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E-MailEric A. Posner is the Kirkland and Ellis Distinguished Service Professor of Law at the University of Chicago. This post is based on his recent paper.
Section 7 of the Clayton Act prohibits mergers and acquisitions where “the effect may be substantially to lessen competition, or to tend to create a monopoly.” The statute plainly does not say that mergers that substantially lessen competition are nevertheless permitted if they advance efficiency or lower prices. The “competition” test of section 7 envisions an ideal of markets in which multiple firms compete for the business of trading partners. The reduction of n firms to n-1 through a merger violates the statute when that reduction in competition exceeds a de minimis threshold left to the courts to determine by reference to congressional purpose.
Yet today the statute is understood in most legal and economic circles in a completely different fashion: as a kind of cost-benefit analysis that prohibits mergers that increase prices—under what I call the “price test,” though it is more familiarly known as the “consumer welfare standard.” Taken to its logical extreme, this view implies that a merger to monopoly—a merger of two firms into one—could be lawful even though plainly the replacement of a duopoly with a monopoly substantially lessens competition, and even more obviously tends to create a monopoly, in the words of the usually overlooked second clause of section 7. This implicit revision of section 7 has weakened merger enforcement, and weaker merger enforcement has been blamed for a range of social ills—including growing concentration, rising prices, stagnant growth, and soaring inequality—resulting in calls for a revival of antitrust law.
How did this come about? In 1968, the economist Oliver Williamson, fresh off a stint as special economic assistant to the antitrust chief at the Department of Justice, proposed that a merger should be approved if it will generate producers’ surplus that exceeds the deadweight loss caused by the expected price increase. Williamson acknowledged that other social values should bear on the question—and indeed, that there was no basis in law for his test—but his qualifications were quickly rejected by his followers such as Robert Bork, then forgotten. By the 1980s, the Reagan administration had adopted the efficiency criterion for evaluating mergers; in the late 1980s, merger challenges by the DOJ reached an all-time low.
Left-leaning academics countered with an interpretation of section 7 that permitted mergers only if they increase consumer surplus. Supporters of the price test argued that courts had not approved mergers on efficiency grounds but had approved mergers that resulted in lower prices. Moreover, they insisted, Congress had enacted section 7 to protect consumers rather than to maximize efficiency. In the 1997 and 2010 Merger Guidelines, the DOJ and FTC stated that they would wave through mergers that would lead to lower prices.
The price test is more hostile to mergers than the efficiency test as the price test approves only the subset of efficient mergers that result in lower prices. But it shares with the efficiency test the standard economics assumption, taken from the industrial organization literature, that the only relevant normative effects of a merger are the impacts on people who directly transact with the merging firms—customers and input suppliers including shareholders. In reality, Congress enacted section 7 because it believed that corporate consolidation posed a threat to the political culture and social fabric as well as economic well-being. Monopolies of the time (and our time as well) distort politics and evade regulation as well as raise prices. These concerns were acknowledged by the Supreme Court’s seminal merger cases from the 1960s and 1970s.
Economists and lawyers have disparaged, ignored, and tried to reinterpret these cases but they remain on the books. Price test supporters argue that the word “competition” in the statute somehow means price, so that an “anticompetitive” merger is one that increases price rather than one that increases market power. That manipulation of language distorts the statute, to say nothing of economics, which makes a clear distinction between market structure and market outcomes, and has caused lasting confusion among the courts.
The hollowing out of merger law resulted mostly from ideological and political currents that swept through both parties over several decades starting in the 1970s, but it also seems to have been influenced by a more prosaic methodological mismatch in bureaucratic staffing. Economists brought into the DOJ and FTC to help evaluate mergers were experts in industrial organization, the subfield of economics that studied mergers and market structure. For practical and historical reasons, economists in IO focused on the impact of mergers on customers, shareholders, and others who dealt directly with the merged firm, and so the normative framework used in that field counted only those people while ignoring everyone else. Congress, rocked by the corporate scandals of the Gilded Age, was concerned about the impact of corporate power on the nation, not just on the people who buy from and sell to the particular companies that merge. Apparently left to their own devices, or actively encouraged, by generations of lawyers at the helm of DOJ and FTC, the economists reconfigured section 7 of the Clayton Act in the image of their textbooks.
For the full story of the transformation of merger law, download the paper here.
