New Tools for Competitive Effects: Do We Really Know What Works Best?

Mar 15, 2011

Competition agencies around the world are charged with the task of identifying and challenging mergers and acquisitions that are likely to substantially lessen competition. Agencies have over the years relied upon a wide range of information and economic theories to investigate the likely competitive effects of proposed transactions. Furthermore, the types of information and the economic models and tools employed by agency staff have evolved over time, largely in response to developments in economic theory and legal thinking. Developments in oligopoly theory on the one hand, and econometric methods for analyzing price and quantity data on the other, have shaped the theories of harm articulated by the agencies and the empirical tools used to investigate those theories. Many of these developments are reflected in merger guidelines issued by competition agencies in order to assist merging parties and antitrust practitioners generally.

Over the last few years, there has been a lively debate among antitrust practitioners and the academic community about the appropriate tools for analyzing unilateral effects in a merger investigation. The debate was fueled in part by the 2008 publication of a working paper by Joseph Farrell and Carl Shapiro that proposed a new method for analyzing the competitive effects of mergers in differentiated products industries. Acknowledging the enormous challenges faced by competition agencies, Farrell & Shapiro proposed a measure of upward pricing measure (“UPP”) as a simple screen for likely unilateral effects in a merger between rivals in a differentiated products industry. Contributors to the debate have discussed the relative strengths and weaknesses of UPP versus other empirical tools for identifying anticompetitive mergers, including so-called natural experiments, merger simulation, diversion ratios, and critical loss analysis for competitive effects. In this article, I do not intend to weigh in on this debate. Instead, I will attempt to summarize efforts to evaluate empirically the relative strengths and weaknesses of the empirical techniques used to analyze theories of unilateral effects.

To assess the performance of the various empirical tools available to competition agencies I consider results from recent empirical research that evaluates the success of empirical models used to predict price changes following a transaction. The results from this research would seem to be especially important to inform the ongoing debate about which empirical technique is best able to identify anticompetitive transactions. As discussed in more detail below, there is a small but growing body of empirical work that provides some evidence on how best to identify mergers likely to be anticompetitive. I will also briefly discuss a second strand of research that considers whether the empirical tools for identifying anticompetitive mergers can accurately predict agency enforcement decisions.