For most of the post-World War II period, on nearly a global basis, there has been a conflict of economic idealogies between those who support extensive central planning and government ownership (or strict control) of most business enterprises and those, on the other hand, who support a market system with private ownership of the vast majority of business entities and limited central planning. The central planners are now in full retreat as market system principles are being applied, even in those countries which formerly had highly socialist economic structures.

Today, many developing countries are encouraging entrepreneurship with selected sectors of their economies and are welcoming multinational companies to invest within their borders. "Privatization" has become a comprehensive goal with a variety of government owned businesses, from airlines to power generation plants, transferred from public to private industry. Both developed and developing countries are experiencing this trend toward private sector ownership and control of formerly state operated entities.

For a market system to function in a manner that maximizes its benefits for the most people, the markets must operate efficiently. Prices are kept low because those offering the same products or services actively compete with one another. If producers can fix prices, or engage in other types of cartel behavior, then prices will be set at artificially high levels (i.e., above the market price). If a monopolist abuses its market position by non-market related means to keep potential competitors out of the market (e.g., coercing lending institutions not to provide capital to potential competitors), then it is able to exploit its market position to the detriment of the economy as a whole, as well as to the detriment of individuals, by earning monopoly profits (i.e., above the market price) and stifling innovation. Competition laws are directed at ensuring that the market system works efficiently without private artificial barriers and constraints. Such laws are directed at protecting the competitive system rather than protecting individual enterprises within that system.

There are four key social goals that a properly functioning market system can achieve:

1. Efficiently Distributing Goods and Services. In a competitive system, the market price will equal the cost of providing the goods or services, including a return to the owners. Resources are allocated in response to individual demands and costs are kept down. Lower costs in producing a country's goods will make them more desirable for export. Market systems can rapidly respond to changes in demand and quickly adopt production, product and distribution innovations.

2. Encouraging Self-Sufficiency. Market systems provide the opportunity for people to form their own businesses and take advantage of perceived needs. Citizens can better their own circumstances by devising methods to sell products or services more cheaply than others, or by offering new products or services.

3. Freeing Government Resources for Alternative Uses. In general, government-operated enterprises tend to be over-staffed and inefficiently operated using resources in a wasteful manner. They lack market incentives to cut costs. Private capital, replacing government resources, can free those government resources for non-economic investments such as schools and public health.

4. Promoting Respect for the Rule of Law. Too often, when the government owns the major enterprises in a country, significant segments of the population use extra-legal means to gain an economic advantage. For example, needed equipment, fertilizer or seed may be acquired by a farmer through bribing a government official, or through smuggling, rather than simply purchasing it at the lowest price on the market. When governments control prices or production and attempt to limit price fluctuations or the ability to produce, black markets flourish and other unlawful and undesirable activity tends to increase. If goods and services are provided in a market context, the market, rather than government officials, control the price. This eliminates the motivation to bribe government officials and black markets disappear. The citizenry may deal in ordinary goods and services without breaking the law.

Competition laws further social goals which are recognized as desirable in market systems and, therefore, can be important in privatization efforts through the development of private enterprise.

Laws designed to preserve competitive conditions are not a modern concept. The English had such statutes as early as 1624. They have long been a part of the common law tradition. Competition laws in the United States (where they are called "antitrust laws") began in 1890. The European Union's founding document, the Treaty of Rome, effective in 1958, includes strong provisions dealing with restraints of trade and market concentration.

To ensure that markets work (i.e., efficient distribution of goods and services), there needs to be a scheme of law designed to effectively prevent private actions which would otherwise exploit market positions. To ensure properly functioning markets, vigorous government enforcement, combined with the ability of private parties who feel they are the victims of anti-competitive behavior to obtain relief are needed.

To assume the proper functioning of markets, governments often adopt competition laws designed to limit concerted actions in private markets and to restrain or even prevent monopolies.

Top of page

II. CONCERTED ACTIONS

Most competition law systems ban horizontal concerted action which could have the effect of fixing prices, dividing markets or boycotting customers or suppliers. Such concerted activity is known as cartel behavior. "Horizontal" refers to enterprises which directly compete with one another, or easily could so compete, by offering the same or similar goods or services, in the same market. For example, if four independently owned gasoline stations were located at the intersection of two highways, they would be horizontal competitors with one another. If there were several automobile dealerships in the same city, the dealerships would be horizontal competitors.

