1. McGraw-Hill/Irwin
Copyright © 2010 by the McGraw-Hill Companies, Inc. All rights reserved.

2. Chapter Goals
Explain the difference between the structure and the performance methods of judging competition
Outline a brief history of U.S. antitrust policy
Discuss the resolution of the IBM, AT&T, and Microsoft antitrust cases
Differentiate among horizontal, vertical, and conglomerate mergers
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3. Chapter Goals
Discuss the five reasons why unrelated firms would want to merge
Compare U.S. antitrust policy with antitrust policy of other countries
Explain three alternatives to antitrust policy that government can use to affect the competitive process
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4. Antitrust Policy: Judgment by Performance or Structure?
Antitrust policy is the government’s policy toward the competitive process
There are two competing views of competition:
Judgment by performance: We should judge the competitiveness of markets by the behavior (performance) of the firms in the market
Judgment by structure: We should judge the competitiveness of markets by the structure of the industry
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5. History of U.S. Antitrust Laws
Americans generally favor laissez-faire, but populist sentiment fears bigness and monopoly
A trust or cartel is a combination of firms that have not actually merged, but act as a single entity to set common prices and govern the output of individual member firms
A trust often acts like a monopoly
Cartels and trusts, which developed during the late 1800s, led to the passage of the Sherman Act, the Clayton Act, and the Federal Trade Commission Act
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6. The Sherman Antitrust Act
The Sherman Antitrust Act of 1890 was a law designed to regulate the competitive process
The two main provisions of the Act were:
“Every contract, combination, or conspiracy in restraint of trade is illegal”
“Every person who shall monopolize…shall be deemed guilty of a misdemeanor”
The act was broad and sweeping, but vague
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7. The Sherman Antitrust Act
In the 1890s, economists debated if:
Mergers reflected increased economies of scale
Mergers were attempts to restrict output and generate monopoly profits
Competition was strong enough to limit monopolies
Trusts should be broken up by the government
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8. Application: The Standard Oil and American Tobacco Cases
Examples of judging market competitiveness by performance
A firm is considered a monopoly only if it commits monopolistic abuses
In 1911 the Supreme Court found Standard Oil and the American Tobacco Company, both structural monopolies, guilty of unfair business practices and were broken up
In the 1920 U.S. Steel case, the Court ruled that while the company was a structural monopoly, it was not a monopoly in performance
U.S. Steel was not required to break up into smaller companies
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9. The Clayton Act
The Clayton Antitrust Act of 1914 made four monopolistic practices illegal when their effect was to lessen competition:
Price discrimination
Tie-in contracts
Interlocking directorships
Purchase of a competitor’s stock
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10. The Federal Trade Commission Act
The Federal Trade Commission Act of 1914 made it illegal:
To use “unfair methods of competition”
To engage in “unfair or deceptive acts or practices”
… whether or not those actions had any effect on competition
In 1938 the Federal Trade Commission was given the job of preventing false and deceptive advertising
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11. Application: The ALCOA Case
Examples of judging market competitiveness by structure
Judgment by performance governed antitrust policy until the ALCOA case of 1945
The court did not rule that ALCOA had engaged in unfair practices, but that it dominated the market by expanding capacity and keeping prices low
The court changed its viewpoint to judging markets by structure
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12. Judging Markets by Structure or Performance: The Reality
Judging by structure is practical though seemingly unfair
