Varney on the Merger Guidelines

Geoffrey Manne —  27 January 2010

Yesterday the final Horizontal Merger Guidelines Review workshop was held and, among other antitrust luminaries, our own Josh Wright participated.  We look forward to a report from the front lines.

Meanwhile, Assistant Attorney General Varney’s comments are available on the interwebs.  Overall her remarks seem uncontroversial, especially following on the heels of the agency’s (surprising?) clearance of the Live Nation/Ticketmaster merger with conditions (but see the agency’s challenge of the consummated Dean Foods/Foremost Farms merger, about which I will have more to say in a subsequent post).  But I did find one section quite a bit troubling.  Acknowledging that agency practice did not hew slavishly to the Guidelines’ “five-step analytical process” for assessing markets and market share, Varney noted that:

Implicit in deemphasizing the sequential nature of the Guidelines inquiry is a recognition that defining markets and measuring market shares may not always be the most effective starting point for many types of merger reviews. Remember, the purpose of defining a market and assessing shares is to assess potential harm. When it is clear, for instance, that either certain vulnerable customers are likely to be harmed by a merger, or that certain customers have in fact been harmed by a consummated merger, the need to define a market to assess likely competitive effects is diminished. For instance, the consumer harm that followed from the consummated Evanston hospital transaction lessened the importance of the Commission’s market definition and market share analyses in that matter. Our panelists have largely confirmed the view that market definition should not be an end-all exercise. Rather, it is something to be incorporated in a more integrated, fact-driven analysis directed at competitive effects.

I am among the many commenters who have criticized the Guidelines’ approach to market definition and market share–my submission to the workshops is here.  There has also been a strong movement recently to do away with market definition in some unilateral effects analysis and to replace it with the UPP analysis promoted most recently in the Farrel & Shapiro article (pdf).  Interestingly, while Varney is previously  on record opposing this movement, elsewhere in this speech she seems to endorse it:

There is a growing body of evidence that measures of upward pricing pressure, which focus on diversion ratios, and price-cost margins, can be highly informative in assessing the likelihood of unilateral pricing effects.

But this is in a different section of the speech, UPP remains an analytical approach (as opposed to the class of cases Varney is concerned with here where harm to certain consumers is simply “clear”), and it does not seem to be what she’s talking about in the quote above.  Here she seems to mean something else–and I fear it is something troubling.

Taken literally, what Varney is saying is that an ad hoc (ok, fine–an “integrated, fact-driven”) determination that some customers (“vulnerable” ones, whatever that means) may be made worse off by a merger lessens the need for a more comprehensive assessment of overall competitive dynamics within a relevant market.  But I don’t know what this means, frankly.  In the first place, how is the agency supposed to know that some customers are likely to be harmed if it hasn’t assessed the availability of substitutes and the extent of diversion?  One can certainly criticize the method by which this assessment is made, but a conclusion of harm absent this assessment seems absurd.  Moreover, if Varney really means that all that is required to condemn a merger is that any customers may be harmed, no matter how many are also benefited, at a minimum it sounds like she’s writing the efficiencies defense out of the Guidelines, but she may even be justifying condemnation of any and all mergers–after all, how many actions in the marketplace impose a cost on literally no one?  If, as seems likely, it is inframarginal consumers who are “likely” “vulnerable” to price increases (where “vulnerable” may be a synonym for “having inelastic demand”), then this test is a repudiation of the entire economic edifice of modern merger analysis (parallel to my discussion of the DC Circuit’s Whole Foods decision here).

And Varney’s reference to the FTC’s Evanston Northwestern case is a bit of a sleight of hand.  That was indeed a consummated transaction, where the requisite harm was shown by direct pricing evidence following the merger.  That’s quite a bit different than tossing out the Merger Guidelines in a non-consummated merger case because it is “clear” that “vulnerable” consumers are “likely” to be harmed.  And even the Evanston Northwestern case is not without controversy, precisely because forsaking the Guidelines’ analytical framework also forsook clarity in the analysis (see, for example, the strong criticism of the case here).

According to the Guidelines themselves,

The unifying theme of the Guidelines is that mergers should not be permitted to create or enhance market power or to facilitate its exercise. Market power to a seller is the ability profitably to maintain prices above competitive levels for a significant period of time.

The presence of some harm (how much, by the way?) to some consumers does not necessarily equate to market power, unless the definition is simply tautological.  Under the Guidelines approach, this would require a market definition so narrow (defined to include only the harmed customers) that it would be economically meaningless (the classic “red-haired, bearded, one-eyed, man-with-a-limp classification” condemned by Justice Fortas in his Grinnell dissent).  Sidestepping the Guideline’s analytical framework by equating the exercise of market power with a theoretical price increase that wouldn’t be cognizable under the Guidelines (and wouldn’t exist in the real world) is not merely an analytical shortcut, it is a subversion of the whole analysis.  Again, see the fundamental errors of the Whole Foods case.

