Thin markets, characterized by a small number of participants and low transaction volumes, create particular problems for antitrust enforcers. Hiba Hafiz explores the incoherent, sometimes-contradictory ways in which US antitrust enforcers have tried to address market failures in thin markets in the past, and explains how they can avoid what she calls the “thin market paradox.”

A standard justification for government regulation is overcoming market failures. Where market actors face information asymmetries or public goods problems, for example, they either lack incentives to ensure proper market functioning or exploit their market position at the expense of such functioning. Antitrust enforcement is government intervention meant to restore competition where market failures enable winners at the expense of losers in ways that decrease consumer or broader social welfare.

But one market failure—thin markets—puts antitrust regulation in an incoherent position. Thin markets are characterized by a small number of participants (on one or both sides of market transactions) and low transaction volumes. They are the opposite of liquid markets in that the ease and speed with which thin market participants can convert an asset or service into cash at a fair approximation of its value is low. Thin markets are also inelastic, so a small shift in supply or demand can result in significant price movements. Classic examples of thin markets include certain residential housing and agricultural markets, financial markets with low trading volume like private equity or infrastructure finance instruments, and collectible items, like vintage cars. 

But another critical example of thin markets are labor markets, particularly in company towns or distressed and rural communities, where a small number of employers—buyers of labor services—dominate. Historically, these included coal mining towns or company towns like Pullman, Illinois, which was built in the 1880s for Pullman’s railroad workers. More recent examples include towns dominated by a single hospital, Amazon fulfillment center, Walmart, or another chain store. These labor markets have high concentration levels, market frictions (mobility and search costs), and information asymmetries that increase transaction costs and transaction risks, compounding workers’ access to outside options.

Thin markets create competition-based and non-competition-based harms. First, fewer market participants in thin markets have market power to dictate supracompetitive prices or infracompetitive wages on counterparties, reduce product heterogeneity and quality, and limit consumer choice. But thin markets also facilitate collusion because fewer market actors can more easily manipulate prices or wages or “corner” the market at competitors’ expense.

A broader but related set of harms are social harms. Thin markets create unstable market conditions, matching problems, and allocative efficiency losses where goods are not put to their most welfare-enhancing use. Thin market participants’ inability to access “thicker” markets can also result in lower market penetration with broader socio-political effects. For example, imagine a rural Vermont crib maker. Absent access to buyers beyond local markets, she is less able to scale up and generate multiplier effects in her community, increasing geographic inequality. Thin markets can also result in wealth transfers and socio-political or democracy-based harms when they benefit certain producer or consumer classes over others and consolidate economic power that can skew political power.

The Thin Market Paradox 

Regulating thin market actors through competition policy presents what I call a “thin market paradox.” The paradox hinges on the fact that, to overcome thin market harms and instability, market power—or “natural” monopoly or monopsony—may be the only way out in some cases. 

Natural monopoly describes markets in which the entire demand can be satisfied at the lowest cost by one firm. A natural monopoly can overcome thin market problems by better facilitating matching and reducing transaction risks to increase liquidity. For instance, only one local hospital may most efficiently provide care meeting community demand. It could provide the best employment match for local health care professionals and care for patients who need not commute or incur transaction risks from less efficient providers. But it may charge higher prices or lower wages due to its market power. Or take Google Search: Alphabet, Google’s parent company, dominates search engine platforms and can enable matching advertisers with demographically-targeted users with the highest click-through rates. But it can also charge advertisers monopoly prices or impose restraints in agreements that limit competitors’ ability to compete. 

When natural monopolies create competition harms but are the most welfare-enhancing way to overcome market failures in thin markets, using antitrust to regulate them can create tradeoffs between reducing market efficiencies and reinforcing market power. So the problem becomes how one market failure—thin markets—may only be fixed by another: natural monopoly or monopsony power. And using antitrust enforcement to introduce competition may either not promise enough profitability to entice entry—making antitrust tools moot—or may reduce the benefits of the monopolist’s alleviation of market thinness, making the medicine worse than the cure. 

While antitrust doctrine has not explicitly recognized this paradox, it has dealt with firm conduct in thin markets in conflicting and incoherent ways that fail to resolve it or offer clear authority on how to evaluate or remedy thin market harms and “market thinning” conduct.

In one line of cases, antitrust courts have condemned unlawful dominance and collusion in thin markets as anticompetitive, even when the targeted conduct actually alleviated thin market failures. This is not to say that the targeted conduct shouldn’t have been condemned. But the unique characteristics of thin markets—and the more nuanced regulatory demands they elicit—were not salient to the court as a competition policy matter. A classic example is the Supreme Court’s 1940 decision in Socony Vacuum, where it held that oil companies’ agreements to purchase distressed gasoline from refiners were per se antitrust violations. Because the market was thin—with many sellers and insufficient buyers—defendants coordinated to reduce oversupply and price volatility to consumers by improving matching and reducing transaction risks. In condemning those agreements, the Court failed to consider their capacity to overcome thin market failures. Courts have also categorically condemned competitors’ coordination to stabilize pricing and matching in trade association and information-sharing cases without analyzing whether that coordination occurred in thin markets or had articulable market-thickening efficiencies.

Courts have also condemned market-thickening conduct by dominant firms. For example, in its canonical 1912 Terminal Railroad decision, the Supreme Court found a railroad association violated the Sherman Act because its rules created a “bottleneck” that could foreclose competitors from access to the only bridge in St. Louis over the Missouri River. But the conduct in Terminal Railroad looks very different if viewed in its thin market context. Pervasive defaults on state and municipal bonds issued to railroads meant that there were few buyers to finance railroad ventures. The formation of defendants’ association may have been their only means of financing the bridge’s construction thin, unstable debt markets.

