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Summary European Competition Law, Richard Whish
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The most accurate summary of Competition Law, 9th edition by Richard Whish & David Bailey.
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Chapter 1Theories about competition law
The Theory of perfect competition. Competition is a process of rivalry between firms seeking to win
costumers’ business over time.
On the whole, markets deliver better outcomes than state planning and central to the idea of a market is the
process of competition. The benefits of competition are: lower prices, better products, wider choice for
consumers, greater efficiency than would be obtained under conditions of monopoly. In perfect competition
no producer is able to affect the market price, each firm is a price-taker, with no capacity to affect price by its
own unilateral action because any change in its own output will have little effect on the aggregate output of
the market as a whole, and the aggregate output determines prices through supply and demand law. The
consumer is sovereign.
Social welfare according to neo-classical theory is maximized in conditions of perfect competition, when
allocative and productive efficiency are achieved. The combined effect of allocative and productive
efficiency is the society’s overall wealth.
- Allocative efficiency: economic resources are allocated between different goods and services in
such a way that it is not possible to make anyone better off without making someone else worse off.
It is achieved under perfect competition because the producer will expand its production for as long
as it is privately profitable to do so, that is to say until as long as the producer can earn more by
producing one extra unit of product than its marginal cost. When marginal cost exceeds the price it
would obtain for that unit (marginal revenue), the producer will cease to expand its production.
- Productive efficiency: under perfect competition goods and services will be produced at the lowest
cost possible. One way firms try to undercut the prices of their competitors is by reducing their cost
of production.
Monopolist are free from the constraints of competitions, so are conducive to high cost. Conversely perfect
competition is conducive to productive efficiency because a producer is unable to sell above cost.
Monopolist carries out independent conduct (raise prices/reduce supply) but if were to charge above cost,
other competitors would move into the market in the hope of profitable activity, attempting to produce on a
more efficient basisi to earn a greater profit. In the long run the tendency will be to force producers to incur
the lowest cost possibile to be able to earn any profit at all: an equilibrium where price and the average cost
of producing coincide.
-Dynamic efficiency: a further benefit of perfect competition is that producers will likely to innovate and
develop new products in the striving process to get new consumers’ business. Competition may have the
dynamic effect of stimulating technological research and development. In tech industry, one firm may enjoy
for a period of time high profits and market shares, however new competitors may be able to enter that
market with new technology and replace the incumbent firm, so firms are vulnerable to dynamic entry.
The harmful effects of monopoly:
Under condition of monopoly, the monopolist is able to affect the market price, since it is responsible for all
the output, and since aggregate output determines price through the relationship of supply to demand, the
monopolist would be able either to increase price by reducing the volume of its own production or to reduce
sales by increasing price. In order to maximize its profit, the monopolist will refrain from expanding its
production to the level that would be attained under perfect competition. The output is lower than under
perfect competition and therefore some consumers will be deprived of goods and services that they would
have paid for at the competitive market price. So 2 consequences:
- Allocative inefficiency: society resources are not distributed in the most efficient way possible, causing the
deadweight loss, pure loss to society.
- Lower productive efficiency - a monopolist is not constrained by competitive forces to reduce costs to the
lowest possible level, so he may not feel the need to innovate.
- Monopolist is a price-maker, so wealth is transferred from the consumers to the monopolist. Is argued that
competition law should not concern itself with redistribution policy.
,Critics:
The model of perfect competition is based on assumptions unlikely to be observed in practice, so this theory
has been questioned because perfect competition requires specific conditions to be satisfied on any
particular market and it is very unlikely for them to be satisfied. These conditions are:
- infinite number of buyers and sellers: this is unlikely;
-all producing identical (or ‘homogeneous’) products: firms usually sell slightly differentiated products from
their competitors + command some degree of consumer loyalty, so an increase in price will not necessarily
result in a substantial loss of business;
- consumers have perfect information about market conditions: unlikely that a customer will have such
complete information of the market that he will immediately know that a lower price is available elsewhere;
- there are no ‘barriers to entry’ preventing the emergence of new competition and barriers to exit’ that might
hinder firms wishing to leave the industry: There are often barriers to entry and exit to and from markets; this
is particularly so where a firm that enters a market incurs ‘sunk costs’;
- there are no transport, search or other switching costs for consumers: usually there are.
