Pro-competitive rationale of public price announcements

Pro-competitive rationale of public price announcements

When analysing potentially anti-competitive conducts, it is important to consider whether pro-competitive motivations could also explain that conduct. In this article, Guillaume Duquesne and Hippolyte Brosse [1] demonstrate this using the example of price announcements. While such announcements can facilitate collusion, they can alternatively operate as a barometer, promoting efficiency by informing other suppliers and customers about changing market conditions. It is important to establish which of those rival explanations is consistent with the facts of a particular case.

Introduction

Price fixing is universally harmful to competition and consumers. The impact that price announcements – where companies publicly announce prices in advance – have on competition may be more complicated. They can be anti-competitive, but not necessarily. They can have one of two underlying explanations:

  • Thecollusive explanation”: price announcements act as a coordinating device, enabling suppliers to collude on supra-competitive prices. This would have detrimental effects on competition and harm customers.
  • Themarket efficiency explanation”: price announcements act as a barometer, informing both suppliers and customers about expected changes in market conditions. This information can improve market efficiency.

Distinguishing between these two narratives is most relevant when rivals announce gross prices and subsequently negotiate net prices with customers.

In such cases, putting forward a credible explanation for conduct that the competition authorities have concerns about could be crucial. In principle, it should be sufficient only to demonstrate that the concerns are unfounded. However, that leaves unanswered the question about what actually motivates potentially harmful conduct. It is better to answer that question directly, providing a pro-competitive explanation for it and demonstrating that such narrative fits the facts better than the anti-competitive rationale.

The critical question

The critical question is therefore whether announcing gross price increases enables suppliers to coordinate on net prices – the prices consumers actually pay. Gross prices are list prices. Customers pay net prices, which include discounts to the gross prices, negotiated bilaterally between suppliers and their customers.

To address this question, it is not enough to investigate whether price announcements result in gross and net prices higher than those that would prevail in the counterfactual scenario without price announcements. This is because both anti- and pro-competitive price announcements could yield prices higher than the market would set without any price announcement. Pro-competitive price announcements may inform buyers and sellers that market conditions are tightening, so that they adjust their purchasing and supply decisions earlier than they would if they were less well informed. While prices in these circumstances may be higher, the allocation of scarcer resources is more efficient, as for instance the risk of rationing is reduced or eliminated.

This is why it is important to identify the motivations for potentially harmful conduct and to show, even if the standard of proof does not strictly require it, that the conduct is likely to have a positive effect on competition and customer welfare. It not only alleviates scepticism, by revealing the genuine rationale of the conduct; it also prevents error, by reducing the risk that the conduct is assessed against the wrong counterfactual.

To assess if price announcements have a negative or positive effect on competition, one needs to specify the market mechanisms at play under both narratives, and then examine which of the two mechanisms best fits the evidence. This can be done with the help of both theoretical and empirical models which aim at testing whether the available evidence was more consistent with the anti-competitive or pro-competitive explanation.

Is the evidence consistent with the collusive explanation?

A collusive explanation implies that price announcements act as a coordinating device. To facilitate coordination, gross price announcements should allow suppliers (a) to reach an agreement about the specific terms on which to coordinate their pricing strategies (i.e., a focal point); and (b) to monitor possible deviations from that focal point.[2]

Thus, to show that the available evidence is not consistent with the collusive narrative, we would have to show that:

  • Price announcements do not facilitate the identification of a focal point. The relevant variable for competition is net prices – the prices that customers actually pay. For suppliers to coordinate net prices on the basis of announced gross prices, there should be a systematic and predictable relationship between the announced gross prices and net prices. Absent such a relationship, gross price announcements are not sufficiently informative to establish a focal point. This is unlikely when gross and net prices vary greatly across customers and over time. As such, a single set of gross prices announced by one supplier is unlikely to provide any meaningful information for competitors to reach a common understanding on a single focal point for net prices.
  • Price announcements do not facilitate monitoring of possible deviations. For example, if net prices vary widely and significantly across customers and over time, and cannot be observed directly, it would be hard, if not impossible, to infer from the public gross price announcements what net price each supplier is charging to its individual customers at any given point in time.

Even if the price announcements met both conditions, one would still need to check whether customers could hinder any form of coordination on net prices. This requires customers in the relevant market to be sophisticated professional buyers with negotiating power, e.g., purchasing from multiple suppliers, so that they can play off one supplier against another in price negotiations to obtain the best deals. They should also be well-informed about past prevailing market conditions, so that they can assess whether price announcements were justified by tight market conditions and, hence, are able to credibly punish unjustified price announcements by shifting their future volumes to other suppliers during periods of oversupply.

