Slide 7.

Industrial Organization 2020_21

Lipczynski, Wilson and Goddard, Industrial Organization: Competition, Strategy, Policy, 3rd Edition © Pearson Education Limited 2009
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Slide 7.2

Learning objectives

• Profitability and stability of cartels

• Factors conducive to cartel formation
• Antitrust policy
• Market and industry definition
• Measures of seller concentration
• Anti competitive strategies

Lipczynski, Wilson and Goddard, Industrial Organization: Competition, Strategy, Policy, 3rd Edition © Pearson Education Limited 2009
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Slide 7.3

Forms of collusion

• What is a cartel?
– tacit or explicit agreement enforcing market discipline and
reducing competition within a group of suppliers
– cartel members agree to coordinate their actions
• prices
• market shares
• exclusive territories
• product standardization/specialization
• rebate agreements

Lipczynski, Wilson and Goddard, Industrial Organization: Competition, Strategy, Policy, 3rd Edition © Pearson Education Limited 2009
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Slide 7.4

…the incentive to cheat

(a) Typical firm (b) Industry
$ $

MC

pm pm MC
pc pc
AC

Market
demand

MR
qm qc q* Firm’s quantity, q Qm=nqm Qc Industry quantity, Q

Based on Carlton
Lipczynski, and
Wilson and Goddard, Perloff
Industrial (2000)
Organization: Competition, Strategy, Policy, 3 rd Edition © Pearson Education Limited 2009
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Slide 7.5

…the incentive to cheat

(a) Typical firm (b) Industry
$ $

MC

pm pm MC
pc pc
AC

Market
demand

MR
qm qc q* Firm’s quantity, q Qm=nqm Qc Industry quantity, Q

Based onIt isCarlton

Lipczynski, and
Wilson and Goddard, Perloff
Industrial (2000)
Organization: rd
Competition, Strategy, Policy, 3 Edition © Pearson Education Limited 2009
forbidden to record and share the streaming lectures in any form (audio and\or video)
Slide 7.6

…the incentive to cheat

(a) Typical firm (b) Industry
$ $

MC

pm pm MC
pc pc
AC

Market
demand

MR
qm qc q* Firm’s quantity, q Qm=nqm Qc Industry quantity, Q

Based onIt isCarlton

Lipczynski, and
Wilson and Goddard, Perloff
Industrial (2000)
Organization: rd
Competition, Strategy, Policy, 3 Edition © Pearson Education Limited 2009
forbidden to record and share the streaming lectures in any form (audio and\or video)
Slide 7.7

Profitability and stability of collusion

Two identical firms making identical products

for each firm MC = $30
market demand is P = 150 – Q

If they compete à la Cournot their profits will be = 1.600

If they cooperate their profits will be = 1.800
However if one cheats on the other it will get 2.025 (and the other
will get only 1.350)

Colluding is profitable, but cheating is even more profitable:

– cartels and intrinsically instable!

Lipczynski, Wilson and Goddard, Industrial Organization: Competition, Strategy, Policy, 3rd Edition © Pearson Education Limited 2009
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Slide 7.8

The Incentive to collude and to cheat

Figure 7.1 Joint profit maximization in a three-firm cartel

Lipczynski, Wilson and Goddard, Industrial Organization: Competition, Strategy, Policy, 3rd Edition © Pearson Education Limited 2009
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Slide 7.9

Fringe of non-cartel firms

Figure 7.2 Equilibrium with K cartel firms and N – K non-cartel firms

The more numerous and elastic is the non-collusive fringe, the smaller is the
profitability of the cartel!

Lipczynski, Wilson and Goddard, Industrial Organization: Competition, Strategy, Policy, 3rd Edition © Pearson Education Limited 2009
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Slide 7.10

Problem

• Assume that there are 10 identical firms with

MCi=10+5qi (assume no FC). If the aggregate
demand is D=100-2Q and 2 firms decide to
collude:
– what will be the equilibrium price set by the
cartel (P*=28.45)?
– what will be the profit gained by each firm type
(πCA=33.20; πF=34.07)?

Lipczynski, Wilson and Goddard, Industrial Organization: Competition, Strategy, Policy, 3rd Edition © Pearson Education Limited 2009
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Slide 7.11

Aim of the antitrust policy

http://ec.europa.eu/competition/antitrust

• Competition is a basic mechanism of the market

economy and encourages companies to provide
consumers with products that consumers want. It
encourages innovation, and pushes down prices.

