Search Results For RPM

From the WSJ:

The U.S. Supreme Court on Tuesday refused to take another look at its controversial 2007 antitrust ruling that allowed manufacturers to set retail prices for their products.  The court, without comment, rejected an appeal by the Texas boutique retailer that was on the losing end of the court’s 5-4 decision nearly four years ago, which was condemned by consumer advocates.

The ideologically divided ruling overturned nearly 100 years of legal precedent and held that manufacturers did not automatically violate federal antitrust law by imposing pricing restraints on retailers. Such restraints can bar stores from selling a manufacturer’s products at a discount.  The high court said in its 2007 ruling that pricing agreements should be judged individually to determine whether there are valid pro-competitive reasons for imposing the price restrictions.

The decision reverberated quickly as manufacturers in sectors like baby goods, consumer electronics, home furnishings and pet food blocked discounters.  Texas retailer Kay’s Kloset, which challenged the pricing policies of Brighton Inc., a maker of handbags and other accessories, said a lower court had taken the Supreme Court’s ruling too far, effectively rendering all vertical price-fixing policies legal.

The retailer enlisted the help of a noted Harvard law professor for its second effort at the Supreme Court.

Lawyers for Brighton said the lower courts faithfully applied the Supreme Court’s ruling. The company said its pricing agreements were pro-competitive because higher prices for Brighton goods encouraged retailers to invest more in marketing, displays and customer service.

This is consistent with our earlier analysis here, in which we observed that “I do not think that such a ruling threatens the ability of plaintiffs, in the appropriate case with appropriate evidence, to bring a rule of reason RPM case.  Further, there does not appear to be much for the Supreme Court to do here.”

Varney Gets It Right on RPM

Thom Lambert —  28 January 2010

Tomorrow I will be presenting my paper, A Decision-Theoretic Rule of Reason for Minimum Resale Price Maintenance, at the Next Generation of Antitrust Scholarship Conference at NYU Law School. (Kudos to Danny Sokol for co-organizing what promises to be a terrific event!) My paper criticizes four proposed approaches to evaluating RPM post-Leegin, and it sets forth an alternative approach that embodies the sort of error cost analysis Geoff and Josh have embraced in connection with monopolization doctrine. The paper largely builds on my recent William & Mary Law Review article on RPM, expanding the analysis to address recent developments in the caselaw and antitrust scholarship (e.g., I address the pending Babies-R-Us case).

In preparing for the conference, I checked Westlaw to see who (if anyone!) had cited my William & Mary article, and lo and behold, I came across a piece on post-Leegin RPM analysis by Christine Varney herself. Well guess what? It’s really quite good. We here at TOTM have occasionally been critical of Ms. Varney’s interventionist stances on antitrust (most recently here), but we must give credit where credit is due. And Ms. Varney’s article, A Post-Leegin Approach to Resale Price Maintenance Using a Structured Rule of Reason, is creditworthy.

As I do in both my William & Mary article and the paper I’m presenting tomorrow, Ms. Varney argues that plaintiffs challenging instances of RPM should bear the burden of proving that the preconditions for at least one of the theories of RPM-induced anticompetitive harm are satisfied. That may sound like a no-brainer, but it’s signficantly more stringent than any of the other liability rules courts, commentators, and regulators have thus far proposed.

The American Antitrust Institute and the attorneys general of 27 states, for example, would presume the illegality of any instance of RPM that raises consumer prices. That’s ridiculous, of course, for even RPM’s procompetitive potential stems from the fact that it generates output-enhancing services by raising prices and thereby enhancing retailer margins (and retailers’ incentives to promote the brand at issue).

The Babies-R-Us court, following the proposal of economists F.M. Scherer and William Comanor, deems any retailer-initiated RPM to be illegal. That’s troubling because, as I explained in this post, retailers have an incentive (and are particularly well-poised) to seek RPM for procompetitive purposes like avoiding free-riding. Retailer initiation is entirely consistent with procompetitive motivation (and effect), but it’s enough to render RPM per se illegal under the Babies-R-Us approach.

The Areeda treatise would deem illegal any RPM imposed on a homogeneous product that is not sold with services susceptible to free-riding. That’s too restrictive because, as I explain here (and as Josh has explained in a number of articles and posts), RPM has procompetitive uses besides the avoidance of free-riding. Most notably, it can act as an efficient mechanism for inducing dealers to promote a particular brand of even a homogeneous product. Thus, it may be output-enhancing even when applied to products that aren’t sold along with “free-rideable” point of sale services.

Finally, the FTC has taken the position (in deciding Nine West’s motion petition to modify an injunction) that RPM should be presumptively illegal unless the defendant makes a number of difficult showings. That’s inappropriate because theory and evidence suggest that most instances of RPM are procompetitive, and the RPM challenger therefore ought to bear the initial burden of proof.

Compared to these four proposed approaches, Ms. Varney’s proposed approach is a breath of fresh air. It correctly recognizes that anticompetitive uses of RPM are difficult to accomplish, and it properly places the initial burden on an RPM challenger to show that the preconditions for anticompetitive harm exist. (The defendant would then have a rebuttal opportunity, which is proper.) The showings necessary to state a prima facie case of illegality are quite difficult, but that’s entirely appropriate, given that most instances of RPM are procompetitive.

Ms. Varney’s article appears in the Fall 2009 issue of the ABA’s Antitrust Magazine and is available on Westlaw.

See Update Below.

