Manufacturing Input Markets

• Pages: 49-89

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CHAPTER II

MANUFACTURING INPUT MARKETS

A. Introduction

Antitrust cases often involve products or services that are used to

produce final products.1 These “intermediate goods” or “inputs” are

typically combined with other inputs, such as raw materials, labor, or

capital to produce “downstream” products. For example, certain grades

of steel may be made from scrap, electricity, labor, etc., so a steel maker

is a buyer of these inputs. However, most types of steel are themselves

used as inputs to make parts that are eventually assembled into final

products, such as cars, refrigerators, and bridges. Inputs can differ

substantially in the number of products or services in which they are

used, their importance in the production of downstream products, and the

number of levels of production and distribution that exist between

production of the input and sale of the final products.

Relevant market definition has been a key issue in the competitive

analysis of a multitude of antitrust cases involving intermediate goods

such as coal,2 crude oil,3 glass containers,4 lead5 and, as detailed in this

chapter, steel and chemicals. Although the basic economics of market

definition can be applied to inputs, important differences between inputs

and final goods can affect market definition.

1. There can be competitive concer ns involving either product or services.

For simplicit y, this chapter should be read to include services when the

terms “product” or “products” are used, unless otherwise stated.

2. See Chapter IV; see a lso, e.g., FTC v. Arch Coal, Inc., 329 F. Supp. 2d

109, 119 -23 (D.D.C. 2004); Kenneth G. Elzinga & Thomas F. Hogarty,

The Problem of Geographic Market Revisited: The Ca se of Coal, 23

ANTITRUST BULL. 1 (1978).

3. See Chapter IV; John Hayes, Carl Shapiro & Robert Town, Market

Definition in Crude Oil: Estimating the Effects of the BP/Arco Merger

(Aug. 2001) (unpublished manuscript), ava ilable at

http://www.ftc.gov/bc/gasconf/comments2/oilpaperjohnhayesetal.pdf.

4. FTC v. Owens-Illinois, Inc., 681 F. Supp. 27, 34-47 (D.D.C. 1988).

5. RSR Corp. v. FTC, 602 F.2d 1317, 1320-22 (9th Cir. 1979).

Market Definition in Antitrust

50

This chapter discusses some of the general considerations of market

definition relating to manufacturing inputs. It then addresses market

definition in two industries—steel in section B and chemicals in section

C. To illustrate the complete process of market definition for inputs,

much of section B examines in detail market definition in an older

litigated steel merger and an important recent merger resolved by

consent. Section C presents an overview of several important

intermediate goods market definition issues in the context of a variety of

chemicals cases.

1. The Economics of Input Markets

Input markets are defined using the same general principles

discussed in Chapter I, but these markets do raise a number of particular

issues. For example, in the case of inputs, it is important to evaluate

economic conditions downstream from the production of that input. The

Merger Guidelines explicitly refer to taking into account downstream

competition in defining relevant markets.6 Some courts have explicitly

considered the impact of downstream products in defining the upstream

input market,7 while others have examined demand substitution at the

input level with no explicit consideration of demand and costs

downstream.8

Relevant market definition is typically focused on demand-side

substitutability. In the case of intermediate goods, solely examining

demand substitutability of potentially competing inputs to the exclusion

of downstream market conditions can lead to an inaccurate relevant

product and geographic market definition.9 For example, firms

6. U.S. DEP’T OF JUSTICE & FED. TRADE COMM’N, HORIZONTAL MERGER

GUIDELINES § 4.1.3 (2010), reprinted in 4 Trade Reg. Rep. (CCH) ¶

13,100, availa ble a t http://www.justice.gov/atr/public/guidelines/hmg-

2010.html [hereinafter 2010 MERGER GUIDELINES].

7. See, e.g., Brookins v. Int’l Mo tor Contest Ass’n, 219 F.3d 849, 853-54

(8th Cir. 2000) (rejecting a putative releva nt market of “IMCA-approved

transmissions for modified racing” based on competition for car races).

8. See, e.g., Arch Coa l, Inc., 329 F. Supp. 2d at 119-23 (considering

alternatives to Powder River Basin coal in defining the market but not

discussing costs of or demand for downstream electricity production).

9. See generally Richard S. H iggins & William F. Shughart II, Input Market

Definition Under DOJ Merger Guidelines, 4 REV. INDUS. ORG. 99

(1989); Paul Hofer, Mark Williams, & Lawrence Wu, The Economics of

Market Definition Analysis in Theory a nd in Pr actice, 2007 ASIA-PAC.

ANTITRUST REV. 10; Roman Inderst & Tommaso Valletti, Market

Manufacturing Input Markets

51

purchasing the input may have little ability to substitute to other inputs,

yet competition downstream at the final product stage may prohibit any

anticompetitive price increase of the input.

The demand for an input is what economists call a “derived” demand

because it is derived from the demand for the final product.10 Absent

demand for a final product, there would be no demand for the input.

Under the assumptions of perfect competition downstream and constant

returns to scale, the elasticity of demand for an input has long been

evaluated using conditions originally developed by Alfred Marshall11 and

later revised by John Hicks12 and commonly referred to by economists as

the “Hicks-Marshall” conditions of derived demand. These conditions

are well-established in economic literature.13 They state that, all else

being equal, the demand for an input is less elastic (i.e., less responsive

to price changes and, in the antitrust context, therefore more likely to

delineate a relevant antitrust market) when:

1) The elasticity of demand for the downstream product is low.14 If

demand for the downstream product is inelastic, any price

increase caused by a higher price of the input will lead to only a

small change in the quantity demanded of the downstream

product, and so is likely to lead to only a small change in the

quantity demanded of the input. Consideration of the elasticity

of demand for the downstream product can be very important for

defining a relevant market for an input.

Analysis in the Presence of Indirect Constraints and Captive Sales, 3 J.

COMPETITION L. & ECON. 203 (2007).

10. See, e.g., MARK HIRSCHEY, FUNDAMENTAL OF MANAGERIAL ECONOMICS

66 (9th ed. 2009).

11. ALFRED MARSHALL, PRINCIPLES OF ECONOMICS 518-38 (8th

ed.MacMillan & Co. 1923) (1890).

12. JOHN R. HICKS, THE THEORY OF WAGES 241-47 (St. Martin’s Press

1966).

13. See, e.g., P.R.G. LAYARD & A.A. WALTERS, MICRO-ECONOMIC THEORY

259-76 (1978) ; GEORGE J. STIGLER, THE THEORY OF PRICE 252-55 (4th

ed. 1987).

14. See, e.g., B.F. Goo drich Co., 110 F.T.C. 207, 282-83, 317 (1988)

(opinion of the commission) (discussing the importance of downstream

demand elasticity in determining competitive effects of a merger

upstream).