We are not final because we are infallible, but we are infallible only because we are final.
Justice Robert H. Jackson, Brown v. Allen, 344 U.S. 443 (1953).
Abstract
Footnote 19 of the landmark U.S. antitrust decision in Continental T.V. v. GTE Sylvania, Inc. 433 U.S. 36 (1977) declares that “Interbrand competition … is the primary concern of antitrust law.” We trace the antecedents and influence of this declaration, argue that it is inappropriate, and conclude that it should be abandoned.
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Notes
U.S. v. Arnold, Schwinn & Co. 388 U.S. 365 (1967).
Posner (1977, p. 13) defines a vertical restraint as “a restriction imposed up or down the chain of production and distribution, rather than between competitors….”.
Continental T.V., Inc. v. GTE Sylvania, Inc. 433 U.S. 36 (1977).
See similarly Hovenkamp (1985, p. 218, fn. 26), who identifies 1977 and Schwinn as one of two “plausible candidates” for antitrust’s shift from the economic approach of the 1950s and 1960s to the economic approach of the Second Chicago School. (The other candidate is “1981, when President Reagan… named William F. Baxter to head the Antitrust Division of the Department of Justice”).
Or supports, as we make clear in what follows.
Under the terms of the settlement, White Motor agreed not to require customer or territory restraints of its dealers (U.S. v. White Motor Co. 1964 U.S. Dist. LEXIS 8974; 1964 Trade Cas. (CCH) P71,195 (September 8, 1964)).
In a dissent that was joined by Justice White, Justice Stevens wrote that (485 U.S. 717, 748–749, footnote and internal citation omitted) “What is most troubling about the majority’s opinion is its failure to attach any weight to the value of intrabrand competition. In Continental T. V., Inc. v. GTE Sylvania Inc…, we correctly held that a demonstrable benefit to interbrand competition will outweigh the harm to intrabrand competition that is caused by the imposition of vertical non-price restrictions on dealers. But we also expressly reaffirmed earlier cases in which the illegal conspiracy affected only intrabrand competition. Not a word in the Sylvania opinion implied that the elimination of intrabrand competition could be justified as reasonable without any evidence of a purpose to improve interbrand competition.”.
Addyston Pipe & Steel v. U.S. 175 U.S. 211 (1899).
Northern Securities 193 U.S. 197, 337 (1904): “Whether the free operation of the normal laws of competition is a wise and wholesome rule for trade and commerce is an economic question which this court need not consider or determine. Undoubtedly, there are those who think that the general business interests and prosperity of the country will be best promoted if the rule of competition is not applied. … Be all this as it may, Congress has, in effect, recognized the rule of free competition by declaring illegal every combination or conspiracy in restraint of interstate and international commerce”.
U.S. v. Trenton Potteries 273 U.S. 392 397 (1927), “Our view of what is a reasonable restraint of commerce is controlled by the recognized purpose of the Sherman Law itself. Whether this type of restraint is reasonable or not must be judged in part at least in the light of its effect on competition, for whatever difference of opinion there may be among economists as to the social and economic desirability of an unrestrained competitive system, it cannot be doubted that the Sherman Law and the judicial decisions interpreting it are based upon the assumption that the public interest is best protected from the evils of monopoly and price control by the maintenance of competition”.
After the Topco case returned from the Supreme Court to the district court, the district court, over the unsuccessful appeal of the Department of Justice, entered a Final Judgment that allowed Topco to (Carstensen and First 2007, p. 197, footnote omitted) “designate ‘areas of primary responsibility’ for its members, with the right to terminate members that did not adequately promote Topco brands” and to have “profit pass-over arrangements which would require a member selling in another member’s designated territory to compensate that member for the sales made in that territory.” Areas of primary responsibility and profit pass-over clauses are among the usual vertical restraint suspects.