The Supreme Court’s ruling in PSKS v. Leegin Creative Leather Products, which reversed Dr. Miles and ended the per se rule for minimum resale price maintenance, remanded the case to the district court to consider claims under the new rule of reason analysis.  On remand, PSKS filed a second amended complaint alleging that independent retailers were involved in the enforcement of Leegin’s RPM scheme and that Leegin (as a participant at the retail level) agreed on the price of Brighton goods.   The second amended complaint also asserted Brighton goods as a single brand market.

The district  court dismissed the second amended complaint.  Recently, the Fifth Circuit affirmed dismissal on the grounds that the plaintiffs did not define a plausible relevant market.  The two candidate market definitions were the “retail market for Brighton’s women’s accessories” and the “wholesale sale of brand-name women’s accessories to independent retailers.”  The Fifth Circuit also rejected PSKS’s claim that Brighton goods constitute a single brand market.

According to this WSJ story, the plaintiffs appear to be ready to petition for certiorari not in order to encourage the Court to revisit its earlier decision, but on the grounds that the Fifth Circuit ruling closes the door to all challenges to RPM schemes under the rule of reason:

Supreme Court losers like Kay’s Kloset—which went out of business after lower courts dismissed its claim against the Brighton Inc. accessories line—rarely get a second glance from the justices. But the boutique has enlisted a prominent advocate, Einer Elhauge, a Harvard law professor who says he is so concerned with the lower court decisions that he took the case pro bono.

Consumer advocates condemned the 2007 ruling, which split 5-4 along the Supreme Court’s conservative-liberal divide, as sure to drive up prices. Mr. Elhauge defends the high court’s decision, but he says that the lower courts took it too far, depriving retailers of the chance to challenge manufacturers.

An appeals court ruling against Kay’s Kloset “is not just a problem for vertical price-fixing law but also for antitrust law generally,” he said, warning that it would “drastically restrict” any attempt to scrutinize the details of an allegedly anticompetitive action.

There are two key features of the Fifth Circuit decision.  One is that it rejects the notion that Brighton goods are a so-called “single brand market.”  The Fifth Circuit panel writes:

The court also correctly rejected the claim that Brighton goods constitute their own market.  In rare circumstances, a single brand of a product or service can constitute a relevant market for antitrust purposes.  See Eastman Kodak v. Image Tech Servs., 504 US 451, 481-82 (1992).  But that possibility is limited to situations in which consumers are “locked in” to a specific brand of the product.  There is no structural barrier to the interchangeability of Brighton products with goods produced by competing manufacturers, nor as PSKS alleged any such structural barriers.

Nor does Brighton constitute its own submarket.  Although a recognized submarket doctrine exists, such markets must exist within broader economic markets.  And the requirements for pleading a submarket are no different from those for pleading a relevant broader market.

The court goes on to reject the “wholesale sale” in “women’s accessories” market as inadequately plead.  The second key feature of the Fifth Circuit decision is that it, like most rule of reason cases, imposes a clear market power requirement.

Reading between the lines of Professor Elhauge’s concern that the Fifth Circuit ruling creates issue beyond vertical price-fixing arrangements, I suspect that the concern is the rejection of the single brand as a plausible relevant market — and not the market power requirement, which is completely standard in vertical rule of reason cases.  Of course, we’ll have to wait to see the petition to evaluate the arguments.  [SEE UPDATE BELOW]

But Post-Kodak, lower courts all over the country have rejected single brand claims in another vertical context, aftermarket tying arrangements.  In that sense, the Fifth Circuit decision is one of many that systematically and uniformly reject single brand markets.  For example, Kobayashi and Wright show that lower courts have rejected over 90 percent of these claims at the motion to dismiss or summary judgment level.  Since those cases were pre-Twombly, it is not surprising to see the rejection of single brand claims — which often do not make economic sense in differentiated product markets where products compete vigorously against one another and firms also have some degree of economic market power — at the pleading stage.   I do not think that such a ruling threatens the ability of plaintiffs, in the appropriate case with appropriate evidence, to bring a rule of reason RPM case.  Further, there does not appear to be much for the Supreme Court to do here.

UPDATE: Thanks to a reader for a copy of the PSKS petition.  There is a lot to absorb and evaluate here — though the key arguments appear to revolve around the distinction between market power and monopoly power and single brand markets.  More on this later.

Compared to the nominations of Justices Alito, Roberts and Sotomayor, there has been little excitement for the antitrust community on the most recent Supreme Court nomination of Elena Kagan.  But there is something.   The WSJ Law Blog reports that while Kagan refused to “praise the Leegin decision.”   Legal Times reports that in response to Senator Kohl’s questions about recent Supreme Court antitrust activity, including Leegin Creative Leather Products v. PSKS and Bell Atlantic v. Twombly, Kagan offered some thoughts on the manner in which economic theory should be incorporated into antitrust doctrine:

“There’s some question, to be sure, about how new economic understandings should be incorporated into precedent,” she said. “On the one hand, it’s clear that antitrust law needs to take account of economic theory and economic understandings, but it needs to do so in a thoughtful way.”

Thoughtfully.  Can’t argue with that.  Well, I guess you can.  For example, one sensible reading of Leegin is precisely that it is a perfect example of how the Supreme Court can go about thoughtfully updating antitrust doctrine with new economic learning and empirical evidence and is thus worthy of the praise Kagan refuses.  In the RPM context, Leegin updated an area of the antitrust law that had become an economic backwater by reflecting more modern economic thinking (and by more modern, I mean, around for 20 years) about the economics of vertical restraints and RPM specifically.  Legal Times also reports that when “pressed by Kohl to give a view on the Leegin decision, Kagan said she would not “grade” the ruling and she did not elaborate on how the Court should determine a proper balance in antitrust cases.”  So, lukewarm on Leegin at best, and some recognition that economic learning should be incorporated into antitrust doctrine.