If a firm is competing so successfully that all the other firms leave the industry, the successful firm will be a monopolist
With judgment by performance, each action of a firm must be analyzed on a case-by-case basis, which is difficult to do
Judging by structure may have problems, but it is necessary
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13. Determining the Relevant Market and Industry
Choosing the relevant market when evaluating competitiveness is difficult to do
The relevant industry in the ALCOA case was the aluminum industry, not the metals industry at large
The relevant industry in the Du Pont case (1956) was flexible wrap including aluminum foil and wax paper, not cellophane
Du Pont was not considered a monopolist even though it sold 100% of cellophane
Mergers are also scrutinized
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14. Recent Antitrust Enforcement
Since the 1980s, the government has been more lenient in antitrust cases because of:
Change in the American ideology
Globalization of the U.S. economy
The increasing complexity of technology
There have been three recent important computer and telecommunications cases:
IBM
AT&T
Microsoft
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15. The IBM Case
In 1967, the Justice Department sued IBM for violation of antitrust laws:
IBM unfairly bundled hardware, software, and maintenance service
IBM constantly redesigned its hardware, so that competitors couldn’t keep up
In its defense, IBM argued:
The market was larger than the government claimed
Changing technology and customer demand forced it to constantly upgrade its equipment
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16. The IBM Case The government dropped its suit in 1982
Mainframe computers were replaced by PCs
Globalization of the computer industry made IBM’s dominance in the U.S. far less important
The prosecution likely led to IBM’s problems in the 1990s
IBM didn’t buy the DOS operating system from Microsoft because of the litigation
PCs replaced mainframes
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17. The AT&T Case Up until 1982, AT&T was a regulated natural monopoly
It controlled most long-distance and local telephone services
It produced telephones and other communications equipment
Satellite transmissions and fiber-optic cable began to compete for long-distance service
Competitors sued because they felt AT&T was charging too much to access its local lines
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18. The AT&T Case: Resolution
In 1982, AT&T agreed to divest its 22 local operating companies, which merged into the seven Baby Bells
It kept its long-distance telephone service, manufacturing arm, and Bell Laboratories
Other firms emerged as long-distance competitors and rates fell
Local rates doubled and tripled
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19. Developments Since the AT&T Case
By 2005 the Baby Bells had merged into four companies: SBC Communications, Verizon, Bell South, and Qwest
In 1995, AT&T had divided itself into three companies: AT&T, Lucent, and National Cash Register
In 2005, AT&T and SBC Communications (Cingular Wireless) merged as a new AT&T
Finally in 2006, the new AT&T was taken over by Bell South to become the new, new at&t
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20. The Microsoft Case
Microsoft controls about 50% of the market for software and over 90% of the operating systems market
In 1998, the Justice Department charged Microsoft with:
Possessing monopoly power in the PC operating systems market
Tying other Microsoft software products to its Windows operating system
Entering into agreements that keep computer manufacturers that install Windows from offering competing software
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21. Is Microsoft a monopolist?
The Microsoft Case
Is Microsoft a monopolist?
The software industry is characterized by barriers to entry in the form of:
Network externalities
Economies of scale
In a static framework
With its 90% market share, Microsoft is a monopoly
From a dynamic perspective
There is potential competition from other operating systems and the merging of hardware and software
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22. Is Microsoft a Predatory Monopolist?
The Microsoft Case
Is Microsoft a Predatory Monopolist?
