preventing anti-competitive practices before they become widespread.

Section 3: Tying and Exclusive Dealing: Prohibits tying arrangements and exclusive dealing arrangements that substantially lessen competition or tend to create a monopoly. This section overlaps with Section 2 of the Sherman Act but has a lower threshold for illegality.
Section 7: Mergers and Acquisitions: Prohibits mergers and acquisitions that may substantially lessen competition or tend to create a monopoly. This section is enforced by the Department of Justice (DOJ) and the Federal Trade Commission (FTC) through a pre-merger notification process under the Hart-Scott-Rodino (HSR) Act. The agencies analyze the potential competitive effects of mergers, considering factors such as:
1. Market Definition: Defining the relevant product and geographic markets.
2. Market Concentration: Assessing the level of concentration in the market using the HHI.
3. Potential Anti-Competitive Effects: Identifying potential harm to competition, such as increased prices, reduced output, or diminished innovation.
4. Efficiencies: Evaluating any efficiencies that the merger may create, such as cost savings or improved product quality.
Section 8: Interlocking Directorates: Prohibits a person from serving as a director or officer of two competing corporations if the corporations’ combined capital, surplus, and undivided profits exceed a certain threshold.

IV. The Federal Trade Commission Act

The Federal Trade Commission (FTC) Act, also passed in 1914, created the FTC and gave it broad authority to prevent unfair methods of competition and unfair or deceptive acts or practices in commerce.

Section 5: Declares that unfair methods of competition in or affecting commerce, and unfair or deceptive acts or practices in or affecting commerce, are unlawful. This section gives the FTC broad authority to challenge a wide range of anti-competitive practices, including those that may not violate the Sherman or Clayton Acts. The FTC often uses Section 5 to address emerging forms of anti-competitive conduct.

V. Key Concepts and Distinctions

Horizontal Restraints: Agreements between competitors at the same level of the supply chain (e.g., agreements between two manufacturers or two retailers). These restraints are often subject to per se rules.
Vertical Restraints: Agreements between firms at different levels of the supply chain (e.g., agreements between a manufacturer and a distributor). These restraints are typically analyzed under the Rule of Reason.
Market Power vs. Monopoly Power: Market power refers to the ability of a firm to raise prices above competitive levels without losing so many sales that the price increase is unprofitable. Monopoly power is a significantly higher degree of market power, allowing a firm to control prices or exclude competition.
Intent: While not always required, evidence of intent to harm competition can strengthen an antitrust case.

Simulated Price Fixing Experiment: Participants are divided into groups representing competing firms. They are instructed to independently set prices for a hypothetical product. In one scenario, they are allowed to communicate and coordinate prices. In another scenario, communication is prohibited. Comparing the price levels and profits in the two scenarios demonstrates the potential effects of price fixing.
Merger Simulation: Use market data and economic models to simulate the effects of a proposed merger on prices, output, and consumer welfare. These simulations help antitrust agencies assess the potential harm to competition.
Analysis of Exclusionary Conduct: Analyze real-world examples of exclusionary conduct, such as predatory pricing or exclusive dealing, to understand their effects on competition and consumer welfare. This can involve examining court cases and economic studies.
Game Theory and Cartels: Use game theory models to illustrate the incentives for firms to collude and the challenges of maintaining a cartel. For example, the prisoner’s dilemma demonstrates the instability of cartels.

VII. Important Discoveries and Breakthroughs

Development of the Rule of Reason: The Supreme Court’s decision in Standard Oil Co. of New Jersey v. United States, 221 U.S. 1 (1911), established the Rule of Reason as the standard for evaluating many restraints of trade.
Establishment of Per Se Rules: The Supreme Court’s decisions in cases such as United States v. Socony-Vacuum Oil Co., 310 U.S. 150 (1940) (price fixing), and Northern Pacific Railway Co. v. United States, 356 U.S. 1 (1958) (tying arrangements), established per se rules for certain types of anti-competitive conduct.
Economic Analysis of Antitrust: The application of economic theory and empirical analysis to antitrust enforcement has led to more sophisticated and informed decision-making.
The Hart-Scott-Rodino Act (HSR): Requires companies to notify the FTC and DOJ before completing mergers or acquisitions above a certain size, providing these agencies with the opportunity to investigate potential anti-competitive effects before a merger is consummated.