Thanks to Jan Rybnicek for the pointer.

There is a nice example in the WSJ concerning the economics of vertical contractual arrangements.  I’ve noted previously the apparent trend in the soda industry toward vertical integration and the link to the economics of promotional shelf space.  In particular, incentive conflicts between manufacturers and retailers of differentiated products over the use of promotional shelf space are pervasive.

Like most vertical contracts, the key here is to understand how the incentives of the prospective transacting parties do not coincide and therefore must be controlled contractually rather than left to unrestrained competition and self-interest.  A common incentive incompatibility, identified by Klein & Murphy (1988) and later analyzed by Klein (1995), occurs when: (1) manufacturers sell a product at a significant markup over marginal cost, (2) the retailer provides some input like marketing activity or promotion that has a significant impact on demand for the product, and (3) consumers have heterogeneous demand for these promotional services, i.e. different value placed on placement of the product on eye-level shelf space, product demonstrations, etc.

Under these conditions, the retailer does not have adequate incentive to supply the efficient level of promotion or marketing activity because the retailer does not take into account the manufacturer’s (relatively large) profit margin on additional sales induced by provision of promotional services. These conditions are most likely to hold for differentiated products where manufacturer incremental profit margins are large relative to retailer profit margins.

Economic theory tells us that firms will use a variety of contractual measures to mitigate these incentive conflicts and exploit gains from trade.  For example, firms enter into slotting contracts, category management arrangements, and sometimes partial or full exclusive dealing contracts to control the transacting parties incentives in favor of non-performance and facilitate self-enforcement of the contract.   The trend towards vertical integration, as reported, appears to suggest that integration has become a more efficient solution for assuring supply of the desired distribution services than contracting.

Today’s WSJ article gives a nice example of how this theory applies in practice:

“Our [retail] customers really want to be able to differentiate themselves from their competitors,” says Mr. Foss. PepsiCo benefits when stores sell its snacks and drinks together, but it was harder to coordinate such promotions before PepsiCo bought its bottlers.

It is interesting to note that while the Pepsi and Coke have acquired bottlers recently, the article also discusses how Pepsi is tightening up its contractual relationships with retailers in order to align incentives with respect to promotions:

Mr. Foss says retailers he has visited have told him they would like to run more promotions that combine PepsiCo products, such as displaying six packs of Pepsi and bags of Doritos tortilla chips side by side, and offering discounts for purchasing them together.

Obviously, the costs of a multi-product retailer such as a gas station, convenience store, or supermarket granting an exclusive to Pepsi or Coke are higher than those of the bottler because of consumer demand for product variety in these settings.  In these settings, Pepsi and Coke rely on the contractual solutions described above to align incentives and induce the supply of efficient promotional services.

As a side note, slotting contracts and RPM are two ways to compensate the retailer for the supply of those services.  From there, one is only a step away from understanding why the Leegin decision was correctly decided, what Justice Breyer doesn’t understand about the economics of RPM, and why the “inherently suspect” approach to RPM is misguided.

Leegin Legislation Update

Josh Wright —  19 March 2010

A Senate panel approved the Leegin Bill on a voice vote (HT: Main Justice).  The story behind the link suggests that there is some Republican opposition brewing.  I suspect there will be hearings.  The Bill’s findings make the following two observations:

(3) Many economic studies showed that the rule against resale price maintenance led to lower prices and promoted consumer welfare, and;

(4) abandoning the rule against resale price maintenance will likely lead to higher prices paid by consumers and substantially harms the ability of discount retail stores to compete. For 40 years prior to 1975, Federal law permitted States to enact so-called `fair trade’ laws allowing vertical price fixing. Studies conducted by the Department of Justice in the late 1960s indicated that retail prices were between 18 and 27 percent higher in States that allowed vertical price fixing than those that did not. Likewise, a 1983 study by the Bureau of Economics of the Federal Trade Commission found that, in most cases, resale price maintenance increased the prices of products sold.

I believe both of these statements are, at best, misleading, and that Leegin was correctly decided.  From an antitrust perspective, the issue of whether RPM should be afforded per se treatment is whether the practice “always or almost always reduces output.”  Judge Douglas Ginsburg has more eloquently explained the empirical logic behind the per se standard in Polygram, noting that the issue is properly understood as whether there exists “a close family resemblance between the suspect practice and another practice that already stands convicted in the court of consumer welfare.”  The real question is whether we know that resale price maintenance — please don’t call it price-fixing — is whether the practice is so likely to generate competitive harm that it should be condemned without rule of reason inquiry.

As we’ve discussed previously, the empirical evidence on RPM simply does not satisfy this standard.  Quite the opposite, an objective assessment of the empirical evidence suggests that RPM is The findings articulated in the Bill are misleading because (1) they rely on studies from the 1960s which have been superseded by better empirical studies and an improved theoretical lens through which to understand RPM, and (2) by emphasizing the “price” test the findings fail to note that the overwhelming majority of the studies suggest that RPM increases output, a finding at odds with the anticompetitive theories.  Of course, a finding that the most likely effect of the legislation restoring the per se rule is to reduce output and consumer welfare would not, I suspect, attract the same number of votes or public support.

For interested readers,  testimony/ presentation slides at the FTC Workshop on Resale Price Maintenance are available.

The TOTM archives on RPM, including a number of great posts from Thom, are here.

