The John M. Olin Center

Paper Abstract

360. Einer Elhauge, A Better Explanation for Why Pricing Above Cost Should Not Be Predatory - And the Implications for How to Define Costs, 04/2002; subsequently published as "Why Above-Cost Price Cuts to Drive Out Entrants Are Not Predatory - and the Implications for Defining Costs and Market Power" in Yale Law Journal, Vol. 112, 2003, 681-827.

Abstract: Recently European and U.S. officials have made surprising moves toward banning above-cost predatory pricing, supported by many prominent scholars whose critiques of cost-based tests have never satisfactorily been answered. This article analyzes in depth the four main types of restrictions on above-cost price cuts reflected in antitrust law and scholarship: (1) a price maintenance rule; (2) a short-term profit-maximizing price floor; (3) a pre-entry output ceiling; and (4) a ban on impermanent price cuts. It concludes that none of these rules would likely have desirable post-entry effects because such protecting less efficient entrants is not only harmful in the short run but futile in the long run because they cannot survive once the price restrictions expire by passage of time or loss of incumbent market power. Such rules also give incumbents perverse incentives to raise post-entry prices to speed the day when the restriction expires, and create purely harmful effects when entrants are as efficient as the entrants. Because of their long run futility, these rules would also provide little ex ante encouragement to entry. Further, any entry they did encourage by less efficient firms would likely to be undesirable, both because of its direct effects and because it would displace efficient entry and discourage ex ante incentives to invest in making products valuable enough to enjoy monopoly power. These ill effects are likely to be particularly severe in the airline industry that prompted many of the proposals because restricting reactive above-cost price cuts will interfere with normal hub-and-spoke competition. The Article also analyzes more particularized problems with each type of restriction, and shows how the theoretical grounds for rejecting above-cost price restrictions provide guidance for determining what should count as costs under any doctrine that condemns below-cost predatory pricing.

360: PDF