Is the Chicago School Really Dead? How Do You Know?

Josh Wright —  8 April 2009

Answer: not by a long shot.  Not in the Supreme Court.  Not in the empirical economics literature.  But perhaps according to at least one FTC Commissioner in the new FTC annual report:

Commissioner J. Thomas Rosch believes the current financial crisis has undermined the Chicago school of economics that has so heavily influenced antitrust enforcement over the past forty years and has broad implications for the FTC’s mission. Markets are not perfect; imperfect markets do not always correct themselves, and business people do not always behave rationally. Commissioner Rosch believes the Commission may need to move more towards “behavioral economics” and must provide competition law enforcement at least as strict as during times of prosperity.

This is a variant of Commissioner Rosch’s earlier pronouncement that “the orthodox and unvarnished Chicago School of economic theory is on life support, if not dead.”

While these sorts of claims are increasingly popular in the current financial climate, repetition does not make the claim any more correct.  As I’ve blogged previously, reports of the death of the Chicago School of antitrust economics have been, as they say, greatly exaggerated.

A few responses:

  1. Does the financial crisis really say anything about microeconomics?  As a commenter to this post points out, while debate abounds about the causes of the current financial crisis, the appropriate share of blame to be placed on market failure versus government failure, and what it tells us about the merits of various macroeconomic theories — there’s just not much of a substantive argument to be made that it tells us anything about the applied microeconomics relevant to antitrust analysis.  I suspect that attempts to link the financial crisis to calls for greater antitrust fall into the “you never want to waste a good crisis” category.  Historically, of course, poor economic conditions have been correlated with imposition of impediments to vigorous competition.
  2. The Chicago Roots of the Post-Chicago Movement.  The Post-Chicago theoretical advances are well known to be built upon the foundation laid by Chicago School founders like Aaron Director — it is simply misleading to argue that Chicago School economists did not understand that certain business practices could lead to inefficient outcomes.  Not to mention that the foundation of modern coordinated effects theories, to the best of my knowledge, is still Stigler (1968).
  3. “Markets are Perfect”.   Did anybody really argue this?  The contributions of Stigler and Director and others suggest otherwise though they did often argue that some of these concerns were either empirically irrelevant, policy irrelevant (i.e. we could not identify and distinguish them from pro-competitive conduct), or that both markets and governments failed but that the latter errors were more costly.  This is decidedly different from the caricature offer by the Commissioner.  Of course, not only did Chicagoans anticipate many of the anticompetitive theories prevalent in the more interventionist literature today, but it is instructive to note that it is economists like Ben Klein (on Standard Oil) and Tom Hazlett (on predation) who have offered two of the only existing real world empirical accounts of the Post-Chicago “raising rivals’ cost” phenomenon, not to mention fundamental contributions to its theoretical development by Chicagoan Dennis Carlton.
  4. What about behavioral economics anyway?  It remains unclear to me why the observation that firms might act irrationally in markets leads to a conclusion that more interventionist antitrust is appropriate.  Perhaps entry will not occur when it would otherwise be profitable and so a monopolist can exercise monopoly power longer than if one supposed free entry.  But that’s not the only story one can tell about behavioral quirks.  What about the firm that irrationally chooses not to exercise monopoly power when it would be profitable to do so?  This is not to say that behavioral economic theories of firm behavior should be irrelevant.  Like the other theories, whether Chicago, Post-Chicago, behavioral or otherwise, the key question is one of model selection, i.e. which theories have the best empirical support and should guide policy decisions.
  5. Empirical Evidence.   Recent comprehensive literature surveys from folks very well respected IO economists, including some who have spent significant time at the enforcement agencies, conclude that the best available empirical evidence is that most forms of single firm conductare  predominantly pro-competitive in practice (See great slides here from Lafontaine & Slade, Dan O’Brien or the paper from Froeb, et al).
  6. Is It All Wrong?  If the Chicago School of the “past 40 years” has been undermined, where do we go from here?  Are folks that are arguing that the entire Chicago School antitrust revolution was folly because it was based on erroneous assumptions about markets working taking the position that everything based on that notion is wrong?  Are we willing to talk about which theories are right and which might be more suspect?  Can we agree that testing competing theories against the existing evidence is the right way to resolve these disputes?  Calling the past 40 years undermined sounds like we are making some serious claims about re-writing antitrust and not just tinkering with the margins. This is not a rhetorical question.  Which cases are wrong because they are “Chicago-based” and where is the evidence in support of the claim?

We should continue to have the debate over which models present the best empirical and theoretical basis from which to build antitrust policy that will help consumers.  The debate should be one that is determined, as much as possible, by the quality of theory and evidence —- not t-shirt slogans and assertions.  In my view, a rigorous review of the empirical evidence suggests not only that the Chicago School of antitrust is not only alive, but in my view, that it is the “best available” mode of analysis for understanding many business practices relevant to antitrust enforcement.

What I hope is taken as my first contribution to this debate, including a fuller discussion of the available theory and evidence with respect to RPM and exclusive dealing, appears in my forthcoming book review: Overshot the Mark?  A Simple Explanation of the Chicago School’s Influence.

8 responses to Is the Chicago School Really Dead? How Do You Know?

  1. 

    I will check out the book review. Thanks for the suggestion.

  2. 

    Martin, check out the Overshot the Mark book review. Much of it is devoted to exactly the approach you suggest, i.e. identifying individual claims from competing theories and arguing that they should be resolved on the evidence. I discuss RPM and exclusive dealing there, but in fact a large chunk of my current research agenda is devoted to applying the framework articulated therein to resolve (or at least move the ball forward) some of important antitrust disputes.

  3. 

    Thanks for the reply. it really helps.

    Maybe this is unfair, but can I observe that for non-specialists these labels often lead to misunderstandings — even disagreements where in fact none exist. I wish you would follow up with a post explaining why it’s important to continue to recognize the Chicago school rather than a particular idea or methodology. There is evidence from psychology that us/them distinctions — which are easier to form around tangible groups, although still not impossible around ideologies — shut down dialogue.

  4. 

    “the Commission […] must provide competition law enforcement at least as strict as during times of prosperity”

    Don’t you think he got this right (though he could – and should – have dropped the “at least”)?

  5. 

    This issue is given a lengthy treatment in my Roberts Court CPI article as well as the more recent Pitofsky et al book review. Links are available on SSRN page.

  6. 
    european_scholar 9 April 2009 at 2:10 am

    So what exactly, in your view, is the difference between the Chicago School and post Chicago economics?

  7. 

    Short answer: yes.

    The classification problem is tricky, I know. Where to put folks like Williamson, North, and others doing NIE. Clearly, some of these folks are Chicagoan (Klein and others come to mind) whereas others (Williamson) would be surprised to hear themselves categorized that way. Understanding the imprecision associated with the choice, for the sake of simplicity I include folks employing NIE and transaction cost economics in this group. But my claim that the Chicago School still has considerable influence on antitrust law and that its models have greater explanatory power in many antitrust debates of policy relevance holds under either set of definitions (for antitrust purposes, I think this largely amounts to with and without Williamson and a handful of others because so many employing NIE/TCE have Chicago/ UCLA roots, i.e. Coase, Klein, Demsetz).

  8. 

    I’d like to know: does “the Chicago School” as you use the term include folks promoting New Institutional Economics, like Douglass North? I realize that he isn’t an antitrust scholar, but does NIE broadly fall within “the Chicago School” as you use the term?