Between the polar market structures of perfect competition on the one hand and the monopoly on the other,
there are many intermediate positions.
Many firms sell products which are slightly differentiated from those of their rivals, so that there will not be
the homogeneity required for perfect competition, therefore an increase in price will not necessarily result in
a substantial loss of business. Plus, it’s unlikely that a customer will have such complete information of the
market that he will immediately know that a lower price is available elsewhere for the desired product. There
are often barriers to entry and exit to and from markets: in particular where a firm that enters a market incurs
sunk cost that cannot be recovered when it ceases to operate in the future.
-Just as perfect competition is unlikely to be experiences in practice, monopoly in its purest form is also rare.
There are few products where one firm is responsible for the entire output: this happens only where a state
confers a monopoly. Most economic operators have some competitors, and demand is not infinitely inelastic
so even if monopolist raise the price to a certain level, costumers will cease to buy.
Finally, not all businesses are rational and they always attempt to maximize profit: maybe earning the largest
profits for their shareholders is not the most important consideration, maybe they prioritize the size of their
business. The assertion that cost are kept to an absolute minimum is not necessarily correct: private costs
may be took low but it says nothing about the social costs or externalities which arise for society at large (air
pollution that a factory causes etc…).
The static model of perfect competition fails to account for the dynamic nature of markets and the way in
which they operate over a period of time.
If perfect competition cannot be attained, some alternative model is needed to explain how imperfect markets
work. It is necessary to decide how dominant firms should be treated and an adequate theory is necessary to
deal with oligopoly, a common industrial phenomenon where few firms supply most of the products within
the market without prevailing on one another.
Arguments that suggest that competition may not yield the best outcome for society:
- Economies of scale, scope and natural monopolies
In the economies of scale the average cost per unit of output decreases with the increase in the scale of the
output produced.
Economies of scope occur where it is cheaper to produce two products together rather than to produce them
separately.
In some markets a profit can be made only by a firm supplying at least one-quarter or one-third of the total
output, or the minimum efficient scale of operation is achieved only by a firm with a market share exceeding
50%, so monopoly may be seen to be a natural market condition. Natural monopoly means a situation in
which economies of scale are so grat that having two or more competing producers would not be viable and
so efficiency dictates that a single firm serves the entire market. Natural monopoly is an economic
phenomenon driven by technological constraints (where achieving a certain level of competition would be
inappropriate, for example by setting a number of competitors, because it would undermine the efficiency it
,entails), different than statutory monopoly where the right to exclude rivals from the market is established by
the law.
Where the minimum efficient scale is very large in relation to the total output, public ownership may be a
solution.
- Network effects
Certain markets are characterized by network effects: a direct network effect arises where the value of a
product increases with the number of other customers consuming the same product.
Ex: telecommunications network if Telcom has 100 subscribers to its network and it is not possible for its
users to communicate with subscribers with competing networks. If a new consumer subscribes to Telcom
the original 100 subscriber now can contact an additional person without having incurred any additional cost
themselves (network externality).
In the same way users of search engine will benefit as more people use the same one: the more consumers
use a particular search engine, the more data it will gather about them and this will lead to improved search
results. Consequently, online sellers and content providers will want their products and information to be
ranked highly by the search engine, so that the system becomes even more valuable to the consumers that use
it.
Network effects may have positive effects on competition, since consumers become better off as a product
becomes more popular: the increased utility of a network is of value both to the operator and to the
subscribers. (ex. Credit card systems, telecommunications network etc…)
However network effects may have negative effects on competition, where all or a large proportion of, the
customers in a particular market decide to opt for the product of one firm or for one particular technology
with the result that one firm ends up dominating a market.
- Two-sided market
Where two or more groups of customers are supplied and where a network effect arises as more consumers
join one or the other side of the market.
Ex. Newspaper: a newspaper publisher sells advertising space besides newspapers to customers. The
publisher’s ability to sell advertising space increases according to the number of citizens expected to read the
newspaper. The same is commercial television broadcasters: advertising slot during an important football
match will be expensive because of the opportunity to advertise products to a large number of people.
