Lyons, Bruce

English

University of East Anglia digital repository

C:/ITOOLS/WMS/CUP/377825/WORKINGFOLDER/LYO/9780521886048PTL02.3D 129 [129–134] 10.6.2009 8:37PMBAgreements between firmsIntroductionAny contract between ﬁrms limits the freedom of the parties involved. Even asimple contract to deliver 100 widgets next month at price €1,000 restricts thebuyer’s ability to switch to a lower-cost provider in the meantime and, if thereare capacity constraints, also the seller’s ability to supply one of the buyer’srivals. This is an example of a simple vertical contract. Such contracts are theessence of everyday business practice. They enhance the efﬁciency of tradeand encourage investment. Freedom to engage in such contracts and theinstitutional environment that allows them to be enforced are essential ingre-dients to a well-performing market. The competition problems arise whencontracts are used beyond this to include clauses that more directly exclude orsuppress competition. Horizontal agreements (i.e. between alternative suppli-ers) ring a very direct warning bell of coordination for customer exploitation.When the agreement is vertical (i.e. between buyer and supplier) competitionconcerns usually relate to the potential exclusion of rivals which may thenindirectly harm consumers. The common theme in this part of the book is theidentiﬁcation and deterrence of agreements that are harmful in their effects.All of the cases in the following chapters relate to the enforcement ofArticle 81 of the EU Treaty (or the equivalent national provision). Article 81prohibits any agreements or concerted practices ‘which have as their object oreffect the prevention, restriction or distortion of competition within thecommon market’. Examples include agreements that ‘directly or indirectlyﬁx purchase or selling prices or any other trading conditions’, ‘share marketsor sources of supply’ or ‘apply dissimilar conditions to equivalent transac-tions with other trading parties, thereby placing them at a competitive dis-advantage’. If a contract breaks the Article 81 prohibition, it is illegal andcannot be enforced. However, unlike the Article 82 prohibition, it is possibleto argue for exemption under Article 81(3). This allows an agreement ‘whichC:/ITOOLS/WMS/CUP/377825/WORKINGFOLDER/LYO/9780521886048PTL02.3D 130 [129–134] 10.6.2009 8:37PMcontributes to improving the production or distribution of goods or topromoting technical or economic progress, while allowing consumers a fairshare of the resulting beneﬁt’. Either an individual agreement may beexempted or, in the case where a particular type of agreement is common-place, a class of agreements satisfying certain properties may be given a blockexemption (usually relating to a particular industry).1The ﬁrst pair of cases relates to secret price-ﬁxing cartels, for which there isno possibility of exemption. Cartels have become a major priority for ECcompetition policy. The main economic harms are textbook monopoly priceraising and the stiﬂing of the wider competitive process of improving offers toﬁght for customers. Although econometric evidence can be used to identifysuspicious pricing patterns, there is little subtle economics in identifying acartel.2 EC investigation of international cartels has frequently been promptedby prior discovery by authorities in the US. The evidence usually comes from awhistleblower or incriminating documents and e-mails found in a ‘dawn raid’on businesses under suspicion. In order to encourage whistleblowing, the ECﬁrst introduced a leniency scheme in 1996, with the latest revision in 2006.Leniency offers a reduction of the ﬁne if a ﬁrm comes forward with evidence ofa cartel, even if it has been a participant in the recent past.The graphite electrodes cartel was a global conspiracy involving eight sup-pliers in Europe. They were ﬁned a total of around €170 million. Hviid andStephan examine the theory of optimal deterrence to see whether this level ofﬁnes is sufﬁcient to deter ﬁrms that are economicallymotivated (i.e. do not obeythe law on ethical grounds). They then apply deterrence theory to the case inhand. Fines ranged from less than 1 per cent to 6 per cent of turnover. These aresmall percentages relative to the price-raising capability of a cartel. They areunlikely to sufﬁce for economic deterrence, especially given the chance of notbeing caught. The authors work through the EC ﬁning guidelines applied andhighlight further weaknesses in the incentives they create. Many of these weak-nesses survive in the 2006 revision and the authors conclude that the EC is stillnot creating the right incentive for ﬁrms not to participate in future cartels.If a cartel’s customers were expected to sue for damages, this would be anadditional disincentive to their formation. The US system of treble damages isa potent force for litigation across the Atlantic. European legal systems allow1 The legal niceties need not concern us here, but the legality of restrictive agreements can potentially beargued either under Article 81(1) as pro-competitive or under Article 81(3) as having offsettingefﬁciencies such that consumers beneﬁt. The essential economic analysis is the same for both, althoughthe latter is clearer in focusing on the effect on consumers.2 See Porter (2005).130 Cases in European Competition Policy: The Economic AnalysisC:/ITOOLS/WMS/CUP/377825/WORKINGFOLDER/LYO/9780521886048PTL02.3D 131 [129–134] 10.6.2009 8:37PMonly for single damages (i.e. a victim can claim only for losses shown to havebeen incurred). Given the chance of losing, this gives a very much reducedincentive to litigate