Antitrust Practices and Market Power

Antitrust

Case Background

One recent antitrust action has been between the United States Justice Department and the credit card companies. The government has argued that American Express has hindered competition in the credit card market. At issue are rules that AMEX imposes on retailers to prevent them from offering incentives to customers to use other cards (Longstreth, 2014). This is not the first time that credit card companies have faced antitrust action, either. In 2012, Mastercard and Visa entered into a settlement worth $7.25 billion, regarding alleged price fixing of the interchange fees that are paid by merchants when customers use Mastercard or Visa for their purchases. Interchange fees are paid by the store to the credit card company. When these two companies always charge the same fees, it opened up the possibility of antitrust legislation, with accusing of collusion. The settlement meant that the companies were not officially found of any wrongdoing (Grossman, 2012).

Costs to the Market

There are costs associated with antitrust behavior, and that is why the government has pursued these cases. The credit card industry is a complex ecosystem that includes store cards, but third-party cards operate under oligopoly conditions, with three companies (Mastercard, Visa and American Express) holding a commanding share of the market (Heggestuen, 2014). There are high barriers to entry in this industry, because the companies require a vast amount of money in order to extend credit, and the industry is heavily regulated. Antitrust activities, such as price-fixing, or seeking to restrict trade, effectively seek to reduce the number of legitimate players in the marketing. In the fees case, if Mastercard and Visa act identically to each other, that means instead of there being three major companies in the industry for competitive purposes there are two. In the Amex case, that was Amex trying to leverage its market power to unfairly gain advantage, restricting competition.

Such activities inherently have a cost to the market. The industry is an oligopoly, or if a broader view of the payment ecosystem is considered, a state of monopolistic competition. This makes a difference in terms of antitrust legislation, because two companies colluding will affect the market, but there is also a finer line between collusion and oligopolistic competition, where the main industry players compete directly against each other and react to each other's moves.

In either case, the market will be most efficient when firms are competing. Under full competitive conditions, the market should operate at close to its maximum efficient level. When Amex seeks to restrict competition, that takes some consumer resources away from competitors to a less efficient Amex. When Mastercard and Visa engage in price-fixing, that similarly reduces the efficiency of the industry, because there are few substitutes for major vendors such as those in the lawsuit. The reason why the companies would introduce inefficiency to the market is to gain additional profits, because it is difficult to otherwise earn profit in an oligopolistic industry.

The resultant inefficient is what is known as a market failure, where the market is not operating as efficiently as it should be. This inefficiency is what is known as a deadweight loss to society, as compared to the output level if the market was fully efficient. The role of antitrust legislation is to prevent companies from abusing their market power to constraint competition, and thereby the government is seeking to use its formal authority to reduce market failure.

Society

Economically, monopolies and oligopolies tend to be bad for society. This is because if they are profit-maximizing entities, they will maximize profits at the expense of society. There are instances where monopoly or oligopoly might be necessary, for example industries where there are resource constraints, or where there are fixed costs so high that only one or two firms could possibly earn a profit. The latter would mobile communications, which have high investment costs and a short technology cycle. Reasonable monopolies might include power distribution, where fixed wires are required. It would be ridiculous to have instead of one set of wires, half a dozen competing sets of wires. That would be wasteful, difficult to turn a profit, and unsightly as well. Government tends to intervene when there are natural monopolies, or oligopolies, in order to make sure that the firms in those industries are not abusing their power.