According to the Wall Street Journal, the FTC is investigating whether retailer Toys-R-Us has violated the antitrust laws by inducing certain manufacturers to set minimum resale prices for their products (i.e., to engage in resale price maintenance, or “RPM”).

The Journal first reports that the Commission “is investigating whether [Toys-R-Us] may have violated an 11-year-old order to abstain from [RPM].” That seems a bit odd, for the law on RPM changed radically in 2007, when the U.S. Supreme Court’s Leegin decision held that the practice, which since 1911 had been deemed automatically illegal, would be subject to antitrust’s more lenient rule of reason. Given the sea change wrought by Leegin, any consent order entered 11 years ago would rest on shaky footing indeed.

[UPDATE: As the first comment below explains, the 11 year-old consent order was not aimed at RPM. I didn’t take a look at the order before drafting this post. I should have done so. Mea culpa. This oversight doesn’t alter my argument in the rest of this post.]

More notably, the Journal reports that the FTC may issue a new complaint against Toys-R-Us “for allegedly trying to fix the price of baby products” sold through its Babies-R-Us unit (“BRU”). This past summer, a federal district court certified a consumer class action against Toys-R-Us based on these same allegations. According to the Journal, the FTC has demanded emails from the discovery record in that action (the “BRU case”).

I’m not surprised that the FTC would want to get involved in the BRU case. The legal standard for evaluating instances of RPM is currently pretty unclear (as I explained in this article), and the FTC has a definite opinion on the issue. In considering whether to modify a pre-Leegin consent order entered in another RPM case (Nine West), the FTC took the position that any RPM initiated by retailers, rather than by the manufacturer, should be presumed illegal. If that’s the standard, then the RPM in the BRU case (which was apparently initiated by retailer BRU) should be illegal, at least presumptively. The FTC probably wants to jump into the case to procure a precedent adopting an “illegal if retailer-initiated” liability rule for RPM.

The court hearing the consumer action against BRU has already endorsed a version of that rule. BRU had argued, consistent with well-accepted economic theory and empirical evidence, that RPM may promote competition, even if it raises consumer prices, because it may induce retailers to provide demand-enhancing, output-increasing services (especially those that might be subject to free-riding by cut-rate dealers). The district court concluded, though, that no such procompetitive benefits can follow from retailer-initiated RPM. Crediting the testimony of plaintiffs’ expert William Comanor, the court reasoned that “when a dominant distributor coerces a manufacturer to implement resale price maintenance — rather than the manufacturer adopting it unilaterally — the restraint has only anticompetitive effects.” Such reasoning would seem to entail a rule of per se illegality for dealer-initiated RPM.

As the BRU court explained, the intuition behind its “illegal if retailer-initiated” rule is that whereas “[m]anufacturer interests may be associated with procompetitive effects (creating demand for their products), … distributor interests are associated only with anticompetitive effects (restricting price competition).” But that intuition is mistaken.

Contrary to the BRU court’s assertion, distributor interests in RPM are not “associated only with anticompetitive effects” like facilitating a retailer-level cartel. High-service retailers, who must charge higher prices to cover the costs of the demand-enhancing services they provide, are the most direct victims of free-riding by low-service, low-cost dealers. While the manufacturer, who wants to ensure point-of-sale services, certainly has an interest in preventing free-riding, so do high-service retailers, who bear the immediate costs of providing the demand-enhancing services. Moreover, such retailers are likely to discover free-riding more quickly than the manufacturer; they will immediately notice when they are losing sales to no-frills dealers. Thus, it should not be surprising that retailers would request RPM to prevent free-riding by low-service dealers and that the manufacturer, seeking to ensure that all dealers earn a margin sufficient to finance desired services, would grant their request.

Consider the retailer-initiated RPM in the BRU case. Because (1) manufacturers make more money as more units are sold to consumers and (2) more units typically will be sold to consumers as the retail price is reduced, BRU’s manufacturers had no interest in having a retail mark-up higher than that necessary to motivate effective retail service. Yet, according to the court’s recitation of the facts, every manufacturer asked by BRU to forbid Internet discounting complied with the retailer’s request. Why did the manufacturers give in to BRU’s demand?

The plaintiffs’ theory, which the district court accepted, was that the manufacturers were “forced” to do so because of BRU’s market power in the retailing of baby products. But that is hardly plausible. Each of the products on which BRU sought RPM is, or easily could be, sold by discount retailers like Walmart, Target, and Kmart. While there are currently fewer than 270 Babies-R-Us stores in the United States, Walmart alone boasts 4,300 domestic outlets. The claim that BRU’s allegedly put-upon manufacturers would be unable to get their products to consumers absent BRU’s cooperation is simply incredible.

A far more plausible theory is that the manufacturers at issue gave in to BRU’s demands because they wanted their products to bear the prestige that comes from being sold at a trendy Babies-R-Us store. That “prestige stamp” is a service that BRU provides — a service that is conferred at considerable expense and that can be easily appropriated by low-cost dealers like Internet retailers.

It thus makes perfect sense that BRU would try to protect itself from no-frills dealers seeking to free-ride off its costly prestige stamp and that the manufacturers at issue would give in to BRU’s demands, expecting that the value-increase in their products resulting from the BRU prestige stamp would offset the higher price occasioned by the requested RPM and would enhance total output. This output-enhancing theory is significantly more plausible than the competing theory that the manufacturers were forced to give into a relatively small retail chain’s demands because of its market power in retailing.

