As I noted in January, the Federal Trade Commission’s (FTC) proposal to ban nearly all noncompete agreements raises many questions. To be sure, there are contexts—perhaps many contexts—in which noncompete agreements raise legitimate policy concerns. But there also are contexts in which they can serve a useful procompetitive function. A per se ban across all industries and occupations, as the FTC’s notice of proposed rulemaking (NPRM) contemplates, seems at the least overly broad, and potentially a dubious and costly policy initiative.
Yesterday was the deadline to submit comments on the noncompete NPRM, and the International Center for Law & Economics and 30 distinguished scholars of law & economics—including leading academics and past FTC officials—did just that. I commend the comments to you, and not just because I drafted a good portion of them.
Still, given that we had about 75 pages of things to say about the proposal, an abridged treatment may be in order. The bottom line:
[W]e cannot recommend that the Commission adopt the proposed Non-compete Clause Rule (‘Proposed Rule’). It is not supported by the Commission’s experience, authority, or resources; neither is it supported by the evidence—empirical and otherwise—that is reviewed in the NPRM.
In no particular order, I will summarize some of our comments on key issues.
Not All Policy Concerns Are Antitrust Concerns
As the NPRM acknowledges, litigation over noncompetes focuses mostly on state labor and contract-law issues. And the federal and state cases that do consider specific noncompetes under the antitrust laws have nearly all found them to be lawful.
That’s not to say that there cannot be specific noncompetes in specific labor markets that run afoul of the Sherman Act (or the FTC Act). But antitrust is not a Swiss Army Knife, and it shouldn’t be twisted to respond to every possible policy concern.
Will Firms Invest Less in Employees?
While the NPRM amply catalogs potential problems associated with non-competes, [non-competes], like other vertical restrictions in labor agreements, are not necessarily inefficient, anticompetitive, or harmful to either labor or consumer welfare; they can be efficiency-enhancing and pro-competitive . . . [and] can solve a range of potential hold-up problems in labor contracting.
For example, there are circumstances in which both firms and their employees might benefit from additional employee training. But employees may lack the resources needed to acquire the right training on their own. Their employers might be better resourced, but might worry about their returns on investments in employee training.
Labor is alienable; that is, employees can walk out the door, and they can do so before firm-sponsored training has paid adequate dividends. Hence, they might renegotiate their compensation before it has paid for itself; or they might bring their enhanced skills to a competing firm. Knowing this, firms might tend to underinvest in employee training, which would lower their productivity. Noncompetes can mitigate this hold-up problem, and there is empirical evidence that they do just that.
The Available Literature Is Decidedly Mixed
A per se ban under the antitrust laws would seem to require considerable case law and a settled, and relatively comprehensive body of literature demonstrating that noncompetes pose significant harms to competition and consumers in nearly all cases. There isn’t.
First, “there appear to be numerous and broad gaps in the literature.” For example, most policy options, industries, and occupations haven’t been studied at all. And there’s only a single paper looking at downstream price effects in goods and services markets—one that doesn’t appear to be at all generalizable.
In addition, the available results don’t all impugn noncompetes; they’re mixed. For example, while some studies suggest certain classes of workers see increased wages, on average, when noncompete “enforceability” is reduced, others report contexts in which enforcement is associated with rising wages, depending on the occupation (there are studies of physicians, CEOs, and financial advisors) or even the timing with which workers are made aware of noncompetes.
more credible empirical studies tend to be narrow in scope, focusing on a limited number of specific occupations . . . or potentially idiosyncratic policy changes with uncertain and hard-to-quantify generalizability.
So, for example, a study of the effects of an idiosyncratic statutory change regarding noncompetes in certain parts of the tech sector, but not others, in Hawaii (which doesn’t have much of a tech sector) might tell us rather little about our policy options more broadly.
Being the Primary Federal Labor Regulator Requires Resources
There are also reasons to question the FTC’s drive to be the federal regulator of noncompetes and other vertical restraints in labor agreements. For one thing, the commission has very little experience with noncompetes, although it did (rush to?) settle three complaints involving noncompetes the day before they issued the NPRM.
All three (plus a fourth settled since) involved very specific facts and circumstances. Three of the four were situated in a single industry: the glass-container industry. And, as recently resigned Commissioner Christine Wilson explained in dissent, the opinions and orders settling the matters did little to explain how the conduct at issue violated the antitrust laws. In one complaint, the alleged restrictions on security guards seemed excessive and unreasonable (as a state court found them to be, under state law), but that doesn’t mean that they violated the FTC Act.
Moreover, this would be a sweeping regulation involving, based on the commission’s own estimates, some 30 million current labor agreements and several hundred billion dollars in annual wage effects. Just this week, the commission once again testified to Congress that it lacks adequate personnel and other resources to execute the laws it plainly is charged to enforce already. So, for example:
[w]hile we constantly strive to enforce the law to the best of our capabilities, there is no doubt that—despite the much-needed increased appropriations Congress has provided in recent years—we continue to lack sufficient funding.
Given these limitations, it’s hard to understand the pitch to regulate labor terms across the entire economy without any congressional charge to do so. And that’s leaving aside the FTC’s recent and problematic proposal to issue sweeping regulations for digital privacy, as well. Not incidentally, this is an active area of state policy reform, and an issue that’s currently before Congress.
A Flimsy Basis for Authority
In the end, the FTC’s claimed authority to issue competition regulations under its general “unfair methods of competition” authority (Section 5 of the FTC Act) and a single clause about regulations (for some purpose) in Section 6(g) of the FTC Act is both contentious and dubious.
All in all, the commission’s proposed rule would be a bridge too far—or several of them. The agency isn’t just risking the economic costs of a spectacularly overbroad rule and its own much-needed agency resources. Court challenges to such a rule are inevitable, and place both the substance of a noncompete rule and the FTC’s own authority at risk.
[The following is a guest post from Andrew Mercado, a research assistant at the Mercatus Center at George Mason University and an adjunct professor and research assistant at George Mason’s Antonin Scalia Law School.]
Price-parity clauses have, until recently, been little discussed in the academic vertical-price-restraints literature. Their growing importance, however, cannot be ignored, and common misconceptions around their use and implementation need to be addressed. While similar in nature to both resale price maintenance and most-favored-nations clauses, the special vertical relationship between sellers and the platform inherent in price-parity clauses leads to distinct economic outcomes. Additionally, with a growing number of lawsuits targeting their use in online platform economies, it is critical to fully understand the economic incentives and outcomes stemming from price-parity clauses.
Vertical price restraints—of which resale price maintenance (RPM) and most favored nation clauses (MFN) are among many—are both common in business and widely discussed in the academic literature. While there remains a healthy debate among academics as to the true competitive effects of these contractual arrangements, the state of U.S. jurisprudence is clear. Since the Supreme Court’s Leeginand State Oildecisions, the use of RPM is not presumed anticompetitive. Their procompetitive and anticompetitive effects must instead be assessed under a “rule of reason” framework in order to determine their legality under antitrust law. The competitive effects of MFN are also generally analyzed under the rule of reason.
Distinct from these two types of clauses, however, are price-parity clauses (PPCs). A PPC is an agreement between a platform and an independent seller under which the seller agrees to offer their goods on the platform for their lowest advertised price. While sometimes termed “platform MFNs,” the economic effects of PPCs on modern online-commerce platforms are distinct.
This commentary seeks to fill a hole in the PPC literature left by its current focus on producers that sell exclusively nonfungible products on various platforms. That literature generally finds that a PPC reduces price competition between platforms. This finding, however, is not universal. Notably absent from the discussion is any concept of multiple sellers of the same good on the same platform. Correctly accounting for this oversight leads to the conclusion that PPCs generally are both efficient and procompetitive.
In a pair of lawsuits filed in California and the District of Columbia, Amazon has come under fire for its restrictions around pricing. These suits allege that Amazon’s restrictive PPCs harm consumers, arguing that sellers are penalized when the price for their good on Amazon is higher than on alternative platforms. They go on to claim that these provisions harm sellers, prevent platform competition, and ultimately force consumers to pay higher prices. The true competitive result of these provisions, however, is unclear.
That literature that does exist on the effects these provisions have on the competitive outcomes of platforms in online marketplaces falls fundamentally short. Jonathan Baker and Fiona Scott Morton (among others) fail to differentiate between PPCs and MFN clauses. This distinction is important because, while the impacts on consumers may be similar, the mechanisms by which the interaction occurs is not. An MFN provision stipulates that a supplier—when working with several distributors—must offer its goods to one particular distributor at terms that are better or equal to those offered to all other distributors.
PPCs, on the other hand, are agreements between sellers and platforms to ensure that the platform’s buyers have access to goods at better or equal terms as those offered the same buyers on other platforms. Sellers that are bound by a PPC and that intend to sell on multiple platforms will have to price uniformly across all platforms to satisfy the PPC. PPCs are contracts between sellers and platforms to define conduct between sellers and buyers. They do not determine conduct between sellers and the platform.
A common characteristic of MFN and PPC arrangements is that consumers are often unaware of the existence of either clause. What is not common, however, is the outcomes that stem from their use. An MFN clause only dictates the terms under which a good is sold to a distributor and does not constrain the interaction between distributors and consumers. While the lower prices realized by a distributor may be passed on as lower prices for the consumer, this is not universally true. A PPC clause, on the other hand, constrains the interactions between sellers and consumers, necessitating that the seller’s price on any given platform, by definition, must be as low as the price on all other platforms. This leads to the lowest prices for a given good in a market.
The fundamental oversight in the literature is any discussion of intra-platform competition in the market for fungible goods, within which multiple sellers sell the same good on multiple platforms. Up to this point, all the discussion surrounding PPCs has centered on the Booking.comcase in the European Union.
In Booking.com, the primary platform, Booking.com, instituted price-parity clauses with sellers of hotel rooms on its platform, mandating that they sell rooms on Booking.com for equal to or less than the price on all other platforms. This pricing restriction extended to the hotel’s first-party website as well.
In this case, it was alleged that consumers were worse off because the PPC unambiguously increased prices for hotel rooms. This is because, even if the hotel was willing to offer a lower price on its own website, it was unable to do so due to the PPC. This potential lower price would come about due to the low (possibly zero cost) commission a hotel must pay to sell on its own website. On the hotel’s own website, the room could be discounted by as much as the size of the commission that Booking.com took as a percentage of each sale. Further, if a competing platform chose to charge a lower commission than Booking.com, the discount could be the difference in commission rates.
While one other case, E-book MFN, is tangentially relevant, Booking.com is the only case where independent third-party sellers list a good or service for sale on a platform that imposes a PPC. While there is some evidence of harm in the market for the online booking of hotel rooms, however, hotel-room bookings are not analogous to platform-based sales of fungible goods. Sellers of hotel rooms are unable to compete to sell the same room; they can sell similarly situated, easily substitutable rooms, but the rooms are still non-fungible.
In online commerce, however, sellers regularly sell fungible goods. From lip balm and batteries to jeans and air filters, a seller of goods on an e-commerce site is among many similarly situated sellers selling nearly (or perfectly) identical products. These sellers not only have to compete with goods that are close substitutes to the good they are selling, but also with other sellers that offer an identical product.
Therefore, the conclusions found by critics of Booking.com’s PPC do not hold when removing the non-fungibility assumption. While there is some evidence that PPCs may reduce competition among platforms on the margin, there is no evidence that competition among sellers on a given platform is reduced. In fact, the PPC may increase competition by forcing all sellers on a platform to play by the same pricing rules.
