Transcript European Antitrust Cases involving Bundling and Tying

An Introduction to
Bundling and Tying
Eric Emch, OECD
[email protected]
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Overview of Talk
I. Definitions: their use and abuse
II. Procompetitive or neutral stories of
tying/bundling
III. Anticompetitive stories of tying/bundling
IV. An example: U.S. v. Microsoft
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Definitions
• Tying: A firm conditioning purchase of its “tying” good
on purchase of the “tied” good.
• In a foreclosure story, the firm generally has market power in the
“tying” good
• Bundling: A firm offering a package of goods for sale as
a single unit.
• “Pure” bundling: Individual components not available
separately
• “Mixed” bundling: Individual components available separately,
but package is discounted
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Difference in Definitions
• Tying can be seen as a requirements contract
with variable proportions
• Consumer must purchase all of its product B (tied good) from the firm if
it wishes to purchase product A (tying good) from the firm.
• Example: purchase of a cell phone often requires subsequent purchase
of cell phone minutes from a single network.
• Bundling can be seen as a requirements contract
with fixed proportions, where the ratio of the
two products is defined by the seller.
• Example: Sales of car and car radio; sales of jet airplanes and SFE
(seller furnished equipment, such as certain avionics equipment)
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Difference in Economic Analysis
• From the perspective of economics, the
particular label: “tying” or “bundling,” is not
important. What is important is the economic
theory of harm related to the behavior, whatever
it is labelled.
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Difference in Economic Analysis (2)
•
•
•
An important point that should be remembered in all abuse of dominance cases is
that, from the perspective of economics at least, it is more important to identify and
develop an economic theory of harm that to categorize the form of the behavior.
Deciding which “box” the behavior fits in: tying or bundling, fidelity rebates,
predation or exclusive dealing may be important for legal reasons, but not for
determining the effects of the behavior. Economic analysis should focus on effects
more than form.
– Behaviors of similar form may have much different effects
• For instance, tying as a price discrimination device compared to as a
foreclosure device.
– Behaviors of different forms may have similar effects
• For instance, bundled discounts as a predatory device compared to pure
price predation.
Good reference on this point: Report by the EC Economic Advisory Group on
Competition Policy: “An economic approach to Article 82” July 2005. Available at
http://ec.europa.eu/comm/competition/publications/studies/eagcp_july_21_05.pdf
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Overview of Tying/Bundling
• Bundling and tying are ubiquitous, and usually
competitively innocuous
– Defining a “product” for sale inherently involves bundling a set
of components which may in theory be sold separately. A “car”
is generally sold as a bundle of body, tires, radio, engine, etc.
Each could in theory be sold separately. The decision of how to
define a product will depend on economies on the production
and distribution side, as well as on the demand side. An
“airplane” sold by Airbus or Boeing, for instance, often does not
bundle a particular engine. That choice is made by the buyer.
• Competition authorities generally should not intervene
absent a compelling story of harm to competition
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Types of Tying/Bundling
• Contractual: An explicit or implied contract that
requires use of a certain good B if good A is purchased.
– For example, a contract that voids the warranty of a printer if
non-manufacturer toner is used
• Technical: Tie or bundle that is incorporated into the
design of a product.
– For example, technical incompatibility between Boeing 737 and
non-Snecma engines
Some commentators (e.g., Carlton and Waldman 2007) have argued that
competition enforcers should be more lenient towards technical tying than
contractual tying, since the latter is more easily undone.
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Procompetitive Motivations
• Economies of scope in production or distribution
– For instance, computer components are more efficiently assembled into
working package by the manufacturer, who gives discount on “bundle”
relative to buying components separately.
• Demand-side economies of scope
– Consumers may want “one stop shopping”
– Rather than having to buy separately a car and the stereo system, for
instance, they may prefer the convenience of driving home with the
bundle.
• Preservation of quality/brand name
– Apple has with one brief exception in its history made purchase of its
operating system conditional on purchase of its hardware. It has
monopoly power in neither. Allows it to keep tight control of design
and protect the Apple brand image.
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Procompetitive Motivations (2)
• Preserves efficient product mix
– In variable proportions context, the ability to mark up both components
in parallel prevents inefficient (deadweight-loss-inducing) substitution
– For instance, if a manufacturer sells both printers and printer service,
and the latter is sold in a competitive market, any markups must come
on the printer itself, which will induce consumers to inefficiently
substitute service for new printers. The same total markup could be
more efficiently distributed across both components if the manufacturer
tied the two.
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Procompetitive Motivations (3)
• “Cournot effect”/non-strategic discounts
– In the vertical context, this is generally known as a “reduction in double
marginalization,” referring to a drop in total markup after two monopoly stages
in a vertical chain merge.
– In the horizontal context, consider classic example from Antoine Cournot
(1938). What would happen to pricing after a merger of producers of two
complementary goods: copper and zinc for the production of brass?
– When the two producers are separate, neither takes into account the impact of
its price on the other producer. If they did take this impact into account, they
would have an extra incentive to lower price to increase sales of the complement.
