Price-cost Tests v. Raising Rivals’ Costs for Loyalty Programs and its Implication for the Taking of Advantage of Market Power Provisions 2 nd ATE Symposium – Sydney, December 2014 Lilla Csorgo

Disclaimer 2 The views expressed herein are my own and do not necessarily reflect those of the New Zealand Commerce Commission.

Summary 3 Both NZCC and ACCC have sought to reform their taking advantage of market power provisions. Both have been criticized for failing to make the case for reform. In particular, failing to point to conduct that otherwise should be caught. Single-product loyalty rebates is such conduct.

Taking Advantage Provisions 4 1)There is conduct that involves a firm taking advantage of its substantial market power; and 2)The conduct was undertaken for the purpose of eliminating a competitor, substantially damaging a competitor, or preventing entry.

Criticisms 5 1)No consideration of effect of conduct on competition. 2)Taking advantage = counterfactual test, an inadequate filter: a)No balancing of any sort b)Consideration of hypothetical world can be difficult and unwieldy

Harper Review 6 1)“Purpose, effect or likely effect of substantially lessening competition.” 2)Defence: a)would be a rational business decision by a corporation that did not have a substantial degree of power in the market; and, b)would be likely to have the effect of advancing the long-term interests of consumers.

Counterfactual Test Advocates 7 1)Allows for casual link between firm’s market power and the conduct. 2)Effects test causes business uncertainty. 3)No compelling case for change.

Single Product Loyalty Rebates 8 A seller offers a rebate on all purchases, including those previously purchased, conditional on the percentage of needs purchased. o e.g., 10% rebate is offered on all purchases if a buyer purchases at least 80% of its total annual needs from the supplier.

Single Product Loyalty Rebates 9 1)“Conservative” approach – predation o Competitive harm arises because an equally efficient competitor is foreclosed from the contestable portion of the market because of below cost pricing for that demand. 2)“Liberal” approach – exclusion o An entrant is foreclosed because the demand it has left available to it is not large enough to generate positive expected profits.

The Debate 10 “Loyalty discounts and other forms of partial exclusives such as market-share discounts and shelf space share contracts are properly analyzed under the exclusive dealing framework. Price-cost tests in the predatory pricing tradition are more problematic to administer in practice that their advocates suggest and, most importantly, simply do not comport with the underlying economics of exclusive dealing.” Commissioner Joshua Wright

The Debate 11 “I’d say exclusion is anticompetitive only if it is substantial and could not have been avoided by aggressive pricing. Omitting the second requirement creates the possibility that antitrust will be used by a laggard rival to prevent a more aggressive rival’s consumer-friendly price-competition.” Thom Lambert (Should There Be a Safe Harbor for Above-Cost Loyalty Discounts? Why I Believe Wright’s Wrong)

The Debate 12 “A price-cost test obviously is not relevant for evaluating input foreclosure concerns, even where the input is distribution services. Even if the foreclosure involves bidding up the price of the input, it can succeed in permitting the firm to achieve or maintain market power, despite the fact that the firm does not bid to the point that its costs exceed its price.” Steve Salop (“Wright is Right and Price-Cost Safe Harbors are Wrong: The Raising Rivals’ Cost Paradigm, Loyalty Discounts and Exclusive Dealing”)

Loyalty Rebates as Predation: Counterfactual Test 13 Price cost test: is the effective price (where all the discount is attributed to the contestable portion of demand) below some appropriate measure of cost? Counterfactual test: after denying the firm the non- contestable (must-have) portion of its demand, would it price below cost on its contestable demand?

Loyalty Rebates as Predation: Counterfactual Test 14 Price cost test: is the effective price (where all the discount is attributed to the contestable portion of demand) below some appropriate measure of cost? Counterfactual test: after denying the firm the non- contestable (must-have) portion of its demand, would it price below cost on its contestable demand?

Loyalty Rebates as Predation: Counterfactual Test 15 Devolves to “traditional” all units predation? o Need to show recoupment But theory of harm is that predating in contestable portion of demand to protect above cost pricing in non- contestable demand. o Rests on above cost pricing overall o No recoupment

Loyalty Rebates as Predation: (Quasi) Exclusivity and RRC 16 Raise the price of a critical input (in this case distribution) to the point where it is no longer profitable to enter the market. o Portion of the market that remains contestable not sufficiently large given economies of scale. Exclusive dealing – may not have an efficiency based business justification associated with it. Rather pro- competitive competition for the market.

Loyalty Rebates as Predation: (Quasi) Exclusivity and RRC 17 Exclusive dealing: extent of market tied up, length of contract, geographic distribution of contracts where economies of density are relevant, reasonable business justification, etc. Counterfactual test (modified): absent market power would the loyalty rebate be so widespread, be in place for so long, etc.

Conclusion 18 High probability of false-negatives. Both when “conservative” or “liberal” approach to loyalty rebate taken.