Louis (1976, p. 282; fn. 32) quotes Areeda (1974, p. 504, fn. 12) to the effect that manufacturers’ interest is to maximize profit, and that strategies followed in pursuit of that goal do “not necessarily reflect more efficient resource use for society.” See also Rey and Stiglitz (1995, p. 432), who point out that in imperfectly competitive markets, wholesale and retail distributers “have specialized information … and in this context, contracts that maximize the profits of the producer do not necessarily maximize the welfare of the consumer.”
For a formal exposition, see Whinston (2006, Lecture 4).
The incidence of free-riding is unclear; see Mittelstaet (1986) for a skeptical view.
Schumpeter (1947) has a similarly broad view of what constitutes innovation.
There is a distinction made in the literature between Schumpeter Mark I and Schumpeter Mark II. Schumpeter Mark I, the Schumpeter of The Theory of Economic Development (1934), conceived of small firms as the vectors of innovation, while for Schumpeter Mark II, the Schumpeter of Capitalism, Socialism and Democracy (1943), it is large firms that drive technological progress (Kamien and Schwartz 1982). Empirical evidence suggests that Schumpeter Mark I applies to some industries, Schumpeter Mark II to others (Baldwin and Scott 1987; Cohen 2010). For Schumpeter Mark II-type manufacturing industries, one might argue that restrictions on intrabrand competition, supporting upstream market power at the expense of innovation in distribution, might nonetheless so promote upstream technological progress that the net effect on market performance would be positive. This possibility, which would not apply for upstream manufacturing industries of the Schumpeter Mark I type and might not apply to particular upstream manufacturing industries of the Schumpeter Mark II type, cannot justify a presumption that interbrand competition is the primary concern of antitrust law.
Areeda (1984, p. 20); Peritz (2007). See also Palamountain’s (1955) discussion of the National Association of Retail Druggist’s (NARD’s) minimum resale price maintenance Tripartite Plan, so-called because it enrolled producers and wholesale distributors in a vertical collusive scheme. The Tripartite Plan was found in violation of the Sherman Act in Jayne v. Loder 142 F. 1010 (1906). More recently, vertical collusion was at issue in U.S. v. Apple, Inc., 791 F.3d 290 (2d Cir. 2015).
There is the question whether “consumer welfare” means “consumer surplus” or “consumer surplus plus producer surplus,” or indeed some broader measure of welfare, but we do not enter into that discussion here.
On this point, Justice Powell writes (433 U.S. 36, 56, fn. 25) “[The claim has been made that] the promotional activities encouraged by vertical restrictions result in product differentiation and, therefore, a decrease in interbrand competition. This argument is flawed by its necessary assumption that a large part of the promotional efforts resulting from vertical restrictions will not convey socially desirable information about product availability, price, quality, and services.” But promotional activities may at one and the same time convey desirable information and increase product differentiation. The information provided by promotional activities may be valued by some but not all consumers, and the net impact on surplus then depends on the relative size of the two groups (Scherer 1983; Comanor 1985).
See Marvel and McCafferty (1984).
In 1967, the 30 firms that were licensed to produce under the Sealy brand name owned 90% of stock in Sealy (U.S. v. Sealy, Inc., 388 U.S. 350, 362). In 1978, the 15 Sealy licensees owned 98% of Sealy (U.S. v. Sealy, Inc., 585 F. 2nd 821, 823).
U.S. v. Sealy, Inc. Trade Cas. (CCH) ¶ 71,258, October 6, 1964.
See in the same vein Stigler (1986). Justice Harlan, in dissent, would have had the district court apply the rule of reason.
Mueller (1988a, pp. 71–72) explains that the Sealy, Inc. system avoided free-riding on national advertising: if one local licensee made a sale in the primary territory of another licensee, the share of national advertising paid for by the “poaching” licensee went up and the share of national advertising paid for by the “poachee” licensee went down.
The improved market performance that resulted from increased intrabrand competition substantially ended in 1987, when a merger combined all but one of the Sealy licensees under a single management (Mueller 1988b, pp. 37–38).
