Kieth N. Hylton is William Fairfield Warren Distinguished Professor at Boston University School of Law.
The last time I saw Fred McChesney was at a conference at Notre Dame where we both spoke, three years ago. We laughed heartily about how the stock market fools political observers. When a presidential candidate who will do terrible things to the economy is running, the stock market will tank as he appears to gain credibility as a successor, leading journalists and voters to blame the incumbent president for the market fall. As a result, support quickly snowballs in favor of the economy-killing candidate, who wins handily. As the economy-killing president nears the end of his term, the stock market then soars in anticipation of better fiscal management in the future, leading observers to conclude that the economy killer was very good for the economy after all – how else could he have left us with such a soaring stock market on his way out? This was the sort of joke Fred could be expected to tell, and reflects the sort of thinking that Fred devoted his career to trying to correct. He will be missed.
For a few months I have thought that the Apple eBooks case would find an easy fit within the Supreme Court’s antitrust decisions. The case that seems closest to me is Business Electronics v. Sharp Electronics, an unfortunately under-appreciated piece of antitrust precedent. One sign of its under-appreciation is its absence in some recent editions of antitrust casebooks.
In Business Electronics, the Court looked at a vertical relationship in which a manufacturer agreed with one of its retailers to terminate another retailer for failing to comply with the manufacturer’s suggested minimum prices. The Court held that such an agreement could not be ruled per se illegal unless the plaintiff could prove that the non-terminated retailer had agreed with the manufacturer to set its resale price at some level. The Court was reluctant to apply the per se test to this sort of case because of the potential efficiencies that might justify the manufacturer’s minimum retail prices. To allow some leeway for these efficiencies to be realized, the Court erected a high burden of proof under the per se test. Now, of course, the Court no longer applies the per se test to vertical arrangements like that in Business Electronics because of its decision in Leegin to adopt rule of reason analysis for vertical restraints.
The Apple eBooks case falls under Business Electronics. Apple offered the book publishers a contract that left Amazon with a choice of complying with a pricing system closer to the publisher’s preferences or terminating its relationship with the publishers. In other words, the Apple contract, with its famous most-favored-nations clause, effectively presented Amazon with an ultimatum similar to the one observed in Business Electronics. The ultimatum worked: Amazon was forced to comply with the pricing scheme preferred by the publishers and Apple. It follows from Business Electronics, and from Leegin, that the burden of proof in this case should be set high – a bit higher than the trial court set it in this case. Further, Leegin suggests that rule of reason analysis should apply because the relationship at issue is vertical.
Justice Scalia’s passing may have affected the Apple eBooks case already. Scalia was the author of Business Electronics, and presumably the Supreme Court Justice most likely to have noticed the similarity between Business Electronics and Apple eBooks.
by Keith N. Hylton, William Fairfield Warren Distinguished Professor, Boston University School of Law
When I first heard that Josh had resigned from the FTC, I wondered if the news would cause a stock market sell-off. I checked later that day, and the Dow closed slightly up, plus .39 percent.
This suggests several possible explanations. One is that the stock market had already priced in Josh’s departure. Another is that the stock market realizes that Josh was just one of five votes, and that his replacement would cast votes similar to Josh’s. A third possible explanation is that the FTC doesn’t really have a great impact on the economy.
I think all three explanations have some merit, though especially the last two. The question is how much weight to allocate among the last two explanations.
As commentators have noted, Josh brought something unusual to the FTC: sophisticated training in economics. He also brought a lot of energy and natural political talent. If anyone could get fellow commissioners to listen to economic reasoning, surely it would be Josh. Even if his replacement votes the same way Josh did, he (or she) is unlikely to match Josh in offering strong arguments grounded in economics. That is a loss for the FTC, and for antitrust enforcement generally in this administration.
One clear achievement for Josh is the FTC policy statement on Section 5. At this stage, it’s too early to tell where that will lead us. One can only hope that it will constrain the FTC to stay within the parameters of rule of reason analysis. But a willful applicant of the rule of reason can spin the analysis to justify economically unsound decisions. This points to one area in which Josh will be missed greatly: keeping the FTC honest in its application of rule of reason analysis.