The scope of a competitive market can be as small as a neighborhood or city. A competitive market can also be as large as an entire country, or indeed, the entire world. Even with only one automobile manufacturer in a country, horizontal competition could result from automobiles manufactured elsewhere. In competition law issues, the geographic scope of effective competition for a particular product or service can be important. The four gasoline stations at a crossroads, mentioned earlier, directly compete with each other. However, if they were located in Mexico, they would not compete with gasoline stations located in Japan. Automobiles produced and sold in Mexico may well face competition for sales in Mexico from automobiles made in Japan and other countries because automobile production is often directed at worldwide markets. Accordingly, an agreement among several automobile manufacturers in a variety of countries not to market in the national territory of each would be a horizontal restraint. It would be harmful to the consumers of the various countries because of artificial market restraints affecting those desiring to purchase automobiles.

A. Price Fixing

Horizontal price fixing is usually viewed as one of the most destructive market practices. Collusively fixed prices are most often set at a higher than market rate, forcing purchasers to spend more than they otherwise would, or to forego acquiring the price-fixed item.

Price fixing can take place in a very overt manner with competitors all meeting together and deciding what price each will charge. This is usually referred to as "naked price fixing." In such a practice, the conspiring competitors often try to impose some method of enforcing the agreement in case certain of the conspirators "cheat" by lowering prices for selected customers.

Price fixing among competitors can also be more subtle than agreements to fix a precise price. Any agreements which stabilize or limit the ability of market participants to change prices may be destructive to competitive markets. For example, an agreement to change prices only after a 30-day advance public notice is given would prohibit immediate price changes and inhibit any price reductions. With prior notice from rivals, competitors could then lower their prices before customers changed to less expensive alternatives.

Agreements to set a minimum or "floor" price is a form of price fixing. It means that prices can go up but not down. Another form of more subtle price fixing is when sellers each agree to publish a price list and not deviate from it. This means large volume purchasers will not receive discounts and prices tend to become inflexible.

Agreements not to extend credit can be a form of price fixing. Particular customers may elect to purchase from a certain supplier because the supplier gives customers a long time to pay. A customer may be able to resell the commodity and pay its supplier from the resell proceeds. If competitors agree not to extend credit, then this element of competition is eliminated, and the market restrained.

B. Market Division

Markets can be restricted by limiting the number of competitors within that market. Competitors can engage in market restrictive concerted behavior by agreeing to partition a market among them. For example, each may be assigned a particular geographic area with the understanding that they will not market in one another's assigned territory. A market may also be divided on a customer basis with the competitors allocating particular customers among themselves.

C. Concerted Boycotts

In a market system, each enterprise should be free to decide with whom it will or will not deal. However, group efforts not to deal distort the benefits of a market system by substituting collective decisionmaking for unilateral action. Often group decisions not to deal are used to punish someone in the market chain for taking pro-competitive action, such as reducing prices.

For example, a gasoline service station not affiliated with a particular gasoline supplier may routinely purchase gasoline in bulk on a "spot" market basis from a variety of sellers with surpluses. That service station may then sell the gasoline at retail for less than other service stations sell gasoline. However, suppose the major suppliers of gasoline could form a "group boycott" and agree that none of them would make bulk sales to the independent service station. The independent station's supply of gasoline would be eliminated. The group boycott would thus stifle overall price competition by signalling to other independent service stations that their supplies may be reduced if they sell below the prevailing retail price.

D. Other Concerted Restraints

Competitors may agree to limit other practices that would otherwise provide market benefits. Limits on product research may save on expenditures, but they also retard technical advances. Technical advances, as well as other types of innovation, may give a particular competitor a market advantage through developing and marketing a better or less expensive product. When television sets advanced from vacuum tubes to transistors, prices dropped and the need for repairs decreased. Competition spurred technical innovation that lowered prices and improved the product.

Agreements to limit advertising may inhibit competition among competitors. For many products, low prices being offered by some sellers may not benefit consumers if they are not informed of the lower prices. Limits on hours of operation is another form of concerted action that can have an adverse affect on consumer choices. Convenience may be desired by those purchasing particular goods and services and thus becomes a competitive force.