• In order to be effective, competition needs

suppliers who are independent of each other and
that supplier is subject to the competitive pressure
exerted by the others.

• Aim of the antitrust policy and law is to prevent

any restriction to the competitive pressure that
might cause some welfare loss or any sort of
inefficiency.
Lipczynski, Wilson and Goddard, Industrial Organization: Competition, Strategy, Policy, 3rd Edition © Pearson Education Limited 2009
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 Europe 1957 Treaty of Rome art. 81
Slide 7.12

Italian Law 287/1990 art.2

The following shall be prohibited as incompatible with the internal market:

all agreements between undertakings, decisions by associations of undertakings

and concerted practices which may affect trade between Member States and which
have as their object or effect the prevention, restriction or distortion of competition
within the internal market, and in particular those which:

(a) directly or indirectly fix purchase or selling prices or any other trading
conditions;

(b) limit or control production, markets, technical development, or investment;

(c) share markets or sources of supply;

(d) apply dissimilar conditions to equivalent transactions with other trading parties,
thereby placing them at a competitive disadvantage;

(e) make the conclusion of contracts subject to acceptance by the other parties of
supplementary obligations which, by their nature or according to commercial
usage, have no connection with the subject of such contracts.

Lipczynski, Wilson and Goddard, Industrial Organization: Competition, Strategy, Policy, 3rd Edition © Pearson Education Limited 2009
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Slide 7.13

Europe 1957 Treaty of Rome art. 82

Italian Law 287/1990 art.3
• Any abuse by one or more undertakings of a dominant position
within the internal market or in a substantial part of it shall be
prohibited as incompatible with the internal market in so far as it
may affect trade between Member States.
• Such abuse may, in particular, consist in:
• (a) directly or indirectly imposing unfair purchase or selling
prices or other unfair trading conditions;
• (b) limiting production, markets or technical development to the
prejudice of consumers;
• (c) applying dissimilar conditions to equivalent transactions with
other trading parties, thereby placing them at a competitive
disadvantage;
• (d) making the conclusion of contracts subject to acceptance by
the other parties of supplementary obligations which, by their
nature or according to commercial usage, have no connection
with the subject of such contracts.
Lipczynski, Wilson and Goddard, Industrial Organization: Competition, Strategy, Policy, 3rd Edition © Pearson Education Limited 2009
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Slide 7.14

http://www.agcm.it/en/

Lipczynski, Wilson and Goddard, Industrial Organization: Competition, Strategy, Policy, 3rd Edition © Pearson Education Limited 2009
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Slide 7.15

Cartels and abuse of dominant

position

Lipczynski, Wilson and Goddard, Industrial Organization: Competition, Strategy, Policy, 3rd Edition © Pearson Education Limited 2009
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Slide 7.16

Mergers and acquisitions

Lipczynski, Wilson and Goddard, Industrial Organization: Competition, Strategy, Policy, 3rd Edition © Pearson Education Limited 2009
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Slide 7.17

Theoretical foundations

• Market structures:
– Monopoly
– Dominant firm
– Market concentration (SCP paradigm) collusion
• Strategic behavior:
– Collusion (prices, exclusive territories, market
shares)
– Price discrimination
– Predatory pricing
– Market preemption
– Tying or exclusive dealing with suppliers and
distributors
– Long term contract with consumers

Lipczynski, Wilson and Goddard, Industrial Organization: Competition, Strategy, Policy, 3rd Edition © Pearson Education Limited 2009
Slide 7.18

Antitrust Policy & Collusion

• Ideally, antitrust policy can act to deter cartel formation

• To do this, authorities must investigate/monitor
industries and, when wrongdoing is found, prosecute
and punish
– However, the authorities can not monitor each market.
– So, for any cartel, there is only a probability that it will be
investigated and discovered
– Assume: Probability of investigation is a;
Probability of successful prosecution given
investigation is s
Punishment if successfully prosecuted is fine F

Lipczynski, Wilson and Goddard, Industrial Organization: Competition, Strategy, Policy, 3rd Edition © Pearson Education Limited 2009
Slide 7.19