If the FTC does decide to bring its own case against BRU, it will probably advocate the same “illegal if retailer-initiated” rule it set forth in its Nine West order. Judicial adoption of such a rule would be unfortunate. The identity of RPM’s instigator (retailer or manufacturer) says nothing about the RPM’s dominant rationale (to facilitate retailer collusion or to protect manufacturer and retailer interests in avoiding free-riding), and the fact that an instance of RPM was retailer-initiated by no means suggests that it was imposed for an illicit purpose.

I’ve just finished a draft of a paper for an upcoming conference on the Roberts Court’s business law decisions. Volokh blogger Jonathan Adler, who directs the Center for Business Law and Regulation at Case Western, is organizing the conference. The other presenters are Adam Pritchard from Michigan (covering the Court’s securities decisions), Brian Fitzpatrick from Vanderbilt (covering pleading standards), and Matt Bodie from St. Louis University (covering labor and employment). My paper discusses the Roberts Court’s antitrust decisions.

I am not the first to analyze the Roberts Court’s antitrust jurisprudence. Both Josh and Einer Elhauge have written terrific papers on the themes underlying the Court’s antitrust decisions. Josh has argued that the Court’s antitrust jurisprudence reflects Chicago School thinking; Elhauge contends that it’s more aligned with the Harvard School. While I’d probably side with Josh in that debate (mainly because I think the “new” Harvard School, having correctly jettisoned the old Structure-Conduct-Performance paradigm, moved so starkly in Chicago’s direction that it should really be called Chicago-Lite), I need not take sides. That’s because the unifying theme I identify in the Roberts Court’s antitrust decisions, one acknowledged by both Josh and Elhauge, is common to both the Chicago and Harvard schools. That theme is a recognition by the Court that antitrust is an inherently limited body of law that must be constrained in its reach — even to the point of allowing some undesirable conduct — if it is to do more good than harm.

Lots of folks are upset by the constraints the Roberts Court has imposed on antitrust. As Josh noted on this blog, Erwin Chemerinsky has complained that the Court’s antitrust decisions exemplify a “sharp turn to the right” and systematically “favor[] business over consumers.” Chemerinsky, of course, is no antitrust expert. But even well-respected members of the antitrust community have sounded a similar refrain. For example, William Kolasky, a former Deputy Assistant Attorney General in the Antitrust Division of the U.S. Department of Justice and an associate editor of the ABA’s Antitrust Magazine, recently (though before the Court’s most recent antitrust decision) wrote that “Our Supreme Court, especially under the leadership of Chief Justice John Roberts, seems equally intent on cutting back on private enforcement. … This record led Antitrust to ask in its last issue whether the Supreme Court’s recent antitrust decisions represent ‘The End of Antitrust as We Know It?'”

In my paper, “The Roberts Court and the Limits of Antitrust,” I argue that anti-consumer/pro-business/”radical shift” meme the Chemerinskies and Kolaskies of the world assert is wrong and reflects a fundamental misunderstanding of the inherent limits of the antitrust enterprise. Below the fold, I describe the paper. Continue Reading…

Antitrust and Congress

Thom Lambert —  22 September 2010

Last Thursday and Friday, I attended a conference at Case Western Law School on the Roberts Court’s business law decisions. I presented a paper on the Court’s antitrust decisions. (The paper, described here, is now available on SSRN.) Adam Pritchard, Matt Bodie, and Brian Fitzpatrick presented papers considering the Court’s treatment of, respectively, securities law, labor and employment law, and pleading standards.

My presentation happened to follow Adam’s, and the contrast was pretty striking. Adam explained that the Roberts Court does not appear all that interested in the substance of the securities laws or the policy implications of its securities holdings. Rather, Adam contended, the justices’ focus in the securities law decisions has been on methods of statutory interpretation and the relationship of the judiciary to the administrative state — with little concern at all for the securities-specific results that will follow from adopting one particular interpretation over another. In antitrust, by contrast, the Court has been concerned almost exclusively with results and policy implications, and it has paid almost no attention to the antitrust statutes themselves or to congressional intent. (The dissent in Leegin asserted a congressional intent argument, but mainly as an afterthought, and the majority brushed it off.)

The reason for this difference in approaches is pretty apparent. The securities laws are long and detailed and have been supplemented with gobs of regulations. They prescribe rules that purport to specify, ex ante, what is and is not allowed. The antitrust laws, by contrast, are short, employ vague and undefined terms (e.g., the Sherman Act fails to define such key terms as “monopolize” or “restraint of trade” … though it does helpfully define “person”?!), and posit standards whose precise contours are fleshed out ex post, as courts evaluate conduct that has already occurred. There are no antitrust textualists. Indeed, because the Sherman Act prohibits every “contract … in restraint of trade” and because every executory contract restrains trade (i.e., the promisor restrains himself from any trades inconsistent with the promised performance), a textualist approach would generate absurdity by prohibiting all executory contracts. The Court therefore can’t ignore outcomes and policy disputes and focus solely on statutory interpretation in resolving antitrust matters. It must grapple with the policy questions. And it has almost always done so, consistently interpreting the Sherman Act as an implicit delegation of authority to craft a quasi-common law of competition, a common law that evolves as our understanding of the competitive effects of business practices grows. (I’m not suggesting, of course, that the Court has always gotten the policy questions right; merely that it has consistently and explicitly grappled with policy in deciding antitrust matters.)

