Horizontal Mergers Flashcards by Phil Moore

What is the Williamson (1968) tradeoff?

A merger can be welfare enhancing if there are sufficient efficiency gains

However, nowadays the CMA only looks at the effect on consumer surplus

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What happens to Consumer welfare when a duopolist with homogeneous products merges?

The consumer welfare falls as the new firm increases its prices to the monopoly level

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Why do the competition authorities now only look at consumer surplus rather than total welfare change?

It is easier to calculate consumer surplus than total welfare change
Consumers are much smaller than a firm and so need help, whereas firms can look after themselves

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What is the merger paradox?

The merging parties do not actually increase their profits as a result of the merge

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What is an Anticompetitive Merger?

A Substantial Lessening of Effective Competition (SLEC)

(just SLC in the UK)

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What are the potential anticompetitive effects? (4)

Unilateral Effects, Coordinated Effect, Conglomerate Effects, Vertical Effects

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What is a unilateral effect?

A merger is likely to increase prices noncooperatively

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What is a coordinated effect?

A merger may increase the likelihood of tacit collusion

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What is a conglomerate effect?

A merger brings together a portfolio of complementary products which, when bundled together, may foreclose rivals without full range

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What is a vertical effect?

A merger may foreclose rivals in a downstream market

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What are the common defences firms use when accused of anticompetitive mergers? (3)

Usual line, Efficiency defence, Failing firm defence

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What is the usual line defence?

Low entry barriers and/or the market is defined too narrowly (widely)

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What is the efficiency defence?

Expected marginal cost savings would lower prices

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What is the failing firm defence?

One of the parties claims it would exit without a merger

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What solutions are there to anticompetitive mergers? (2)

Prohibition and Remedies (Structural or Behavioural)

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What is prohibition?

The market authority stops the merger from taking place at all (i.e. Sainsburys and Asda)

Blunt tool, so although the downsides are stopped, none of the upsides are retained either (i.e. increased welfare)

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What are remedies?

The merger is allowed to go through as long as the firms meet certain conditions post merger

These can be structural or behavioural

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What is a structural remedy?

The firm is forced to sell off some of its assets to prevent the anticompetitive effects

These are used much more than behavioural remedies because the competition authority doesn’t need to monitor the firm as closely

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What is a behavioural remedy?

The firm is told to behave in certain ways to prevent anticompetitive effect

Why may the remedial approach not be socially optimal? (3)

Type 1 - it is too harsh and eliminates efficiencies

Type 2 - it is too lenient and anticompetitive effects remain

-Investigations may delay mergers and require substantial resources

What is Single Dominance?

Where the largest firm can unilaterally raise prices

What is Collective Dominance?

Where firms can collectively raise prices through collusion

What are the two phases of the bargaining process in the merger investigation?

Phase 1 is a short sharp look at the merger (this can last about 6 weeks). If issues aren’t sorted in this time then the merger can be referred to phase 2

Phase 2 gives the agencies an indefinite amount of time to look at the merger

What happens if the issues aren’t sorted after phase 2?

The merger is prohibited

How does the European Commission screen for anticompetitive mergers?

They look at the post-merger market shares (assumed to be the sum of the pre-merger market shares)

What are the 3 assessments of post-merger market shares?

Safe Havens: combined market shares does not exceed 25% Dominant Position: Very large market shares - 50% or more 40% Threshold: "between 40% and 50%, & in some cases below 40%, to lead to the creation or the strengthening of a dominant position"

How does the US assess post-merger market power?

Through the HHI (Herfindahl-Hirschman Index)

How do we calculate ∆HHI?

2s₁s₂ | (simplified from HHIpost - HHIpre)

What value of ∆HHI is of potential concern to the US DoJ?

Greater than 100 points

What does the US DoJ consider a moderately concentrated market?

A post-merger HHI between 1500 and 2500 Any HHI above 2500 is highly concentrated

What are the assumptions of the Equilibrium Analysis in Cournot Framework? (3)

1. There are n≥1 firms competing in quantities 2. Constant marginal costs c≥0 and fixed costs f=0 3. Suppose there is linear demand: P=A-BQ where A \> c

What is the inverse demand for the firm?

P = A - B[Q(-i)+q(i)]

What are the profits of firm i given its rival produces Q(-i)?

π[q(i),Q(-i)] = (P-c)q(i) = (A - B[Q(-i) + q(i)] - c)q(i)

How do we solve for Nash equilibrium?

q(i) = q(N), Q(-i) = 2q(N) (because we assume there are three firms in the market all with q(N), so Q(-i) is q(2) + q(3) = 2q(N)) Then put this into the formula for the BRF (through differentiation) q (N) = [1-2q(N)]/2 2q(N) = 1-2q(N) q(N) = 1/4

What is the Welfare in the market (pre-merger)?

Q = 3q(N) = 3/4 (because Q = q(1) + q(2) + q(3)) P = 1-Q = 1/4 π(N) = Pq(N) = 1/4\*1/4 = 1/16

What is the necessary and sufficient condition for Nash equilibrium in quantities?

Each firm must not want to change their quantity supplied, given quantity of others

What is the effect on profits if firm i increases its quantity in Cournot?

πi ↑ because it sells another unit of output πi ↓ because it lowers the market price to do so

What is the Best Response Function of firm i in Cournot?

It occurs where δπi/δqi = A - BQ-i - 2Bqi - c = 0 qi = A-c/2B - Q-i/2

What are the implications of this equilibrium in Cournot? (4)

- firm i's quantity falls as rivals produce more (qi↓ Q-i↑) - firm i's quantity rises as demand rises (demand is A) (qi↑ A↑) - firm i's quantity falls for lower demand (qi↓ B↑) - firm i's quantity falls as marginal cost rises (qi↓ c↑)

What is the output of the rival firms in Cournot Nash equilibrium?

(n - 1)q^N

What is the value of q^N when its rival produces (n-1)q^N?

qN = A-c/2B - (n-1)qN/2 this simplifies to: qN = A-c/B(1+n)

What is the price with this value q^N?

P = A - B(Q^N_-i + q^N) = A - n(A-c)/n+1 = A+nc/n+1

What is the Cournot paradox in the merger model?

- Two firms merge and they reduce their joint output to exploit new market power - rivals increase their output (which undermines the effect of the merger) [see diagram in lecture for BRF of insider/outsider] - Only a merger to monopoly is privately optimal!

What is the Bertrand paradox in the merger model? (with homogeneous products)

- firms receive zero profit before the merger - firms receive zero profit after the merger

How does the Bertrand model with differentiated products solve the merger paradox?

- when two firms merge they increase price to exploit market power - rivals increase their price (which strengthens the effect of the merger)

What is the Merger Paradox?