E. Matters of Proof

Most competition law systems recognize that, in reacting to market forces, sellers in the market will often adopt similar strategies without colluding. Returning to those four independently owned gasoline stations discussed earlier, they may each charge the same price without colluding. If one were to lower its price in hope of attracting more business, the other three may quickly match the lower price. In such a situation the initial price cutter would not gain additional business because its market share would remain the same. However, its sales would be at a lower unit price and its total revenue reduced. Consequently, there is no market incentive for one participant to lower prices and thus prices remain the same for each, not because of collusion but in response to anticipated market reaction. This is known as "conscious parallelism" and is not condemned by competition laws. Thus, competition laws generally require a need to demonstrate that the parties are engaged in actual collusion, not just conscious parallelism.

F. Vertical Restraints

Thus far we have been examining horizontal restraint issues -- collusive action among direct competitors. Competition law may also address "vertical restraints." Vertical restraint issues arise among participants in a distribution chain running from top to bottom. For example, a petroleum company may refine crude oil into gasoline and sell the gasoline to a regional distributor who sells to retail gasoline stations for final sale to individual customers. In that chain of distribution the refiner does not compete with the distributor, who does not compete with the retailer. It is a vertical relationship.

Generally, competition law does not view restraints in vertical business relationships as harming the market process. In fact, it usually aids the market process.

For example, a petroleum company producing gasoline for sale in the retail market may have an exclusive supply arrangement with a particular gasoline service station which requires that the station will only sell that petroleum company's brand of gasoline. The agreement may not necessarily have anti-competitive effects. If there are a number of other service stations in that community selling the gasoline of other producers, then vigorous competition may exist in the retail sales of gasoline. The exclusive supply arrangement may assure the service station has a guaranteed source of gasoline and give it the benefits of national advertising by the petroleum company. Consequently, exclusive dealer agreements between petroleum companies and service stations might not have anti-competitive consequences.

In general, except in the area of pricing, vertical restraints are commonly not found to be harmful to a market system. However, with regard to vertical price restraints, market dislocations may occur. If a seller can require its dealers to resell a product at a particular price, or not below a certain minimum price, then consumers may not receive the benefits of price competition. It is generally perceived that when a producer sells its product to a dealer and has parted with ownership of that product, the producer should no longer be able to dictate the dealer's resale price.

For example, if a petroleum company sells gasoline to all of its dealers in a certain community at the same price, then the benefits of market competition can be realized by those who purchase gasoline if those dealers compete with one another in pricing. Some dealers may realize cost savings in other aspects of their operations, or accept a smaller profit, in order to resell the gasoline at a lower price than its competitors.

On the other hand, from a horizontal restraints perspective, if several gasoline service stations in the same local community agreed on a uniform price for gasoline, the price would be artificially high. This would be harmful to consumers and be destructive to the market system. It would eliminate price competition and result in unreasonably high prices.

Top of page

III. EXPLOITING A DOMINANT POSITION

It is not uncommon for a particular enterprise to gain a dominant or even monopoly position within a particular market. This could result from any of a number of factors: the privatization of a previously state-owned business; the economics of producing the product (such as when only large-scale production is feasible); the high cost of initial entry into the market; the grant of patent rights; and the limited population to be served.

Competition law seeks to restrict the ability of dominant firms to unfairly exploit their market positions. The unfair exploitation of a dominant position is sometimes referred to as "monopolization." To engage in monopolization one must abuse a dominant position in a relevant market. Consequently, market definition can be critical in determining if there has been an unfair exploitation of a dominant position. The abuse of a dominant market position can be manifested in a number of ways.

A. Predatory Pricing

A market dominant firm may be in a position to earn monopoly profits; that is, profits which are in excess of what a firm in a competitive market would earn. In order to maintain a dominant position, a firm may attempt to keep possible competitors out of its market. One method is through predatory pricing -- pricing below cost in order to drive an economic rival out of a market or discourage a new competitor from entering the market. Once the competitor is out of the market, prices can then be raised.

B. Price Squeezes

A monopolist may price its product at a high level to certain customers who it knows may resell to buyers the monopolist wants to sell to directly, but charge a lower price to customers who do not resell to buyers of interest to the monopolist. In effect, the monopoly seller applies a price "squeeze" that makes it impossible for the others to serve customers targeted by the dominant firm.