for damages except when law ﬁrms offer contingency feesfollowing a successful case brought by a competition authority. Even this is rarein Europe because of problems in proving the degree of harm. However, the ECis actively trying to encourage private actions.3 Møllgaard considers the districtheating pipe cartel in Denmark, Italy andGermany. This ten-member cartel wasﬁned €87 million. It took ten years between the ﬁrst dawn raid and rejection ofthe ﬁnal appeal in 2005. Four Danish municipalities won damages of €21 mill-ion. While the EC has only to prove that a cartel existed, a damage claimadditionally requires an estimate of the actual harm incurred by the customer.This requires an estimate of how much prices were elevated and how much ofthis was then passed on to downstream customers. Fortunately, the latter wasnot an issue for the municipalities because they did not resell the pipes. Theauthor describes the range of methods available for estimating damages andprovides an economic critique of the strengths and weaknesses of each.4The next two cases are not of secret price ﬁxing but of publicly knowncollective pricing agreements that can claim to enhance efﬁciency due to thepresence of externalities. Like the chapter on mobile phone calls, they bothinvolve markets in which there are network externalities between differentgroups of customers. These have become known as two-sided markets.Credit and debit cards are increasingly used as a means of paying fortransactions. They beneﬁt both customers and retailers as convenient alterna-tives to cash or cheques (e.g. less risk of theft), so bothmight be charged for theiruse. When the customer has a card issued by a different bank to the one used bythe retailer, this opens a third possible charge known as the interchange fee. Thisis paid between the banks to compensate for any imbalance of their customerand retailer transactions. Associations of banks (e.g. Visa, MasterCard) operatethese payment-card systems and set the interchange fee and other rules. The feeis usually levied on the retailer’s bank and the EC challenged Visa as anagreement between banks that set the fee well in excess of the cost of thetransaction. The fee is then passed on to retailers as a high price for Visa services.Rochet identiﬁes the usage externality caused by consumers using a card insteadof cash. They cause banks to incur a cost of administering the transaction andretailers avoid the cost of handling cash. Interchange fees can be used tointernalise this externality and so reduce distortions in usage. Furthermore,3 See ECWhite Paper on Damages Actions for Breach of the EC antitrust rules; COM(2008) 165, 2.4.2008.4 Damages are also discussed in Chapter 10.131 B Agreements between firmsC:/ITOOLS/WMS/CUP/377825/WORKINGFOLDER/LYO/9780521886048PTL02.3D 132 [129–134] 10.6.2009 8:37PMcompetition between banks for customers means that extra revenues gainedfrom retailers ﬁnd their way into subsidies for customers. The author argues thatcareful economicmodelling reveals no systematic bias and very limited justiﬁca-tion for the Commission’s price-cap remedy.5The commercialisation of sports creates important interactions betweenhonest and exciting sporting competition and the economic competitionwhich is the focus of this book. The highest-proﬁle cases across Europe haveconcerned the sale of exclusive TV rights, but competition law can stretchmuch further. The UKOFT took the British Horseracing Board (BHB) to taskover a range of its rules (i.e. agreements) relating to the organisation of ﬁxturesand the way in which non-exclusive rights to take bets were sold to book-makers. Betting is a distinctive feature of horseracing and has been used tojustify much greater state regulation in countries other than the UK, wherethere is a strong governing authority. Lyons analyses the externalities in thissport to understand the appropriate division between rules supporting goodgovernance to the beneﬁt of consumers and rules that might be an abuse. Heidentiﬁes several groups of ‘consumers’ of the sport, including owners, puntersand spectators. The author develops a simple model to understand theimplications of different types of collective and individual agreement. Heﬁnds that the OFT’s initial objections to certain rules could have had aseriously adverse effect on the quality of the product enjoyed by most con-sumers. The OFT was eventually persuaded to revise its position, but someancillary court decisions on database rights have since undermined what hadlooked like a good economic effects-based settlement.The third group of agreements relates to vertical restraints between man-ufacturers and wholesalers or retailers. Such agreements often have efﬁciencybeneﬁts, including the reduction of double marginalisation,6 but this does notmean that they cannot also have the effect of distorting competition. Suchcases require careful economic analysis and supporting evidence in order tobalance the overall effect on consumer welfare.Car manufacturers have traditionally sold their cars through independentdealerships subject to contracts that limit the commercial freedom of theirdealers in a number of ways. These include exclusive territories (dealers mustnot sell to consumers outside a designated area), selective distribution (dealersmust achieve a speciﬁed service level or sell a minimum quantity) and5 A similar case for MasterCard was settled with a similar remedy in December 2007.6 Double marginalisation is where successive stages of production and distribution each add markupswhich cumulatively may even exceed the integrated monopoly