We will delve into the competitive environment under a strict PPC—whereby sellers are banned from the platform when found to be in violation of the clause—and introduce the novel (and more realistic) implicit PPC, whereby sellers have incentive to comply with the PPC, but are not punished for deviation. First, however, we must understand the incentives of a seller not bound by a PPC.
Competition by sellers not bound by price-parity clauses
An individual seller in this market chooses to sell identical products at different prices across different platforms, given that the platforms may choose various levels of commission per sale. To sell the highest number of units possible, there is an incentive for sellers to steer customers to platforms that charge the lowest commission, and thereby offer the seller the most revenue possible.
Since the platforms understand the incentive to steer consumers toward low-commission platforms to increase the seller’s revenue, they may not allocate resources toward additional perks, such as free shipping. Platforms may instead compete vigorously to reduce costs in order offer the lowest commissions possible. In the long run, this race to the bottom might leave the market with one dominant and ultra-efficient naturally monopolistic platform that offers the lowest possible commission.
While this sounds excellent for consumers, since they get the lowest possible prices on all goods, this simple scenario does not incorporate non-price factors into the equation. Free shipping, handling, and physical processing; payment processing; and the time spent waiting for the good to arrive are all additional considerations that consumers factor into the equation. For a higher commission, often on the seller side, platforms may offer a number of these perks that increase consumer welfare by a greater amount than the price increase often associated with higher commissions.
In this scenario, because of the under-allocation of resources to platform efficiency, a unified logistics market may not emerge, where buyers are able to search and purchase a good; sellers are able to sell the good; and the platform is able to facilitate the shipping, processing, and handling. By fragmenting these markets—due to the inefficient allocation of capital—consumer welfare is not maximized. And while the raw price of a good is minimized, the total price of the transaction is not.
Competition by sellers bound by strict price-parity clauses
In this scenario, each platform will have some version of a PPC. When the strict PPC is enforced, a seller is restricted from selling on that platform when they are found to have broken parity. Sellers choose the platforms on which they want to sell based on which platform may generate the greatest return; they then set a single price for all platforms. The seller might then make higher returns on platforms with lower commissions and lower returns on platforms with higher commissions. Fundamentally, to sell on a platform, the seller must at least cover its marginal cost.
Due to the potential of being banned for breaking parity, sellers may have an incentive to price so low that, on some platforms, they do not turn a profit (due to high commissions) while compensating for those losses with profits earned on other platforms with lower commissions. Alternatively, sellers may choose to forgo sales on a given platform altogether if the marginal cost associated with selling on the platform under parity is too great.
For a seller to continue to sell on a platform, or to decide to sell on an additional platform, the marginal revenue associated with selling on that platform must outweigh the marginal cost. In effect, even if the commission is so high that the seller merely breaks even, it is still in the seller’s best interest to continue on the platform; only if the seller is losing money by selling on the platform is it economically rational to exit.
Within the boundaries of the platform, sellers bound by a PPC have a strong incentive to vigorously compete. Additionally, they have an incentive to compete vigorously across platforms to generate the highest possible revenue and offset any losses from high-commission platforms.
Platforms have an incentive to vigorously compete to attract buyers and sellers by offering various incentives and additional services to increase the quality of a sale. Examples of such “add-ons” include fulfilment and processing undertaken by the platform, expedited shipping and insured shipping, and authentication services and warranties.
Platforms also have an incentive to find the correct level of commission based on the add-on services that they provide. A platform that wants to offer the lowest possible prices might provide no or few add-ons and charge a low commission. Alternatively, the platform that wants to provide the highest possible quality may charge a high commission in exchange for many add-ons.
As the value that platforms can offer buyers and sellers increases, and as sellers lower their prices to maintain or increase sales, the quality bestowed upon consumers is likely to rise. Competition within the platform, however, may decline. Highly efficient sellers (those with the lowest marginal cost) may use strict PPCs—under which sellers are removed from the platform for breaking parity—to price less-efficient sellers out of the market. Additionally, efficient platforms may be able to price less-efficient platforms out of the market by offering better add-ons, starving the platforms of buyers and sellers in the long run.
Even with the existence of marginally higher prices and lower competition in the marketplace compared to a world without price parity, the marginal benefit for the consumer is likely higher. This is because the add-on services used by platforms to entice buyers and sellers to transact on a given platform, over time, cost less to provide than the benefit they bestow. Regardless of whether every single consumer realizes the full value of such added benefits, the likely result is a level of consumer welfare that is greater under price parity than in its absence.
Implicit price parity: The case of Amazon
Amazon’s price-parity-policy conditions access to some seller perks on the adherence to parity, guiding sellers toward a unified pricing scheme. The term best suited for this type of policy is an “implicit price parity clause” (IPPC). Under this system, the incentive structure rewards sellers for pricing competitively on Amazon, without punishing alternative pricing measures. For example, if a seller sets prices higher on Amazon because it charges higher commissions than other platforms, that seller will not eligible for Amazon’s Buy Box. But they are still able to sell, market, and promote their own product on the platform. They still show up in the “other sellers” dropdown section of the product page, and consumers can choose that seller with little more than a scroll and an additional click.
While the remainder of this analysis focuses on the specific policies found on Amazon’s platform, IPPCs are found on other platforms, as well. Walmart’s marketplace contains a similar parity policy along with a similarly functioning “buy” box. eBay, too, offers a “best price guarantee,” through which the site offers match the price plus 10% of a qualified competitor within 48 hours. While this policy is not identical in nature, it is in result: prices that are identical for identical goods across multiple platforms.
Amazon’s policy may sound as if it is picking winners and losers on its platform, a system that might appear ripe for corruption and unjustified self-preferencing. But there are several reasons to believe this is not the case. Amazon has built a reputation of low prices, quick delivery, and a high level of customer service. This reputation provides the company an incentive to ensure a consistently high level of quality over time. As Amazon increases the number of products and services offered on its platform, it also needs to devise ways to ensure that its promise of low prices and outstanding service is maintained.
This is where the Buy Box comes in to play. All sellers on the platform can sell without utilizing the Buy Box. These transactions occur either on the seller’s own storefront, or by utilizing the “other sellers” portion of the purchase page for a given good. Amazon’s PPC does not affect the way that these sales occur. Additionally, the seller is free in this type of transaction to sell at whatever price it desires. This includes severely under- or overpricing the competition, as well as breaking price parity. Amazon’s policies do not directly determine prices.
The benefit of the Buy Box—and the reason that an IPPC can be so effective for buyers, sellers, and the platform—is that it both increases competition and decreases search costs. For sellers, there is a strong incentive to compete vigorously on price, since that should give them the best opportunity to sell through the Buy Box. Because the Buy Box is algorithmically driven—factoring in price parity, as well as a few other quality-centered metrics (reviews, shipping cost and speed, etc.)—the featured Buy Box seller can change multiple times per day.
Relative prices between sellers are not the only important factor in winning the Buy Box; absolute prices also play a role. For some products—where there are a limited number of sellers and none are observing parity or they are pricing far above sellers on other platforms—the Buy Box is not displayed at all. This forces consumers to make a deliberate choice to buy from a specific seller as opposed to from a preselected seller. In effect, the Buy Box’s omission removes Amazon’s endorsement of the seller’s practices, while still allowing the seller to offer goods on the platform.
For consumers, this vigorous price competition leads to significantly lower prices with a high level of service. When a consumer uses the Buy Box (as opposed to buying directly from a given seller), Amazon is offering an assurance that the price, shipping, cost, speed, and service associated with that seller and that good is the best of all possible options. Amazon is so confident with its algorithm that the assurance is backed up with a price guarantee; Amazon will match the price of relevant competitors and, until 2021, would foot the bill for any price drops that happened within seven days of purchase.
For Amazon, this commitment to low prices, high volume, and quality service leads to a sustained strong reputation. Since Amazon has an incentive to attract as many buyers and sellers as possible, to maximize its revenue through commissions on sales and advertising, the platform needs to carefully curate an environment that is conducive to repeated interactions. Buyers and sellers come together on the platform knowing that they are going to face the lowest prices, highest revenues, and highest level of service, because Amazon’s implicit price-parity clause (among other policies) aligns incentives in just the right way to optimize competition.
In some ways, an implicit price-parity clause is the Goldilocks of vertical price restraints.
Without a price-parity clause, there is little incentive to invest in the platform. Yes, there are low prices, but a race to the bottom may tend to lead to a single monopolistic platform. Additionally, consumer welfare is not maximized, since there are no services provided at an efficient level to bring additional value to buyers and sellers, leading to higher quality-adjusted prices.
Under a strict price-parity clause, there is a strong incentive to invest in the platform, but the nature of removing selling rights due to a violation can lead to reduced price competition. While the quality of service under this system may be higher, the quality-adjusted price may remain high, since there are lower levels of competition putting downward pressure on prices.
An implicit price-parity clause takes the best aspects of both no PPC and strict PPC policies but removes the worst. Sellers are free to set prices as they wish but have incentive to comply with the policy due to the additional benefits they may receive from the Buy Box. The platform has sufficient protection from free riding due to the revocation of certain services, leading to high levels of investment in efficient services that increase quality and decrease quality-adjusted prices. Finally, consumers benefit from the vigorous price competition for the Buy Box, leading to both lower prices and higher quality-adjusted prices when accounting for the efficient shipping and fulfilment undertaken by the platform.
Current attempts to find an antitrust violation associated with PPCs—both implicit and otherwise—are likely misplaced. Any evidence gathered on the market will probably show an increase in consumer welfare. The reduced search costs on the platforms alone could outweigh any alleged increase in price, not to mention the time costs associated with rapid processing and shipping.
Further, while there are many claims that PPC policies—and high commissions on sales—harm sellers, the alternative is even worse. The only credible counterfactual, given the widespread permeation of PPC policies, is that all sellers on the Internet only sell through their own website. Not only would this increase the cost for small businesses by a significant margin, but it would also likely drive many out of business. For sellers, the benefit of a platform is access to a multitude (in some cases, hundreds of millions) of potential consumers. To reach that number of consumers on its own, every single independent seller would have to employ a team of marketers that rivals a Fortune 500 company. Unfortunately, the value proposition is not on its side, and until it is, platforms are the only viable option.
Before labeling a specific contractual obligation as harmful and anticompetitive, we need to understand how it works in the real world. To this point, there has been insufficient discussion about the intra-platform competition that occurs because of price-parity clauses, and the potential consumer-welfare benefits associated with implicit price-parity clauses. Ideally, courts, regulators, and policymakers will take the time going forward to think deeply about the costs and benefits associated with the clauses and choose the least harmful approach to enforcement.
Ultimately, consumers are the ones who stand to lose the most as a result of overenforcement. As always, enforcers should keep in mind that it is the welfare of consumers, not competitors or platforms, that is the overarching concern of antitrust.
The Federal Trade Commission (FTC) appears committed—at least, for the moment—to a path of regulatory overreach. The commission’s Dec. 10 Statement of Regulatory Priorities (SRP) offers, in addition to a periodic review of existing rules and the status of proposed rules in the pipeline, a sneak preview of new “unfair methods of competition” (UMC) and “unfair or deceptive acts or practices” (UDAP) rulemakings that the body will consider developing next year.
In issuing its regulatory wish list, the FTC’s current “majority” (actually, only two of the four sitting members) pay no heed to spirited dissents by Commissioners Christine S. Wilson and Noah Phillips. Wilson’s well-reasoned statement particularly merits a close read, as it lays bare serious flaws with the wish list.