This raises questions about Congress’s role in the antitrust enterprise. During my Case presentation, one discussant contrasted the “interpretivist” approach of the Roberts Court’s securities cases with the more free-wheeling, “policy-focused” approach in the antitrust cases and asked, in essence (albeit more artfully), where the Court gets off usurping all these policy questions for itself.  The obvious answer, of course, is that it has no choice; the antitrust statutes are just too short and vague to support a textualist approach and really must be read as an implicit delegation to craft a quasi-common law of competition.  The implication of the discussant’s comment, though, was that Congress should play a more active role in determining the contours of antitrust prohibitions and that the Court (and courts generally) should afford greater deference to its policy judgments.

I’d have to disagree.   First, Congress lacks the knowledge to specify ex ante how most business practices should be evaluated from a competitive standpoint.  That implies that a standards approach, rather than a rules approach, will be optimal for antitrust.  Any standards approach, though, will require antitrust tribunals to make on-the-spot policy judgments, evaluating challenged conduct in light of time- and space-specific factors — and in light of ever-evolving economic insights — of which Congress simply cannot be aware at the time it promulgates the law.  The law already follows this “Hayekian” approach; appropriately, I believe. 

Second, greater congressional intervention in antitrust would likely benefit groups of competitors (small businesses, etc.) at the expense of consumers.  The former are discrete and insular, are easily organized, and consistently do well in the political process.  Widely dispersed consumers, by contrast, have no effective lobby in Congress.  This situation encourages rules that provide concentrated benefits to the politically adept (small businesses), while diffusing their costs broadly among consumers.  The small business groups, recipients of concentrated benefits, have both the incentive and the means to seek rules that favor them; individual consumers, among whom the costs of those rules are diffused (so that each consumer is harmed just a little bit), lack the incentive to invest heavily in opposing the rules.  Given this concentrated benefits/diffused costs dynamic, greater legislative involvement in particular antitrust matters would likely result in rules that concentrate their benefits on small businesses and spread their costs on consumers throughout the economy, even when the total (dispersed) costs of the rules exceed their total (concentrated) benefits.  When Congress has crafted more targeted, precise antitrust prohibitions, they’ve usually hurt consumers and helped small businesses (see, e.g., the Robinson-Patman Act).  Indeed, there’s good reason to believe that the Sherman Act itself was initially protectionist in design, though the Court corrected that problem by putting a pro-consumer gloss on the statute’s broad prohibitions.

Putting aside whether Congress should intervene more in antitrust matters, what if it does do so?  Members of the current Congress, for example, have introduced bills and held hearings on legislative repeals of Leegin and Twombly.  What if those (or similar) bills are enacted? 

Josh and his co-author, Judd Stone, provide an excellent answer to this question in their recent article on American Needle.  They observe that the justices grappled during oral argument with the most appropriate means of weeding out meritless antitrust claims based on “agreements” among entities whose combination would not seem to harm consumers by reducing the centers of economic decisionmaking in a market. Ultimately, the Court decided it could cut back on the scope of Copperweld‘s intraenterprise immunity doctrine because it had an alternative screening mechanism: Twombly‘s requirement that plaintiffs allege a “plausible” conspiracy.  Josh and Judd contend that a legislative repeal of Twombly would lead courts to make other doctrinal adjustments in an attempt to provide means for screening out meritless lawsuits.  They explain:

Antitrust has seen this pattern play out before … . [T]he massive proliferation of private actions … inspired much of the error-cost protections not only ensconced in the consumer harm requirements of Section 2 but narrowing Section 2’s scope altogether. … [Repealing Twombly] is a strategic maneuver that will favor plaintiffs in only the very shortest of temporal horizons — before the antitrust ‘‘system’’ of rules reacts accordingly.

I think that’s right.  The courts have long been the guardians of the antitrust enterprise.  Since the late-1970s, they have done an admirable job of crafting a rational, coherent common law of competition.  (Again, I’m not saying the system is perfect — see, e.g., the quasi-per se rule against tying — but it’s generally pretty sensible.)  The courts are also well-aware that they have access to numerous safety valves that can eliminate meritless claims.  A legislative repeal of Leegin, for instance, would undoubtedly reinvigorate Colgate, Monsanto, and Business Electronics, which created hurdles to (meritless) RPM claims by making it difficult to plead and prove a vertical “agreement” to maintain resale prices. 

In the end, greater congressional involvement in crafting antitrust rules would probably have negative effects on consumer welfare and would likely lead courts to create or strengthen various screening mechanisms to avoid unwarranted liability.  Such a judicial response would simply add complexity to an already complicated body of law.  Let’s hope Congress stays its hand and lets the courts continue to serve as the guardians of competition law.

My latest working paper, which bears the same title as this post, is now available on SSRN. In the paper, I address the challenge created by the Supreme Court’s 2007 Leegin decision, which abrogated the 96 year-old rule declaring resale price maintenance (RPM) to be per se illegal. The Leegin Court held that instances of RPM must instead be evaluated under antitrust’s more lenient rule of reason. It also directed lower courts to craft a structured liability analysis for separating pro- from anticompetitive instances of the practice.

Since Leegin was decided, courts, commentators, and regulators have proposed at least four types of approaches for evaluating instances of RPM. Some of the approaches, like that advocated by the American Antitrust Institute, focus on whether an instance of RPM has raised consumer prices. Others, like that set forth in the pending Toys-R-Us case, focus on the identity of the party initiating the RPM (manufacturer or retailer(s)?). Some, like that proposed by Professor Marina Lao, focus on whether the product subject to RPM is sold with retailer services that are susceptible to free-riding. One approach, that endorsed by the FTC, mechanically applies factors the Leegin Court mentioned as relevant, but with little consideration of the potential for proof failures.