Pricing practices that in the first sight appear to be anti-competitive, however they can have an objective
justification in a two sided market. For example an email account is offered free of charge, the service
provider may be seen acting in a predatory manner and abusive if in a dominant position by supplying at
below the cost of production. However in a two-sided market this analysis may be wrong if the free email
account is paid for by the sale of advertising on the other side of the market.
- Particular sector
Particular sectors are considered to have specific features that entitle them to protection from the potentially
ruthless effects of the competitive system. These are agriculture, labor market, defense industries and some
professional rules..
- Beneficial restrictions of competition
In some circumstances competition suppresses innovation, so the innovator, the entrepreneur and the risk-
taker may require some immunity from competition if they are to indulge in expensive technological
projects. This is where the law of intellectual property rights comes in, which provides an incentive to firms
to innovate by preventing the appropriation of commercial ideas which they have developed.
Also, in some circumstances restrictions of competition can have beneficial results. For example, higher
alcohol prices—and a restriction of price competition between suppliers of alcohol— might save drinkers,
and the rest of society, from the harmful effects of excess drinking.
When firms are forced to undercut costs to the minimum because of the pressure of competition: ex. In the
transport sector, safety consideration may be subordinated to the profit motive.
Goals of competition law:
Goals of competition law: Consumer welfare is the main goal. Nevertheless, many different policy objectives
have been pursued in the name of competition law over the years such as:
, - Consumer Protection: taking direct action against offending undertakings, for example by requiring
dominant firms to reduce their prices (BUT competition authorities are ill-placed to determine what
price a competitive market would set for particular goods or services, and indeed by fixing a price
they may further distort the competitive fabric of the market);
- Redistribution: dispersal of economic power and the redistribution of wealth: the promotion of
economic equity rather than economic efficiency;
- (Protecting Competitors): Some authors consider that competition law should be concerned with
competitors as well as the process of competition; But today dominant view is that the process of
competitions is to be safeguarded.
- Fairness: an issue is whether competition law should concern itself with ‘fairness’ or fair dealing in
the marketplace. As with redistribution and the protection of competitors, there is a risk that seeking
to achieve fairness as between one market participant and another will itself distort the process of
competition;
- The Single Market imperative: Competition law plays a hugely important part in facilitating and
defending the single market. Competition law can be moulded in such a way as to encourage trade
between Member States, partly by ‘levelling the playing fields of Europe’ and partly by facilitating
cross-border transactions and integration.
Also, the goal of competition has been questioned with arguments that competition may not yield the best
outcome for society. Some arguments are:
Three main areas of competition law:
- Cartels: agreements that have as their object or effect the restriction of competition are unlawful,
unless they have some redeeming virtue such as the enhancement of economic efficiency.
Example of cartel: Truck manufactures met and exchanged information on what they were doing, including
pricing on a daily basis. There was no formal agreement, not even oral, just a practice of exchanging
information on what they were planning to introduce within their company. Such cartels are absolutely
prohibited! These companies were competing just on first sight, whereas internally they colluded in an
informal manner. The European Commission fined them
- Concentration: if one competitor were to acquire its main competitor the possibility exists that the
market will become less competitive and consumers may have to pay higher prices as a result.
Example of merger: We have the Concentration control Regulation, you need to notify the EC if you
have the plan to merge or absorb a company and the EC will test the effect of that transaction on the
market.
In this Agrichemicals market, the EC decided that in that specifically sector, because of the significant R&D
in this specific area, this merger will reduce competition.
- Abuse of dominant position: Abusive behaviour by a firm with substantial market power that
enables it to behave independently on the market without regard to competitors, customers and ultimately
consumers can be condemned by competition law.
(Public restrictions of competition: the State is often responsible for restrictions and distortions of
competition, for example as a result of legislative measures, regulations, licensing rules or the provision of
subsidies. We are focusing on company-induced restriction, not state ways to do it.)
Market definition and Market power:
Competition law is concerned above all, with the problems that occur where one or more firms possess, or
will possess after a merger, market power. The legal concept of a dominant position in Art. 102, equates to
the economic concept of substantial market power. Market power presents undertakings with the possibility
of profitably raising prices, or keeping them high, over a period of time. The expression raising price a way
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