Highly problematic from the start, the SRP praises the July 2021 decision to streamline the commission’s consumer-protection rulemaking procedures, thus ignoring Wilson’s concerns (shared by Phillips) that “those changes fast-track regulation at the expense of public input, objectivity, and a full evidentiary record.”
The SRP also asserts that case-by-case antitrust enforcement “has proven insufficient, leaving behind a hyper-concentrated economy whose harms to American workers, consumers, and small businesses demand new approaches.” This attempt to justify new far-reaching rulemakings is made without a shred of substantiation, and without mention of solid economic research to the contrary.
Having failed to establish a broad economic predicate for novel rules, the SRP immediately turns to describing rulemaking possibilities.
It begins by describing a possible hybrid consumer-protection and competition rule focused on “abuses stemming from surveillance-based business models,” including possible lax security practices and discriminatory algorithms. The SRP claims, without citing any evidence, that such abuses are “particularly alarming.”
Next, the SRP sails further into uncharted FTC regulatory waters by stating that the commission will consider initiating a host of possible competition rulemakings that deal with “non-compete clauses, surveillance, the right to repair, pay-for-delay pharmaceutical agreements, unfair competition in online marketplaces, occupational licensing, real-estate listing and brokerage, and industry practices that substantially inhibit competition.”
The SRP also highlights two public petitions for competition rulemaking, dealing with (1) curtailing the use of non-compete clauses and (2) limiting exclusionary contracting by dominant firms. It adds that “the Commission also solicited additional examples of unfair terms” and is “carefully reviewing” thousands of public comments. As if that’s not enough, the SRP further notes that “[t]he Commission will explore the benefits and costs of these and other competition rulemaking ideas.”
This compilation of rulemaking desiderata is stunning in both its breadth and in its impracticality. Any efforts to follow through and actually put forth rulemakings along the lines suggested in the SRP would be harmful to producer and consumer welfare. Three points, in particular, are worth noting.
As I have previously explained, the legal justification for promulgating FTC UMC rules is highly problematic, to say the least. Moreover, the “streamlining” of consumer-protection rules under Section 18 of the FTC Act raises substantial Due Process problems. These difficulties are compounded by the reality that the commission lacks the administrative law resources to conduct the fulsome fact-finding proceedings and legal analyses that would provide credible record support for a raft of highly unprecedented rule proposals. As such, there is only a modest, at best, chance that most (if any) of the new rulemakings the FTC suggests would survive judicial review. Devoting substantial commission resources to novel and time-consuming rulemakings that will likely fail—resources that could be far better applied to more traditional law enforcement—would not appear to meet any rational cost-benefit test.
The suggested rulemakings involve categories of business conduct that have major efficiency justifications. Imposing inflexible one-size-fits-all rule provisions to limit such conduct would generate enormous error costs, and would doubtless deter a great deal of economically efficient behavior. Business innovations that enhance market offerings would slow, harming consumers and denying potential gains to producers’ product and service improvements. Relatedly, regulatory strictures on industry practices would discourage third-party entrepreneurial activities that could have generated new markets and product and service improvements. These problems would be compounded by the error costs that would inevitably attend the design of rules.
Novel rules would not be an effective means to address any FTC concerns about alleged dominant firm depredations. Indeed, to the contrary, the long and sordid history of regulatory manipulation by powerful firms in response to regulation suggests that new rules could create or enhance barriers to entry and raise less connected rivals’ costs. Such an outcome would, of course, harm consumers while reducing economic efficiency and innovation.
I have only scratched the surface of the problems raised by the SRP’s novel rule proposals. Fortunately, none of the troublesome rulemakings are yet under way. One may hope that the eventual confirmation of a fifth commissioner will lay the groundwork for a reconsideration of the wisdom of new and overly expansive rulemaking proceedings.
U.S. and European competition laws diverge in numerous ways that have important real-world effects. Understanding these differences is vital, particularly as lawmakers in the United States, and the rest of the world, consider adopting a more “European” approach to competition.
In broad terms, the European approach is more centralized and political. The European Commission’s Directorate General for Competition (DG Comp) has significant de facto discretion over how the law is enforced. This contrasts with the common law approach of the United States, in which courts elaborate upon open-ended statutes through an iterative process of case law. In other words, the European system was built from the top down, while U.S. antitrust relies on a bottom-up approach, derived from arguments made by litigants (including the government antitrust agencies) and defendants (usually businesses).
This procedural divergence has significant ramifications for substantive law. European competition law includes more provisions akin to de facto regulation. This is notably the case for the “abuse of dominance” standard, in which a “dominant” business can be prosecuted for “abusing” its position by charging high prices or refusing to deal with competitors. By contrast, the U.S. system places more emphasis on actual consumer outcomes, rather than the nature or “fairness” of an underlying practice.
The American system thus affords firms more leeway to exclude their rivals, so long as this entails superior benefits for consumers. This may make the U.S. system more hospitable to innovation, since there is no built-in regulation of conduct for innovators who acquire a successful market position fairly and through normal competition.
In this post, we discuss some key differences between the two systems—including in areas like predatory pricing and refusals to deal—as well as the discretionary power the European Commission enjoys under the European model.
U.S. antitrust is, by and large, unconcerned with companies charging what some might consider “excessive” prices. The late Associate Justice Antonin Scalia, writing for the Supreme Court majority in the 2003 case Verizon v. Trinko, observed that:
The mere possession of monopoly power, and the concomitant charging of monopoly prices, is not only not unlawful; it is an important element of the free-market system. The opportunity to charge monopoly prices—at least for a short period—is what attracts “business acumen” in the first place; it induces risk taking that produces innovation and economic growth.
This contrasts with European competition-law cases, where firms may be found to have infringed competition law because they charged excessive prices. As the European Court of Justice (ECJ) held in 1978’s United Brands case: “In this case charging a price which is excessive because it has no reasonable relation to the economic value of the product supplied would be such an abuse.”
While United Brands was the EU’s foundational case for excessive pricing, and the European Commission reiterated that these allegedly exploitative abuses were possible when it published its guidance paper on abuse of dominance cases in 2009, the commission had for some time demonstrated apparent disinterest in bringing such cases. In recent years, however, both the European Commission and some national authorities have shown renewed interest in excessive-pricing cases, most notably in the pharmaceutical sector.
European competition law also penalizes so-called “margin squeeze” abuses, in which a dominant upstream supplier charges a price to distributors that is too high for them to compete effectively with that same dominant firm downstream:
[I]t is for the referring court to examine, in essence, whether the pricing practice introduced by TeliaSonera is unfair in so far as it squeezes the margins of its competitors on the retail market for broadband connection services to end users. (Konkurrensverket v TeliaSonera Sverige, 2011)
As Scalia observed in Trinko, forcing firms to charge prices that are below a market’s natural equilibrium affects firms’ incentives to enter markets, notably with innovative products and more efficient means of production. But the problem is not just one of market entry and innovation. Also relevant is the degree to which competition authorities are competent to determine the “right” prices or margins.
As Friedrich Hayek demonstrated in his influential 1945 essay The Use of Knowledge in Society, economic agents use information gleaned from prices to guide their business decisions. It is this distributed activity of thousands or millions of economic actors that enables markets to put resources to their most valuable uses, thereby leading to more efficient societies. By comparison, the efforts of central regulators to set prices and margins is necessarily inferior; there is simply no reasonable way for competition regulators to make such judgments in a consistent and reliable manner.
Given the substantial risk that investigations into purportedly excessive prices will deter market entry, such investigations should be circumscribed. But the court’s precedents, with their myopic focus on ex post prices, do not impose such constraints on the commission. The temptation to “correct” high prices—especially in the politically contentious pharmaceutical industry—may thus induce economically unjustified and ultimately deleterious intervention.
Monopolists must charge prices that are below some measure of their incremental costs; and
There must be a realistic prospect that they will able to recoup these initial losses.
In laying out its approach to predatory pricing, the U.S. Supreme Court has identified the risk of false positives and the clear cost of such errors to consumers. It thus has particularly stressed the importance of the recoupment requirement. As the court found in 1993’s Brooke Group Ltd. v. Brown & Williamson Tobacco Corp., without recoupment, “predatory pricing produces lower aggregate prices in the market, and consumer welfare is enhanced.”
Accordingly, U.S. authorities must prove that there are constraints that prevent rival firms from entering the market after the predation scheme, or that the scheme itself would effectively foreclose rivals from entering the market in the first place. Otherwise, the predator would be undercut by competitors as soon as it attempts to recoup its losses by charging supra-competitive prices.
Without the strong likelihood that a monopolist will be able to recoup lost revenue from underpricing, the overwhelming weight of economic evidence (to say nothing of simple logic) is that predatory pricing is not a rational business strategy. Thus, apparent cases of predatory pricing are most likely not, in fact, predatory; deterring or punishing them would actually harm consumers.
[I]t does not follow from the case‑law of the Court that proof of the possibility of recoupment of losses suffered by the application, by an undertaking in a dominant position, of prices lower than a certain level of costs constitutes a necessary precondition to establishing that such a pricing policy is abusive. (France Télécom v Commission, 2009).
This aspect of the legal standard has no basis in economic theory or evidence—not even in the “strategic” economic theory that arguably challenges the dominant Chicago School understanding of predatory pricing. Indeed, strategic predatory pricing still requires some form of recoupment, and the refutation of any convincing business justification offered in response. For example, in a 2017 piece for the Antitrust Law Journal, Steven Salop lays out the “raising rivals’ costs” analysis of predation and notes that recoupment still occurs, just at the same time as predation:
[T]he anticompetitive conditional pricing practice does not involve discrete predatory and recoupment periods, as in the case of classical predatory pricing. Instead, the recoupment occurs simultaneously with the conduct. This is because the monopolist is able to maintain its current monopoly power through the exclusionary conduct.
The case of predatory pricing illustrates a crucial distinction between European and American competition law. The recoupment requirement embodied in American antitrust law serves to differentiate aggressive pricing behavior that improves consumer welfare—because it leads to overall price decreases—from predatory pricing that reduces welfare with higher prices. It is, in other words, entirely focused on the welfare of consumers.
The European approach, by contrast, reflects structuralist considerations far removed from a concern for consumer welfare. Its underlying fear is that dominant companies could use aggressive pricing to engender more concentrated markets. It is simply presumed that these more concentrated markets are invariably detrimental to consumers. Both the Tetra Pak and France Télécom cases offer clear illustrations of the ECJ’s reasoning on this point:
[I]t would not be appropriate, in the circumstances of the present case, to require in addition proof that Tetra Pak had a realistic chance of recouping its losses. It must be possible to penalize predatory pricing whenever there is a risk that competitors will be eliminated… The aim pursued, which is to maintain undistorted competition, rules out waiting until such a strategy leads to the actual elimination of competitors. (Tetra Pak v Commission, 1996).
[T]he lack of any possibility of recoupment of losses is not sufficient to prevent the undertaking concerned reinforcing its dominant position, in particular, following the withdrawal from the market of one or a number of its competitors, so that the degree of competition existing on the market, already weakened precisely because of the presence of the undertaking concerned, is further reduced and customers suffer loss as a result of the limitation of the choices available to them. (France Télécom v Commission, 2009).
In short, the European approach leaves less room to analyze the concrete effects of a given pricing scheme, leaving it more prone to false positives than the U.S. standard explicated in the Brooke Group decision. Worse still, the European approach ignores not only the benefits that consumers may derive from lower prices, but also the chilling effect that broad predatory pricing standards may exert on firms that would otherwise seek to use aggressive pricing schemes to attract consumers.