My paper critiques these four approaches from the perspective of decision theory (or what Josh and Geoff might call error cost analysis). Recognizing that antitrust liability rules always involve a risk of imposing social costs — either losses from under-deterrence if the rule wrongly acquits anticompetitive acts or losses from over-deterrence if it wrongly convicts procompetitive practices — decision theory says liability rules should be tailored to minimize the expected total cost of a liability decision. Specifically, the optimal rule will minimize the sum of decision costs (the costs of reaching a decision) and expected error costs (the costs of getting the decision wrong).

To evaluate how the proposed RPM rules fare from a decision-theoretic perspective, I begin by considering the theoretical harms and benefits associated with RPM and the empirical evidence on the incidence of those various effects. This analysis leads me to conclude that most instances of RPM are pro- rather than anticompetitive. I then consider whether wrongful convictions or wrongful acquittals are likely to cause greater social losses, and I conclude that wrongful convictions threaten greater harm. Taken together, these two conclusions call for a liability rule that tends to acquit more instances of RPM than it convicts. The proposed liability approaches, by contrast, are tilted toward conviction. Moreover, several of the proposed approaches would condemn instances of RPM even when the preconditions for anticompetitive harm are not satisfied.

Finding each of the proposed liability analyses to be deficient, I set forth an alternative approach that (1) reflects the economic learning on RPM (with respect to both the theories of competitive effects and the empirical evidence of those various effects), (2) is aimed at minimizing the costs of incorrect judgments, and (3) would be fairly easy for courts and business planners to administer. The proposed approach, in short, aims to minimize the sum of decision and error costs in regulating RPM.

Please download the piece. Comments are most welcome.

RPM Workshop Testimony

Josh Wright —  20 May 2009

I’ll be testifying tomorrow at the Federal Trade Commission hearings on Resale Price Maintenance.   My panel will focus on rule of reason analysis of RPM Post-Leegin.  There is a bit of awkwardness testifying about different modes of rule of reason analysis with legislation that would restore the Dr. Miles per se rule pending, but it strikes me as a valuable exercise nonetheless.  The early afternoon panel looks very interesting and focuses on the legal and business history of RPM.   I do not have a written statement for my prepared remarks, but you can see my slides here.

UPDATE: In response to Thom’s query in the comments, I thought the panel went pretty well.  It was fun, anyway.  The panel split time discussion the merits of the pending legislation that would restore the per se rule and whether some “inherently suspect” truncated liability approach placing the burden on defendants to justify their use of minimum RPM was appropriate.  Five of the eight panelists were in favor of the per se rule with three dissenting for various reasons, including my own view that economic learning in the form of theoretical and empirical knowledge about vertical restraints and RPM more specifically simply did not satisfy the standard that the restraint always or almost always reduces output or harms competition.  Much of the discussion of the underlying economics, in my view, revealed a general suspicion not just of RPM but of the promotional services it is designed to induce.  In other words, a few panelists argued that even if RPM did facilitate the supply of promotional services by resolving incentive conflicts (I’m not sure how well the proponents of the per se rule understand the Klein & Murphy model), we should be skeptical of any sort of promotion that manufacturers have to pay for.  Taken seriously, that view would be fairly dangerous and easily expanded to per se rules for exclusive territories, advertising, slotting contracts, and other forms of promotion.  All in all, it was a fun panel and a lively discussion.  I largely stuck to the same mantra: the theory and evidence does not support application of the per se rule, and to the extent that one believes that we know even less than the literature suggests or does not trust the results in the literature, that is not an argument in favor of per se treatment.

Today, the Commission announced a consent decree with Transitions Optical in an exclusionary conduct case.  Here’s the FTC description:

Transitions Optical, Inc., the nation’s leading manufacturer of photochromic treatments that darken corrective lenses used in eyeglasses, has agreed to stop using allegedly anticompetitive practices to maintain its monopoly and increase prices, under a settlement with the Federal Trade Commission announced today. Photochromic treatments are applied to eyeglass lenses to protect the eyes from harmful ultraviolet (UV) light. Treated lenses darken when exposed to UV light and fade back to clear when the UV light diminishes….

The FTC charges that the company illegally maintained its monopoly by engaging in exclusive dealing at nearly every level of the photochromic lens distribution chain. First, Transitions refused to deal with manufacturers of corrective lenses, known as “lens casters,” if they sold a competing photochromic lens. Further down the supply chain, Transitions used exclusive and other agreements with optical retail chains and wholesale optical labs that restricted their ability to sell competing lenses.  According to the FTC’s complaint, Transitions’ exclusionary tactics locked out rivals from approximately 85 percent of the lens caster market, and partially or completely locked out rivals from up to 40 percent or more of the retailer and wholesale lab market.

In settling the agency’s charges, Transitions has agreed to a range of restrictions, including an agreement to stop all exclusive dealing practices that pose a threat to competition. These provisions will end its allegedly anticompetitive conduct and make it easier for competitors to enter the market.

The Complaint is here.   And the analysis to aid public comment is available here.  A few quick observations and reactions, with the obvious caveat that these comments have only the benefit of the public information linked above and not more.

1. In light of a certain high-profile loyalty / market-share discount case that the Commission has on its plate, the analysis here is interesting not only on its own merits, but to the extent it might inform about how the Commission would pursue other cases involving similar conduct, i.e. exclusive dealing and discounts conditioned on full or partial exclusivity or threshold purchase requirements.   I note, for example, that the order prohibits Transitions from both exclusive dealing and partial exclusives/ loyalty discounts.  It will be interesting to see if the Commission adopts a similar approach of bearing the burden of demonstrating substantial foreclosure as a necessary but not sufficient condition in other cases involving allegedly exclusionary contracts aimed at depriving rivals of access to distribution sufficient to achieve minimum efficient scale.