C. Essential Facilities

A monopolist may be able to maintain its dominant position because it controls a facility that cannot be easily duplicated. A national airline may dominate airline service to a particular country because it controls all of the landing slots at the country's major airports. Its dominant position is maintained through control of an essential facility -- airport landing slots. Competition law may mandate that the essential facility be made available to others.

D. Leveraging

Leveraging involves the ability of a firm with a dominant position in one market to use that dominant position to gain an advantage in another market in which it may not otherwise hold a commanding position. Consider, for example, an electric power provider with a monopoly position for providing power in a particular community. It might require that, in order to receive electric power service, all contractors building new buildings must use the power provider's subsidiary electrical contractor company for installing wiring and hookups. This would be "leveraging." The monopoly in one market, providing electric power, is used to gain an advantage in another market, electrical contracting, where it would otherwise face competition.

E. Mergers, Acquisitions and Joint Ventures

Competition law may be used to prevent monopolies from forming. Competition laws often require prior government approval before firms above a certain size may be merged or acquired. Competition law may require a process of notification by firms exceeding a certain size threshold. A government agency would be required to review the impact such an acquisition or merger may have on the level of concentration in the relevant market before the acquisition or merger can take place. This helps prevent a market from reaching a point where monopoly power may be attained by an individual entity.

Joint ventures can present particular market problems. If two large companies in a concentrated market form a joint venture for only one particular endeavor, then it may be pro-competitive. For instance, if two petroleum companies pool their resources to build an oil pipeline from a newly discovered oil field, that cooperation may improve the degree of competition for refined petroleum products by bringing new sources of oil into the market. However, a merger of the two companies may unacceptably concentrate the entire petroleum products market. Consequently, joint ventures, if limited in scope, may be viewed more favorably by competition law enforcement officials than a merger or acquisition involving the same enterprises.

Top of page

IV. RECIPROCITY AND TYING

Reciprocal arrangements take place when enterprises agree to deal only with each other to the exclusion of others. Basically, certain distortions of a market system may occur if a few large entities agree to buy or sell only among each other, agree to automatically share technical developments among themselves but not necessarily with others, or agree to form export ventures that exclude others.

Tying can have a particular adverse effect on markets. Tying occurs when a business entity conditions the purchase of a product or service (the "tying" item) upon the buyer also purchasing another item (the "tied" item). This practice can distort the free market for the tied item. For instance, a flour milling company may desire to purchase a particular machine sold in its country by one importer (the exclusive dealer for the machine in that country). However, the importer may stipulate that the sale of the machine is conditioned on the milling company purchasing packaging material from the importer, even if the miller prefers to purchase such material elsewhere. Tying arrangements are similar to the concept of leveraging discussed earlier.

Tying arrangements may cause distortions in the market. In this example, the flour market may be distorted. The milling company's decision concerning packaging material purchases would not be made on its view of the price and quality of various suppliers of the material, but instead on the miller's need for an item from another market altogether.

Top of page

V. PRICE DISCRIMINATION

Price discrimination occurs when two or more buyers of the same product or service from the same supplier are charged different prices. If the buyers do not compete with one another at the resale level, then price differences will probably have no market impact. If they do compete with one another, however, such price differences may affect their ability to function in the resale market.

In certain markets, large volume purchasers of particular goods or services may obtain significant price reductions unavailable to those who purchase in much smaller lots. This can result in price differences ("discriminations") among buyers. Such price discrimination may raise particular problems if the large and small buyers compete with each other in the same market.

For instance, a large chain of stores may purchase a particular brand of soap in large volumes at a lower unit price than a small store can purchase it. The soap producer simply offers volume discounts to large buyers. The small store operator does not purchase such volume and thus pays a higher unit price. The volume purchaser may resell the soap at a price that provides a profit, but is still below the price of the small store's break-even point.

Some competition law systems make such price discrimination unlawful if the price difference cannot be justified through true cost savings in sales among the large and small volume purchasers. If there is a true cost difference then the price discrimination would be permissible and would not distort the market for selling soap.

Top of page

VI. CONCLUSION

As more countries adopt a market orientation for significant sectors of their economies they need to realize that private enterprise behavior in the form of cartel actions and abuse of dominant market positions can dilute the benefits of a market system. Many nations and the European Union have adopted various forms of competition law to address such possible abuses. An effective system of competition law can help in attracting private investment, encourage entrepreneurial activity by individual citizens and spread the benefits of a market system among a larger proportion of the population than might otherwise occur.