ECONOMICS OF REGULATION AND ANTITRUST

Transcription

1 ECONOMICS OF REGULATION AND ANTITRUST Fourth Edition W. Kip Viscusi Joseph E. Harrington, Jr. John M. Vernon The MIT Press Cambridge, Massachusetts London, England

2 Preface to the Fourth Edition xvii Introduction 1 The Rationale for Regulation and Antitrust Policies 2 Antitrust Regulation 3 The Changing Character of Antitrust Issues 4 Reasoning behind Antitrust Regulations 5 Economic Regulation 5 Development of Economic Regulation 6 Factors in Setting Rate Regulations 6 Health, Safety, and Environmental Regulation 8 Role of the Courts 9 Criteria for Assessment 9 Questions and Problems 11 Recommended Reading 11 Appendix 11 The Making of a Regulation 13 State versus Federal Regulation: The Federalism Debate 14 Advantages of Federalism 15 Advantages of National Regulations 16 Product Labeling Example 17 The Overlap of State and Federal Regulations 18 The Character of the Rulemaking Process 19 The Chronology of New Regulations 19 Nature of the Regulatory Oversight Process 24 The Nixon and Ford Administrations 24 The Carter Administration 25 The Reagan Administration 27 The Bush Administration 28 The Clinton Administration 28 The George W. Bush Administration 28 Regulatory Reform Legislation 28 Benefit-Cost Analysis 30 Discounting Deferred Effects 33 Present Value 34

3 The Criteria Applied in the Oversight Process 36 Regulatory Success Stories 36 Promotion of Cost-Effective Regulation 37 Distortion of Benefit and Cost Estimates 38 The Regulatory Role of Price and Quality 39 The Impact of the Oversight Process 39 The Cost of Regulation 40 Other Measures of the Size of Regulation 40 The Character of Regulatory Oversight Actions 45 What Do Regulators Maximize? 48 The Capture Theory 48 Other Theories of Influence Patterns 49 Comprehensive Models of Regulatory Objectives 49 Conclusion 51 Questions and Problems 51 Appendix: Trends in Regulatory Agency Budgets and Staff 52 ANTITRUST 59 Introduction to Antitrust 61 Industrial Organization 62 Structure 63 Conduct 66 Performance 66 Government 68 Antitrust 69 Federal Antitrust Laws 69 Enforcement and Remedies 71 Exemptions from Antitrust 75 Summary and Overview of Part I 76 Appendix: Antitrust Statutes 76 Sherman Act 76 Clayton Act 77 Federal Trade Commission Act 78

4 Efficiency and Technical Progress 79 Economic Efficiency 79 Partial Equilibrium Weifare Tools 80 Monopoly-versus-Competition Example 82 Oil Industry Application 84 Some Complications 85 X-Inefficiency 88 Monopoly-Induced Waste 89 Estimates of the Weifare Loss from Monopoly 90 Technical Progress 93 Importance of Technological Change 93 A Model of R & D Rivalry 95 Summary 98 Questions and Problems 99 Oligopoly, Collusion, and Antitrust 101 Game Theory 101 Example 1: Advertising Competition 101 Example 2: Compatibility of Standards 103 The Strategie Form of a Game 104 Nash Equilibrium 105 Oligopoly Theory 106 The Cournot Solution 106 Other Models of Oligopoly 112 Product Differentiation 113 Collusion 116 A Theory ofcollusion 117 Challenges to Collusion 121 Collusion in Practice 128 Antitrust Law and Policy toward Price Fixing 134 Economic Analysis of Legal Categories 135 Per Se Rule Cases 137 Tacit Collusion 140 Enforcement Policy 144 Summary 150 Questions and Problems 151

5 Appendix 153 Game Theory: Formal Definitions 153 Market Structure and Strategie Competition 155 Market Structure 155 Concentration 155 Scale Economies 162 Entry Conditions 164 Dominant Firm Theory 174 Static Analysis 174 Dynamic Analysis: Limit Pricing 177 Strategie Competition 182 Limit Pricing 183 Investment in Cost-Reducing Capital 190 Raising Rivals' Costs 194 Preemption and Brand Proliferation 194 Summary 198 Questions and Problems 198 Mergers 203 Antitrust Laws and Merger Trends 204 Reasons for Mergers 207 Monopoly 207 Economies 207 Reducing Management Inefficiencies 208 Horizontal Mergers 210 Benefits and Costs 210 Effects of Airline Mergers 219 Cases 220 U.S. Department of Justice Merger Guidelines 225 Conglomerate Mergers 229 Potential Benefits 229 Anticompetitive Effects and Cases 230 Summary 232 Questions and Problems 233