markup.132 Cases in European Competition Policy: The Economic AnalysisC:/ITOOLS/WMS/CUP/377825/WORKINGFOLDER/LYO/9780521886048PTL02.3D 133 [129–134] 10.6.2009 8:37PMexclusive dealing (dealers must not sell cars made by other manufacturers).The ﬁrst two soften intrabrand competition between retailers of the same carsand the third softens interbrand competition between manufacturers (e.g.making it more difﬁcult for consumers to compare cars or new manufac-turers to enter a market). However, each restraint can also be justiﬁed onefﬁciency grounds, for example encouraging dealers to invest in local market-ing, preventing low-quality retailers from freeriding on the showroom servicesprovided by others (and so undermining the incentive to provide thoseservices) or protecting the investment of manufacturers in training andequipping their dealers. Verboven explores the EC’s attitude to these restraintsin the form of the evolving block exemption under Article 81(3), observingthat the main preoccupation, at least until 2002, was with the commonmarketrather than balancing competition and efﬁciency. He also takes us through theeconomic evidence for efﬁciencies, competition softening and foreclosureeffects in relation to cars. He concludes that the EC is moving in the rightdirection but still has some way to go.Brewers also have a tradition of exclusive dealing in relation to their ‘on-trade’ (i.e. selling to pubs as distinct from off-licences and supermarkets forhome consumption). The Crehan case concerns both the anticompetitive effectof a form of such exclusivity and the pursuit of damages for the consequences.Waterson tells the tale of one publican’s battle against a ‘pubco’ controlled at thetime by the Courage brewery. Pubcos own a large number of pubs which theylease to tenant publicans. Like thousands of other tenants, Bernie Crehan signeda lease for his pub, including an exclusive agreement to buy beer only throughthe pubco. This is known as tying and is a variant of exclusive dealing – youcannot have one thing (e.g. a pub or photocopier) without also buying yoursupplies (e.g. beer or paper) from the same ﬁrm. The advantage of tying for anindependent pubco is that it can use its buyer power to play off one breweryagainst another and so negotiate advantageous terms. Alternatively, a pubcoowned by a brewery secures market share. The problem for the tenants is thattheir wholesale price is not part of their exclusive purchasing contract but is‘negotiated’ under the constraint that the pub cannot buy beer from anyone else.Nevertheless, this apparently vulnerable position may be compensated by otherbeneﬁts or a lower rent. Mr Crehan went bust in 1993 claiming that this wasbecause his high wholesale price of beer meant he could not compete withneighbouring pubs that could secure cheaper supplies. Although the caseformally relates to just one poor publican, it was expected to set a wide-rangingprecedent and it reached the highest courts in both the UK and the EU.Waterson sets out the economic analysis and documents the twists and turns133 B Agreements between firmsC:/ITOOLS/WMS/CUP/377825/WORKINGFOLDER/LYO/9780521886048PTL02.3D 134 [129–134] 10.6.2009 8:37PMof the legal process. He concludes that the ﬁnal outcomewas a victory for arcanelegal argument over economic analysis. The case provides a vivid example of thedangers of arguing competition cases before non-specialist courts – especiallywhen it takes thirteen years to reach a conclusion!The car-distribution block exemption touches on the EC preoccupationwith unimpeded trade in a common European market, but the Glaxo casebrings it into sharp focus. The case relates to a practice under which Glaxosold its medicines to Spanish wholesalers at prices differentiated according towhere the medicine would be consumed. Thus, the price for a medicine to besold in Spain was set at the level mandated by Spanish price regulation, but thesame wholesaler would have to pay more for supplies to be re-exported tocountries willing to pay more, notably the UK. While not explicitly prohibit-ing parallel trade (i.e. trade by arbitragers in parallel to that by the originalmanufacturer), the practice had the same effect. The EC prohibited this dual-pricing agreement on per se grounds that it impeded trade in the commonmarket. Glaxo appealed the decision. Venit and Rey argue that restraints onparallel trade should not be per se illegal and each case should be assessed onits economic merits. They draw on the economics of price discrimination andargue that the EC should have taken account of the fact that pharmaceuticalsprices are regulated by national purchasing policies. For example, in theabsence of any restraints, low-price countries might not be supplied. Also, ifparallel trade was allowed and this drove price down to that of the lowestregulated price, this would undermine R&D incentives. Thus, the Glaxoagreement was in principle justiﬁable on the grounds of consumer beneﬁt.In 2006, the CFI agreed that restraints on parallel trade should be judged onconsumer welfare grounds (i.e. the economic approach). This case shows howthe courts can be a positive force for good economic analysis, in particular inpromoting consumer welfare as the ultimate focus for competition policy.77 Other examples of positive inﬂuence can be found in Chapters 14 and 17. Note that while the CFI is not atruly specialised court, competition-related cases form the bulk of its work (unlike for most of the courtsdeciding Crehan).134 Cases in European Competition Policy: The Economic Analysis

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