Chapter Summary

Federal Antitrust Law Violations: A Scientific Summary
Core Principles: Federal antitrust laws in the U.S. are designed to promote competition and prevent monopolies, thereby protecting consumers and fostering innovation. Violations generally fall under three main categories: agreements in restraint of trade, monopolization, and mergers/acquisitions that substantially lessen competition.
Agreements in Restraint of Trade (Sherman Act Section 1):
- Collusion: Agreements between competitors to fix prices (price-fixing), rig bids (bid-rigging), allocate markets (market allocation), or control output are per se illegal. This applies even if the agreed-upon price is “reasonable.” Evidence of explicit agreement isn’t always required; tacit collusion and consciously parallel behavior can be scrutinized, particularly with facilitating practices (e.g., information exchanges).
- Concerted Refusals to Deal (Group Boycotts): Agreements among competitors to refuse to deal with a particular supplier, customer, or competitor can be per se illegal if designed to exclude a competitor and lack a legitimate business justification.
- Rule of Reason Analysis: Agreements that are not per se illegal are analyzed under the “rule of reason,” which examines whether the restraint is unreasonable based on its pro-competitive benefits versus anti-competitive effects. Factors considered include the nature of the business, the restraint’s market impact, and whether less restrictive alternatives exist. This analysis is fact-intensive.
Monopolization (Sherman Act Section 2):
- Elements of Monopolization: Establishing a monopolization violation requires proving: (1) possession of monopoly power in the relevant market and (2) willful acquisition or maintenance of that power through exclusionary conduct (rather than through superior product, business acumen, or historic accident).
- Monopoly Power: Defined as the power to control prices or exclude competition. Market share is often a proxy (e.g., >70% market share raises concerns), but market definition (product and geographic) is crucial to accurate assessment. Entry barriers (e.g., high capital costs, regulatory hurdles) are also considered.
- Exclusionary Conduct: Actions that lack a legitimate business justification and tend to exclude rivals or impede their entry into the market. Examples include predatory pricing (selling below cost with the intent to eliminate competition), exclusive dealing arrangements that foreclose a substantial share of the market, and tying arrangements that force customers to buy a separate (tied) product from the monopolist.
- Attempted Monopolization: Requires proving: (1) anticompetitive conduct, (2) specific intent to monopolize, and (3) a dangerous probability of achieving monopoly power.
Mergers and Acquisitions (Clayton Act Section 7):
- Substantial Lessening of Competition: Prohibits mergers and acquisitions where the effect may be substantially to lessen competition or tend to create a monopoly.
- Horizontal Mergers: Mergers between direct competitors. They raise concerns about increased market concentration, coordinated interaction (collusion), and unilateral effects (one firm gaining significant market power). Agencies use the Herfindahl-Hirschman Index (HHI) to measure market concentration. Post-merger HHI levels and changes trigger varying degrees of scrutiny.
- Vertical Mergers: Mergers between firms at different levels of the supply chain (e.g., a manufacturer and a distributor). They can raise concerns about foreclosure (raising rivals’ costs) or raising barriers to entry.
- Potential Competition Mergers: Mergers involving firms that are not direct competitors but where one firm is a likely potential entrant into the other’s market. The elimination of potential competition can violate antitrust laws.
- Efficiencies Defense: Merging parties can argue that the merger will create efficiencies (e.g., cost savings, innovation) that outweigh the anti-competitive effects. However, these efficiencies must be merger-specific, verifiable, and passed on to consumers.
Enforcement and Remedies:
- Government Enforcement: The Department of Justice (DOJ) and the Federal Trade Commission (FTC) are the primary federal enforcers. Remedies include injunctions (stopping anti-competitive conduct), divestitures (requiring the sale of assets), and criminal penalties (for certain violations like price-fixing).
- Private Enforcement: Private parties (e.g., competitors, consumers) can also sue for antitrust violations and recover treble damages (three times the actual damages) plus attorneys’ fees.
Key Considerations:
- Market Definition: Crucial to determining market power and assessing the competitive impact of conduct or mergers. Requires identifying the relevant product market (what products compete with each other) and the relevant geographic market (where consumers can reasonably turn for those products).
- Economic Analysis: Antitrust analysis relies heavily on economic principles to assess the likely effects of conduct or mergers on competition and consumer welfare.

Chapter: Which of the following is a violation of federal antitrust laws? (EN)