MARKET POWER, MARKET DEFINITION AND ENTRY BARRIERS - Week 3 - Prof. Valerio Cosimo Romano

In competition case law, three consecutive steps are common: 1) a relevant market is defined, choosing between different candidate markets the (relevant) market which most accurately depicts the extent of market power. 2) competitive surroundings on the relevant market are analyzed (particular attention to the number of suppliers). This establishes how market shares are distributed among competitors and measures market share of the firm(s) under antitrust scrutiny. 3) competition analysts infer from the market share the degree of market power and assess it against the applicable legal standard.

Relevant market: set of products and geographical areas that exercise some (appreciable) competitive constraints on each other Two dimensions Relevant product market Relevant geographic market

Crucial concern of competition policy: possible inefficiencies deriving from market power. The definition of market power has been influenced by the economic literature on industrial organization and by the characteristics of the model of perfect competition: focuses on individual firm’s pricing discretion in the absence of entry barriers. differs from the traditional definition of a dominant firm found in EU competition law. Competition lawyers must define boundaries of relevant market where market power is exercised (to apply competition rules).

Court of Justice of the European Union (CJEU) case- law: defines market power in terms of independent behavior in markets as: “A position of economic strength enjoyed by an undertaking which enables it to prevent effective competition being maintained on the relevant market by giving it the power to behave to an appreciable extent independently of its competitors, customers, and, ultimately, consumers”. More recently the EU Commission: an undertaking is dominant if capable to profitably increase prices above the competitive level for a significant period of time without facing sufficiently effective competitive constraints.

Economic concept of market power: ability to raise prices above the level of the marginal cost A firm has market power if it faces a downward- sloping demand curve If the demand curve is downward sloping, the decrease in supply as a result of the exercise of market power creates a deadweight loss in comparison with a situation of perfect competition Socially undesirable → many countries have enacted antitrust legislation and sector-specific regulation to limit firms’ ability to accrue and exercise market power

In perfectly competitive markets, market participants have no market power In real-world markets, products are hardly perceived as perfect substitutes by consumers and we should expect that almost any firm has some degree of market power Antitrust focuses on significant market power

As direct determination of market power is tricky (even in traditional markets), competition authorities and courts usually resort to indirect methods The standard approach focuses on the firm's market share on a relevant market → high market share equated with a high degree of market power However, market share is only a raw proxy, one of the variables that determine market power. Other variables must be taken into account, including relative position of competitors existence of potential entrants countervailing power of buyers

Indirect method based on three steps Definition of the relevant product and geographic market Calculation of market shares Analysis of the position of the firm concerned, taking into account a number of additional factors that characterize the relevant market (competitors’ position, barriers to entry, potential competition, buyer power, etc.) Defining the relevant market is only a preliminary step, a tool for (approximately: see Carlton, 2007) determining and evaluating market power In non-homogeneous good markets, market shares are less reliable as a tool to infer market power (a given market share does not indicate any determinate degree of market power)

V. Pitfalls of the traditional legal approach. Criticisms of the market definition/market share paradigm: Relevant market: deliberate attempt to oversimplify very complex interactions between diversely situated buyers and sellers. Market definition only provides a foundation on which it is possible to evaluate likely competitive effects. It is definitely not an end in itself. Adequacy of market definition is particularly questionable in high-technology markets. Difficulties of assessing competition on two-sided markets (ex: social media = information provided at no cost to users of search engines while the latter are subsidized by advertisers).