MacKay and Smith use scanner-data-based prices for more than a thousand product groups, comparing prices in nine states that maintained per se illegality for minimum resale price maintenance with prices in fifteen states where the rule of reason applied after Leegin. They employ a difference-in-difference methodology, working with prices in the year before Leegin and in a two-year period beginning six months after Leegin. (They treat the first six months after Leegin as a transition period).
EU competition policy also addresses the fact that vertical restraints across Member State boundaries can impede the ongoing process of EU market integration. See Martin (2016) for a model of the welfare effects of including such negative externalities among the goals of antitrust policy.
Regulation (EU) No 461/2010 of 27 May 2010.
Regulation (EU) No 330/2010 of 20 April 2010. Vertical agreements in auto aftermarkets remain subject to a specific regulation.
For a discussion of market definition and market share calculation in the context of the EU auto sector, see Brenkers and Verboven (2006).
For a recent survey, see Lafontaine and Slade (2008). They conclude (2008, pp. 409) “…when manufacturers choose to impose [vertical] restraints, not only do they make themselves better off but they also typically allow consumers to benefit from higher quality products and better service provision.” They add “Finally, while we find the evidence compelling, some of the studies yield negative or ambiguous effects from restraints.” The latter qualification is consistent with the view that there can be no general presumption that restrictions on intrabrand competition imply such increases in interbrand competition that the net effect is to improve market performance.
Slade (1998) analyzes a counterexample: forced vertical disintegration in the UK beer market.
See Justice White’s concurring opinion in Sylvania (433 U.S. 36).
In the case that a distributor has purchased goods from the manufacturer for resale.
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Cases
Addyston Pipe & Steel v. U.S., 175 U.S. 211 (1899).
Business Electronics Corp. v. Sharp Electronics Corp., 485 U.S. 717 (1988).
California Retail Liquor Dealers Ass’n v. Midcal Aluminum, Inc., 445 U.S. 97 (1980).
Continental T.V., Inc. v. GTE Sylvania, Inc., 433 U.S. 36 (1977).
In the Matter of Levi Strauss & Co., 92 F.T.C. 171 (1978).
Jayne v. Loder, 142 F. 1010 (1906).
Leegin v. PSKS, Inc., 127 S. Ct. 2705 (2007).
Northern Securities Company v. U.S., 193 U.S. 197 (1904).
Ohio-Sealy Mattress Mfg. Co. v. Sealy, Inc., 585 F. 2nd 821 (1978).
State Oil Co. v. Khan, 522 U.S. 3 (1997).
U.S. v. Addyston Pipe & Steel Co., 85 F. 271 (1898).
U.S. v. Apple, Inc., 791 F.3d 290 (2d Cir. 2015).
U.S. v. Arnold, Schwinn & Co., 388 U.S. 365 (1967).
U.S. v. Colgate & Co., 250 U.S. 300 (1919).
U.S. v. Sealy, Inc., 388 U.S. 350 (1967).
U.S. v. Topco, 405 U.S. 596 (1972).
U.S. v. Trenton Potteries, 273 U.S. 392 (1927).
Verizon Communications, Inc. v. Law Offices of Curtis V. Trinko, LLP, 540 U.S. 398 (2004).
Volvo Trucks North America, Inc. v. Reeder-Simco GMC, Inc., 126 S. Ct. 860 (2006).
White Motor Co. v. U.S., 372 U.S. 253 (1963).
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We are grateful for the comments that were received at a University of Utrecht workshop on the 40th anniversary of the U.S. Supreme Court decision in Continental T.V. v. GTE Sylvania and from Jeroen Hinloopen. Responsibility for errors is our own.
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Martin, S., Scott, J.T. GTE Sylvania and Interbrand Competition as the Primary Concern of Antitrust Law. Rev Ind Organ 51, 217–233 (2017). https://doi.org/10.1007/s11151-017-9584-x
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DOI: https://doi.org/10.1007/s11151-017-9584-x