Of course, I may be self-servingly putting too much weight on the value of being educated in economics. I’ve often joked that on my faculty, using sophisticated economic arguments is one sure way to alienate colleagues. Maybe Josh found the same at the FTC.
And if my third suggested reason Josh’s resignation did not cause a stock market sell-off, that the FTC doesn’t have a big impact on the economy, is correct, then we can take a relaxed view of Josh’s departure. The FTC has lost a source of good judgment and economic expertise – but hey, it may not matter much at all.
With the FTC experience under his belt, Josh will hopefully be in the running for future high-level government appointments. The Supreme Court could certainly benefit from having him on board.
Keith Hylton is a Professor of Law at Boston University School of Law. [Eds – This post originally appeared on Day 1 of the Symposium, but we are re-publishing it today because it bears directly on today’s debate over general standards]
The “error cost” or “decision theory” approach to Section 2 legal standards emphasizes the probabilities and costs of errors in monopolization decisions. Two types of error, and two associated types of cost are examined. One type of error is that of a false acquittal, or false negative. The other type of error is that of a false conviction, or false positive. Under the error cost approach to legal standards, a legal standard should be chosen that minimizes the total expected costs of errors.
Suppose, for example, the legal decision maker has a choice between two legal standards, A and B. Suppose under standard A, the probability of a false acquittal is 1/4 and the probability of a false conviction is 1/5. Under standard B, the probability of false acquittal is 1/5 and the probability of a false conviction is 1/4. Suppose the cost of a false acquittal is $1 and the cost of a false conviction is $2. The expected error cost of standard A is therefore .25 + (.2)($2) = $.65. The expected error cost of standard B is .2 + (.25)($2) = $.70. Since the expected error cost of standard B is greater than that of standard A, standard A should be preferred.
In monopolization law there are several legal standards that have been applied by courts and proposed by commentators, such as the balancing test, the specific intent test, the profit sacrifice test, the disproportionality test, the equally efficient competitor test, no-economic-sense test, and others. Almost all of the tests can be grouped under the alternative categories of balancing or non-balancing tests. Under the error cost approach, the ideal legal standard for any given area of monopolization law is the one that generates the smallest expected error cost. Moreover, each of these tests has been proposed as a default rule to be applied across the board, but which can be abandoned in a specific case that merits an alternative standard.
The Department of Justice’s recent Section 2 Report reviews the various monopolization standards and embraces the disproportionality test as the best default rule. The disproportionality test holds the defendant liable under Section 2 only when the anticompetitive effects of his conduct are disproportionate in light of the precompetitive benefits. This is an approach that makes sense if one adopts the view, as did the authors of the DOJ report, that the costs of false convictions under monopolization law are larger than the costs of false acquittals. The disproportionality test is quite close in application to the specific intent test, the no-economic-sense test, and one version of the profit sacrifice test.
Although it is ultimately an empirical question, there are several reasons to adopt the presumption that false conviction costs are greater than false acquittal costs in the monopolization context. Two of the most persuasive reasons are based on the incentives for entry and for rent-seeking. The costs of false acquittals in the monopolization setting can be kept in check through the threat of competitive entry. The costs of false convictions, on the other hand, generate rent seeking incentives to file suit under Section 2 on the part of firms that compete against dominant firms. Another important reason for the presumption is the asymmetric impact of errors. False acquittals permit one firm, the falsely-acquitted defendant, to continue practices that harm consumers. False convictions overdeter dominant firms in general, and can lead to a form of soft competition which is especially harmful to consumers.
One of the key purposes of error cost analysis is to serve as bridge between economic theory and legal standards in antitrust. Economic models often assume courts can implement legal tests with perfect accuracy. But this is not always true. The accuracy of a balancing test that requires courts to distinguish vigorous competition from predation will depend on the quality of judges, juries, lawyers, and the procedural mechanisms in place for conducting a trial. Even a small risk of error leading to a possible multibillion dollar trebled judgment can lead a firm that has not engaged in anticompetitive conduct to alter its conduct to avoid the risk of an antitrust lawsuit. For economic theory to lead to useful recommendations for antitrust courts, analysts must consider the likelihood of error and the costs of error under proposed monopolization tests. Error cost analysis provides a framework for courts to screen and assign “value weights” to the recommendations from economic analysis.
