Abolition of Antitrust

Gary Hull

• Publisher: Routledge
• Year: 2017
• ISBN:
  9781351534338
• Edition: 1
• Topic: Jura
• Subtopic: Wettbewerbsrecht

The Abolition of Antitrust asserts that antitrust laws-on economic, legal, and moral grounds-are bad, and provides convincing evidence supporting arguments for their total abolition. Every year, new antitrust prosecutions arise in the U.S. courts, as in the cases against 3M and Visa/MasterCard, as well as a number of ongoing antitrust cases, such as those involving Microsoft and college football's use of the Bowl Championship Series (BCS). Gary Hull and the contributing authors show that these cases-as well as the Sherman Antitrust Act itself-are based on an erroneous interpretation of the history of American business, premised on bad economics. They equivocate between economic and political power-the power to produce versus the power to use physical force. For Hull, antitrust prosecutions are based on a horrible moral inversion: that it is acceptable to sacrifi ce America's best producers. The contributors explain how key antitrust ideas, for instance, "monopoly, " "restraint of trade, " and "anticompetitive behavior, " have been used to justify prosecution, and then make clear why those ideas are false. They sketch the historical, legal, economic, and moral reasoning that gave rise to the passage and growth of antitrust legislation. All of the theoretical points in this volume are woven around a number of fascinating cases, both historical and current-including the Charles River Bridge, Alcoa, General Electric, and Kellogg/General Mills. Designed for the uninformed but educated layman, The Abolition of Antitrust makes positive arguments in defense of wealth creation, business, and profi t, explains the proper role of government, and offers a rational view of the meaning of contract and economic freedom. AldineTransaction www.transactionpub.com ISBN: 978-1-4128-0502-5 Library of Congress: 2004058124 Printed in the U.S.A. Cover design by Ellen F. Kane "The essays in this book present a sustained economic, historical, moral, and legal broadside against the various federal statutes known as antitrust doctrine. They explode the cherished myths underlying the antitrust laws, and expose their intellectual fountainhead in a morality of self-sacrifice that is incompatible with individual rights, free enterprise, and objective law. With the publication of this text, businessmen, lawyers, economists, policymakers, legislators, and judges finally have access to a systemic critique of the antitrust laws. From here on, if antitrust continues to violate the rights of businessmen and to ravage the American economy, it is not for lack of knowing how and why."-Adam Mossoff, assistant professor of law, Michigan State University College of Law.

Part One
The Economics of Antitrust

1
Barriers to Entry

Dominick T. Armentano^*

The logic of free-market monopoly theory is said to be enhanced by a discussion of non-legal barriers to entry. Although open markets contain no legal barriers by definition, certain non-legal obstacles are alleged to exist that may hamper the competitive process and allow leading firms to misallocate resources. Presumably, the application of antitrust policy against these barriers increases economic efficiency and consumer welfare.

Product Differentiation

Antitrust enthusiasts argue that the extra costs associated with product differentiation tend to restrict market entry.¹ Firms that would like to enter, say, the automobile industry, understand that they must incur such costs as retooling for annual body-style changes, and these costs can deter entry. If the product were homogeneous, especially homogeneous over time, it would be far cheaper to enter the auto market and, accordingly, there would be more rivals.

Differentiation is also alleged to be an element of monopoly power. Firms that successfully differentiate their products are said to be able to raise their prices above the level possible in a purely competitive market.² Thus, although there may well be intense rivalry among sellers in markets where products are differentiated, the competition is said to be “imperfect,” and resources are still said to be somewhat misallocated.

These arguments are unconvincing. If products have been successfully differentiated—that is, if consumers have expressed a willingness to cover the costs associated with differentiation—then the difficulty of entering markets and competing with established firms relates directly to those revealed consumer preferences. If buyers of automobiles have traditionally supported annual body-style changes and punished firms that did not make them, then clearly it is consumer preferences that have helped limit rivalrous entry into the automobile industry.