Thus, the two producers each price higher than they would if they merged.
– In the context of bundling, this may be a source of non-strategic “mixed
bundling” – offering a discount if the consumer also purchases the other
component from your firm. These bundled discounts might hurt competitors,
but they are non-strategic: they are motivated by internalizing a pricing
externality, which is a positive both for consumers and the firms.
– For a detailed economic model of this phenomenon, see Economides and Salop
(1992)
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Tying/Bundling as Price Discrimination
•
Tying and bundling can be used as mechanisms by which a firm can better
sort consumers by their type, allowing them to extract more money from
consumers, but also bringing more consumers into the market.
•
Form #1: Bundling can be a way of “smoothing” demand for the product,
allowing the firm to charge a higher average price.
•
Form #2: Tying an aftermarket good to can be used as a way of “metering”
the usage of the foremarket good. Ken will give a detailed example of this in
his case study, following this presentation.
•
While perhaps not explicitly “procompetitive,” this use of tying/bundling is
at least competitively neutral. Generally, price discrimination has
ambiguous welfare consequences. Unless it has a clear impact on
competition, probably not in the purview of competition enforcement.
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Bundling as Price Discrimination, via
Smoothing Demand
• Bundling can create more uniform demand (see, e.g., Bakos and
Brynjolfsson 1999)
– Imagine 1,000 products, consumers having uniform independent [0,1]
distribution of willingness to pay for each good (assume zero production costs).
• Firm pricing each good individually will price each at .5. Many consumers
will not buy. Firm is limited in the rents it can extract and deadweight loss
results.
• A monopolist of all goods will sell a bundle at price of 500. All consumers
buy and the monopolist will make more money. No deadweight loss at all.
– Demand for bundle is 500 via law of large numbers
• Even with much smaller number of products, bundling reduces
dispersion of demand
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Demand Curve for Each Product,
Unbundled
Assume consumers are distributed uniformly in their willingness to pay
for a good from [0,1]. This produces a linear demand curve as below.
P
The monopolist prices at Pm and earns profit B. Consumers with a
willingness to pay between Pc and Pm do not buy even though it would
be efficient for them to do so. This creates the deadweight loss C.
Total profits for 1000 goods is 1000*B.
A
Pm
B
C
Demand Curve
Pc
Qm
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Q
Demand Curve for All Products, Bundled
P
Demand curve becomes flat at the monopoly price for the bundled product
Even though “per component” price is identical, firm increases profit by both
eliminating deadweight loss and capturing consumer surplus
Total profits roughly double in this example, incorporating former
deadweight loss and former consumer surplus. Society is better off via
elimination of DWL, be we’ve also lost all consumer surplus.
Pm
Demand Curve
B
Pc
Qm
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Q
Bundling with Correlation of Demand
• Suppose demand is perfectly positively correlated:
– Then, in above example, bundling brings no benefits over individual
pricing
– In general, positive correlation of demand works against this price
discrimination aspect of bundling
• Suppose demand is perfectly negatively correlated:
– Then, only need two goods to extract all consumer surplus via bundling
(demand for 2-good bundle is uniform at .5)
– In general, negative correlation of demand promotes this price
discrimination aspect of bundling
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Anticompetitive Stories
• Tying/bundling as a way to soften competition
by increasing product differentiation
• Tying/bundling as “foreclosure”
– Committing to compete more aggressively
– Denying competitors access to critical scale/scope
economies
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Tying/Bundling to Increase Product
Differentiation
• Tying competitive product (B) to monopoly product (A)
can increase differentiation
– Consumers that like A will purchase AB bundle from tying firm
– Consumers do not want the A product will buy product B from
rival firm, not from monopoly firm
– Reduces competition in B good relative to no tying
– May be profitable for monopolist under certain circumstances
– Benefits both firms, probably may not actionable under
competition laws if done unilaterally. May be more actionable if
it represents a coordinated strategy to segment the market.
• References: Carbajo, De Meza, and Seidman (1990);
Carlton/Greenlee brownbag
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Tying/Bundling as Foreclosure
• Prime concern of antitrust enforcers
• Tie or bundle denies critical scale/scope to competitor in
a way that reduces competition and consumer welfare
(will be explained in more detail below)
• Be careful of naïve acceptance of competitor accusations
of foreclosure. Several of the procompetitive/neutral
stories of tying/bundling would hurt competitors, but are
not considered “foreclosure” of competitors in a
competition policy sense.
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One Monopoly Rent Critique (1)
•
•
•
•
Any credible story of tying must overcome the so-called one monopoly rent
critique, which argues that a monopolist cannot increase its profits by using
its monopoly power in one market to force consumers in a related,
competitive market to take another of its goods. It is only literally true
under a particular set of circumstances, but its basic logic provides a useful
reality check that can reveal flaws in poorly defined tying stories.