Refusals to Deal
U.S. and EU antitrust law also differ greatly when it comes to refusals to deal. While the United States has limited the ability of either enforcement authorities or rivals to bring such cases, EU competition law sets a far lower threshold for liability.
As Justice Scalia wrote in Trinko:
Aspen Skiing is at or near the outer boundary of §2 liability. The Court there found significance in the defendant’s decision to cease participation in a cooperative venture. The unilateral termination of a voluntary (and thus presumably profitable) course of dealing suggested a willingness to forsake short-term profits to achieve an anticompetitive end. (Verizon v Trinko, 2003.)
This highlights two key features of American antitrust law with regard to refusals to deal. To start, U.S. antitrust law generally does not apply the “essential facilities” doctrine.Accordingly, in the absence of exceptional facts, upstream monopolists are rarely required to supply their product to downstream rivals, even if that supply is “essential” for effective competition in the downstream market. Moreover, as Justice Scalia observed in Trinko, the Aspen Skiing case appears to concern only those limited instances where a firm’s refusal to deal stems from the termination of a preexisting and profitable business relationship.
While even this is not likely the economically appropriate limitation on liability, its impetus—ensuring that liability is found only in situations where procompetitive explanations for the challenged conduct are unlikely—is completely appropriate for a regime concerned with minimizing the cost to consumers of erroneous enforcement decisions.
In practice, however, all of these conditions have been relaxed significantly by EU courts and the commission’s decisional practice. This is best evidenced by the lower court’s Microsoft ruling where, as John Vickers notes:
[T]he Court found easily in favor of the Commission on the IMS Health criteria, which it interpreted surprisingly elastically, and without relying on the special factors emphasized by the Commission. For example, to meet the “new product” condition it was unnecessary to identify a particular new product… thwarted by the refusal to supply but sufficient merely to show limitation of technical development in terms of less incentive for competitors to innovate.
EU competition law thus shows far less concern for its potential chilling effect on firms’ investments than does U.S. antitrust law.
There are vast differences between U.S. and EU competition law relating to vertical restraints—that is, contractual restraints between firms that operate at different levels of the production process.
On the one hand, since the Supreme Court’s Leegin ruling in 2006, even price-related vertical restraints (such as resale price maintenance (RPM), under which a manufacturer can stipulate the prices at which retailers must sell its products) are assessed under the rule of reason in the United States. Some commentators have gone so far as to say that, in practice, U.S. case law on RPM almost amounts to per se legality.
Furthermore, in the Consten and Grundig ruling, the ECJ rejected the consequentialist, and economically grounded, principle that inter-brand competition is the appropriate framework to assess vertical restraints:
This treatment of vertical restrictions flies in the face of longstanding mainstream economic analysis of the subject. As Patrick Rey and Jean Tirole conclude:
Another major contribution of the earlier literature on vertical restraints is to have shown that per se illegality of such restraints has no economic foundations.
Unlike the EU, the U.S. Supreme Court in Leegintook account of the weight of the economic literature, and changed its approach to RPM to ensure that the law no longer simply precluded its arguable consumer benefits, writing: “Though each side of the debate can find sources to support its position, it suffices to say here that economics literature is replete with procompetitive justifications for a manufacturer’s use of resale price maintenance.” Further, the court found that the prior approach to resale price maintenance restraints “hinders competition and consumer welfare because manufacturers are forced to engage in second-best alternatives and because consumers are required to shoulder the increased expense of the inferior practices.”
The EU’s continued per se treatment of RPM, by contrast, strongly reflects its “precautionary principle” approach to antitrust. European regulators and courts readily condemn conduct that could conceivably injure consumers, even where such injury is, according to the best economic understanding, exceedingly unlikely. The U.S. approach, which rests on likelihood rather than mere possibility, is far less likely to condemn beneficial conduct erroneously.
Political Discretion in European Competition Law
EU competition law lacks a coherent analytical framework like that found in U.S. law’s reliance on the consumer welfare standard. The EU process is driven by a number of laterally equivalent—and sometimes mutually exclusive—goals, including industrial policy and the perceived need to counteract foreign state ownership and subsidies. Such a wide array of conflicting aims produces lack of clarity for firms seeking to conduct business. Moreover, the discretion that attends this fluid arrangement of goals yields an even larger problem.
The Microsoft case illustrates this problem well. In Microsoft, the commission could have chosen to base its decision on various potential objectives. It notably chose to base its findings on the fact that Microsoft’s behavior reduced “consumer choice.”
The commission, in fact, discounted arguments that economic efficiency may lead to consumer welfare gains, because it determined “consumer choice” among media players was more important:
Another argument relating to reduced transaction costs consists in saying that the economies made by a tied sale of two products saves resources otherwise spent for maintaining a separate distribution system for the second product. These economies would then be passed on to customers who could save costs related to a second purchasing act, including selection and installation of the product. Irrespective of the accuracy of the assumption that distributive efficiency gains are necessarily passed on to consumers, such savings cannot possibly outweigh the distortion of competition in this case. This is because distribution costs in software licensing are insignificant; a copy of a software programme can be duplicated and distributed at no substantial effort. In contrast, the importance of consumer choice and innovation regarding applications such as media players is high. (Commission Decision No. COMP. 37792 (Microsoft)).
It may be true that tying the products in question was unnecessary. But merely dismissing this decision because distribution costs are near-zero is hardly an analytically satisfactory response. There are many more costs involved in creating and distributing complementary software than those associated with hosting and downloading. The commission also simply asserts that consumer choice among some arbitrary number of competing products is necessarily a benefit. This, too, is not necessarily true, and the decision’s implication that any marginal increase in choice is more valuable than any gains from product design or innovation is analytically incoherent.
The Court of First Instance was only too happy to give the commission a pass in its breezy analysis; it saw no objection to these findings. With little substantive reasoning to support its findings, the court fully endorsed the commission’s assessment:
As the Commission correctly observes (see paragraph 1130 above), by such an argument Microsoft is in fact claiming that the integration of Windows Media Player in Windows and the marketing of Windows in that form alone lead to the de facto standardisation of the Windows Media Player platform, which has beneficial effects on the market. Although, generally, standardisation may effectively present certain advantages, it cannot be allowed to be imposed unilaterally by an undertaking in a dominant position by means of tying.
The Court further notes that it cannot be ruled out that third parties will not want the de facto standardisation advocated by Microsoft but will prefer it if different platforms continue to compete, on the ground that that will stimulate innovation between the various platforms. (Microsoft Corp. v Commission, 2007)
Pointing to these conflicting effects of Microsoft’s bundling decision, without weighing either, is a weak basis to uphold the commission’s decision that consumer choice outweighs the benefits of standardization. Moreover, actions undertaken by other firms to enhance consumer choice at the expense of standardization are, on these terms, potentially just as problematic. The dividing line becomes solely which theory the commission prefers to pursue.
What such a practice does is vest the commission with immense discretionary power. Any given case sets up a “heads, I win; tails, you lose” situation in which defendants are easily outflanked by a commission that can change the rules of its analysis as it sees fit. Defendants can play only the cards that they are dealt. Accordingly, Microsoft could not successfully challenge a conclusion that its behavior harmed consumers’ choice by arguing that it improved consumer welfare, on net.
By selecting, in this instance, “consumer choice” as the standard to be judged, the commission was able to evade the constraints that might have been imposed by a more robust welfare standard. Thus, the commission can essentially pick and choose the objectives that best serve its interests in each case. This vastly enlarges the scope of potential antitrust liability, while also substantially decreasing the ability of firms to predict when their behavior may be viewed as problematic. It leads to what, in U.S. courts, would be regarded as an untenable risk of false positives that chill innovative behavior and create nearly unwinnable battles for targeted firms.
The writing is on the wall for Big Tech: regulation is coming. At least, that is what the House Judiciary Committee’s report into competition in digital markets would like us to believe.
The Subcommittee’s Majority members, led by Rhode Island’s Rep. David Cicilline, are calling for a complete overhaul of America’s antitrust and regulatory apparatus. This would notably entail a break up of America’s largest tech firms, by prohibiting them from operating digital platforms and competing on them at the same time. Unfortunately, the report ignores the tremendous costs that such proposals would impose upon consumers and companies alike.
For several years now, there has been growing pushback against the perceived“unfairness” of America’s tech industry: of large tech platforms favoring their own products at the expense of entrepreneurs who use their platforms; of incumbents acquiring startups to quash competition; of platforms overcharging companies like Epic Games, Spotify, and the media, just because they can; and of tech companies that spy on their users and use that data to sell them things they don’t need.
But this portrayal of America’s tech industry obscures an inconvenient possibility: supposing that these perceived ills even occur, there is every chance that the House’s reforms would merely exacerbate the status quo. The House report gives short shrift to this eventuality, but it should not.
Over the last decade, the tech sector has been the crown jewel of America’s economy. And while firms like Amazon, Google, Facebook, and Apple, may have grown at a blistering pace, countless others have flourished in their wake.
Google and Apple’s app stores have given rise to a booming mobile software industry. Platforms like Youtube and Instagram have created new venues for advertisers and ushered in a new generation of entrepreneurs including influencers, podcasters, and marketing experts. Social media platforms like Facebook and Twitter have disintermediated the production of news media, allowing ever more people to share their ideas with the rest of the world (mostly for better, and sometimes for worse). Amazon has opened up new markets for thousands of retailers, some of which are now going public. The recent $3.4 billion Snowflake IPO may have been the biggest public offering of a tech firm no one has heard of.
The trillion dollar question is whether it is possible to regulate this thriving industry without stifling its unparalleled dynamism. If Rep. Cicilline’s House report is anything to go by, the answer is a resounding no.
Acquisition by a Big Tech firm is one way for startups to rapidly scale and reach a wider audience, while allowing early investors to make a quick exit. Self-preferencing can enable platforms to tailor their services to the needs and desires of users (Apple and Google’s pre-installed app suites are arguably what drive users to opt for their devices). Excluding bad apples from a platform is essential to gain users’ trust and build a strong reputation. Finally, in the online retail space, copying rival products via house brands provides consumers with competitively priced goods and helps new distributors enter the market.
All of these practices would either be heavily scrutinized or outright banned under the Subcommittee ’s proposed reforms. Beyond its direct impact on the quality of online goods and services, this huge shift would threaten the climate of permissionless innovation that has arguably been key to Silicon Valley’s success.
More fundamentally, these reforms would mostly protect certain privileged rivals at the expense of the wider industry. Take Apple’s App Store: Epic Games and others have complained about the 30% Commission charged by Apple for in-app purchases (as is standard throughout the industry). Yet, as things stand, roughly 80% of apps pay no commission at all. Tackling this 30% commission — for instance by allowing developers to bypass Apple’s in-app payment processing — would almost certainly result in larger fees for small developers. In short, regulation could significantly impede smaller firms.
Fortunately, there is another way. For decades, antitrust law — guided by the judge-made consumer welfare standard — has been the cornerstone of economic policy in the US. During that time, America built a tech industry that is the envy of the world. This should give pause to would-be reformers. There is a real chance overbearing regulation will permanently hamper America’s tech industry. With competition from China more intense than ever, it is a risk that the US cannot afford to take.
With the passing of Justice Ruth Bader Ginsburg, many have already noted her impact on the law as an advocate for gender equality and women’s rights, her importance as a role model for women, and her civility. Indeed, a key piece of her legacy is that she was a jurist in the classic sense of the word: she believed in using coherent legal reasoning to reach a result. And that meant Justice Ginsburg’s decisions sometimes cut against partisan political expectations.
