1 Eco 100 Lecture 7-3 Feb 20, 2009 Regulation: Monopoly, Cartels and Mergers

2 Colbert on Monopoly report-videos/60116/march /the- word---monopoly

3 Government Regulation Major categories –Anti-competitive behavior Price Discrimination Collusion Mergers/acquisitions –Deregulation –Natural Monopolies Regulatory solutions Deregulating where economies of scale no longer exist Managed competition –Externalities Pollution Fishing, forestry, mining, oil drilling

4 Promoting Efficiency Goals of regulation –Efficiency in Production Produce at least cost –Efficiency in Allocation Value consumers place on goods = opportunity costs of resources used –Promote Technological Innovation Regulatory incentives should promote, or at least not discourage, development and adoption of new cost saving technology

5 Perfect Competition Standard of comparison for all market models (optimal) –Productive efficient Firms operate at min of LRAC or exit –Technological innovate Innovate or die –Allocative efficient Consumers value marginal unit at MV –Equals firm’s cost of producing marginal unit No deadweight loss

6 Monopoly/Cartels Not Efficient in Production –Never operate at min of LRAC –Underutilized capacity and resources Not Technologically Innovative –No incentive to invest in/develop new technology when you’re the only firm Not Efficient in Allocation –P (=MV) > MR = MC –Deadweight loss

7 Monopolistic Competition Not Efficient in Production –Never operate at min of LRAC –Underutilized capacity and resources Technologically Innovative –Competition with other firms provides incentive Not Efficient in Allocation –P (=MV) > MR = MC –Deadweight loss (but not as great as Monopoly)

8 How Has the Government Sought to Regulate Markets? Punishing Anti-Competitive Behavior –Pricing/market tactics Collusion –Price-fixing, restricting output Price Discrimination Predatory Pricing –Impose fines for AC tactics Preventing Anti-competitive Behavior –Mergers and Acquisitions Review by appropriate administrative agency –Divestiture/breakups Regulating Natural Monopolies Deregulation(sic) of Selected Industries

9 Punishing AC Behavior Punishing firms for behaving like a monopoly –Sherman anti-trust Act (1890) “conspiring to fix prices or restrict output” –Clayton Act (1914) More sophisticated price discrimination Tie-in sales – requiring the purchase of 2 nd good Stock purchases/acquisitions –Robinson-Patman(1936) 3 rd degree price discrimination Amendment to Clayton Act

10 Reviewing Mergers Primarily aimed at preventing mergers or acquisitions that reduce competition –FCC regulates communications media (newspapers, tv, telecomm, radio) –FTC and DOJ regulate the rest

11 How do they determine whether a merger reduces competition? Herfindahl-Hirschman Index or HHI, –measure of the size of firms in relationship to the industryfirms industry –Meant to be an indicator of the amount of competition –sum of the squares of the market shares of each individual firm. decreases in the Herfindahl index generally indicate a loss of pricing power and an increase in competition, whereas increases imply the opposite DOJ guidelines –Mergers resulting in HHI > 1800 can be challenged

12 Are All Mergers Equal? Conglomerate –Merger of firms in unrelated industries Vertical Merger –Merger of firms upstream/downstream from each other in production stream FCC: ownership of more than 1 media type Microsoft Horizontal Mergers –Firms in the same industry Telecomm industry –AT&T divestiture –Verizon/GTE merger; RBOC mergers Would the HHI be a valid measure of competitiveness?

13 Another Look At Mergers Courtesy of Stephen Colbert atandt/