While this development might be a problem for particular would-be suppliers, it is not a problem for consumer welfare generally or for efficient resource allocation. Efficient resource use implies that resources should be put to the uses that consumers, not economists, value most highly. If consumers support annual body-style changes, that is the use to which resources should be put. Potential or existing competitors can always attempt to convince consumers to support less product differentiation—at a lower price—or perhaps no year-to-year differentiation at all. Alternatively, potential entrants can always attempt to discover cheaper methods of production and marketing that would allow rivalry with established firms. But, in the absence of such preference changes or discoveries, potential competitors are indeed restricted from production by the performance of rivals and the revealed preferences of consumers. These restrictions are not, however, barriers to entry that can rationalize any antitrust intervention.

From the perspective of antitrust critics, it is entirely appropriate that efficiency and revealed preferences should limit entry and exclude potential rivals, for resources are scarce and have alternative uses. The economic problem is to ensure that scarce resources are put to their highest consumer-valued use and reallocated from less valuable to more valuable uses, which is precisely the social function of the competitive market process. Competition is not restricted by efficiency and consumer choice.

The essential confusion—and it recurs often in antitrust economics—is over the meaning of the term “competition.” If competition means the purely competitive equilibrium, then competition can be inappropriately restricted by product differentiation and producer efficiency. But, as already argued, pure competition cannot be an appropriate welfare standard in antitrust: it is a static equilibrium condition with no competitive process. It assumes homogeneous products and preferences, the existence of suppliers already employing the best technology, and the absence of error or surprise. Resources are efficiently allocated in such a world, but only because the model simply assumes the conditions required for an equilibrium.

The actual competitive process is one of discovery and adjustment; it is not a static state of affairs.³ The economic problem is not one of allocating resources efficiently when everything is known and constant, but of learning how to allocate and reallocate resources in an uncertain and changing world. Competition is an entrepreneurial process of discovering what, in fact, consumers do prefer and which firms, employing which technologies and strategies, will be able to supply those products. The competitive process is not restricted by the failure of specific products or firms; nor is it limited because efficiency and preferences prevent some would-be rivals from competing. Those who say they are preserving competition by preserving specific competitors or by subsidizing new firms to enter markets do not really understand the nature of a competitive market process.

Some critics of differentiation assert that some product differentiation is essentially frivolous, involving no real improvements.⁴ But how are real improvements to be distinguished from cosmetic changes, if not by the revealed preferences of consumers? Critics are entitled to their opinions on these issues, but consumers in a free market have the final word on whether differentiation is worth it or not. If consumers believe that an “improvement” is frivolous, they will not be willing to pay much for it. On the other hand, if they are willing to pay substantially more for some differentiation, then it is demonstrably not frivolous and the resources it uses are not misallocated.

Firms can, of course, make errors and miscalculate consumer preferences. They can underestimate or overestimate the value that consumers are likely to place on any differentiation or innovation. They can expend resources in the present only to discover in the future that they cannot recover those expenses. In such situations, resources have in some sense been wasted.

But this use of the term “waste” must be put in the context of the economic problem that is to be solved in a market economy. Part of the problem is that firms attempt to coordinate their supply decisions with the preferences of consumers before consumers actually reveal their preferences in the marketplace. Firms must correctly anticipate the revealed preferences of both consumers and competitors, and this anticipatory process is filled with risk and uncertainty. Importantly, the problem of plan coordination involves not only price coordination, which most primary economics texts dwell on exclusively, but also product coordination: the product must be precisely the one that consumers prefer. Thus, both price and product must be coordinated before any market can be efficient from a consumer perspective.

Many discussions of competition trivialize this coordination problem by assuming that perfect information concerning consumer tastes and prices already exists or that the market has somehow already selected some standardized product for sale. But this assumption is unrealistic. In actual market situations, firms discover product prices and preferences only through a working out of the competitive market process itself. While there are very strong economic incentives for firms to anticipate consumer preferences and the plans of competitors correctly, resource-allocation mistakes—given the fundamental uncertainty involved—are inevitable. Markets cannot be expected to work perfectly, to realize perfect equilibrium or coordination. All that can be reasonably expected is that the free-market process will tend toward an efficient solution by continually creating information and incentives to reallocate resources from less valuable to more valuable consumer-determined ends.