This is clearly demonstrated in our little corner of the law: RBG frequently voted in the majority on antitrust cases in a manner that—to populist leftwing observers—would be surprising. Moreover, she authored an important case on price discrimination that likewise cuts against the expectation of populist antitrust critics and demonstrates her nuanced jurisprudence.
RBG’s record on the Court shows a respect for the evolving nature of antitrust law
In the absence of written opinions of her own, it is difficult to discern what was actually in Justice Ginsburg’s mind as she encountered antitrust issues. But, her voting record represents at least a willingness to approach antitrust in an apolitical manner.
Over the last several decades, Justice Ginsburg joined the Supreme Court majority in many cases dealing with a wide variety of antitrust issues, including the duty to deal doctrine, vertical restraints, joint ventures, and mergers. In many of these cases, RBG aligned herself with judgments of the type that the antitrust populists criticize.
The following are major consumer welfare standard cases that helped shape the current state of antitrust law in which she joined the majority or issued a concurrence:
Verizon Commc’ns Inc. v. Law Offices of Curtis Trinko, LLP, 540 U.S. 398 (2004) (unanimous opinion heightening the standard for finding a duty to deal)
Pacific Bell Tel. Co v. linkLine Commc’ns, Inc., 555 U.S. 438 (2009) (Justice Ginsburg joined the concurrence finding there was no “price squeeze” but suggesting the predatory pricing claim should be remanded)
Weyerhaeuser Co. v. Ross-Simmons Hardwood Lumber Co., Inc., 549 U.S. 312 (2007) (unanimous opinion finding predatory buying claims are still subject to the dangerous probability of recoupment test from Brooke Group)
Apple, Inc. v. Robert Pepper, 139 S.Ct. 1514 (2019) (part of majority written by Justice Kavanaugh finding that iPhone owners were direct purchasers under Illinois Brick that may sue Apple for alleged monopolization)
State Oil Co. v. Khan, 522 U.S. 3 (1997) (unanimous opinion overturning per se treatment of vertical maximum price fixing under Albrecht and applying rule of reason standard)
Texaco Inc. v. Dagher, 547 U.S. 1 (2006) (unanimous opinion finding it is not per se illegal under §1 of the Sherman Act for a lawful, economically integrated joint venture to set the prices at which it sells its products)
Illinois Tool Works Inc. v. Independent Ink, Inc., 547 U.S. 28 (2006) (unanimous opinion finding a patent does not necessarily confer market power upon the patentee, in all cases involving a tying arrangement, the plaintiff must prove that the defendant has market power in the tying product)
U.S. v. Baker Hughes, Inc., 908 F. 2d 981 (D.C. Cir. 1990) (unanimous opinion written by then-Judge Clarence Thomas while both were on the D.C. Circuit of Appeals finding against the government’s argument that the defendant in a Section 7 merger challenge can rebut a prima facie case only by a clear showing that entry into the market by competitors would be quick and effective)
Even where she joined the dissent in antitrust cases, she did so within the ambit of the consumer welfare standard. Thus, while she was part of the dissent in cases like Leegin Creative Leather Products, Inc. v. PSKS, Inc., 551 U.S. 877 (2007), Bell Atlantic Corp v. Twombly, 550 U.S. 544 (2007), and Ohio v. American Express Co., 138 S.Ct. 2274 (2018), she still left a legacy of supporting modern antitrust jurisprudence. In those cases, RBG simply had a different vision for how best to optimize consumer welfare.
Justice Ginsburg’s Volvo Opinion
The 2006 decision Volvo Trucks North America, Inc. v. Reeder-Simco GMC, Inc. was one of the few antitrust decisions authored by RBG and shows her appreciation for the consumer welfare standard. In particular, Justice Ginsburg affirmed the notion that antitrust law is designed to protect competition not competitors—a lesson that, as of late, needs to be refreshed.
Volvo, a 7-2 decision, dealt with the Robinson-Patman Act’s prohibition on price discimination. Reeder-Simco, a retail car dealer that sold Volvos, alleged that Volvo Inc. was violating the Robinson-Patman Act by selling cars to them at different prices than to other Volvo dealers.
The Robinson-Patman Act is frequently cited by antitrust populists as a way to return antitrust law to its former glory. A main argument of Lina Khan’s Amazon’s Antitrust Paradox was that the Chicago School had distorted the law on vertical restraints generally, and price discrimination in particular. One source of this distortion in Khan’s opinion has been the Supreme Court’s mishandling of the Robinson-Patman Act.
Yet, in Volvo we see Justice Ginsburg wrestling with the Robinson-Patman Act in a way to give effect to the law as written, which may run counter to some of the contemporary populist impulse to revise the Court’s interpretation of antitrust laws. Justice Ginsburg, citing Brown & Williamson, first noted that:
Mindful of the purposes of the Act and of the antitrust laws generally, we have explained that Robinson-Patman does not “ban all price differences charged to different purchasers of commodities of like grade and quality.”
Instead, the Robinson-Patman Act was aimed at a particular class of harms that Congress believed existed when large chain-stores were able to exert something like monopsony buying power. Moreover, Justice Ginsburg noted, the Act “proscribes ‘price discrimination only to the extent that it threatens to injure competition’[.]”
Under the Act, plaintiffs needed to demonstrate evidence of Volvo Inc. systematically treating plaintiffs as “disfavored” purchasers as against another set of “favored” purchasers. Instead, all plaintiffs could produce was anecdotal and inconsistent evidence of Volvo Inc. disfavoring them. Thus, the plaintiffs— and theoretically other similarly situated Volvo dealers— were in fact harmed in a sense by Volvo Inc. Yet, Justice Ginsburg was unwilling to rewrite the Act on Congress’s behalf to incorporate new harms later discovered (a fact which would not earn her accolades in populist circles these days).
Instead, Justice Ginsburg wrote that:
Interbrand competition, our opinions affirm, is the “primary concern of antitrust law.”… The Robinson-Patman Act signals no large departure from that main concern. Even if the Act’s text could be construed in the manner urged by [plaintiffs], we would resist interpretation geared more to the protection of existing competitors than to the stimulation of competition. In the case before us, there is no evidence that any favored purchaser possesses market power, the allegedly favored purchasers are dealers with little resemblance to large independent department stores or chain operations, and the supplier’s selective price discounting fosters competition among suppliers of different brands… By declining to extend Robinson-Patman’s governance to such cases, we continue to construe the Act “consistently with broader policies of the antitrust laws.” Brooke Group, 509 U.S., at 220… (cautioning against Robinson-Patman constructions that “extend beyond the prohibitions of the Act and, in doing so, help give rise to a price uniformity and rigidity in open conflict with the purposes of other antitrust legislation”).
Thus, interested in the soundness of her jurisprudence in the face of a well-developed body of antitrust law, Justice Ginsburg chose to continue to develop that body of law rather than engage in judicial policymaking in favor of a sympathetic plaintiff.
It must surely be tempting for a justice on the Court to adopt less principled approaches to the law in any given case, and it is equally as impressive that Justice Ginsburg consistently stuck to her principles. We can only hope her successor takes note of Justice Ginsburg’s example.
Apple’s legal team will be relieved that “you reap what you sow” is just a proverb. After a long-running antitrust battle against Qualcomm unsurprisingly ended in failure, Apple now faces antitrust accusations of its own (most notably from Epic Games). Somewhat paradoxically, this turn of events might cause Apple to see its previous defeat in a new light. Indeed, the well-established antitrust principles that scuppered Apple’s challenge against Qualcomm will now be the rock upon which it builds its legal defense.
But while Apple’s reversal of fortunes might seem anecdotal, it neatly illustrates a fundamental – and often overlooked – principle of antitrust policy: Antitrust law is about maximizing consumer welfare. Accordingly, the allocation of surplus between two companies is only incidentally relevant to antitrust proceedings, and it certainly is not a goal in and of itself. In other words, antitrust law is not about protecting David from Goliath.
Jockeying over the distribution of surplus
Or at least that is the theory. In practice, however, most antitrust cases are but small parts of much wider battles where corporations use courts and regulators in order to jockey for market position and/or tilt the distribution of surplus in their favor. The Microsoft competition suits brought by the DOJ and the European commission (in the EU and US) partly originated from complaints, and lobbying, by Sun Microsystems, Novell, and Netscape. Likewise, the European Commission’s case against Google was prompted by accusations from Microsoft and Oracle, among others. The European Intel case was initiated following a complaint by AMD. The list goes on.
The last couple of years have witnessed a proliferation of antitrust suits that are emblematic of this type of power tussle. For instance, Apple has been notoriously industrious in using the court system to lower the royalties that it pays to Qualcomm for LTE chips. One of the focal points of Apple’s discontent was Qualcomm’s policy of basing royalties on the end-price of devices (Qualcomm charged iPhone manufacturers a 5% royalty rate on their handset sales – and Apple received further rebates):
“The whole idea of a percentage of the cost of the phone didn’t make sense to us,” [Apple COO Jeff Williams] said. “It struck at our very core of fairness. At the time we were making something really really different.”
This pricing dispute not only gave rise to high-profile court cases, it also led Apple to lobby Standard Developing Organizations (“SDOs”) in a partly successful attempt to make them amend their patent policies, so as to prevent this type of pricing.
However, in a highly ironic turn of events, Apple now finds itself on the receiving end of strikingly similar allegations. At issue is the 30% commission that Apple charges for in app purchases on the iPhone and iPad. These “high” commissions led several companies to lodge complaints with competition authorities (Spotify and Facebook, in the EU) and file antitrust suits against Apple (Epic Games, in the US).
Of course, these complaints are couched in more sophisticated, and antitrust-relevant, reasoning. But that doesn’t alter the fact that these disputes are ultimately driven by firms trying to tilt the allocation of surplus in their favor (for a more detailed explanation, see Apple and Qualcomm).
Pushback from courts: The Qualcomm case
Against this backdrop, a string of recent cases sends a clear message to would-be plaintiffs: antitrust courts will not be drawn into rent allocation disputes that have no bearing on consumer welfare.
The best example of this judicial trend is Qualcomm’s victory before the United States Court of Appeal for the 9th Circuit. The case centered on the royalties that Qualcomm charged to OEMs for its Standard Essential Patents (SEPs). Both the district court and the FTC found that Qualcomm had deployed a series of tactics (rebates, refusals to deal, etc) that enabled it to circumvent its FRAND pledges.
However, the Court of Appeal was not convinced. It failed to find any consumer harm, or recognizable antitrust infringement. Instead, it held that the dispute at hand was essentially a matter of contract law:
To the extent Qualcomm has breached any of its FRAND commitments, a conclusion we need not and do not reach, the remedy for such a breach lies in contract and patent law.
This is not surprising. From the outset, numerous critics pointed that the case lied well beyond the narrow confines of antitrust law. The scathing dissenting statement written by Commissioner Maureen Olhaussen is revealing:
[I]n the Commission’s 2-1 decision to sue Qualcomm, I face an extraordinary situation: an enforcement action based on a flawed legal theory (including a standalone Section 5 count) that lacks economic and evidentiary support, that was brought on the eve of a new presidential administration, and that, by its mere issuance, will undermine U.S. intellectual property rights in Asia and worldwide. These extreme circumstances compel me to voice my objections.