6 Vertical Mergers and Vertical Restraints 235 Vertical Mergers 236 Benefits 237 Anticompetitive Effects 241 Commitment and the Restoration of Market Power 246 Raising Rivals' Costs 248 Antitrust Law and Policy 253 Historical Development 254 Time Warner and Turner 255 Vertical Restraints 257 Exclusive Dealing 258 Antitrust Law and Policy 263 Tying 266 Modern Theories of Leveraging 275 Manufacturer-Retailer Restraints 282 Summary 288 Questions and Problems 289 Monopolization and Price Discrimination 293 Establishing Monopolization Claims 294 Measuring Monopoly Power 294 Assessing Intent to Monopolize 298 Development of Antitrust Case Law : Standard Oil and United States Steel : Alcoa and United Shoe Machinery to Present: Kodak, IBM, Microsoft, and Others 303 Predatory Pricing 305 Theories of Predatory Pricing 309 Efficiency Rationales 316 Antitrust Policy 317 The Areeda-Turner Rule and Other Single-Parameter Rules 317 The Brooke Case and the Two-Tier Rule 319 Recent Developments 321 Refusal to Deal and the Essential Facilities Doctrine 322 Essential Facilities Doctrine 323 Intellectual Property Rights 324 Kodak and Monopoly Power in Aftermarkets 326

7 Microsoft Case 332 Network Externalities 332 Antitrust Case 336 Tying and Monopolization of the Browser Market 338 Maintenance of Monopoly in the Operating Systems Market 339 Remedies and Harm 342 Price Discrimination and the Robinson-Patman Act 343 Systematic Discrimination 344 Unsystematic Discrimination 349 Cases 350 Summary 352 Questions and Problems 352 II ECONOMIC REGULATION Introduction to Economic Regulation 357 What Is Economic Regulation? 357 Instruments of Regulation 358 Control of Price 358 Control of Quantity 359 Control of Entry and Exit 359 Control of Other Variables 360 Brief History of Economic Regulation 362 Formative Stages 362 Trends in Regulation 364 The Regulatory Process 369 Overview of the Regulatory Process 369 Regulatory Legislation 371 Independent Regulatory Commissions 371 Regulatory Procedures 373 The Theory of Regulation 375 Normative Analysis as a Positive Theory 376 Capture Theory 379 Economic Theory of Regulation 380 Testing Theories of Regulation 392 Summary and Overview of Part II 396

8 ix Contents Appendix 397 A Theory of Interest Group Competition 397 Questions and Problems Theory of Natural Monopoly 401 The Natural Monopoly Problem 401 Permanent and Temporary Natural Monopoly 402 Subadditivity and Multiproduct Monopoly 404 Alternative Policy Solutions 408 Ideal Pricing 409 Franchise Bidding 421 Actual Solutions 421 Summary 423 Appendix 423 The Troublesome Case of a Natural Monopoly 423 Questions and Problems Natural Monopoly Regulation and Electric Power 429 Traditional Rate-of-Return Regulation 430 The Rate Case 431 Averch-Johnson Effect 433 Incentive Regulation 436 Performance Standards 436 Earnings Sharings 437 Price Caps 439 Yardstick Regulation 442 Rate Structure 443 FDC Pricing 443 Undue Discrimination 445 Peak-Load Pricing 447 Costs of Power Production 447 Peak-Load Pricing Model 449 Regulation and Restructuring of Electric Power 453 Historical, Technological, and Regulatory Background 453 Overview of Recent Legislation 455 Restructuring in California 456 Summary 461 Questions and Problems 462

