Georgetown University

Vertical relations  Retail Demand: Q= Q (Price, advertising, Sales outlets, etc) Demand: Q= Q (Price, advertising, Sales outlets, etc)  Wholesale Demand: Q = Q (wholesale price, downstream demand) Demand: Q = Q (wholesale price, downstream demand) retail wholesale Upstream Downstream

Double Marginalization Q P mr AC=MC Pm qmqm Pr Insufficient vertical control can diminish profits This creates incentive for coordination/control across vertical stages Two-part tariff P w = π m +mc(Q) qrqr

Pricing and Competition in Vertical Markets Q P mr AC=MC Pm qmqm Pr qrqr What is the relationship between the extent of downstream competition and the optimal upstream price?

Vertical relations, Retail competition and externalities  Assume downstream competition  Assume that consumers receive valuable (but costly to deliver) information at the retail stage  Free-rider problem  Possible solution: Resale price maintenance  What about “generic” advertising?  Possible solution: Territorial restrictions  What about generic manufacturer investments in retail stage (e.g. Training staff)  Possible solution Exclusive dealing

Vertical control and competition R1 W1 R2 W2 R3 wholesale retail Exclusive dealing restrictions may solve externality issue of W1 investment in R1, Or may serve to eliminate W2 and create market power at wholesale stage

Vertical restraints and the Law  Resale price maintenance – per se illegal until Leegin v. PSKS (2007), now Rule of Reason per se illegal until Leegin v. PSKS (2007), now Rule of Reason  Territorial restriction – Rule of Reason  Exclusive Dealing – Rule of reason  In Europe, Article 85 (1) – vertical restraints are ‘incompatible with the common market.” (but there is exception for technically or economically justified restrictions where consumers receive fair share of benefits.

Toys R Us, Inc. v. FTC  Facts of case?  Pro-competitive? Why is the government wasting scarce resources investigating complaints over who sells Barbie and G.I. Joe? The last time we looked, the retail toy business appeared to be fiercely competitive Why is the government wasting scarce resources investigating complaints over who sells Barbie and G.I. Joe? The last time we looked, the retail toy business appeared to be fiercely competitive Is Toys R Us circumventing free-riding low cost producers? Is Toys R Us circumventing free-riding low cost producers? Trampling on the rights to deal with whom it chooses Trampling on the rights to deal with whom it chooses  Anti-competitive? Laws violated? Laws violated? Why? Why? .

Toys R Us Toy retailersWarehouse Clubs HasbroMattelFisher price General Discounters

TRU Policy  Clubs could not have new products unless they carry whole line  TRU had right of first refusal for special, clearance or closeout toys  Basic toys had to be sold in packs to clubs  TRU solicited boycott of Clubs

Leegins  Facts of Case  Logic from Majority

“How easy is it to separate the beneficial sheep from the antitrust goats?” In favor of per se: Eliminates intra-brand competition Reduces incentives for wholesale price cutting (With same MSRP, any wholesale prrice cuts do not benefit upstream firm) DOJ found RPM to cause higher prices by 19-27% But there are potential benefits: Can promote entry New upstream firm with RPM may entice dealers to carry products Inhibits free riding

The Dissent Justice Breyer   Heavy reliance on Stare Decisis: “Were the Court writing on a blank slate, I would find these questions difficult. But, of course, the Court is not writing on a blank slate, and that fact makes a considerable legal difference.”   “The only safe predictions to make about today’s decision are that it will likely raise the price of goods at retail and that it will create considerable legal turbulence as lower courts seek to develop workable principles.”