In reaching its conclusion, the Court notably rejected the notion that SEP royalties should be systematically based upon the “Smallest Saleable Patent Practicing Unit” (or SSPPU):
Even if we accept that the modem chip in a cellphone is the cellphone’s SSPPU, the district court’s analysis is still fundamentally flawed. No court has held that the SSPPU concept is a per se rule for “reasonable royalty” calculations; instead, the concept is used as a tool in jury cases to minimize potential jury confusion when the jury is weighing complex expert testimony about patent damages.
Similarly, it saw no objection to Qualcomm licensing its technology at the OEM level (rather than the component level):
Qualcomm’s rationale for “switching” to OEM-level licensing was not “to sacrifice short-term benefitsin order to obtain higher profits in the long run from the exclusion of competition,” the second element of the Aspen Skiing exception. Aerotec Int’l, 836 F.3d at 1184 (internal quotation marks and citation omitted). Instead, Qualcomm responded to the change in patent-exhaustion law by choosing the path that was “far more lucrative,” both in the short term and the long term, regardless of any impacts on competition.
Finally, the Court concluded that a firm breaching its FRAND pledges did not automatically amount to anticompetitive conduct:
We decline to adopt a theory of antitrust liability that would presume anticompetitive conduct any time a company could not prove that the “fair value” of its SEP portfolios corresponds to the prices the market appears willing to pay for those SEPs in the form of licensing royalty rates.
Taken together, these findings paint a very clear picture. The Qualcomm Court repeatedly rejected the radical idea that US antitrust law should concern itself with the prices charged by monopolists — as opposed to practices that allow firms to illegally acquire or maintain a monopoly position. The words of Learned Hand and those of Antonin Scalia (respectively, below) loom large:
The successful competitor, having been urged to compete, must not be turned upon when he wins.
To safeguard the incentive to innovate, the possession of monopoly power will not be found unlawful unless it is accompanied by an element of anticompetitive conduct.
Other courts (both in the US and abroad) have reached similar conclusions
For instance, a district court in Texas dismissed a suit brought by Continental Automotive Systems (which supplies electronic systems to the automotive industry) against a group of SEP holders.
Continental challenged the patent holders’ decision to license their technology at the vehicle rather than component level (the allegation is very similar to the FTC’s complaint that Qualcomm licensed its SEPs at the OEM, rather than chipset level). However, following a forceful intervention by the DOJ, the Court ultimately held that the facts alleged by Continental were not indicative of antitrust injury. It thus dismissed the case.
Likewise, within weeks of the Qualcomm and Continental decisions, the UK Supreme court also ruled in favor of SEP holders. In its Unwired Planet ruling, the Court concluded that discriminatory licenses did not automatically infringe competition law (even though they might breach a firm’s contractual obligations):
[I]t cannot be said that there is any general presumption that differential pricing for licensees is problematic in terms of the public or private interests at stake.
In reaching this conclusion, the UK Supreme Court emphasized that the determination of whether licenses were FRAND, or not, was first and foremost a matter of contract law. In the case at hand, the most important guide to making this determination were the internal rules of the relevant SDO (as opposed to competition case law):
Since price discrimination is the norm as a matter of licensing practice and may promote objectives which the ETSI regime is intended to promote (such as innovation and consumer welfare), it would have required far clearer language in the ETSI FRAND undertaking to indicate an intention to impose the more strict, “hard-edged” non-discrimination obligation for which Huawei contends. Further, in view of the prevalence of competition laws in the major economies around the world, it is to be expected that any anti-competitive effects from differential pricing would be most appropriately addressed by those laws.
All of this ultimately led the Court to rule in favor of Unwired Planet, thus dismissing Huawei’s claims that it had infringed competition law by breaching its FRAND pledges.
In short, courts and antitrust authorities on both sides of the Atlantic have repeatedly, and unambiguously, concluded that pricing disputes (albeit in the specific context of technological standards) are generally a matter of contract law. Antitrust/competition law intercedes only when unfair/excessive/discriminatory prices are both caused by anticompetitive behavior and result in anticompetitive injury.
Apple’s Loss is… Apple’s gain.
Readers might wonder how the above cases relate to Apple’s app store. But, on closer inspection the parallels are numerous. As explained above, courts have repeatedly stressed that antitrust enforcement should not concern itself with the allocation of surplus between commercial partners. Yet that is precisely what Epic Game’s suit against Apple is all about.
Indeed, Epic’s central claim is not that it is somehow foreclosed from Apple’s App Store (for example, because Apple might have agreed to exclusively distribute the games of one of Epic’s rivals). Instead, all of its objections are down to the fact that it would like to access Apple’s store under more favorable terms:
Apple’s conduct denies developers the choice of how best to distribute their apps. Developers are barred from reaching over one billion iOS users unless they go through Apple’s App Store, and on Apple’s terms. […]
Thus, developers are dependent on Apple’s noblesse oblige, as Apple may deny access to the App Store, change the terms of access, or alter the tax it imposes on developers, all in its sole discretion and on the commercially devastating threat of the developer losing access to the entire iOS userbase. […]
By imposing its 30% tax, Apple necessarily forces developers to suffer lower profits, reduce the quantity or quality of their apps, raise prices to consumers, or some combination of the three.
And the parallels with the Qualcomm litigation do not stop there. Epic is effectively asking courts to make Apple monetize its platform at a different level than the one that it chose to maximize its profits (no more monetization at the app store level). Similarly, Epic Games omits any suggestion of profit sacrifice on the part of Apple — even though it is a critical element of most unilateral conduct theories of harm. Finally, Epic is challenging conduct that is both the industry norm and emerged in a highly competitive setting.
In short, all of Epic’s allegations are about monopoly prices, not monopoly maintenance or monopolization. Accordingly, just as the SEP cases discussed above were plainly beyond the outer bounds of antitrust enforcement (something that the DOJ repeatedly stressed with regard to the Qualcomm case), so too is the current wave of antitrust litigation against Apple. When all is said and done, Apple might thus be relieved that Qualcomm was victorious in their antitrust confrontation. Indeed, the legal principles that caused its demise against Qualcomm are precisely the ones that will, likely, enable it to prevail against Epic Games.
The goal of US antitrust law is to ensure that competition continues to produce positive results for consumers and the economy in general. We published a letter co-signed by twenty three of the U.S.’s leading economists, legal scholars and practitioners, including one winner of the Nobel Prize in economics (full list of signatories here), to exactly that effect urging the House Judiciary Committee on the State of Antitrust Law to reject calls for radical upheaval of antitrust law that would, among other things, undermine the independence and neutrality of US antitrust law.
A critical part of maintaining independence and neutrality in the administration of antitrust is ensuring that it is insulated from politics. Unfortunately, this view is under attack from all sides. The President sees widespread misconduct among US tech firms that he believes are controlled by the “radical left” and is, apparently, happy to use whatever tools are at hand to chasten them.
Meanwhile, Senator Klobuchar has claimed, without any real evidence, that the mooted Uber/Grubhub merger is simply about monopolisation of the market, and not, for example, related to the huge changes that businesses like this are facing because of the Covid shutdown.
Both of these statements challenge the principle that the rule of law depends on being politically neutral, including in antitrust.
Our letter, contrary to the claims made by President Trump, Sen. Klobuchar and some of the claims made to the Committee, asserts that the evidence and economic theory is clear: existing antitrust law is doing a good job of promoting competition and consumer welfare in digital markets and the economy more broadly, and concludes that the Committee should focus on reforms that improve antitrust at the margin, not changes that throw out decades of practice and precedent.
The letter argues that:
The American economy—including the digital sector—is competitive, innovative, and serves consumers well, contrary to how it is sometimes portrayed in the public debate.
Structural changes in the economy have resulted from increased competition, and increases in national concentration have generally happened because competition at the local level has intensified and local concentration has fallen.
Lax antitrust enforcement has not allowed systematic increases in market power, and the evidence simply does not support out the idea that antitrust enforcement has weakened in recent decades.
Existing antitrust law is adequate for protecting competition in the modern economy, and built up through years of careful case-by-case scrutiny. Calls to throw out decades of precedent to achieve an antitrust “Year Zero” would throw away a huge body of learning and deliberation.
History teaches that discarding the modern approach to antitrust would harm consumers, and return to a situation where per se rules prohibited the use of economic analysis and fact-based defences of business practices.
Common sense reforms should be pursued to improve antitrust enforcement, and the reforms proposed in the letter could help to improve competition and consumer outcomes in the United States without overturning the whole system.
The reforms suggested include measures to increase transparency of the DoJ and FTC, greater scope for antitrust challenges against state-sponsored monopolies, stronger penalties for criminal cartel conduct, and more agency resources being made available to protect workers from anti-competitive wage-fixing agreements between businesses. These are suggestions for the House Committee to consider and are not supported by all the letter’s signatories.
Some of the arguments in the letter are set out in greater detail in the ICLE’s own submission to the Committee, which goes into detail about the nature of competition in modern digital markets and in traditional markets that have been changed because of the adoption of digital technologies.
A spate of recent newspaperinvestigations and commentary have focused on Apple allegedly discriminating against rivals in the App Store. The underlying assumption is that Apple, as a vertically integrated entity that operates both a platform for third-party apps and also makes it own apps, is acting nefariously whenever it “discriminates” against rival apps through prioritization, enters into popular app markets, or charges a “tax” or “surcharge” on rival apps.
For most people, the word discrimination has a pejorative connotation of animus based upon prejudice: racism, sexism, homophobia. One of the definitions you will find in the dictionary reflects this. But another definition is a lot less charged: the act of making or perceiving a difference. (This is what people mean when they say that a person has a discriminating palate, or a discriminating taste in music, for example.)
In economics, discrimination can be a positive attribute. For instance, effective price discrimination can result in wealthier consumers paying a higher price than less well off consumers for the same product or service, and it can ensure that products and services are in fact available for less-wealthy consumers in the first place. That would seem to be a socially desirable outcome (although under some circumstances, perfect price discrimination can be socially undesirable).
Antitrust law rightly condemns conduct only when it harms competition and not simply when it harms a competitor. This is because it is competition that enhances consumer welfare, not the presence or absence of a competitor — or, indeed, the profitability of competitors. The difficult task for antitrust enforcers is to determine when a vertically integrated firm with “market power” in an upstream market is able to effectively discriminate against rivals in a downstream market in a way that harms consumers.
Even assuming the claims of critics are true, alleged discrimination by Apple against competitor apps in the App Store may harm those competitors, but it doesn’t necessarily harm either competition or consumer welfare.
The three potential antitrust issues facing Apple can be summarized as:
There is nothing new here economically. All three issues are analogous to claims against other tech companies. But, as I detail below, the evidence to establish any of these claims at best represents harm to competitors, and fails to establish any harm to the competitive process or to consumer welfare.
Antitrust enforcers have rejected similar prioritization claims against Google. For instance, rivals like Microsoft and Yelp have funded attacks against Google, arguing the search engine is harming competition by prioritizing its own services in its product search results over competitors. As ICLE and affiliated scholars have pointed out, though, there is nothing inherently harmful to consumers about such prioritization. There are also numerous benefits in platforms directly answering queries, even if it ends up directing users to platform-owned products or services.
there is good reason to believe that Google’s decision to favor its own content over that of other sites is procompetitive. Beyond determining and ensuring relevance, Google surely has the prerogative to vigorously compete and to decide how to design its products to keep up with a changing market. In this case, that means designing, developing, and offering its own content to partially displace the original “ten blue links” design of its search results page and offer its own answers to users’ queries in its stead.