Consider the following setting:
– Firm A is a monopolist in good A and also sells complementary good B
in fixed proportions
– Assume that market for good B is perfectly competitive with no entry
costs and the consumers have uniform willingness to pay, U, for the pair
of goods.
In this circumstance, non-tying monopolist can charge U minus price (cost)
of B
Tying does not increase profits. Any increase in the price of B after the tie
has to be compensated with a decrease in the price of A.
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One Monopoly Rent Critique (2)
• Stepping away from the abstraction for a moment, the
general idea illustrates why firms often do not tie
complementary goods in practice, even when they are
perfectly able to do so.
• In fact, in many settings, a producer with market power
will benefit from competition in the complement
bringing variety and innovation and thus value to the
package
• Divergent strategies of Microsoft and Apple in operating
systems. Microsoft benefitted from competition on the
hardware side, which increased its market penetration
relative to Apple in the 1990s.
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Limits of One Monopoly Rent Logic (1)
• Fixed entry costs and alternative uses for the competitive good.
– Whinston (1990) shows that a monopolist might tie in order to commit
itself to compete aggressively in the tied good. It cannot make profits
unless it sells the package, so it will more aggressively take profits from
the entrant . This may profitably deter entry.
• Dynamic R&D expenditures.
– Choi (2002) adds an R&D stage to Winston model. Commitment to
aggressive competition reduces incentives of other firms to stay in the
market by investing in R&D
• Note that in both of these cases, competitive good is not
complementary, but used by same group of consumers as monopoly
good.
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Limits of One Monopoly Rent Logic (2)
• A more complete leveraging story with pure
complementary goods is developed in Carlton/Waldman
(2002)
• An example of an important general idea:
– if there are economies of scale in complementary good B, and
economies of scope between good B and a third market C, then
monopolization of good B may provide a route by which a
monopolist of A can extend its monopoly to a new market C
• Denying scale in an industry where scale is needed to be
an effective competitor is a common theme behind
foreclosure stories. Along with entry barriers.
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Carlton/Waldman Model of Foreclosure
• Two periods, two markets. Period 1 participation in
complementary market (B) facilitates period 2 entry into
monopoly market (A)
• Monopolist benefits from complementary good in period
1, since it is able to extract some of the value consumer
benefit from that entry. Thus would never tie if market A
were impregnable
• BUT, if period 1 entry into complementary market
facilitates period 2 entry into monopoly market, may tie
to protect market position in A
• An example of economies of scale (in B) and scope
(between A and B) being critical to foreclosure story
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Application to U.S. v. Microsoft
• U.S. alleged that Microsoft monopoly market (operating
systems) protected by “applications barrier to entry”
– No competing operating system could compete because would
have few applications written to it, little value to consumer
• Applications barrier to entry threatened by possibility of
“middleware” that would run on top of operating system,
facilitate cross-platform applications
– Netscape browser / Java applications language was seen by
Microsoft as a “middleware” threat.
• Tie of operating system (A) to browser (B) was
accomplished through various contractual and technical
means (OEM contracts, OS default settings)
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Application to U.S. v. Microsoft
• Though Microsoft allows and extracts value from many
complementary programs running on its operating
system, this particular complement (B) was a potential
future threat to its monopoly (A)
• Tying helped to reduce market share of Netscape
dramatically. Scale economies in developing complex
software meant that in time Netscape could no longer
keep up with Internet Explorer. Scale economies in A
and scope economies between A & B are critical to the
story of harm.
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Final Thoughts
• Tying and bundling is ubiquitous, and most often motivated by
efficiencies.
• Can often be used as a price discrimination device, but welfare
implications are unclear.
• True foreclosure stories are possible, but logic must be rigorously
checked
• Foreclosure, when it does occur, will often involve denying scale or
scope economies to actual or potential competitors. This denial
comes not through offering a superior product, but through denying
critical scale or inputs to competitor via tying or bundling.
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Some References
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Carlton, Dennis and Waldman, Michael, “Theories of Tying and Implications for
Antitrust,” in Wayne Dale Collins (ed.), Economics of Antitrust, American Bar
Association, (Forthcoming).
Carlton, Dennis and Waldman, Michael, 2002, “The Strategic Use of Tying to
Preserve and Create Market Power in Evolving Industries, 33 RAND Journal of
Economics 194.
Bakos, Y. and Brynjolfsson, 1999, "Bundling Information Goods: Pricing, Profits and
Efficiency," Management Science 45 (12), 1613.
Carbajo, J. De Meza, D. and D. Seidman, 1990, “A Strategic Motivation for
Commodity Bundling. 38 Journal of Industrial Economics 283.
Choi , J.P., 2004, “Tying and Innovation: A Dynamic Analysis of Tying
Arrangements,” 114 Econ. J. 102.
Economides, Nicholas, and Salop, Steve, 1992, “Competition and Integration among
Complements, and Network Market Structure,” Journal of Industrial Economics, vol.
XL, no. 1, pp. 105-123.
Whinston, Michael, 1990, “Tying, Foreclosure, and Exclusion,” 80 American
Economic Review 837.
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