Let hard core cartels off the hook? Nah

The reactions to the news that cartel behaviour will not, after all, be criminalised, have been all over the place.

I covered the initial reactions from the law firms most involved in competition law here as well as my own reaction, where I was disappointed that "hard core" cartels were not going to be criminalised (I only chose the law firms, by the way, because they were first to react, not because I was climbing into them); John Small has written 'Criminalising cartels' which doubted the rationale for the non-criminalisation decision; Bernard Hickey has criticised the decision (this version has more comments but this version has prettier graphs); Paul Walker has written 'Do we need competition policy?' and 'Competition policy, again (updated)', broadly questioning the case for criminalisation and taking a critical approach to interventionist competition policy in general; and Jim Rose has written a thoughtful piece, 'Does competition law in high-tech markets help consumers?' which is less about the criminalisation issues but more (like Paul) thinking about the scope of competition law particularly in modern more tech-based economies. No offence to anyone I've missed.

Over at the New Zealand Dr Oliver Hartwich also came out with a piece, "Three cheers for competition (and for Paul Goldsmith)", which welcomed the non-criminalisation news. But I have real difficulties with some of his arguments.

Here's one of them:

The problem lies in the nature of competition law. It is an area of law which is prone to arbitrariness. Practically everything is a matter of interpretation...In short, the nature of competition law is such that you would never want to make it the basis of criminal sanctions. Criminal law requires a great degree of predictability. If you commit a crime, you should know what penalty to expect if caught. With competition law, you often do not even know you have done something wrong until a judge tells you so

Now, I've some sympathy for this argument in some contexts, and have said so in the context of 'abuse of market power': where s36 of our Commerce Act might or might not apply, and megabuck fines might or might not be in play, it's a fair point.

But as I said then, "there will be instances where there are guys in black hats who know they are wearing them", and "hard core" cartels are the classic example. The people engaged in them know there are no 'efficiency' or 'collaborative activity' benefits. They know full well that the sole purpose is to rip off unsuspecting buyers of their products. And if you think those old style, smoke-filled-room cartels belong back in the days of Teddy Roosevelt's trust-busting US of A, and things like that don't happen anymore, then you haven't been following the international case law*.

A second argument Dr Hartwich makes is in the same general area of fuzziness of the law:

Then there is the difficulty in finding proper definitions. To quote the late economist Murray Rothbard, “there is nothing anticompetitive per se about a cartel, for there is conceptually no difference between a cartel, a merger, and the formation of a corporation: all consist of the voluntary pooling of assets in one firm to serve the consumers efficiently.” Indeed. Yet somehow the formation of a corporation is fine whereas a merger or a cartel might be illegal.

Rothbard's argument is surreal. They're self-evidently not the same, and self-evidently do not have the same effects. The formation of a corporation very likely involves the creation of no market power; a merger of two businesses might or might not create market power; a cartel almost certainly does.

And to say that they all different routes to the same objective, "to serve the consumers efficiently", is false in the case of most cartels, and absolutely, blatantly, spit-in-your-eye false in the case of the "hard core" cartels I'm most concerned about. They are by definition inefficient from an allocative efficiency point of view - consumers don't get to buy the quantity they would have liked to, at the price they'd be happy with, in the way they would have in a workably competitive market - and very likely inefficient from a dynamic efficiency point of view. For example, I can't see cartelists putting much effort into innovation that might undermine the product they've got a stranglehold on.

But pulling back from some of the detailed arguments, let's take an overview.

A lot of the comment has been along the lines that free-market people who are generally in favour of letting businesses get on with their business without too much interference - and I don't have a problem with that as a general approach - ought to be glad that a potential piece of heavy-handed business legislation has been rolled back.

Let me give you three reasons why I think that, as a general approach, is wrong in this instance.