…Antitrust Policy & Collusion

• Combining our investigation and prosecution assumptions with
our earlier model of collusion yields the following expected
present value of the profits stream for each cartel member
cartel – asF + as N
C 1–
V =
1 – (1 – as)
• In our earlier analysis a = s = F = 0. It is clear in examining the above
equation that an increase in either the probability of investigation a, or
in the probability of successful prosecution s, or in the punishment
fine F, will decrease expected cartel profits and so make cartel
formation less likely
• MORAL: Policy against cartels works by deterring their formation in
the first place and not perhaps so much as by breaking them up once
they happen

Lipczynski, Wilson and Goddard, Industrial Organization: Competition, Strategy, Policy, 3rd Edition © Pearson Education Limited 2009
Slide 7.20

…Antitrust Policy & Collusion

• Which tool the authorities should rely most on — a, s, or F

— depends on a number of factors.
• Even a small fine may decrease a lot the stability of a cartel if
the probability of detection and prosecution as is high enough.
• indeed the critical probability adjusted discount factor assuming
F=0 is larger than before by a factor of 1/(1-as)
• ρ > (πD - πM )/[(1-as)(πD - πN )]
•However, monitoring, investigating, and prosecuting are
expensive whereas fines are relatively costless to impose.
•This suggests that optimal policy will cut back on expensive
detection efforts and balance this by imposing heavy fines for
those cartels that are detected.
Lipczynski, Wilson and Goddard, Industrial Organization: Competition, Strategy, Policy, 3rd Edition © Pearson Education Limited 2009
Slide 7.21

…Antitrust Policy & Collusion

• Compare the critical value of ρ that we have
derived assuming
– there is no antitrust policy
• ρ1 > (πD - πM )/[(πD - πN )]
– there is an antitrust policy (even if with F = 0)
• ρ2 > (πD - πM )/[(1-as)(πD - πN )]
• since (1-as)<1, ρ2 > ρ1 !!!!
• It means that when there is an antitrust policy
the critical value of
That is, the sustainability of the cartel is lower. The
• Max r is smaller conditions under which it is profitable in the long
• Min P is larger run to stick to the collusive agreement are more
stringent!!!
Lipczynski, Wilson and Goddard, Industrial Organization: Competition, Strategy, Policy, 3rd Edition © Pearson Education Limited 2009
Slide 7.22

Case studies

http://www.agcm.it/

Lipczynski, Wilson and Goddard, Industrial Organization: Competition, Strategy, Policy, 3rd Edition © Pearson Education Limited 2009
Slide 7.23

Concrete producers in FVG

– 9 producers
– 2 logistics operators
– Two geographical areas:
• Province of Udine, Gorizia, Pordenone, Treviso (80%
market share of the cartel)
• Province of Trieste (60% market share of the cartel)
– Terms of the agreement:
• Fixed prices updated on a weekly basis via meetings
and data sharing
– increased by 8%-17% within the time horizon (2011_13)
• Fixed market shares
• 2 logistics operators in charge for monitoring the
prices charged and the quantity sold by the partners
• Penalties: €3/cm sold
Lipczynski, Wilson and Goddard, Industrial Organization: Competition, Strategy, Policy, 3rd Edition © Pearson Education Limited 2009
Slide 7.24

…concrete producers in FVG

– On the basis of art.2 law 287/90 and art. 101
TFUE in March 2015
– Leniency policy for Calcestruzzi SPA
– Penalties for all the other companies
• 15% of total revenues within 2011_13

Lipczynski, Wilson and Goddard, Industrial Organization: Competition, Strategy, Policy, 3rd Edition © Pearson Education Limited 2009
Slide 7.25

Public transportation insurance

• Assicurazioni Generali SPA (Generali Italia SPA
and INA Assitalia)
• UnipolSai Assicurazioni SPA (Fondiaria SAI and
Unipol Assicurazioni)
• Geographical area:
• Bari, Salerno, Padova, Catania, Avellino, Otranto, Terni,
Vicenza, Genova, Arezzo, Grosseto, Siena, Piombino,
Reggio Calabria, Napoli, Torino, Messina, Rieti
– Terms of the agreement:
• Avoid participating to the tender for the provision of
insurance coverage for Local Public Transport Services
• With the aim of renewing the existing insurance policy
with the current provider at a much higher price (+40%)
Lipczynski, Wilson and Goddard, Industrial Organization: Competition, Strategy, Policy, 3rd Edition © Pearson Education Limited 2009
Slide 7.26

