Thursday, 29 June 2017

Where is the market?

What's the geographical extent of a market? And why should we care? And why am I writing about it?

Usually the geographical dimension is a no-brainer: in the case of petrol stations, for example, the Commerce Commission found in its Z / Chevron decision that "the evidence we have viewed suggests that in general the greatest competitive threat is from nearby service stations...The appropriate geographic market differs for each location. On a conservative basis, we have used a 2km radius as a starting point to identify problem areas" (paras 132-3).

In its NZME / Fairfax authorisation the Commission found there were ten separate geographical markets for local newspapers that would be affected by the proposed merger, but a national market for the reach of internet news sites: "as both NZME’s nzherald.co.nz website and Fairfax’s stuff.co.nz website are available and published nationwide, it is appropriate to consider the competition impacts of the proposed merger...at a national level" (para 286).

All very reasonable, all pretty obvious. And you'd think the geographical dimension of a market would usually be one of the less controversial and easier bits of the puzzle.

Why do we care? Two reasons, one economic, one legal. The economic one is that it doesn't matter if a petrol station in Mairangi Bay merges with one in Manurewa. There'll be no competitive effect. And the legal one is that the Commerce Act applies (my emphasis) to a "market in New Zealand": if a market isn't in New Zealand, the Act can't apply to it.

But here's a hypothetical question for you.

Suppose widget manufacturers in New Zealand use specialist widget-moulders made only in Germany. The moulders contain electronic components which need a rare earth, widgium, found only in Zaire. Nobody in New Zealand buys raw widgium. Is there a market in New Zealand for widgium?

Your first reaction could well be, no there isn't. There's certainly no one on the supply side of the market based in New Zealand. On the demand side, Kiwi companies could e-mail Kinshasa, and order some widgium direct, and in that case there would be a market in both Zaire and New Zealand, but they don't, and so there isn't.

But would it change your mind if the Zairean mining companies advertised to the widget makers in New Zealand, saying moulders containing their particular grade of widgium were better than the other guys' (a  bit like those 'Intel inside' stickers on PCs)? What if the local widget makers make up a significant proportion of the global demand (via the moulder manufacturers) for widgium, such that variations in the local moulder demand from widget makers affect the prices the widgium miners get - doesn't that make New Zealand part of the widgium market?

And the reason I raise it is that we may, finally, have had the last word in judicial guidance on how to think about it. It came earlier this month in this case in the Australian High Court (their Supreme Court), and it was (I hope) the last act in the long running air cargo price-fixing cases. And by long running, I mean long running: the events go back to the early 2000s. Plus we traversed exactly the same set of issues, on air cargo services into New Zealand, in our High Court back in 2011: the case is helpfully available here on the Commerce Commission's website.

Hence the analogy: the widget-makers are importers, the moulder makers are airlines, the widgium miners are freight forwarders, and Zaire is the hinterland of various airports in Europe and Asia. Airlines, charged with putting the fix in over various components of the air cargo price (such as fuel surcharges), had said that the only place you can get air cargo services from (say) Frankfurt to Sydney or Auckland is Frankfurt. No market in Australia or New Zealand. End of story.

It didn't, ahem, fly as an argument in our High Court. Three expert economists had backed the airlines' view, two the Commission's contrary view that there was a market in New Zealand. The bench could see the airline economists' argument: the economists had given widgium-style analogies and the court said at [145]
On the basis of such examples, the argument that the market could not extend beyond the place of origin had persuasive force. The way they put it, the market was defined at the moment when the competition for the particular service concluded. In the case of air cargo services that would be when the waybill [the key bit of transaction documentation] was entered into by the origin freight forwarder and the airline.
But it ultimately decided at [182] that
we do not accept the airlines' argument that the geographic location of the market is where supplier/customer transactions for the airline services are physically initiated and agreed. It is not limited to the "factory gate" or in this case the "cargo door"...It extends beyond the cargo door to the geographic locations of the persons whose demands will drive the place and terms of the end contract of carriage. The exporters and importers in those circumstances do not just constitute general upstream or downstream demand. They are the parties whose decisions as to what they want, and how and when they need it, directly drive the service provided by the airlines, with the freight forwarders as intermediary parties.
Oddly, none of this was drawn to the attention of the Aussie judges, who reasoned the whole thing out again for themselves from first principles. They too had seen views all over the place: the first hearing went the airlines' way, the full Federal Court split 2 - 1 in favour of the ACCC over the airlines. As the judgement says at [14]
Reconciling the abstract notion of a market with the concrete notion of location, so that they work coherently, presents something of a challenge. Particularly is this so because "competition" describes a process rather than a situation
In the event the High Court broke 5 - 0 against the airlines. Key bits were, at [32]
The circumstance that the demand from Australian shippers was usually articulated to suppliers in Hong Kong by freight forwarders does not deny that, as a matter of commerce, the interplay of the forces of supply and demand encompassed Australia. That this was so is confirmed by the fact that, as the primary judge found, the airlines pursued sales and marketing strategies in Australia promoting their services to shippers in competition for orders to provide freight for their cargo
 and, at [109]
There were large or substantial shippers in Australia. Those large shippers were regarded by the airlines as not only a potential source of demand, but the ultimate source of demand, for their supply of the air cargo services from ports in Asia to ports in Australia. Certain shippers had particular preferences and were able to influence the choice of airline and flight. As a result, the issue of which airline to use need not have arisen at the port of origin; the decision of the large shippers in Australia was likely to be made in Australia.
In competition economics, you can never say never - you've no sooner tacked down one bit of the carpet than it lifts up in another corner - but with a bit of luck none of us will ever again have to spend too much time over the geographic reach of a market.

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