CompetitionThe cost of errors in antitrust

Jonathan Baker earned a J.D. from Harvard and a Ph.D. (in Economics) from Stanford, served as Chief Economist at the Federal Communications Commission, and now teaches antitrust and economic regulation at American University’s Washington College of Law.

He’s also written an important article on how an obsession with avoiding “false positives” in antitrust litigation systematically biases courts against cases unless they involve price-fixing or market division, horizontal mergers resulting in duopoly or monopoly, or a narrow range of exclusionary conduct.

Baker’s article — Taking the Error Out of “Error Cost” Analysis: What’s Wrong with Antitrust’s Right, 80 Antitrust L.J. 1 (2015) (SSRN version available here) — starts with he observation that the Chicago School‘s critique of antitrust law produced some healthy changes in doctrine since the 1970s. But he quickly points out that “the receptivity of the Supreme Court to conservative antitrust arguments” has generated “what are likely the most favorable antitrust rules for defendants in at least seven decades”. Id. at 37. Those rules make winning a Sherman Act claim that challenges most efforts by single firms to thwart rivals extraordinarily difficult.

More conservative reform?

Although Baker believes that the pendulum has swung too far in the conservative direction, he doesn’t focus his argument on showing mistakes in existing precedent. He instead looks to the future, stressing that Chicagoans and their acolytes “call for additional reforms to limit the application of antitrust rules” and “often justify their proposals by invoking error cost analysis.” Id. The problem with doubling down on the Chicago approach arises from the fact, Baker urges, that the conservatives make assumptions that “systematically overstate the incidence and significance of false positives, understate the incidence and significance of false negatives, and understate the net benefits of various rules by overstating their costs.” Id.

“False positive” refers to “finding violations [of antitrust law] when the conduct did not harm competition”. Id. at 7. Conservatives highlight the “social costs” of allowing false positives but minimize the social costs of permitting “false negatives” — finding no violations when the behavior did injure competition.

The heart of the article reviews five “erroneous assumptions about markets” and four “erroneous assumptions about institutions”. Id at 8 & 23. I’ll summarize Baker’s views on each below.

Wrong ideas about markets

1. Markets self-correct through entry. Barriers to entry and the ingenuity of incumbents often make entry or the threat of entry by new competitors ineffective. Monopolies and cartels often persist for a decade or more “even when antitrust enforcement cuts short their duration.” Id. at 11.

2. Markets self-correct because oligopolies compete and cartels are unstable. Studies show that oligopolies compete as little as possible, and “many cartels have been long-lasting.” Id. at 13.

3. Markets perform well because monopolies innovate. The argument “ignores several important ways that greater competition enhances incentives to innovate.” Id. at 14. The spur of competition — not monopoly profits — maximizes innovation.

4. Monopolists cannot obtain more than a single monopoly profit. The single-monopoly-profit thesis holds only if the monopolist “has literally no rivals and faces no potential entrants” and if “buyers have literally no alternative to the monopolist’s products”. Id. at 16. Otherwise, a monopolist can and will use its market power to deter or crush fringe competitors and upstarts.

5. Business practices prevalent in competitive markets cannot harm competition. Tactics that may produce benefits in a competitive market may do harm in the hands of a firm or group of firms that wield market power. Id. at 20-22

Mistakes about courts and agencies

1. Erroneous judicial precedents are more durable than the exercise of market power. Cartels keep their potency as long as or longer than the (small number of) bad decisions that conservatives point to. Id. at 23-25.

2. Antitrust institutions are manipulated by complaining competitors.  Conservatives offer no reason to think that small upstarts fare better in enlisting the support of agencies than large incumbents do or that courts do not sniff out unworthy cases by whiny competitors. Id. at 25-29.

3. Courts cannot tell whether exclusionary conduct harms competition or promotes it. Courts do fine with figuring out if collusive behavior injures competition and can do just as well with exclusionary conduct. The remedy in any event involves making clearer rules instead of abandoning the effort to protect against exclusionary strategies and tactics that reduce competition. Id. at 29-32.

4. Courts cannot control the costs of private litigation. The Supreme Court made antitrust cases — especially class actions — harder to bring out of “concern with the transaction costs of private litigation” but “adopted these measures with little evidence that lower courts are unable to manage private litigation, and without attempting to show that the benefits, if any, that society derives from reduced transaction costs exceed the social costs of restricting both private and public (federal and state) antitrust enforcement.” Id. at 33.

Does antitrust enforcement justify its costs?

Baker believes that “[t]he benefits of antitrust enforcement as a whole almost surely exceed costs by a wide margin, creating a strong presumption in favor of robust enforcement.” Id. at 36. He estimates that “the benefits are, at a minimum, 50 times the costs. Id. at 36 n.158 (citing Jonathan B. Baker, The Case for Antitrust Enforcement, J. Econ. Persp. at 43-45 (Autumn 2003)).

Baker makes a powerful case for questioning the current orthodoxy around Sherman Act cases involving exclusionary conduct. Let’s hope a good many judges, lawyers, and economists read his compelling critique.

Texas Bar Top 10 Badge.pdf