The Ready-to-Eat Cereals Case

The infamous Federal Trade Commission case against the leading ready-to-eat (RTE) cereal companies is an excellent example of the antitrust confusion over product differentiation, consumer preferences, and barriers to entry.

In 1972, the FTC brought suit against Kellogg, General Foods, General Mills, and Quaker Oats, arguing that the firms’ 90-percent market share constituted monopolization in the RTE cereals industry.⁵ The leading companies competed by proliferating new brands of cereal and variations of old brands; they rarely engaged in direct price competition. According to the FTC, the market-share position of the firms was a direct function of this “wasteful” brand proliferation, which had the effect of severely restricting new-firm entry and competition. The costs and risks associated with developing, producing, and marketing a new cereal brand were generally prohibitive for new companies. In addition, the lack of price competition allowed the leading companies to earn excessive profits over a long period of time. The solution, according to the FTC, was to break up the leading companies and force them to license their popular trademark brand names to would-be rivals.

The FTC was no doubt correct in concluding that the high risk of failure in producing new cereal brands limited market entry. It was also true that certain economies associated with size, especially in advertising, tended to restrict the number of new competitors. But it is not true that any of this was regrettable from any consumer perspective, or that the competitive process was endangered, or that these restrictions could justify any remedial antitrust activity.

Efficiency in the use of resources, including efficiency in the specific types of products produced, can always restrict the number of competitors. As has been argued, the very purpose of the competitive market process is to discover which products consumers prefer, for whatever reason, and then to produce and sell those products to consumers. The fact that leading firms with long experience and economies of scale may be able to accomplish this task more efficiently than smaller or newer organizations is irrelevant from a consumer perspective: consumer welfare is not injured thereby and resources are not misallocated.

The issues can be put another way. If cereal brand proliferation had been unsuccessful from a consumer viewpoint, the larger companies would have lost market share to other companies and would no longer have been the leading firms in the industry. If cereal costs for the larger companies had been higher—not lower—than their would-be competitors, the larger firms could have lost market share to smaller, more efficient companies and, again, would not have remained leading firms. In short, if the larger RTE firms had not been efficient and successful with their products, they could not have remained the leaders in their industry for decades.

The fact that the leading companies had introduced dozens of new cereal brands successfully in an uncertain market setting was direct evidence of sustained efficiency in the use of resources, not evidence of monopoly power that misallocated economic resources. Consumers were not coerced into purchasing new cereal brands; they were invited to try them. Consumers were not overcharged for differentiated cereal products; they willingly paid more for new brands of cereal they perceived to be more valuable than old brands. Rival manufacturers or would-be competitors who believed this behavior to be irrational on the part of consumers were always free to test their theory of efficient cereal making. If consumers really preferred less differentiated cereal brands at lower prices, then the newer or smaller firms would have been able to compete easily.

Actually, the FTC’s successful attempt in the late 1970s to drop the Quaker Oats Company from the original antitrust complaint undermined its entire theory concerning barriers to entry in this case. Quaker Oats had, in fact, accomplished precisely what the FTC had argued was nearly impossible: it had innovated important new products and brands and had increased its market share in an industry dominated by larger companies. Quaker Oats Company had developed a line of so-called natural cereals and persuaded consumers to purchase them, thereby breaking the tight grip of the leading companies on the market. Despite the Quaker Oats episode, the FTC continued to pursue the case—only to lose in 1981 before an administrative judge and then before the full FTC in 1982.

Advertising

Advertising is likewise often criticized as a barrier to entry that limits competition and causes resources to be misallocated. In the academic economist’s perfectly competitive model, there is no advertising since products are assumed to be homogeneous and market information on products and prices is assumed to be perfect. In the real world of differentiated products and ignorance, however, economists have had to account for the appearance of product advertising. Some conclude that advertising allows firms to differentiate products and then charge higher prices for them, and that large advertising budgets can enable large companies to sustain their market share at the expense of smaller rivals and potential entrants. Others argue that, in the absence of perfect information, adv...