Transcript Bidding, Bid Rigging, and School Milk Prices “Ohio v. Trauth” Sun Maoning

“Ohio v. Trauth”
Bidding, Bid Rigging, and
School Milk Prices
Sun Maoning
Xu Xin
Outline of Presentation
 Introduction
 Market Analysis
 Collusive Agreements
 Behavior Analysis
 Conclusion
I. Introduction
 Schools solicit bids on annual supply
contracts for milk.
 1993 Ohio (Meyer Diary and Coors
Diary) confessed bidding collusion
with Trauth. Trauth did not confess.
 1994 Ohio accused 13 dairies.
I. Introduction
Evidences
 Incentive to collude
 Behavior approach
 Outcome of bid rigging
II. Market Analysis
Outcomes
 Demand
 Production process
 Competitive among suppliers
II. Market Analysis
 Demand
bid content
-Tariff for products
-Extra requirements: cooler, straws,
napkins…
-Escalator clauses
-Example of a typical bid
II. Market Analysis
 Demand
elasticity
-Insensitive to price charged
-Subsidization
-Price is not statistically significant
determinant of demand
Potential suppliers can charge higher price
without losing market.
II. Market Analysis
 Production Process
cost
-Raw milk
-Processing cost: pasteurize, package
-Transportation cost
-Extra cost
II. Market Analysis
 Competitive among suppliers
processors & distributors
Will entrant enter purely for the school milk
market?
-cost of building a processing plant
-less than 10% of total revenue
-more exit than entry in Ohio
-No potential entrant
II. Market Analysis
Conclusion
-Homogeneous product.
-Similar and constant incremental cost.
-Good information about cost of competitors.
-School will accept high price if no other
choice.
-Competition is localized due to regulation on
raw milk prices and high transportation
cost.
III.Collusive Agreements
Easy to Reach
Compete on
price
Small No. of
bidders
Similar costs
and production
processes
Easy to Maintain
Communication
Deviations easily
detected
Multimarket
contact
III.Collusive Agreements
Raise price without stimulating
entry:
 A scheme of respecting incumbencies.
 Assignment of geographic territories
to individual firms.
IV. Behavior Analysis
In competitive market, firms consider :
 Whether to bid in a particular district?
 How much to bid?
IV.Behavior Analysis
Porter and Zona Regression Analysis:
Methodology:
 Create a control group of
nondefendant firms
 example of data set (table attached)
 Market concentration: the Herfindahl
index (picture attached)
IV.Behavior Analysis
Distance
In Miles
Number
Of districts
(a)
Probability
Of bidding
Proportion
Of all Bids
Probability
Of Winning
Proportion of
Winning Bids
(b)
(c)
(d)
(e)
0-10
2115
19.5%
20.1%
13.6%
22.9%
10-20
3197
14.0
21.7
8.9
22.5
20-30
3840
7.6
14.2
4.9
15.0
30-40
4526
5.5
12.1
3.4
12.1
40-50
5637
2.3
6.3
0.9
4.2
50-60
6440
1.9
5.9
1.0
5.0
60-70
5314
1.4
3.7
0.5
2.0
70-80
6732
1.4
4.7
0.8
4.4
80-90
5200
1.0
2.5
0.6
2.5
90-100
4885
1.2
2.8
0.7
2.8
100-150
26079
0.5
6.1
0.3
6.6
IV. Behavior Analysis
 where to bid?
85% of firms only supply milk to schools
located within 75 miles from their plants
 Whether to bid?
Given high shipping cost, transparent
information leads to small number of bids
45% receive only 1 bid
34%
2 bids
18%
3 bids
Mean
1.8 bids
IV. Behavior Analysis
 Econometric model for bid submission
1) Firms will only bid if
E (profit) > F+IC
Where
F-fixed cost of preparing the bid
IC-incremental cost of supplying the district
IV. Behavior Analysis
 Econometric model for bid submission
2) Independent variables
-Distance to the school district
-Distributor or processor
-Whether closest supplier
-Whether second closest supplier
-Quantity of order
-Whether extra terms are easy to meet
IV. Behavior Analysis
 Econometric model for bid submission
3) dependent variable
-Bid or not
IV. Behavior Analysis
 Econometric model for bid submission
4) Regression Result
-Bid only when absolute cost is lower
-Processors are more likely to bid
-Whether closest supplier: insignificant
-Whether second closest supplier: insignificant
-Quantity of order: insignificant
-Whether extra terms are easy to meet: less likely
to bid if extra terms
-Likelihood of bidding is a decreasing function of
distance
IV. Behavior Analysis
 How much to bid?
1) Objective: maximize profit
E(Profit) =prob (win)*profit+ (1prob(win))*0
IV. Behavior Analysis
2) Model: Bertrand competition
 optimal mark-up based on
-cost (transportation cost, escalator
clause…)
-characteristic of market (geographical location)

P = MC + t * d2 - e
Where
MC-the marginal production cost,
t-unit transportation cost,
d2-the distance to the second closet supplier,
e-some small positive number
IV. Behavior Analysis
3) Regression result
-price increase 1 or 2 cents for distance 100
miles away, then to adjacent districts
-competition is localized
-unlikely bid 100 miles away
-local monopoly power (a limited extent)
control group’s behavior is consistent with
competitive market characteristics
IV. Behavior Analysis
 Behavior of Defendants
Evidence 1
-Price war unlikely to be observed
following periods of unusual turbulent
market shares.
-Under conspiracy, such a pattern is
possible.
IV. Behavior Analysis
 Behavior of Defendants
Evidence 2
-Empirical study
-Two ways of collusion:
1)allocate exclusive territories
2)Bid at inflated level
IV. Behavior Analysis
 Behavior of Defendants
Evidence 3
Bid Submission
-all three bid more frequently than control
group
-Meyer unusually likely to bid in 100 to 110
miles away
-Trauth bid in 60 to 80 miles away
IV. Behavior Analysis
 Behavior of Defendants
Evidence 4
Bid level significantly decreasing
function of distance
-Meyer bid at a lower level in 100 to 110
miles away
-Trauth bid at a lower level 60 to 80 miles
away
IV. Behavior Analysis
 Behavior of Defendants
Evidence 5
Correlation
-complementary bidding & territorial allocation
-knowledge of one cartel member’s behavior helps
to predict another
-empirical test of independence or zero correlation
indicates
-all correlation are significant at any standard
level
-result suggests a complementary bidding scheme
IV. Behavior Analysis
 Behavior of Defendants
Summary:
Hard to observe!
These three firms are best characterized
as collusive in terms of behavior.
IV. Behavior Analysis
 Response of Defendants
-doubt on the credibility of the
econometric model
-argue about cohesive group and
benchmark
IV. Behavior Analysis
 effect of collusion
-price increase of 6.5% on average
V. Conclusion
DOJ - “Corporate Leniency Policy” (1993)
Difficulty in distinguishing between overt
conspiracy from tacitly collusive behaviour
with economic evidence
Economic evidence typically not regarded as
sufficient to establish liability
The detection of collusion is necessarily case
specific