Is the evidence consistent with the market efficiency explanation?

This narrative posits that price announcements warn customers and suppliers about market conditions that are expected to tighten. This is known as “barometric price leadership” in the economic literature.[3] It refers to a situation in which a firm acts as a “barometer”, informing customers and other firms in the industry that market conditions, e.g., the supply-demand balance, are changing.

The practical relevance and power of this narrative can be tested empirically. If correct, one should find that price announcements do signal changes in supply and demand in the market. This could be done by means of an econometric model aimed at investigating the relationship between the likelihood of price announcements and factors indicative of market conditions (in particular of disparities between supply and demand). The market efficiency explanation requires to find that when market conditions tightened (or were expected to tighten), the likelihood of making a price announcement increased. This is consistent with the market efficiency explanation, and inconsistent with the collusive explanation. Under the latter explanation, suppliers’ incentive to coordinate on collusive prices is stronger in periods of excess supply than in periods of relative scarcity, since in excess supply scenarios unilateral competition may result in lower prices and profits.

Importantly, while collusion would only benefit suppliers, transparency about periods of upcoming scarcity benefit both customers and suppliers in different but related industries. Customers have an incentive to support transparent and informative price signals. This is a critical difference to a situation of price coordination, which they should seek to hinder.

  • Customers benefit from price announcements and have incentives to support them. Even when customers do not welcome price increases, they benefit from knowing that supply is about to become insufficient to satisfy the entire demand. This information helps them to adjust their production better, or earlier, than if such information would have become available only later. For instance, consumers can source the products through a different channel, by drawing on their stocks or accessing imports. Furthermore, when supply is not scarce relative to demand, the absence of price announcements reinforces price competition between suppliers to the benefit of customers. Customers not seeing any price announcement infer that there is oversupply in the market and negotiate lower prices, playing off suppliers against each other.
  • Suppliers benefit from price announcements and have an incentive to support them. If the relevant market is characterised by significant short-term fluctuations, and difficulties for all suppliers in anticipating the changes in market conditions with precision, then, by increasing transparency during periods of scarcity, price announcements improve the suppliers’ ability to set a (higher) price that better reflects the tightness of the market. This helps suppliers recoup their investments more efficiently.

By credibly announcing price increases when excess demand is likely, this strategy increases the intensity of competition during periods of excess supply, as the absence of price announcements signals oversupply. This causes suppliers to compete more aggressively on prices than they would do were this strategy not in place. If competition is fierce between suppliers in a counterfactual without any price announcements, the reduction in profits due to intense competition during periods of oversupply is dominated by the benefits of better identifying scarcity events, when suppliers can increase prices. This insight can be confirmed with the help of a stylised economic model (see Box 1).

 

Conclusion

We have discussed the importance of putting forward a pro-competitive explanation to help competition authorities dismiss potential concerns. Absent this positive explanation, they may remain doubtful that the lack of evidence supporting an anti-competitive explanation is evidence of an absence of anti-competitive effects. Thus, they may consider this absence of evidence as insufficient to alleviate their concerns about potentially harmful conducts that companies deliberately undertake over a long period of time.

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[1] Guillaume Duquesne is a Senior Vice President at Compass Lexecon. Hippolyte Brosse is an Economist at Compass Lexecon. We would like to thank Salvatore Piccolo for his helpful support on the economic modelling. The views expressed in this article are the views of the authors only and do not necessarily represent the views of Compass Lexecon, its management, its subsidiaries, its affiliates, its employees or its clients.

[2] The European Commission’s Guidelines on the applicability of Article 101 of the Treaty on the Functioning of the European Union to horizontal co-operation agreements, OJEU C 11/01 of 14 January 2011 (the “EC Horizontal Guidelines”) indicate that the sharing of information may raise competitive concerns when firms are able to share information about their future intentions. In particular, the EC Horizontal Guidelines indicate that “[b]y artificially increasing transparency in the market, the exchange of strategic information can facilitate coordination (that is to say, alignment) of companies’ competitive behaviour and result in restrictive effects on competition” (paragraph 65) and that the “[e]xchange of information about intentions concerning future conduct is the most likely means to enable companies to reach such a common understanding” (paragraph 66).

[3] George J. Stigler (1947): “The kinky oligopoly demand curve and rigid prices.” Journal of Political Economy 55(5), pp. 432-449. Jesse W. Markham (1951): “The nature and significance of price leadership.” The American Economic Review 41(5), pp. 891-905. Cooper (1997) was the first to identify potential information asymmetries as a cause of price leadership. David J. Cooper (1997): “Barometric price leadership.” International Journal of Industrial Organization 15(3), pp. 301-325.