Now, in the end, all she may be saying is that sometimes there is direct evidence of harm, properly-statistically attributable to the merger, many years after a transaction has been consummated.  Or that the risk of harm is so self-evident that a formal analysis isn’t required–say, when there are simply no other competitors in a relevant geographic area, no timely entry is possible (for some reason . . . ) and a significant number of customers is affected.  I suppose this could happen.  I would expect in such circumstances that the parties wouldn’t even bother attempting the merger, but maybe once in a while the situation could arise.  But I just can’t fathom that this could be a significant enough possibility that it would rise to the level of an important policy speech on the Merger Guidelines by the AAG.

So what is Varney saying?  Anyone?

Geoffrey Manne

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President & Founder, International Center for Law & Economics

9 responses to Varney on the Merger Guidelines

  1. 

    AG: I don’t mean to suggest that a channel of distribution can never be a relevant market, but I do think it creates a concern that should rightly be difficult to overcome. I think Libby was wrongly decided (of course I worked on the case . . . ) because the evidence supporting a relevant market based on channel of distribution was terribly thin and the defendants’ arguments on re-positioning were just, essentially, dismissed out of hand. But one should be really cautious, it seems to me, when there is lots of actual output and/or productive capacity that is excluded from a market simply because it is sold by different salesmen.

    I remain agnostic on Staples. I agree that there was lots of helpful econometric evidence and that there was a relatively strong case made for the narrow market, but I also think, again, that that evidence couldn’t account well for post-merger re-positioning or other market dynamics that may have proved the pre-merger analysis wrong.

  2. 

    @ Geoffrey, putting aside how many words the market def. in Staples takes, do you believe that the market definition in that case wasn’t proven or consistent with the Clayton Act?

    Or, more broadly, is there something inherently erroneous about defining a market in part through the distribution channel? Whole Foods surely is at the far end of the reasonableness spectrum, but is Staples? What about the department store merger (Federated/May) that the FTC allowed to proceed? Could they have stated a viable relevant market of departments stores (the “sale of clothing and other personal apparel through department stores”, say).

    And at the broadest level, wouldn’t such a limit mean any merger among distributors of goods could not be a relevant market?

  3. 

    How about “consumable office supplies from office superstores”?

    But more important, and probably in part to Joe’s point, precisely part of the problem is defining allegedly-relevant markets by their channels of distribution–a definition that tends to require more than six words, as we’ve been discussing.

  4. 

    “the sale of consumable office supplies through office superstores” … is what I see in the opinion…

  5. 

    . . . office product (super)stores: also out?

    More generally, unless you can define the retail business in a single word (6-5), no go?

  6. 

    Not if one properly includes “The sale of products through” … PNOS in the market definition. After all, the antitrust objection was not to selling supermarkets.

  7. 

    Josh, wouldn’t Joe’s rule still permit PNOS?

  8. 

    You say “her remarks seem uncontroversial.” What about her misleading suggestion that Posner believes that the Chicago School has has been discredited?

    Yes, Posner did say (as the AAG quotes) that “the term ‘Chicago School’ should be retired.” But that’s not because its insights are wrong, but because — according to the very article the AAG cites — “by the nineteen-eighties the basic insights of the Chicago School had been accepted pretty much worldwide.”

  9. 

    Geoff, if there is a devil here, it is in the details surrounding the meaning of the word “certain.” If one replaces “certain customers” in AAG Varney’s quote with “consumers”, this becomes the standard call for less market definition and more openness to a “direct effects” approach. Whether one agrees with this approach or not (and I am among the economists who believe that the market definition exercise imposes some useful discipline on the merger evaluation analytical exercise), this is a position well within the range of current debate. Even more so if one replaces “certain customers” with something closer to “some large enough group of consumers to constitute a line of commerce”.

    On the other hand, if one reads “certain” to mean something like “any inframarginal consumer”, then I think your criticism is appropriately aimed. The use of “certain vulnerable customers” certainly suggests to me that what she has in mind are infra-marginal consumers in unilateral effects cases. As to which of these two, or some alternative, is the intended message I am not sure.

    I will note that it is in this very set of cases involving differentiated products mergers that it would be quite difficult to “clearly” identify likely anticompetitive effects. I do not think that our ability to understand and predict re-positioning in these markets is sufficiently empirically grounded at this point that an antitrust agency should be using words like “clearly” unless they really mean to limit themselves in that way. Obviously, more confidence can be had in the case of consummated mergers.

    I will note that, along these lines, I thought that Joe Sims (Jones Day) had the single best line of the day during the panel on power buyers when recommending that a desirable method of ensuring that the agencies do not take unilateral effects too far is to require that all market definitions be stated in 6 words or less.