Competition and the law – economically sound, or theoretically patchy?

If you look across today’s media, discussion about the level of modern competition appears to be everywhere. Headed by Coles and Woolworths, Australians are slowly seeing numerous facets of their everyday lives taken over by the large conglomerates – petrol, insurance, let alone the (decreasing number of) brands that can be physically purchased when heading to the supermarket.

An interesting question for consideration, at least in my view, is how our legal and enforcement systems actually deal with changes in competition, and how ‘economic’ their motives behind their decisions really are. How does the judiciary impose law onto what would otherwise be the free market – and, for those of us with a piqued interest in the subject, where do economic advisers fit in?

Competition law in Australia – the system

The state of competition in Australia is primarily based around the Competition and Consumer Act 2010. As this country is a majority free-market economy, it should not be entirely surprising that the main objective of the legislation is to ‘promote competition amongst firms’ – it’s at least a good start. Whilst most of the statute itself is focused around consumer law (making competition, in a sense, its slightly-forgotten cousin), the law centres itself more on what companies are not allowed to do by way of prohibition, instead of providing only a few methods for expansion and growth.

The standard for these prohibitions – centring around mergers, cartels, predatory pricing and your usual ‘economic nasties’ – is that they will block or undo conduct where it ‘substantially lessens competition’. What this actually means is where the ‘economic’ side of the law makes its debut appearance. The most authoritative Australian cases (if anyone is interested, and has a lot of time on their hands, check out QCMA) effectively mandate the determination of market power in a sector or for a product – i.e. what is the current state of competition, what is the change that is occurring (the hypothetical merger), and does it change that state?

Interestingly, QCMA focuses primarily on the fundamental economic principles of elasticity and substitution: if a firm is to give less, in terms of service or supply, and charge more, would there be much of a reaction from consumers? Fairly straightforward – at least to those of us who know a thing or two about economics. Where I found the test intriguing was through its inclusion of ‘supply substitution’. We are all aware of the idea that, for example, if the price of tea goes up, a certain amount of consumers will switch their purchasing preference to coffee (I wouldn’t, but I suppose I’m just inelastic). The courts have moved to place a large emphasis on the importance of suppliers being able to quickly, and relatively cheaply, move their production capabilities over to a new product if the price were to increase – in effect taking advantage of inelastic demand.

The five other ‘main’ elements of economics the law takes into account in market definition are as follows:

  • How many firms are in the market, and what is their market share?
  • Are there barriers to entry?
  • To what extent do products within the market differ?
  • Does vertical integration exist between functions, e.g. suppliers are also retailers?
  • Are there arrangements amongst firms, e.g. agreements not to compete?

There have recently been arguments concerning issues that arise where there are in fact firms within a market that are considered too efficient – a company that is excellent at its function is likely to drive out competitors, thereby changing the structure of the market without undertaking some kind of ‘prohibited’ arrangement. Another criticism also involves the age-old economic concept of game theory – the law fails to consider the fact that firms tend to act (at least in modern competitive markets) based on what competitors either are or may be doing; should we be including an element of economic strategy in considerations of market structure? What do you think?

The role of economic expertise and the judiciary

Something that a number of you may have realised, however, is that most judges don’t have an economics degree. Many are not aware of the finer points of market definition, whilst ideas of substitution tests are often impractical due to evidential issues; it can often be hard to put parameters on something which is intuitive in nature. This is where economic/industry experts are said to pull their weight. They are likely to be called to the stand, with a whole bunch of statistics (what a surprise…), to give their views on what a market is, and is not.

Recently (Google ‘Arnotts competition case’ if you want to read further) the courts have decided that you cannot have an expert determining the answer to what they have termed a legal question – has this company broken the law? Depending on how you frame it, this could easily become an economic question: is there sufficient market power held by this company to distort the market (unfairly) in its favour? Surely, in this latter situation, an economic expert’s opinion would be paramount, rather than the opinion of relatively uninformed legal decision-makers? Without wanting to take anything away from the judiciary (I would dearly love to join their ranks, one day), it hardly seems enough to merely listen to a lecture on economic principle from an expert, and leaving a court to apply it all by itself.

Hopefully, that’s cleared up some of your minds as to how competition law works in Australia on a basic level, including its (in some ways limited) application of economic principle. There are some decent concepts the court considers, however the main question is whether it really should be the courts that are considering them in depth? Do you have another solution?