…public transportation insurance

– In March 2015 on the basis of
– art.2 and 15 law 287/90 and art. 101 TFUE
– the long period of infringement of the antitrust
law: 2010_2014
– the enormous distortion of the normal competitive
setting due to the collusive agreement
– the Italian antitrust agency decided the following
penalties:
• Assicurazioni Generali SPA: € 12.013.443
• UnipolSai Assicurazioni SPA: € 16.930.031

Lipczynski, Wilson and Goddard, Industrial Organization: Competition, Strategy, Policy, 3rd Edition © Pearson Education Limited 2009
Slide 7.27

Pharmaceuticals: Avastin v. Lucentis

• F.Hoffmann-La Roche Ltd. (Roche)
• Novartis AG (Novartis)
• Geographical area: Italy
• Terms of the agreement:
• Since 2012 induce the Italian public health agency
(SSN) to dismiss the use of Avastin, a cheaper
ophthalmic medicine, in favor of Lucentis, a more
expensive one, stating that Lucentis is safer, although
their effectiveness and safety is the same

Lipczynski, Wilson and Goddard, Industrial Organization: Competition, Strategy, Policy, 3rd Edition © Pearson Education Limited 2009
Slide 7.28

…pharmaceuticals: Avastin v. Lucentis

• Estimated costs of substituting Avastin with
Lucentis

• In February 2014 on the basis of

– art.2 and 15 law 287/90 and art. 101 TFUE
• Penalties:
– Roche € 90.593.369 Novartis€ 92.028.750
Lipczynski, Wilson and Goddard, Industrial Organization: Competition, Strategy, Policy, 3rd Edition © Pearson Education Limited 2009
Slide 7.29

Factors influencing cartel formation

and stability
• Entry barriers
• Gains from cooperative action outweigh the
benefits of private action
• Similarity of costs, quotas and products
• Fair mechanism for quotas allocation
• Fewness of firms
• Effective mechanisms for detecting and punishing
non-compliance
• Small proportion of non-cartel firms
• Demand that is relatively inelastic
• Stable demand!
Lipczynski, Wilson and Goddard, Industrial Organization: Competition, Strategy, Policy, 3rd Edition © Pearson Education Limited 2009
Slide 7.30

Summary
• Infinite/indefinite repetition of interaction among
producers raises possibility of price-fixing
– stable cartels sustained by credible threats
• as long as interest rate is not too high
• and probability of continuation is not too low
• Presence of a fringe of non-cartel firms decreases
the formation and the sustainability of cartels
• Public Policy concern about cartels is justified
– Deterrence is at least as important as breaking up existing
cartels
– Deterrence rises with
• probability of detection and
• punishment if caught
• Cartels happen as evidenced by numerous recent
cases and price effects
Lipczynski, Wilson and Goddard, Industrial Organization: Competition, Strategy, Policy, 3rd Edition © Pearson Education Limited 2009
Slide 7.31

Questions

• Give some examples of collusive agreements

and discuss the main features of each case
study on the basis of the theoretical model
presented during the course.
• Describe how the antitrust policy can deter the
creation of new cartels.

Lipczynski, Wilson and Goddard, Industrial Organization: Competition, Strategy, Policy, 3rd Edition © Pearson Education Limited 2009
Slide 7.32

Questions
• Explain why the existence of a non-collusive
fringe reduces the incentive to collude.
• Describe the aims of the antitrust policy and
the main articles of the European and Italian
antitrust law.

Lipczynski, Wilson and Goddard, Industrial Organization: Competition, Strategy, Policy, 3rd Edition © Pearson Education Limited 2009
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Slide 7.33

References

• Lipczynski Wilson Goddard Ch from 7 to 11

• Carlton Perloff Ch 5 + 8 + 11

• Pepall Richards Norman Ch 3+11+12 +

14 + 15

Lipczynski, Wilson and Goddard, Industrial Organization: Competition, Strategy, Policy, 3rd Edition © Pearson Education Limited 2009
It is forbidden to record and share the streaming lectures in any form (audio and\or video)