9 13 Franchise Bidding and Cable Television 465 Theory of Franchise Bidding 465 Competition at the Bidding Stage 467 Contractual Arrangements for the Postbidding Stage 475 Assessment of Franchise Bidding 478 Cable Television 479 Historical/Regulatory Background 480 Cable Television as a Natural Monopoly 481 Franchising Process 485 Assessment of Franchise Bidding 487 Rate Regulation 492 Is There a Role for Government Intervention? 497 Summary 499 Questions and Problems Public Enterprise 503 General Background 504 Positive Theory of Public Enterprise 505 Managerial Model of a Firm 506 Managerial Model of a Private Enterprise 507 Managerial Model of a Public Enterprise 508 Comparison of Public and Private Enterprise 510 Municipal Electric Utilities 512 Pricing Behavior 512 Allocative Efficiency Comparison 513 Productive Efficiency Comparison 515 Assessment of Private versus Public Utilities 515 Airlines 516 Privatization 517 Summary 521 Questions and Problems Dynamic Issues in Natural Monopoly Regulation: Telecommunications 523 Transformation of a Natural Monopoly 523 Basis for Natural Monopoly Regulation 524 Sources of Natural Monopoly Transformation 527 Regulatory Response 529 Intercity Telecommunications Market 534

10 Telecommunications Act of Separation of Regulated Monopolies and Competitive Markets 546 Benefits and Costs of Separation 547 BreakupofAT&T 550 Summary 551 Questions and Problems The Regulation of PotentialIy Competitive Markets: Theory and Estimation Methods 555 Theory of Price and Entry/Exit Regulation 556 Direct Effects of Price and Entry/Exit Regulation: The Competitive Model 556 Direct Effects of Price and Entry/Exit Regulation: The Imperfectly Competitive Model 560 Indirect Effects of Price and Entry Regulation 564 Some Indirect Effects of Price and Exit Regulation 567 Regulation and Innovation 568 Methods for Estimating the Effects of Regulation 572 Overview of Estimation Methods 572 Intertemporal Approach 572 Application: New York Stock Exchange 574 Intermarket Approach 575 Application: Advertising of Eyeglasses 576 Application: 44 Liquormart Decision 578 Counterfactual Approach 578 Application: State Usury Laws 579 Measuring the Return to Price and Entry Restrictions: Taxicab Regulation 583 Summary 585 Questions and Problems Economic Regulation of Transportation: Surface Freight and Airlines 589 Transportation Industry 589 Surface Freight Transportation 591 Regulatory History 591 Description of Regulatory Practices 595 Effects of Regulation 597

11 xii Contents Airlines 609 Regulatory History 609 Description of Regulatory Practices 611 Effects of Regulation 612 Competition and Antitrust Policy after Deregulation 625 Lessons from Regulation and Deregulation 638 Summary 639 Questions and Problems Economic Regulation of Energy: Crude OH and Natural Gas 641 The Theory of Price Ceilings 642 Price and Quantity Regulation of the Crude Oil Industry 646 Regulatory History 648 Oil Prorationing 651 Regulatory Practices 651 Rationale for Prorationing 651 Solutions to the Common Pool Problem 656 Effects of Prorationing 657 Mandatory Oil Import Program 659 Regulatory Practices 659 Effects of Regulation 659 Crude Oil Price Controls 661 Regulatory Practices 661 Effects of Price Regulation 663 Price Regulation of the Natural Gas Industry 671 Regulatory History 672 Regulatory Practices 673 Effects of Price Regulation 675 Transition from Regulation to Markets in the Transmission of Natural Gas 683 Summary 685 Questions and Problems 686 i n HEALTH, SAFETY, AND ENVIRONMENTAL REGULATION Introduction: The Emergence of Health, Safety, and Environmental Regulation 691 Risk in Perspective 692 Measuring Mortality Risks 694

