Competition Policy / Industrial Organisation
Why Competition Policy?
Regulation driven by FWT: competition maximises total surplus
Top 10% of firms have significantly higher returns to
capital – related to market power
Collusion
Is illegal per se – doesn’t matter if successful, though
fines will depend on amount of damage caused
Leads to monopoly pricing, such a price may be
tolerated if brings benefits in R&D or entry
o Collusion doesn’t have redeeming features
Average overcharge of cartels is 29%
Allows firms to exert market power they would not otherwise have and artificially restrict
competition and increase prices, thereby reducing welfare
Can be explicit – acting in organised cartel, or tacit – acting in purely non-cooperative way
Incentive to deviate, so participants must be able to detect when deviation occurs, and must be
able to credibly punish such deviation
Likelihood of Collusion
Number of Firms
Infinite Bertrand: homogenous, constant MC, no FC, no capacity constraints
M
π( p ) M 1 n−1
Sustainable with grim-trigger iff: > π ( p ) ⇔ δ>1− =
n ( 1−δ ) n n
So more difficult with more firms – low entry barriers
Median number of cartel members is 5, 77% have 6 or fewer, only 13% had 10 or more
Frequency of Sales
2 4 1
Goods sold every other period: 1+δ + δ +⋯= 2
1−δ
Impacts price transparency
M
π(p ) M
Sustainable iff 2
> π ( p ) ⇒ easier as δ <1⇒ δ 2 < δ
n ( 1−δ )
Ease of Detection
Suppose you can cheat for two periods before detection
M
π( p ) n−1
Sustainable iff > π ( p M ) ( 1+ δ ) ⇔ δ 2>
n 1−δ
( ) n
Multimarket Contact
Can punish in both markets so collusion easier
Pooling of incentive constraints
Cost Asymmetry
M
Different costs c 1 <c 2, not so far apart that c 2 > p ( c 1 )
Full collusion has 2 shutting down and 1 being monopolist, 2 would have to be paid Cournot
profit not to produce (illegal) – in practice firms allocate output on production capacity – may
be inefficient and distorts incentives
Low cost firm has more to gain from deviation as harder to punish them
Even more difficult if costs are private information
Other Asymmetries
Firms that sell different product varieties have stronger incentive to keep prices high than
small firms – price reduction hurts all infra-marginal units
Entrants may be less patient than incumbents
Small firms capacity constrained so cannot punish
Buyer Power
Why Competition Policy?
Regulation driven by FWT: competition maximises total surplus
Top 10% of firms have significantly higher returns to
capital – related to market power
Collusion
Is illegal per se – doesn’t matter if successful, though
fines will depend on amount of damage caused
Leads to monopoly pricing, such a price may be
tolerated if brings benefits in R&D or entry
o Collusion doesn’t have redeeming features
Average overcharge of cartels is 29%
Allows firms to exert market power they would not otherwise have and artificially restrict
competition and increase prices, thereby reducing welfare
Can be explicit – acting in organised cartel, or tacit – acting in purely non-cooperative way
Incentive to deviate, so participants must be able to detect when deviation occurs, and must be
able to credibly punish such deviation
Likelihood of Collusion
Number of Firms
Infinite Bertrand: homogenous, constant MC, no FC, no capacity constraints
M
π( p ) M 1 n−1
Sustainable with grim-trigger iff: > π ( p ) ⇔ δ>1− =
n ( 1−δ ) n n
So more difficult with more firms – low entry barriers
Median number of cartel members is 5, 77% have 6 or fewer, only 13% had 10 or more
Frequency of Sales
2 4 1
Goods sold every other period: 1+δ + δ +⋯= 2
1−δ
Impacts price transparency
M
π(p ) M
Sustainable iff 2
> π ( p ) ⇒ easier as δ <1⇒ δ 2 < δ
n ( 1−δ )
Ease of Detection
Suppose you can cheat for two periods before detection
M
π( p ) n−1
Sustainable iff > π ( p M ) ( 1+ δ ) ⇔ δ 2>
n 1−δ
( ) n
Multimarket Contact
Can punish in both markets so collusion easier
Pooling of incentive constraints
Cost Asymmetry
M
Different costs c 1 <c 2, not so far apart that c 2 > p ( c 1 )
Full collusion has 2 shutting down and 1 being monopolist, 2 would have to be paid Cournot
profit not to produce (illegal) – in practice firms allocate output on production capacity – may
be inefficient and distorts incentives
Low cost firm has more to gain from deviation as harder to punish them
Even more difficult if costs are private information
Other Asymmetries
Firms that sell different product varieties have stronger incentive to keep prices high than
small firms – price reduction hurts all infra-marginal units
Entrants may be less patient than incumbents
Small firms capacity constrained so cannot punish
Buyer Power