The first is that cartels interfere with the proper operation of markets. You can't be a believer in letting markets rip and in standing idly by when cartels swing into action. Market prices are supposed to be signalling consumers' demands and producers' opportunities. They're not, when the prices are getting stuffed up by cartels. That's why proponents of markets (like me, and competition authorities everywhere) get so hot under the collar about them.

The second point is - for folks who genuinely worry that criminalising cartels, or even prosecuting them under our present civil law arrangements, risks penalising possibly welfare-enhancing collaboration and 'chilling' things consumers would have gained from - is that (a) we already have a route for companies to justify 'good' cartel arrangements (John Small's post was very good on this) (b) the proposed Commerce Act changes are introducing another one, and (c) the criminalisation proposal (as was) had an 'out' for making an honest mistake.

Let me explain. You form a cartel (I'm using 'cartel' to cover all the cartel-like behaviours, not just price-fixing). If that's all you do, you're toast. You're bang to rights under s30 of the Commerce Act. It's deemed, out of hand, to be a malign substantial lessening of competition.

But you can, under the Act as it stands, apply under s58 to have your arrangements 'authorised'. This means going through a process where you show that what you're doing may have some competition downside, but it's outweighed by the benefits. You'll see a good example here: the Commission authorised the Infant Nutrition Council's Code of Practice "which restricts advertising and marketing of infant formula for children under six months of age", "restrictions on advertising and marketing may lessen competition", but "the public benefits arising from higher breastfeeding rates outweigh any lessening of competition from the arrangement".

The proposed changes to the Commerce Act introduce another, 'clearance', channel. 'Clearance' is where you get the Commerce Commission to agree that there's no competitive detriment in the first place, so you don't even have to go through the balancing of detriment and benefit exercise. This clearance route, incidentally, is the standard way many proposed mergers get the nod.

But wait, there's more. As the Commerce Committee said (on p9 of the proposed changes), "criminal sanctions should be reserved for conduct that is truly culpable. A person should have intended to engage in the conduct in question, or at the very least have been reckless as to its consequences, to attract such sanctions". Quite so, which is why (see p6) people could have used an "Honest belief" defence, namely "they honestly believed that the cartel provision of the contract was reasonably necessary for the purpose of the collaborative activity...The term “reasonably necessary” requires the exercise of judgment in which a person could make an honest mistake".

This looks to me like quite an extensive suite of opportunities for people to argue their case for a pro-competitive cartel and, in extremis, escape having their collar felt if they've accidentally and honestly strayed over the line. And it still leaves the worst of the worst liable to have the book thrown at them, which is as it should be.

The third point for pro-business people to ponder is that, very often, it is other businesses that bear the brunt of hard-core cartelists' ripoffs. While there is no 'typical' cartel, a very common example is a cartel for some industrial input. You may see comments floating around at the moment about cardboard packaging, which is a reference to one of our closer to home cartels, the Amcor/Visy rort which stitched up the market for cardboard cartons, a mainstay component for many manufacturing and distribution businesses. As the ACCC pointed out, "The Federal Court ordered Visy and Amcor to pay $95 million in damages to a customer class action involving more than 4500 businesses".

Incidentally, I highly recommend the ACCC's 'Cartels case studies & legal cases' resource (which is where the quote came from). If nothing else, it's going to shake any unthinking assumption you may be holding about the harmlessness of cartels.

And with that I'm almost done. I'll just add that I'm somewhat taken aback. I was expecting more reactions along the lines, "Some cartels are beyond the pale. They are disgusting, exploitative conspiracies. I condemn them. I strongly advise everyone not to go there. But there's a whole bunch of activities that are more difficult to categorise..."

I'm still waiting.

*You might want to read Robert Marshall & Leslie Marx's book, 'The Economics of Collusion: Cartels and Bidding Rings'. It's excellent: as my long suffering colleagues in the economics trade will vouch, I've been wishing it on everyone. It's also readable by non-economists, as the authors have deliberately structured it for the intelligent lay person. The details of the lengths cartelists have been prepared to go to defend their conspiracies are an eye-opener.