Does Predatory Pricing Exist? Economic Theory and the Courts after Brooke Group

• Author: Richard O. Zerbe,Michael T. Mumford
• Published date: 01 December 1996
• Date: 01 December 1996
• DOI: http://doi.org/10.1177/0003603X9604100410
• Subject Matter: Article

The Antitrust Bulletin/Winter 1996

Does predatory pricing exist?

Economic theory and the courts

after Brooke Group

BY RICHARD O. ZERBE, JR.* and

MICHAEL T. MUMFORD**

1. The

Areeda-

Turner

rule

949

Professors Areeda and Turner made innumerable contributions to

antitrust and one of those contributions for which they are most

famous is a cost-based test to determine

if

pricing is predatory.

The predatory pricing test proposed by professors Areeda and

Turner in 1975 brought a much-needed element of coherence to

predatory pricing analysis.'

Prior

to that time the controlling

*Professor of Public Affairs and Adjunct Professor of Law, Univer-

sity of Washington.

** Masters Candidate, Graduate School of Public Affairs, Juris Doc-

tor Candidate School of Law, University of Washington.

AUTHORS' NOTE: We would like to thank

Jack

Kirkwood

and

Shane

Woods

for

useful conversation about this article.

Phillip Areeda &Donald Turner, Predatory Pricing and Related

Practices Under Section 2

of

the Sherman Act, 88

HARV.

L.

REV.

637

(1975).

© 1996 by Federal LegalPublications, Inc.

950

The antitrust bulletin

precedent, Utah Pie,2 allowed evidence of predatory intent and an

unreasonably low price to be sufficient evidence of predation. The

rule proposed by Areeda and Turner clarified the definition

of

an

unreasonably low price to be a price below marginal cost that

would be economically irrational and therefore presumptively

unlawful. Because marginal cost is difficult to calculate from

accounting data, average variable cost was proposed as a proxy

for marginal cost.

This approach, or a modification of it, was almost immedi-

ately adopted by most of the circuit courts of appeals, because it

brought

a

logical

and

quantifiable

means

of

distinguishing

between pricing that could have no other economic explanation

than to be predatory, and pricing that merely contributed to robust

competition.>

Circuits

that

have

adopted

the Areeda-

Turner

test include the First, Second, Fifth, and Eighth.' However, as

Denger and Herfort point out, there are still considerable differ-

ences among the circuits about which costs are fixed and which

are variable."

2Utah Pie Co. v. Continental Baking Co., 386 U.S. 685 (1967).

3Michael L.

Freedman,

Predatory Pricing After Brooke Group:

Economic Goals Prevail, 55

ALBANY

L.

REV.

243, 247 (1994).

4Michael L. Denger, 915 PLI/Corp., Predatory Pricing and Prac-

tices, Practising Law Institute: Corporate Law and Practice Course Hand-

book

Series

43 (1996). Also, Michael L.

Denger

&John A.

Herfort,

Predatory Pricing Claims After Brooke Group, 62

ANTITRUST

L.J. 541

(1994).

5Also some commentators have pointed out that at high levels of

output (above capacity) marginal cost and average variable cost tend to

diverge yielding many false negatives: Richard Zerbe &Donald Cooper,

An Empirical

and

Theoretical Comparison

of

Alternative Predation

Rules, 61

TEX.

L. REv. 655, 697 (1982); E.

THOMAS

SULLIVAN

&

HERBERT

HOVENKAMP,

ANTITRUST

LAW,

POLICY

AND

PROCEDURE

699 (3d ed. 1984);

see also Oliver Williamson, Predatory Pricing: A Strategic and Welfare

Analysis, 87

YALE

L.J. 284 (1977). Baumol points out that if considera-

tion

of

predation is confined to those cases in which the prey might be

driven from the market,

that

average variable cost "average avoidable

cost" is the best measure

of

cost for predatory pricing purposes even at

outputs above capacity; William J. Baumol, Predation and the Logic

of

the Average Variable Cost Test, 39 J.L. &

ECON.

49, 49 (April 1996).

Predatory

pricing:

951

Several circuits have held that prices above average total cost

are lawful, but prices between average variable cost (AVC) and

average total costs (ATC) may be unlawful. These include the

Sixth, which places the burden

of

proof on the plaintiff to prove

that prices between AVC and ATC are predatory; the

Eighth-

prices above AVC have a strong presumption

of

illegality; the

Ninth-burden

on plaintiff; the

Tenth-prices

between AVC and

ATC are lawful

absent

other

evidence

of

predation; and the

Eleventh-prices

above AVC create circumstantial evidence of

predatory intent.

The Third, Fourth, Seventh and the District

of

Columbia have

no established rule. Clearly, after

Brooke

Groups it appears that

they must require evidence of below-cost pricing to prove preda-

tion, but the trend seems to be for the court to wait and see what

measure of cost the plaintiff uses in conjunction with other evi-

dence

of

predation.

Contrary to what some have argued, the Areeda- Turner rule

has not been relegated to barely more than a footnote. Rather it

remains an important factor in determining predatory pricing vio-

lations. More appropriately, the legacy

of

the Areeda-Turner rule

continues to inform the debate about predatory pricing, making

standards of evidence more objective and rigorous.

II.

The

use

of

economic

theory

by

the

courts

At one time predation existed as a legal concept but was dis-

counted as an economic possibility.' As legal doctrine has evolved

toward the earlier economic view, the economic view itself has

changed. Now predation may be said to exist economically but,

without stretching current legal doctrine very far, may be said not

to

exist

legally. We argue that the current view

of

predation,

which forms the major precedents since Areeda and Turner pro-

6Brooke Group v. Brown &Williamson Tobacco Corporation, 509

U.S. 209, 242 (1993).

7Daniel Gifford, Predatory Pricing Analysis in the Supreme Court,

39

ANTITRUST

BULL.

431, 432-34 (1994).