The Justice Department argued that Microsoft had acted unfairly in gaining its large share of the software market and maintaining barriers to entry
By directing the development of software to favor Windows, Microsoft strengthened the barrier to entry created by network externalities
Microsoft penalized PC manufacturers that installed Windows if they also installed competing software
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23. The Microsoft Case: Resolution
In 2000 the court ruled that Microsoft violated the Sherman Act by using anti-competitive means to maintain its monopoly power
In the settlement Microsoft agreed that:
It would not prohibit PC makers from using competing products
It would release technical information on Windows improvements to software makers
It could continue to bundle and media players with Windows
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24. Microsoft, the European Union, and the Internet
While Microsoft was negotiating with regulators in the U.S., it also faced antitrust investigation in the EU
The EU has fined Microsoft repeatedly for antitrust violations
In 2007, technology had changed and Microsoft now faces competition from free software offered by Google online
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25. Assessment of U.S. Antitrust Policy
Economic scholars’ overall assessment of antitrust policy is mixed
In certain cases, such as the IBM case, most agree that antitrust prosecution went too far
Most believe that other decisions (as in the Standard Oil and American Tobacco cases) set a healthy precedent by encouraging a more competitive U.S. business environment
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26. Mergers, Acquisitions, and Takeovers
During the 1990s and early 2000s, firms have been breaking up and merging to achieve economies of scope and economies of scale
A merger is a general term meaning the act of combining two firms, may occur as:
Takeovers which are the purchase of one firm by a shell firm that then takes direct control of all the purchased firm’s operations
Acquisitions which are transactions in which a company buys another company and the purchaser has the right of direct control over the resulting operation (but does not always exercise that right)
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27. Mergers
A horizontal merger is the merging of two companies in the same industry
Standard Oil, AT&T and Cingular are examples
A vertical merger is a combination of two companies that are involved in different phases of producing a product
An example is the DuPont/General Motors case
A conglomerate merger is the merging of two companies in relatively unrelated industries
Tyco is an example of a conglomerate merger
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28. Reasons for Mergers Five reasons unrelated firms combine are:
To achieve economies of scope
To get a good buy
To diversify
To ward off a takeover bid
To strengthen their political-economic influence
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29. Recent Merger Activity
Mergers rose significantly in the late 1990s and into the early 2000s
The primary reasons for the increase are globalization, deregulation, and technological change
At the same time that these mergers are taking place, firms are also engaging in deacquisitions when one company’s sale of either parts of another company it has bought or parts of itself
The U.S. market structure is a continually changing landscape
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30. International Competition and Antitrust Policy in Other Countries
When people talk about competition, they often mean international competition
More and more, U.S. antitrust policy makers see the international market as the relevant
The European Commission (EC), the EU’s antitrust agency, favors a strong European antirust policy
Given the ongoing globalization of markets, we can expect more and more jurisdictional legal battles in antitrust policy
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31. Sovereign Wealth Funds
A recent institutional change with important market structure effects is the establishment of sovereign wealth funds which are investment funds held by governments
A number of governments with large trade and budget trade surpluses are accumulating assets in several wealth funds
New rules will be developed about what companies sovereign wealth funds can own, and what role they can play in voting the stock that they do own
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32. Regulation, Government Ownership, and Industrial Policies
Governments can affect the competitive process by:
Regulating the activities of firms with:
Price regulations, regulation directed at industries that have natural monopoly elements
Social regulations that affect aspects such as working conditions and product quality
Owning and taking charge of the firms and controlling them directly
Industrial policy is a formal policy that governments take towards business
Influences firms with laws and taxes
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33. Chapter Summary
Antitrust policy is the government’s policy toward the competitive process
The competitiveness of markets can be judged by:
Performance – behavior of firms in the market
Structure – number of firms in the industry and their market share
Important antitrust laws include:
The Sherman Antitrust Act
The Clayton Act
The Federal Trade Commission Act
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34. Chapter Summary Important antitrust cases involved: AT&T IBM Microsoft
Three types of mergers are:
Horizontal – two firms in the same industry
Vertical – two companies in different industries, one of which is a supplier for the other
Conglomerate – combination of two companies in relatively unrelated industries
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35. Chapter Summary Reasons unrelated firms would want to merge are:
To achieve economies of scope
To get a good buy
To diversify
To ward off a takeover bid
To strengthen their political-economic influence
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36. Chapter Summary
The increasing internationalization of the U.S. market has changed U.S. antitrust policy from looking at just domestic competition to considering international competition
Antitrust issues are by nature global, but a country’s antitrust laws are not
Other than antitrust policy, government affects the competitive process through regulation, government ownership, and industrial policy
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37. Preview of Chapter 19: Work and the Labor Market
Use the theory of rational choice to explain why an increase in the marginal tax rate is likely to reduce the quantity of labor supplied
Discuss four factors that influence the elasticity of market labor supply
Discuss four factors that influence the elasticity of market labor demand
Explain how the demand for labor is a derived demand
Define monopsony and bilateral monopoly
Explain real-world characteristics of labor markets in terms of market, political, and social forces
Discuss three types of discrimination
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