MIC ECON Lec 11 – Antitrust Legislation

CHAPTER 11:

ANTITRUST LEGISLATION

LEARNING OBJECTIVE The purpose of this topic is to investigate the various forms and effects of laws intended to prevent or regulate monopoly power. The arguments for and against monopoly power are first reviewed. The laws prohibiting monopoly are studied. Then, regulated industries are investigated.

MONOPOLY Monopoly exists anytime a firm is large enough to influence other smaller firms or has some power over its customers.

 Although a monopoly is defined as the sole producer of a given item, the judicial system in the United States has paid much greater attention to the action taken by the firm rather than the actual control of the market. The exercise of power a firm may have can occur (and has occurred) in market which technically would be defined as monopolistic competition or oligopoly.

CASE AGAINST MONOPOLY The major arguments against monopolies are

– loss of efficiency (productive and allocative) resulting in higher prices, smaller output and underutilization of resources, – lack of incentive for economic or technological progress, – profits distribution fostering income inequality, and – influence of political framework to protect monopoly power.

 The OPEC is technically a cartel and would be part of an oligopoly. But the actions taken are typical of a monopoly. And the consequences are also typical: hardship of consumers in having less of a product to consume and having to pay more for it.

CASE FOR MONOPOLY The major arguments in favor of monopoly firms are

– competition exists among industries and on a worldwide basis, – economies of scale are possible in large firms, – large, powerful, oligopolistic firms are needed to develop expensive technologies, – profits must be given to innovators for economic progress.

 Many legal actions have been entered against IBM in the United States and other countries on the basis of antitrust legislation. But virtually all have failed. One possible explanation is that the company has continued to expand technology, which is part of its source of monopoly power, but is also beneficial to society.

ANTITRUST LEGISLATION Antitrust legislation includes –   Sherman Act 1890 (which set the philosophy), –   Clayton Act 1914 (which specified prohibited activities

–     acquisition of stock, interlocking directorates, tying contracts, price discrimination

–     – and created the Federal Trade Commission), – Wheeler-Lea Act 1938, – Celler-Kefauver Act 1950 (which restricted mergers).

 The application of antitrust legislation has changed over time and has been more or less restrictive depending on the attitude of society and the administration. For instance, in the 1960’s, a merger between Pabst and Blatz was blocked because it would have given a combined company control over only 4.5% of the beer market. Since then, the attitude is clearly more lenient with the flow of mergers in many sectors (such as airlines, pharmceuticals, media and computers).

 

PRO MONOPOLY LEGISLATION The legislation that would tend to encourage monopoly includes – patent law (1790), – Webb-Pomerance Act, – protectionist tariffs and quotas.

 The Commerce Department of the United States explicitly encourages firms to act together to promote their sales abroad in complete disregard of antitrust limitations. Similar policies exist in most other nations as well.

REGULATED MONOPOLY LEGISLATION The major legislation for regulated industries includes – Interstate Commerce Act 1887 (which applied mainly to transportation), – Federal Energy Regulatory Commission (1930), – Federal Communication Commission (1934), – Civil Aeronautics Board (1938).

 In the United States the preference is given to supervision over natural monopolies, which is well in line with free market economic principles. In numerous Western countries, the preference is given to outright ownership of the industry by the State. For instance, telephone and electricity is State run in France, Germany and Italy to name only a few countries.

REGULATED INDUSTRIES Certain industries were regulated because a natural monopoly was assumed to be present (and competition would have been unworkable). The major function of the regulatory commission is to set the prices or rates. Most often the rates are set on the basis of a fair-return to assure that investors would be attracted to invest for expansion. However, regulation of some industries has been criticized as fostering legal cartel, and deregulation has been recommended.

 In the case of water, gas or electricity, it is obvious that a waste of fixed resources would occur if several companies were to offer their services to a given customer. Thus the regulation seems warranted. But, as the deregulation of the airline industry has shown, some regulated industries are for the benefit of the companies rather than the consumer. Airline fares decreased notably after deregulation.

FAIR RETURN A regulated company is allowed to charge rates so that it may offer a fair return to investors. This is necessary so that the company may be able to attract new funds when it needs to expand.

 Utilities such as electric companies must seek to expand their productive capacity to serve the growing population. To be able to attract the new capital needed for this expansion, they must be paying interest and dividends to the holders of their securities.

SOCIAL REGULATION Social regulation is concerned with quality of life issues (suc as healthy working conditions, equal opportunity of employment, protection of the environment), not economic issues. It differs from economic regulation, in that it affects virtually all industries and it requires greater government involvement. Social regulation has been expanding rapidly over the past twenty years. There are many arguments for and against social regulation. Social regulation often has economic implications. It tends to increase product prices, reduce competition, and decrease the rate of innovation.

LEGAL CARTEL THEORY The legal cartel theory of regulation states that politicians supply regulation to those industries which seek it. Once a industry is a legal cartel, it is guaranteed profitability and security from competition. Legal cartels also are much more stable and profitable than private cartels. When regulatory commissions create legal cartels, they divide up markets and reduce competition.

 

NATURAL MONOPOLY Natural monopolies exist under the conditions where economies of scale are so great that several competing firms can’t produce a product or a service at a lower cost than one large firm (see Chapter 5). Public utilities are examples of natural monopolies. Natural monopolies are usually regulated and sometimes owned by the public. This is to ensure that they behave in a socially acceptable manner.

 

ANTITRUST EFFECTIVENESS The degree to which antitrust laws are enforced varies among presidential administrations. Price fixing violations are generally strictly enforced. Since the government only has to prove a conspiracy existed to fix prices, collusive actions have been driven underground. Today price leadership and cost-plus pricing formulas have replaced price fixing. The government tends to be much more lenient toward established monopolies, as opposed to emerging monopolies.

 

ANTITRUST EFFECTIVENESS Antitrust action is often taken against mergers. Some mergers are more likely to bring about antitrust action. Vertical and horizontal mergers are usually challenged by the government when they exceed a certain percentage of total market share. Conglomerate mergers usually involve unrelated lines of business and do not fall under antitrust prohibition. Governments have recently been reluctant to break up established domestic business monopolies due to increasing foreign competition.

 

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