Here, the antitrust case against Apple for prioritization is similarly flawed. For example, as noted in a recent article in the WSJ, users often use the App Store search in order to find apps they already have installed:
“Apple customers have a very strong connection to our products and many of them use search as a way to find and open their apps,” Apple said in a statement. “This customer usage is the reason Apple has strong rankings in search, and it’s the same reason Uber, Microsoft and so many others often have high rankings as well.”
If a substantial portion of searches within the App Store are for apps already on the iPhone, then showing the Apple app near the top of the search results could easily be consumer welfare-enhancing.
Apple is also theoretically leaving money on the table by prioritizing its (already pre-loaded) apps over third party apps. If its algorithm promotes its own apps over those that may earn it a 30% fee — additional revenue — the prioritization couldn’t plausibly be characterized as a “benefit” to Apple. Apple is ultimately in the business of selling hardware. Losing customers of the iPhone or iPad by prioritizing apps consumers want less would not be a winning business strategy.
Further, it stands to reason that those who use an iPhone may have a preference for Apple apps. Such consumers would be naturally better served by seeing Apple’s apps prioritized over third-party developer apps. And if consumers do not prefer Apple’s apps, rival apps are merely seconds of scrolling away.
Moreover, all of the above assumes that Apple is engaging in sufficiently pervasive discrimination through prioritzation to have a major impact on the app ecosystem. But substantial evidence exists that the universe of searches for which Apple’s algorithm prioritizes Apple apps is small. For instance, most searches are for branded apps already known by the searcher:
Keywords: how many are brands?
Top 500: 58.4%
Top 400: 60.75%
Top 300: 68.33%
Top 200: 80.5%
Top 100: 86%
Top 50: 90%
Top 25: 92%
Top 10: 100%
This is corroborated by data from the NYT’s own study, which suggests Apple prioritized its own apps first in only roughly 1% of the overall keywords queried:
Whatever the precise extent of increase in prioritization, it seems like any claims of harm are undermined by the reality that almost 99% of App Store results don’t list Apple apps first.
The fact is, very few keyword searches are even allegedly affected by prioritization. And the algorithm is often adjusting to searches for apps already pre-loaded on the device. Under these circumstances, it is very difficult to conclude consumers are being harmed by prioritization in search results of the App Store.
The issue of Apple building apps to compete with popular apps in its marketplace is similar to complaints about Amazon creating its own brands to compete with what is sold by third parties on its platform. For instance, as reported multiple times in the Washington Post:
Clue, a popular app that women use to track their periods, recently rocketed to the top of the App Store charts. But the app’s future is now in jeopardy as Apple incorporates period and fertility tracking features into its own free Health app, which comes preinstalled on every device. Clue makes money by selling subscriptions and services in its free app.
However, there is nothing inherently anticompetitive about retailers selling their own brands. If anything, entry into the market is normally procompetitive. As Randy Picker recently noted with respect to similar claims against Amazon:
The heart of this dynamic isn’t new. Sears started its catalogue business in 1888 and then started using the Craftsman and Kenmore brands as in-house brands in 1927. Sears was acquiring inventory from third parties and obviously knew exactly which ones were selling well and presumably made decisions about which markets to enter and which to stay out of based on that information. Walmart, the nation’s largest retailer, has a number of well-known private brands and firms negotiating with Walmart know full well that Walmart can enter their markets, subject of course to otherwise applicable restraints on entry such as intellectual property laws… I think that is possible to tease out advantages that a platform has regarding inventory experimentation. It can outsource some of those costs to third parties, though sophisticated third parties should understand where they can and cannot have a sustainable advantage given Amazon’s ability to move to build-or-bought first-party inventory. We have entire bodies of law— copyright, patent, trademark and more—that limit the ability of competitors to appropriate works, inventions and symbols. Those legal systems draw very carefully considered lines regarding permitted and forbidden uses. And antitrust law generally favors entry into markets and doesn’t look to create barriers that block firms, large or small, from entering new markets.
If anything, Apple is in an even better position than Amazon. Apple invests revenue in app development, not because the apps themselves generate revenue, but because it wants people to use the hardware, i.e. the iPhones, iPads, and Apple Watches. The reason Apple created an App Store in the first place is because this allows Apple to make more money from selling devices. In order to promote security on those devices, Apple institutes rules for the App Store, but it ultimately decides whether to create its own apps and provide access to other apps based upon its desire to maximize the value of the device. If Apple chooses to create free apps in order to improve iOS for users and sell more hardware, it is not a harm to competition.
Apple’s ability to enter into popular app markets should not be constrained unless it can be shown that by giving consumers another choice, consumers are harmed. As noted above, most searches in the App Store are for branded apps to begin with. If consumers already know what they want in an app, it hardly seems harmful for Apple to offer — and promote — its own, additional version as well.
In the case of Clue, if Apple creates a free health app, it may hurt sales for Clue. But it doesn’t hurt consumers who want the functionality and would prefer to get it from Apple for free. This sort of product evolution is not harming competition, but enhancing it. And, it must be noted, Apple doesn’t exclude Clue from its devices. If, indeed, Clue offers a better product, or one that some users prefer, they remain able to find it and use it.
The so-called App Store “Tax”
The argument that Apple has an unfair competitive advantage over rival apps which have to pay commissions to Apple to be on the App Store (a “tax” or “surcharge”) has similarly produced no evidence of harm to consumers.
The WSJ and NYT stories give the impression that Apple uses its commissions on third party apps to reduce competition for its own apps. However, this is inconsistent with how Apple charges its commission.
For instance, Apple doesn’t charge commissions on free apps, which make up 84% of the App Store. Apple also doesn’t charge commissions for apps that are free to download but are supported by advertising — including hugely popular apps like Yelp, Buzzfeed, Instagram, Pinterest, Twitter, and Facebook. Even apps which are “readers” where users purchase or subscribe to content outside the app but use the app to access that content are not subject to commissions, like Spotify, Netflix, Amazon Kindle, and Audible. Apps for “physical goods and services” — like Amazon, Airbnb, Lyft, Target, and Uber — are also free to download and are not subject to commissions. The class of apps which are subject to a 30% commission include:
paid apps (like many games),
free apps that then have in-app purchases (other games and services like Skype and TikTok),
and free apps with digital subscriptions (Pandora, Hulu, which have 30% commission first year and then 15% in subsequent years), and
cross-platform apps (Dropbox, Hulu, and Minecraft) which allow for digital goods and services to be purchased in-app and Apple collects commission on in-app sales, but not sales from other platforms.
Despite protestations to the contrary, these costs are hardly unreasonable: third party apps receive the benefit not only of being in Apple’s App Store (without which they wouldn’t have any opportunity to earn revenue from sales on Apple’s platform), but also of the features and other investments Apple continues to pour into its platform — investments that make the ecosystem better for consumers and app developers alike. There is enormous value to the platform Apple has invested in, and a great deal of it is willingly shared with developers and consumers. It does not make it anticompetitive to ask those who use the platform to pay for it.
In fact, these benefits are probably even more important for smaller developers rather than bigger ones who can invest in the necessary back end to reach consumers without the App Store, like Netflix, Spotify, and Amazon Kindle. For apps without brand reputation (and giant marketing budgets), the ability for consumers to trust that downloading the app will not lead to the installation of malware (as often occurs when downloading from the web) is surely essential to small developers’ ability to compete. The App Store offers this.
Despite the claims made in Spotify’s complaint against Apple, Apple doesn’t have a duty to deal with app developers. Indeed, Apple could theoretically fill the App Store with only apps that it developed itself, like Apple Music. Instead, Apple has opted for a platform business model, which entails the creation of a new outlet for others’ innovation and offerings. This is pro-consumer in that it created an entire marketplace that consumers probably didn’t even know they wanted — and certainly had no means to obtain — until it existed. Spotify, which out-competed iTunes to the point that Apple had to go back to the drawing board and create Apple Music, cannot realistically complain that Apple’s entry into music streaming is harmful to competition. Rather, it is precisely what vigorous competition looks like: the creation of more product innovation, lower prices, and arguably (at least for some) higher quality.
Interestingly, Spotify is not even subject to the App Store commission. Instead, Spotify offers a work-around to iPhone users to obtain its premium version without ads on iOS. What Spotify actually desires is the ability to sell premium subscriptions to Apple device users without paying anything above the de minimis up-front cost to Apple for the creation and maintenance of the App Store. It is unclear how many potential Spotify users are affected by the inability to directly buy the ad-free version since Spotify discontinued offering it within the App Store. But, whatever the potential harm to Spotify itself, there’s little reason to think consumers or competition bear any of it.
There is no evidence that Apple’s alleged “discrimination” against rival apps harms consumers. Indeed, the opposite would seem to be the case. The regulatory discrimination against successful tech platforms like Apple and the App Store is far more harmful to consumers.
Last week, the DOJ cleared the merger of CVS Health and Aetna (conditional on Aetna’s divesting its Medicare Part D business), a merger that, as I previously noted at a House Judiciary hearing, “presents a creative effort by two of the most well-informed and successful industry participants to try something new to reform a troubled system.” (My full testimony is available here).
Of course it’s always possible that the experiment will fail — that the merger won’t “revolutioniz[e] the consumer health care experience” in the way that CVS and Aetna are hoping. But it’s a low (antitrust) risk effort to address some of the challenges confronting the healthcare industry — and apparently the DOJ agrees.
I discuss the weakness of the antitrust arguments against the merger at length in my testimony. What I particularly want to draw attention to here is how this merger — like many vertical mergers — represents business model innovation by incumbents.
The CVS/Aetna merger is just one part of a growing private-sector movement in the healthcare industry to adopt new (mostly) vertical arrangements that seek to move beyond some of the structural inefficiencies that have plagued healthcare in the United States since World War II. Indeed, ambitious and interesting as it is, the merger arises amidst a veritable wave of innovative, vertical healthcare mergers and other efforts to integrate the healthcare services supply chain in novel ways.
These sorts of efforts (and the current DOJ’s apparent support for them) should be applauded and encouraged. I need not rehash the economic literature on vertical restraints here (see, e.g., Lafontaine & Slade, etc.). But especially where government interventions have already impaired the efficient workings of a market (as they surely have, in spades, in healthcare), it is important not to compound the error by trying to micromanage private efforts to restructure around those constraints.
Current trends in private-sector-driven healthcare reform
In the past, the most significant healthcare industry mergers have largely been horizontal (i.e., between two insurance providers, or two hospitals) or “traditional” business model mergers for the industry (i.e., vertical mergers aimed at building out managed care organizations). This pattern suggests a sort of fealty to the status quo, with insurers interested primarily in expanding their insurance business or providers interested in expanding their capacity to provide medical services.
Today’s health industry mergers and ventures seem more frequently to be different in character, and they portend an industry-wide experiment in the provision of vertically integrated healthcare that we should enthusiastically welcome.
But a number of other recent arrangements and business models center around relationships among drug manufacturers, pharmacies, and PBMs, and these tend to minimize the role of insurers. While not a “vertical” arrangement, per se, Walmart’s generic drug program, for example, offers $4 prescriptions to customers regardless of insurance (the typical generic drug copay for patients covered by employer-provided health insurance is $11), and Walmart does not seek or receive reimbursement from health plans for these drugs. It’s been offering this program since 2006, but in 2016 it entered into a joint buying arrangement with McKesson, a pharmaceutical wholesaler (itself vertically integrated with Rexall pharmacies), to negotiate lower prices. The idea, presumably, is that Walmart will entice consumers to its stores with the lure of low-priced generic prescriptions in the hope that they will buy other items while they’re there. That prospect presumably makes it worthwhile to route around insurers and PBMs, and their reimbursements.