12 xiii Contents The Infeasibility of a No-Risk Society 695 Homeland Security 696 Wealth and Risk 699 Irrationality and Biases in Risk Perception 700 Policy Evaluation 703 Regulatory Standards 704 Benefit-Cost Analysis 704 The Role of Heterogeneity 705 Uncertainty and Conservatism 707 The Role of Risk Ambiguity 707 The Role of Political Factors 709 Economic Models of Environmental Policies 709 Voting Patterns 711 Summary and Overview of Part III 713 Questions and Problems 714 Recommended Reading Valuing Life and Other Nonmonetary Benefits 717 Policy Evaluation Principles 718 Willingness-to-Pay versus Other Approaches 720 Variations in the Value of Statistical Life 723 The Labor Market Model 725 Empirical Estimates of the Value of Life 730 Value of Risks to Life for Regulatory Policies 731 Survey Approaches to Valuing Policy Effects 736 Valuation of Air Quality 738 Exploratory Nature of the Survey Approach 738 Sensitivity Analysis and Cost-Effectiveness 739 Risk-Risk Analysis 740 Establishing Prices for Health, Safety, and Environmental Regulation 742 Questions and Problems Environmental Regulation 745 The Coase Theorem for Externalities 746 The Coase Theorem as a Bargaining Game 747 A Pollution Example 748 Long-Run Efficiency Concerns 750 Transaction Costs and Other Problems 750

13 xiv Contents Smoking Externalities 751 Special Features of Environmental Contexts 754 Siting Nuclear Wastes 756 Selecting the Optimal Policy: Standards versus Fines 757 Setting the Pollution Tax 758 The Role of Heterogeneity 760 The Role of Uncertainty 761 Pollution Taxes 763 Cost Heterogeneity for Water Pollution Control 764 Current Market Trading Policies 765 The Future of Market Approaches 768 Global Warnung and Irreversible Environmental Effects 769 Assessing the Merits of Global Warnung Policies 769 How Should We React to Uncertainty? 771 Multiperson Decisions and Group Externalities 772 The Prisoner's Dilemma 772 The A'-Person Prisoner's Dilemma 773 Applications of the Prisoner's Dilemma 774 The Enforcement and Performance of Environmental Regulation 775 Enforcement Options and Consequences 775 Hazardous Wastes 776 Contingent Valuation for the Exxon Valdez Oil Spill 779 The Senior Discount for the Value of Life 782 Evaluating Performance 783 Summary 785 Questions and Problems Product Safety 789 Emergence of Product Safety Regulations 789 Current Safety Decisions 790 Changing Emphasis of Product Regulation 792 Premanufacturing Screening: The Case of Pharmaceuticals 793 Weighing the Significance of Side Effects 794 Drag Approval Strategies 794 The Behavioral Response to Product Safety Regulation 798 Consumer's Potential for Muting Safety Device Benefits 801 The Costs of Product Safety Regulation: The Automobile Industry Case 804

14 xv Contents Trends in Motor Vehicle and Home Accident Deaths 808 Accident Rate Influences 809 The Decline of Accident Rates 809 The Rise of Product Liability 810 The Negligence Standard 812 The Strict Liability Standard 813 The Ford Pinto Case 813 Escalation of Damages 815 Risk Information and Hazard Warnings 816 Self-Certification of Safe Products 817 Government Determination of Safety 818 Alternatives to Direct Command and Control Regulation 818 Regulation through Litigation 820 Breast Implant Litigation and Regulation 821 The Future of Product Safety Policy 823 Questions and Problems Regulation of Workplace Health and Safety 827 The Potential for Inefficiencies 829 How Markets Can Promote Safety 829 Compensating Wage Differential Theory 831 Risk Information 833 On-the-Job Experience and Worker Quit Rates 835 Inadequacies in the Market 836 Externalities 838 OSHA's Regulatory Approach 838 Setting OSHA Standard Levels 839 The Nature of OSHA Standards 841 The Reform of OSHA Standards 843 Regulatory Reform Initiatives 843 Changes in OSHA Standards 843 OSHA's Enforcement Strategy 847 Inspectiqn Policies 848 Trivial Violations 849 OSHA Penalties 849 Enforcement Targeting 850

15 xvi Contents The Impact of OSHA Enforcement on Worker Safety 851 OSHA Regulations in Different Situations 852 OSHA and Other Factors Affecting Injuries 854 The Role of Workers' Compensation 860 Agenda for Policy Reform Efforts 861 Questions and Problems Patents and Pharmaceuticals 865 Economies of Invention and Patents 865 Background on Patents 867 Incentives to Invent: Monopoly versus Competition 868 Weifare Analysis of Patents 872 Pharmaceuticals and the Role of Patents 881 Industry Structure 881 The 1984 Drag Price Competition and Patent Restoration Act 891 Other Policies That Affect R&D Incentives 894 Summary 899 Questions and Problems 899 Author Index 903 Subject Index 909