In a second line of cases, however, antitrust courts have viewed market-thickening conduct as procompetitive without specifically acknowledging market-thickening as procompetitive or efficient. Canonical examples include upholding joint ventures that improve matching and reduce transaction risks, like Chicago Board of Trade (1918)—which concerned fixing grain prices and restricting grain trading periods—or BMI (1979), where defendants fixed blanket licensing prices to overcome transaction risks, monitoring, and holdup costs from failed matching. Courts have also found output coordination in dying industries—anti-knock lead compounds in Ethyl v. FTC (1984) and bowling equipment in Brunswick v. Pueblo Bowl-o-Mat (1977)—as justified demand management without grounding those justifications on thin market characteristics. The antitrust agencies’ 2010 Horizontal Merger Guidelines recognize a “failing firm” merger defense, but even there, their analysis focuses on the number of competitors in the market rather than how the merger could address illiquidity. 

“The thin market paradox will require regulation beyond competition policy remedies, including more creative government collaboration and intervention.”

These cases expose inconsistencies in how antitrust regulates thin markets and reveal two fundamental limitations. First, antitrust faces challenges in overcoming the thin market paradox. Current law doesn’t condemn monopoly, only unlawful monopolists’ conduct. So it cannot target natural monopolists in thin markets by the sheer fact of their monopoly. And doing so would disincentivize dominant market actors’ alleviation of thin market failures. But doctrinal inconsistencies and failure to squarely address the inefficiencies of firm dominance in thin markets leaves their harmful effects unaddressed. While certain theories of harm might work to reduce inefficiencies in thin markets—“monopoly leveraging” or “essential facility” theories—antimonopoly law under these theories is weak and plaintiffs face significant obstacles due to courts’ suspicion of essential facilities doctrine and self-preferencing, predatory dealing, tying, and other theories. 

A second limitation is that traditional antitrust’s traditional analyses don’t identify how “thin” markets are, nor do its remedies work to “thicken” them in important contexts like labor markets. Antitrust’s main analytical paradigm—the models of Industrial Organization economists—defaults to assuming market competitiveness where no individual trader can affect market prices by their buying or selling. But the problems inherent in thin markets—low-volume trading, limited transactions, asymmetric information, and nonequilibrium mechanisms—create market power with price effects not modeled into such analyses. 

Relatedly, remedies that seek to restructure markets by creating more market actors or encouraging entry and competition are unlikely to succeed in thin markets because of the nature of the markets themselves. Think of a labor market like that of Princeton, Kentucky—a town of roughly 6,000 residents mostly employed in state or local government or at Walmart. Walmart arguably functions as a natural monopoly/monopsony, and antitrust enforcement may not encourage retailers’ entry because they can neither profitably compete on sales or in labor markets: their costs of bringing goods to market are likely higher and they’re less able to pass profits on through higher wages. 

How Enforcers Should Address the Thin Market Paradox

Remedying thin markets will thus require both antitrust law reforms and broader regulatory solutions. 

First, antitrust enforcers and courts should establish better metrics for assessing market thinness and when firms’ exercise of market power in thin markets should be condemned or allowed as overcoming thin market failures. This will require detecting decreases in counterparties’ bargaining leverage, or increased matching and search costs, transaction costs, transaction risks, and information asymmetries. Enforcers should also move beyond IO modeling to capture how firm conduct reduces economic development, collapses labor markets, or increases geographic inequality. 

Thin markets might also require enforcers to analyze how antitrust liability and remedial design—i.e., how they devise conduct and structural remedies, like breakups—might exacerbate market thinness. Enforcers might consider broadening essential facilities doctrine, establishing duties to deal with rivals and competitors, and tailoring remedies to reduce the market “thickening” benefits dominant firms can elicit while integrating counterparties in remedial design and administration to bolster their countervailing power, like workers in affected labor markets. Enforcers should also consider remedies developed to “thicken” markets that are relatively untested in the antitrust setting, like fair access to data and information and disclosures to parties and counterparties to reduce information asymmetries.  

As I’ve written elsewhere, antitrust and labor agency collaboration is critical for information-sharing, investigation and enforcement against dominant employers. Labor and other regulatory agencies have a range of market-specific data and regulatory tools that can function to “thicken” markets, including market-structuring mechanisms, transparency and disclosure tools, rate and transaction regulatory authority, and other means of incentivizing transactions and trade. State and local governments have more detailed knowledge of local market operations and a wealth of tools and incentive structures to “thicken” markets, whether through state and local tax incentives, use of police powers, mobilizing state and local economic development authorities, and other mechanisms that could supplement competition policy to ensure market entry and more efficient matching.

The thin market paradox will require regulation beyond competition policy remedies, including more creative government collaboration and intervention. For example, the government can encourage more market participants through subsidies or public options, federal and state spending, and investment through job guarantees, infrastructure spending, and government programs to promote market growth. More active and interventionist support to aid in upscaling counterparties and bolstering countervailing power will be critical. In labor markets, this might mean upscaling worker organizing efforts, supporting nascent competitors, and investing in public mechanisms to advance technology that improves market transparency, market functioning, and matching. The government could also design public auctions with formulaic pricing adjustments or create higher benchmarks for wages. Finally, it could draw from financial market regulation, monetary theory, and labor economics to restructure markets, set rates, internalize externalities of matching failures, and enhance market connectivity and matching.

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