Meanwhile, both Express Scripts and CVS Health (two of the country’s largest PBMs) have made moves toward direct-to-consumer sales themselves, establishing pricing for a small number of drugs independently of health plans and often in partnership with drug makers directly.
Also apparently focused on disrupting traditional drug distribution arrangements, Amazon has recently purchased online pharmacy PillPack (out from under Walmart, as it happens), and with it received pharmacy licenses in 49 states. The move introduces a significant new integrated distributor/retailer, and puts competitive pressure on other retailers and distributors and potentially insurers and PBMs, as well.
Whatever its role in driving the CVS/Aetna merger (and I believe it is smaller than many reports like to suggest), Amazon’s moves in this area demonstrate the fluid nature of the market, and the opportunities for a wide range of firms to create efficiencies in the market and to lower prices.
At the same time, the differences between Amazon and CVS/Aetna highlight the scope of product and service differentiation that should contribute to the ongoing competitiveness of these markets following mergers like this one.
While Amazon inarguably excels at logistics and the routinizing of “back office” functions, it seems unlikely for the foreseeable future to be able to offer (or to be interested in offering) a patient interface that can rival the service offerings of a brick-and-mortar CVS pharmacy combined with an outpatient clinic and its staff and bolstered by the capabilities of an insurer like Aetna. To be sure, online sales and fulfillment may put price pressure on important, largely mechanical functions, but, like much technology, it is first and foremost a complement to services offered by humans, rather than a substitute. (In this regard it is worth noting that McKesson has long been offering Amazon-like logistics support for both online and brick-and-mortar pharmacies. “‘To some extent, we were Amazon before it was cool to be Amazon,’ McKesson CEO John Hammergren said” on a recent earnings call).
Other efforts focus on integrating insurance and treatment functions or on bringing together other, disparate pieces of the healthcare industry in interesting ways — all seemingly aimed at finding innovative, private solutions to solve some of the costly complexities that plague the healthcare market.
Walmart, for example, announced a deal with Quest Diagnostics last year to experiment with offering diagnostic testing services and potentially other basic healthcare services inside of some Walmart stores. While such an arrangement may simply be a means of making doctor-prescribed diagnostic tests more convenient, it may also suggest an effort to expand the availability of direct-to-consumer (patient-initiated) testing (currently offered by Quest in Missouri and Colorado) in states that allow it. A partnership with Walmart to market and oversee such services has the potential to dramatically expand their use.
Capping off (for now) a buying frenzy in recent years that included the purchase of PBM, CatamaranRx, UnitedHealth is seeking approval from the FTC for the proposed merger of its Optum unit with the DaVita Medical Group — a move that would significantly expand UnitedHealth’s ability to offer medical services (including urgent care, outpatient surgeries, and health clinic services), give it a significant group of doctors’ clinics throughout the U.S., and turn UnitedHealth into the largest employer of doctors in the country. But of course this isn’t a traditional managed care merger — it represents a significant bet on the decentralized, ambulatory care model that has been slowly replacing significant parts of the traditional, hospital-centric care model for some time now.
And, perhaps most interestingly, some recent moves are bringing together drug manufacturers and diagnostic and care providers in innovative ways. Swiss pharmaceutical company, Roche, announced recently that “it would buy the rest of U.S. cancer data company Flatiron Health for $1.9 billion to speed development of cancer medicines and support its efforts to price them based on how well they work.” Not only is the deal intended to improve Roche’s drug development process by integrating patient data, it is also aimed at accommodating efforts to shift the pricing of drugs, like the pricing of medical services generally, toward an outcome-based model.
Similarly interesting, and in a related vein, early this year a group of hospital systems including Intermountain Health, Ascension, and Trinity Health announced plans to begin manufacturing generic prescription drugs. This development further reflects the perceived benefits of vertical integration in healthcare markets, and the move toward creative solutions to the unique complexity of coordinating the many interrelated layers of healthcare provision. In this case,
[t]he nascent venture proposes a private solution to ensure contestability in the generic drug market and consequently overcome the failures of contracting [in the supply and distribution of generics]…. The nascent venture, however it solves these challenges and resolves other choices, will have important implications for the prices and availability of generic drugs in the US.
More enforcement decisions like CVS/Aetna and Bayer/Monsanto; fewer like AT&T/Time Warner
In the face of all this disruption, it’s difficult to credit anticompetitive fears like those expressed by the AMA in opposing the CVS-Aetna merger and a recent CEA report on pharmaceutical pricing, both of which are premised on the assumption that drug distribution is unavoidably dominated by a few PBMs in a well-defined, highly concentrated market. Creative arrangements like the CVS-Aetna merger and the initiatives described above (among a host of others) indicate an ease of entry, the fluidity of traditional markets, and a degree of business model innovation that suggest a great deal more competitiveness than static PBM market numbers would suggest.
This kind of incumbent innovation through vertical restructuring is an increasingly important theme in antitrust, and efforts to tar such transactions with purported evidence of static market dominance is simply misguided.
While the current DOJ’s misguided (and, remarkably, continuing) attempt to stop the AT&T/Time Warner merger is an aberrant step in the wrong direction, the leadership at the Antitrust Division generally seems to get it. Indeed, in spite of strident calls for stepped-up enforcement in the always-controversial ag-biotech industry, the DOJ recently approved three vertical ag-biotech mergers in fairly rapid succession.
As I noted in a discussion of those ag-biotech mergers, but equally applicable here, regulatory humility should continue to carry the day when it comes to structural innovation by incumbent firms:
But it is also important to remember that innovation comes from within incumbent firms, as well, and, often, that the overall level of innovation in an industry may be increased by the presence of large firms with economies of scope and scale.
In sum, and to paraphrase Olympia Dukakis’ character in Moonstruck: “what [we] don’t know about [the relationship between innovation and market structure] is a lot.”
What we do know, however, is that superficial, concentration-based approaches to antitrust analysis will likely overweight presumed foreclosure effects and underweight innovation effects.
We shouldn’t fetishize entry, or access, or head-to-head competition over innovation, especially where consumer welfare may be significantly improved by a reduction in the former in order to get more of the latter.
Jon Jacobson in his initial posting claims that it would be “hard to find an easier case” than Apple e-Books, and David Balto and Chris Sagers seem to agree. I suppose that would be true if, as Richard Epstein claims, “the general view is that horizontal arrangements are per se unlawful.”
That, however, is not the law, and has not been since William Howard Taft’s 1898 opinion in Addyston Pipe. In his opinion, borrowing from an earlier dissenting opinion by Justice Edward Douglas White in Trans-Missouri Freight Ass’n, Taft surveyed the common law of restraints of trade. He showed that it was already well established in 1898 that even horizontal restraints of trade were not necessarily unlawful if they were ancillary to some legitimate business transaction or arrangement.
Building on that opinion, the Supreme Court, in what is now a long series of decisions beginning with BMIand continuing through Actavis, has made it perfectly clear that even a horizontal restraint cannot be condemned as per se unlawful unless it is a “naked” restraint that, on its face, could not serve any “plausible” procompetitive business purpose. That there are many horizontal arrangements that are not per se unlawful is shown by the DOJ’s own Competitor Collaboration Guidelines, which provide many examples, including joint sales agents.
As I suggested in my initial posting, Apple may have dug its own grave by devoting so much effort to denying the obvious—namely, that it had helped facilitate a horizontal agreement among the publishers, just as the lower courts found. Apple might have had more success had it instead spent more time explaining why it needed a horizontal agreement among the publishers as to the terms on which they would designate Apple as their common sales agent in order for it to successfully enter the e-book market, and why those terms did not amount to a naked horizontal price fixing agreement. Had it done so, Apple likely could have made a stronger case for why a rule of reason review was necessary than it did by trying to fit a square peg into a round hole by insisting that its agreements were purely vertical.
In Philip K. Dick’s famous short story that inspired the Total Recall movies, a company called REKAL could implant “extra-factual memories” into the minds of anyone. That technology may be fictional, but the Apple eBooks case suggests that the ability to insert extra-factual memories into the courts already exists.
The Department of Justice, the Second Circuit majority, and even the Solicitor General’s most recent filing opposing cert. all assert that the large publishing houses invented a new “agency” business model as a way to provide leverage to raise prices, and then pushed it on Apple.
The basis of the government’s claim is that Apple had “just two months to develop a business model” once Steve Jobs had approved the “iBookstore” ebook marketplace. The government implies that Apple was a company so obviously old, inept, and out-of-ideas that it had to rely on the big publishers for an innovative business model to help it enter the market. And the court bought it “wholesale,” as it were. (Describing Apple’s “a-ha” moment when it decided to try the agency model, the court notes, “[n]otably, the possibility of an agency arrangement was first mentioned by Hachette and HarperCollins as a way ‘to fix Amazon pricing.'”)
The claim has no basis in reality, of course. Apple had embraced the agency model long before, as it sought to disrupt the way software was distributed. In just the year prior, Apple had successfully launched the app store, a ground-breaking example of the agency model that started with only 500 apps but had grown to more than 100,000 in 12 months. This was an explosion of competition — remember, nearly all of those apps represented a new publisher: 100,000 new potential competitors.
So why would the government create such an absurd fiction?
Because without that fiction, Apple moves from “conspirator” to “competitor.” Instead of anticompetitive scourge, it becomes a disruptor, bringing new competition to an existing market with a single dominant player (Amazon Kindle), and shattering the control held by the existing publishing industry.
More than a decade before the App Store, software developers had observed that the wholesale model for distribution created tremendous barriers for entry, increased expense, and incredible delays in getting to market. Developers were beholden to a tiny number of physical stores that sold shelf space and required kickbacks (known as spiffs). Today, there are legions of developers producing App content, and developers have earned more than $10 billion in sales through Apple’s App Store. Anyone with an App idea or, moreover, an idea for a book, can take it straight to consumers rather than having to convince a publisher, wholesaler or retailer that it is worth purchasing and marketing.
This disintermediation is of critical benefit to consumers — and yet the Second Circuit missed it. The court chose instead to focus on the claim that if the horizontal competitors conspired, then Apple, which had approached the publishers to ensure initial content would exist at time of launch, was complicit. Somehow Apple could be a horizontal competitor even through it wasn’t part of the publishing industry!
There was another significant consumer and competitive benefit from Apple’s entry into the market and the shift to the agency model. Prior to the Apple iPad, truly interactive books were mostly science fiction, and the few pilot projects that existed had little consumer traction. Amazon, which held 90% of the electronic books market, chose to focus on creating technology that mirrored the characteristics of reading on paper: a black and white screen and the barest of annotation capabilities.
When the iPad was released, Apple sent up a signal flag that interactivity would be a focal point of the technology by rolling out tools that would allow developers to access the iPad’s accelerometer and touch sensitive screen to create an immersive experience. The result? Products that help children with learning disabilities, and competitors fighting back with improved products.
Finally, Apple’s impact on consumers and competition was profound. Amazon switched, as well, and the nascent world of self publishing exploded. Books like Hugh Howey’s Wool series (soon to be a major motion picture) were released as smaller chunks for only 99 cents. And “the Martian,” which is up for several Academy Awards found a home and an audience long before any major publisher came calling.
We all need to avoid the trip to REKAL and remember what life was like before the advent of the agency model. Because if the Second Circuit decision is allowed to stand, the implication for any outside competitor looking to disrupt a market is as grim and barren as the surface of Mars.