Keith Hylton is a Professor of Law at Boston University School of Law.
The “error cost” or “decision theory” approach to Section 2 legal standards emphasizes the probabilities and costs of errors in monopolization decisions. Two types of error, and two associated types of cost are examined. One type of error is that of a false acquittal, or false negative. The other type of error is that of a false conviction, or false positive. Under the error cost approach to legal standards, a legal standard should be chosen that minimizes the total expected costs of errors.
Suppose, for example, the legal decision maker has a choice between two legal standards, A and B. Suppose under standard A, the probability of a false acquittal is 1/4 and the probability of a false conviction is 1/5. Under standard B, the probability of false acquittal is 1/5 and the probability of a false conviction is 1/4. Suppose the cost of a false acquittal is $1 and the cost of a false conviction is $2. The expected error cost of standard A is therefore .25 + (.2)($2) = $.65. The expected error cost of standard B is .2 + (.25)($2) = $.70. Since the expected error cost of standard B is greater than that of standard A, standard A should be preferred.
In monopolization law there are several legal standards that have been applied by courts and proposed by commentators, such as the balancing test, the specific intent test, the profit sacrifice test, the disproportionality test, the equally efficient competitor test, no-economic-sense test, and others. Almost all of the tests can be grouped under the alternative categories of balancing or non-balancing tests. Under the error cost approach, the ideal legal standard for any given area of monopolization law is the one that generates the smallest expected error cost. Moreover, each of these tests has been proposed as a default rule to be applied across the board, but which can be abandoned in a specific case that merits an alternative standard.
The Department of Justice’s recent Section 2 Report reviews the various monopolization standards and embraces the disproportionality test as the best default rule. The disproportionality test holds the defendant liable under Section 2 only when the anticompetitive effects of his conduct are disproportionate in light of the precompetitive benefits. This is an approach that makes sense if one adopts the view, as did the authors of the DOJ report, that the costs of false convictions under monopolization law are larger than the costs of false acquittals. The disproportionality test is quite close in application to the specific intent test, the no-economic-sense test, and one version of the profit sacrifice test.
Although it is ultimately an empirical question, there are several reasons to adopt the presumption that false conviction costs are greater than false acquittal costs in the monopolization context. Two of the most persuasive reasons are based on the incentives for entry and for rent-seeking. The costs of false acquittals in the monopolization setting can be kept in check through the threat of competitive entry. The costs of false convictions, on the other hand, generate rent seeking incentives to file suit under Section 2 on the part of firms that compete against dominant firms. Another important reason for the presumption is the asymmetric impact of errors. False acquittals permit one firm, the falsely-acquitted defendant, to continue practices that harm consumers. False convictions overdeter dominant firms in general, and can lead to a form of soft competition which is especially harmful to consumers.
One of the key purposes of error cost analysis is to serve as bridge between economic theory and legal standards in antitrust. Economic models often assume courts can implement legal tests with perfect accuracy. But this is not always true. The accuracy of a balancing test that requires courts to distinguish vigorous competition from predation will depend on the quality of judges, juries, lawyers, and the procedural mechanisms in place for conducting a trial. Even a small risk of error leading to a possible multibillion dollar trebled judgment can lead a firm that has not engaged in anticompetitive conduct to alter its conduct to avoid the risk of an antitrust lawsuit. For economic theory to lead to useful recommendations for antitrust courts, analysts must consider the likelihood of error and the costs of error under proposed monopolization tests. Error cost analysis provides a framework for courts to screen and assign “value weights” to the recommendations from economic analysis.
Keith Hylton is a Professor of Law at Boston University School of Law. [Eds – This post originally appeared on Day 1 of the Symposium, but we are re-publishing it today because it bears directly on today’s debate over general standards]
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