1. Georgetown University

2. Potato Cartel  Why did Merrill Hanny bury $100,000 worth of Potatoes?

3. Potato Farmers Mash Supply Source: United Potato Growers of America, August 2009

4. “The offense of monopoly under Section 2 of the Sherman Act has two elements: (1) the possession of monopoly power in the relevant market and (2) the willful acquisition or maintenance of that power as distinct from growth or development as a consequence of a superior product, business acumen or historical accident” United States v. Grinell Corp. 384 U.S. 563, 570-571 (1966)

5. Definition of monopoly power 1.The ability to control prices and exclude competitors 2. The ability to raise prices above marginal cost (competitive levels) without losing so many sales so rapidly that the price increase must be rescinded Monopoly power is “analog” not digital Significant and insignificant monopoly power Lerner Index L = (p-mc)/p L= 1/η, where η is the (absolute value of the) firm-level price elasticity of demand. 0 ≤ L < 1

6. Measuring Market Power The Dominant Firm Model: a. Assumes a single “dominant” firm facing a competitive “fringe” b. The dominant firm calls out a price c. The competitive fringe responds as a price taker setting its output

7. The Dominant Firm-Competitive Fringe Model P Q S=Σmc D d mr P1P1 QdQd mc d = D - S

8. Market Power Determinants L = S/[η m + (1-S)e f ] 1.Market share (S) 2. Elasticity of Market demand ( η m ) 3. Elasticity of Supply of the fringe firms ( e f ) Suppose S=.4, η m = 2, and e f = 1, What is the value of the Lerner Index?

9. Market definition Market -A geographic area and a set of products within which price is determined IF a relevant market then set of firms and geographic area that DOES determine price Firms/areas that do affect price are included Importance of market definition a. Microsoft (operating systems, software) b. Coca-Cola – Dr. Pepper, Pepsi -7-up mergers

10. Market Definition Exercise – Begin with a small geographic and product market and ask: Could a hypothetical monopolist within the proposed relevant market raise price by a small but significant and nontransitory amount? If “yes” then found relevant market. If “no” then broaden proposed market and re-run exercise a.demand side product substitutability b. demand-side geographic substitutability c. supply-side product substitutability d. supply-side geographic substitutability

11. Willful maintenance or acquisition  US v. AT&T (1978)  Aspen Skiing (1985) Bell Long LinesMCI 1.Refusal to deal 2.Price discrimination 3.Sabotage customer

12. Aspen Skiing Co. v. Aspen Highlands Colorado 1962 – ASC and Highlands begin joint lift tickets 1978 – ASC announces it would not Participate unless revenues split was Adjusted to 87.5 for ASC (had Previously divided based on usage. ASC had 85 % of traffic) No joint ticket in 78-79 but Highlands offers Adventure Pack (3 days at Highlands and coupòns for 3 days at ASC facilities ASC refused coupons Issues: 1.Duty to Deal 2.Market definition

13. Predatory pricing Simple story: Large firm cuts prices drives smaller firms from market then raises prices to monopoly levels McGee (Journal of Law and Economics) -re-examines Standard Oil case. Predatory pricing is not rational. Why engage in predation when merger is cheaper.

14. More recent literature suggests that: 1. predatory pricing may reduce sales price if ultimately merge 2. Predation may be for demonstration effect 3. McGee assumes merger to monopoly is legal Predation requires (necessary conditions): 1. Initial Market power 2. Low Barriers to Exit 3. High barriers to entry

15. Predatory pricing: 1. Areeda-Turner (Harvard Law Review, 1975) a. p<mc b. p<mc up to minAC then p<ATC c. p<avc ATCMC D AVC Price Quantity

16. Baumol analysis of predation  A sound predation concept is built on 3 principles: The price-practice must have no legitimate business purpose The price-practice must have no legitimate business purpose It must threaten the existence of equally efficient firms It must threaten the existence of equally efficient firms Recoupment of foregone profits is feasible Recoupment of foregone profits is feasible  Threats to equally efficient rivals turn on AVC, so P  Threats to equally efficient rivals turn on AVC, so P < AVC test is appropriate

17. Predation – the demonstration effect or “I’ll Teach that SOB a lesson” FOB Price Pricing of Concrete construction Blocks Distance from plant

18. The importance of corporate and management statements  Microsoft Choke of air supply Choke of air supply  Whole Foods Wild Oats merger John MacKay (CEO of Whole Foods) John MacKay (CEO of Whole Foods) merger will “eliminate forever” the possibility that anyone else could create a nationwide competitor in the natural and organic grocery business merger will “eliminate forever” the possibility that anyone else could create a nationwide competitor in the natural and organic grocery business buying Wild Oats Markets Inc. would let Whole Foods “avoid nasty price wars” in several cities where the two compete buying Wild Oats Markets Inc. would let Whole Foods “avoid nasty price wars” in several cities where the two compete  KCI v. Hill-ROM Hill-Rom makes standard and specialty beds Hill-Rom makes standard and specialty beds

19. P-28819 Cut ‘em off at the knees and watch them bleed … Competitively, idle words or a real threat? I promise you I consider these words a threat to all who propose to compete against Hill-Rom. Do you? How sharp is your machete? Nelson Baughman, HR Vice President: Hill-Rom Intends To Destroy Competition

20. P-00120 We have to work together to win in our markets and do away with KCI. This is a job we are going to get done, and we’re going to get it done together. If anyone doesn’t want to do it that way, there’s a bus waiting outside, and you can get the hell out now. Hill-Rom Intends To Destroy Competition Hill-Rom executive speech

21. P-28821 Hill-Rom’s Gus Hillenbrand 9/19/2002 Hillenbrand Cross Examination Q. Did you use the market power of Hill-Rom to attempt to obtain a hundred percent market share? A. Yes. Q. And you saw documents from your sales staff that talked about eliminating KCI, torturing KCI, killing KCI, doing away with KCI. You saw those things, didn't you? A. I saw those. Q. And you never sent out a directive saying, hey, we want to treat them fair, we want to play fair, did you? A. Never did. Trial Transcript: Page 3950:12-21