2. The alleged foreclosure percentages are very high, over 85 percent with lens casters and “as much as 40 percent or more” with retailers and wholesale labs.  Under a straight Section 2 analysis, which the Commission discusses in the aid to public comment, and assuming the accuracy of these calculations, these foreclosure levels are likely to raise significant concerns where monopoly power is present and the contracts are difficult to terminate (both are alleged).

3. I found one passage in the aid to public comment troublesome, and in my view, incorrect.  With respect to pro-competitive efficiencies flowing from the arrangement, the Commission appears to be taking an overly narrow stance about cognizable justifications. Here’s what the FTC says about efficiencies from exclusives:

No procompetitive efficiencies justify Transitions’ exclusionary and anticompetitive conduct. Transitions cannot show that the exclusive arrangements were reasonably necessary to achieve a procompetitive benefit, such as protecting Transitions’ intellectual property or technical know-how, or preventing interbrand free-riding.5 Transitions does not transfer substantial intellectual property or technical know-how to its customers, and even if it did, any such transfer would likely be protected by existing confidentiality agreements. A concern about interbrand free-riding also does not justify the substantial anticompetitive effects found here. The vast majority of Transitions’ promotional efforts are brand specific, reducing the significance of any free-riding concern.6 While Transitions’ marketing efforts may generate some consumer interest in the product category as a whole – and not just in Transitions’ own products – this is a part of the natural competitive process. This type of consumer response does not raise a free-riding concern sufficient to justify the substantial anticompetitive effects found here.

As a conceptual matter, the Commission at least appears to reject the idea of distributional / promotional efficiencies in the absence of inter-retailer free-riding.  Footnote 6 of the analysis seems to support that conclusion.   As readers of this blog will know, I’ve done some work in this area arguing that this interbrand free-riding conception is too narrow and does not reflect the benefits of vertical restraints in resolving pervasive incentive conflicts between manufacturers and retailers even in the absence of free-riding.

Thom has a great post on this summarizing Ben Klein’s work on RPM which is in a similar vein.  But the fundamental economic facts are that under a set of conditions frequently satisfied in conventional differentiated products markets (manufacturer margins > retailer margins; manufacturer-specific retailer promotional efforts lack significant inter-retailer effects), manufacturers will have to compensate retailers for promotional effort.  These payments can take a lot of different forms: discounts, RPM, slotting contracts, etc.  The promotional sales generated are output increasing and so, from an antitrust perspective, vertical restraints resolving these incentive conflicts provide an important efficiency justification for restraints such as RPM, as I note here, and as the majority in Leegin recognizes.  Or see Ben Klein’s latest on RPM for an excellent explanation of the economics at work here, extending the analysis in Klein and Murphy (1988).

The next key step, and the one relevant for exclusive dealing, is that the very fact that dealers are compensated by manufacturers for supplying promotion on the basis of all their sales also opens the door to a type of free-riding that might undermine these promotional efforts that does not involve switching sales to a rival.  The manufacturer and dealer can be thought of as having an implicit contact to supply the contracted-for level of promotional services, with the manufacturer paying a premium for this performance and monitoring its retailers, terminating for non-performance where necessary.   However, dealers can free-ride by taking the compensation but reducing costly promotional effort.  Even if inter-brand free-riding is not possible, the vertical chain faces this incentive conflict.  Exclusive dealing and reduce the incentive to free-ride and facilitate performance by increasing the incentives for the retailer to perform.

Klein and Lerner (2007) present this analysis is significant detail and readers are referred there.  The fundamental point is that, as the authors write:

In particular, the presence of free-rideable manufacturer investments and dealer switching, the conditions focused upon by the court in Dentsply, are not necessary conditions for determining whether a prevention of free-riding justification for exclusive dealing makes economic sense. All that is required for exclusive dealing to be used to prevent dealer free-riding is that dealers have a significant economic role in the promotion of the manufacturer’s product, that manufacturers are compensating dealers for the supply of additional promotion and that exclusive dealing encourages such extra dealer promotion by facilitating manufacturer enforcement of its implicit contract for dealer promotion.

Note that I am not arguing that these potential efficiencies were present in Transitions as a factual matter.  Rather, I am just saying that to the extent that the passage endorses the position that exclusive dealing cannot prevent free-riding in the absence of free-rideable investments by the manufacturer, it is overly restrictive.  I should also note that my view is not only consistent with much of the case law recognizing a “dealer loyalty” explanation for exclusive dealing, it is also the case that Commission itself has discussed this type of efficiency in the past!  See, for example, this advocacy filing (signed by BC, BE and OPP) concerning potential legislation restricting vertical restaints in the wine industry.  The filing (and there are others), signed ecognizes that in addition to preventing inter-brand free-riding (and citing Klein) “exclusive dealing can be used to assure that suppliers receive the sales-generating effort that they have bargained for from distributors (e.g., through direct payment or through increased revenue that comes with exclusive territories), rather than distributors focusing their efforts on competing brands.”

Because the Commission makes reference only to the inter-brand free-riding, and does not discuss other free-riding justifications, this seemed worth comment.  Of course, even if such a pro-competitive justification fit the facts, it also does not mean it would outweigh any potential anticompetitive effects, but I do find the omission at least mildly troublesome.