Carl Shapiro discusses the central role of economics in merger review under Section 7 of the Clayton Act. Shapiro traces the evolution of merger law in response to advances in Industrial Organization economics over the past 50 years, highlighting how economic concepts and analysis are indispensable for predicting the likely competitive effects of proposed mergers.

Editor’s note: The following article is the second in a short series between Eric Posner and Carl Shapiro that previews their upcoming debate on the role of economics in merger review at this year’s Stigler Center Antitrust and Competition Conference. Read Posner’s piece here.

Under Section 7 of the Clayton Act, a merger is prohibited if “the effect of such acquisition may be substantially to lessen competition, or to tend to create a monopoly.” Eric Posner and I have been asked to discuss the role of economics in reviewing mergers under this statute.

Here is my bottom line: 

Economics is and must be central to merger review because Section 7 is all about economic effects. When firms compete, they are forced to provide lower prices and better products to their customers. A lessening of competition thus can be diagnosed based on higher prices and other harms to customers as a result of diminished rivalry. The field of Industrial Organization economics studies precisely these questions, so it has been, must be, and will remain central to merger review. I strongly disagree with Posner’s claim that “the law itself has been stubbornly resistant to economic interpretation.” To the contrary, it is rather stunning how much merger law has evolved in response to advances in Industrial Organization economics over the past 50 years given that the statute has not been changed and the Supreme Court has not issued a substantive merger ruling in 50 years. 

Let me now clear out some underbrush so I can explain the reasoning behind these conclusions. 

First, it is evident that Section 7 of the Clayton Act is concerned with economic effects, namely a lessening of competition or the creation of a monopoly. (For simplicity, this piece focuses on a lessening of competition, not the creation of a monopoly.) The statute does not talk about political power or income inequality, although its enforcement may affect both. Plainly, economic concepts are at the heart of Section 7. 

Second, within the realm of economics, Section 7 is narrowly focused on the effect of a merger on competition. The statute does not favor smaller firms over larger ones or domestic firms over foreign firms. Nor does it refer to “market concentration” or any similar concept. Section 7 also does not apply the broad “public interest” test found in some other statutes. 

Third, merger review is typically predictive and probabilistic. Most merger review involves assessing the reasonably likely future effects of a proposed merger in comparison with the counterfactual in which that merger does not take place. Certainty about these effects is never possible. The statute explicitly condemns mergers that may substantially lessen competition. 

Fourth, economic reasoning is indispensable to merger review because one needs some framework (model) to predict how the world would likely differ from one without the merger. Absent economic analysis, merger review would be drifting at sea. 

Fifth, merger review takes place in two phases: investigation by the Agencies (the Federal Trade Commission and the Antitrust Division of the Department of Justice), and then, in rare cases, litigation in the federal courts. The role of economics differs in the two phases. (I do not address merger enforcement by state attorneys general, private plaintiffs, and foreign jurisdictions.)

So now let us ask: what is the role of economics in merger review, in reality and ideally?

What Constitutes a “Lessening of Competition”?

Before we can talk about a “lessening of competition,” we need to define what we mean by “competition” itself. I like this definition from the 2023 Merger Guidelines:

Competition is a process of rivalry that incentivizes businesses to offer lower prices, improve wages and working conditions, enhance quality and resiliency, innovate, and expand choice, among many other benefits.

This definition comports with common sense and how the term “competition” is generally used. Because this definition also fits well with how Industrial Organization economists think about competition, it reinforces the centrality of economic analysis to merger review.

The competitive process encompasses a wide range of strategies and tactics. Quintessential examples of the competitive process in action are a firm lowering its price, improving its product quality, investing in greater capacity, or innovating to gain more sales. Here is a good rule of thumb: when a firm takes actions that lead to increases in the quantity or quality of the goods and services it sells, that represents the competitive process in action. Importantly, acquisitions themselves can be a vital part of the competitive process, such as when a firm acquires a production facility or intellectual property rights that allow it to compete more effectively by lowering its costs or enhancing its capabilities.

Adopting this definition of competition, a “lessening of competition” corresponds to a diminution of the “process of rivalry that incentivizes businesses to offer lower prices” to their customers and numerous other benefits to their customers and other counterparties. Therefore, the natural way to detect whether a lessening of competition will arise is to see if customers are likely to receive fewer benefits due to diminished rivalry. This formulation fits very well with the case law, much of which centers on whether the merger will harm customers. Economic ideas and principles are thus baked into the case law, as they are into the statute itself.

How Can We Tell if a Proposed Merger “May Substantially Lessen Competition”?

So far so good, but how can the Agencies or the courts determine whether a proposed merger is likely to weaken the process of rivalry that generates benefits for counterparties?

Looking at the case law, the answer to this question has evolved along with economic learning. In the middle of the last century, the “structure-conduct-performance” paradigm was paramount in industrial organization economics. In 1963, in the Philadelphia National Bank case, the Supreme Court explicitly relied on that framework (citing leading economists) to create the structural presumption against mergers that substantially increase concentration in a highly concentrated market. As the Supreme Court explained in that case, market concentration metrics were a proxy for the ultimate concern, which was harm to customers (in that case, borrowers) due to diminished competition. Highly concentrating mergers were presumed to harm customers due to diminished rivalry. Rebuttals disproving such harms was possible but difficult. A short-cut for predicting competitive effects was established based on the economic learning of the day.

By the 1970s, the Supreme Court in General Dynamics made clear that market shares had to be interpreted in the light of market (economic) reality. In time, as economists came to place less weight on market structure alone, the D.C. Circuit in Baker Hughes identified additional channels by which defendants may rebut the structural presumption. For example, the merging parties could show that entry into the relevant market was fast and easy, so the arrival of new rivals would prevent any harms (such as higher prices) from persisting.

While the case law has evolved a great deal over time, the courts have consistently asked whether the merger being reviewed would be likely to harm counterparties (typically customers) due to diminished competition. This is a sensible and practical way to implement the statute, starting from the common-sense definition of competition discussed above. As a result, the courts were said to have adopted a “consumer welfare standard.” However, one really should not get hung up on that phrase: it is merely a slogan, not a substantive rule. In some cases, such as a merger between competing buyers, the injured counterparties are suppliers, not customers, so the slogan is inapt. In other cases, such as when the acquiring firm simply decides to discontinue an unprofitable product of the acquired firm, customers are harmed but there is no antitrust issue because that harm is not associated with a reduction in competition. Again, the slogan is inapt. To avoid confusion, I have suggested that the protecting competition standard is a better label. 

Diagnosing harm to counterparties due to diminished competition is inherently about economics.

Over the past 60 years, we have witnessed an ongoing dialogue between the Agencies and the courts, via the mergers the Agencies have litigated and via the Merger Guidelines that the Agencies have issued. The courts have often cited the Merger Guidelines as a persuasive authority. The Merger Guidelines have accelerated the process by which advances of economic thinking and changes in Agency investigative practice have been incorporated into the case law. As a leading example, unilateral effects became well-established in the case law following the 2010 Horizontal Merger Guidelines, even though merger review in the 1960s and 1970s was almost entirely focused on what we now call coordinated effects (the fear that the merger would make it more likely that the remaining firms would successfully coordinate to limit competition).

The result is a hybrid regime for horizontal mergers: market definition and market concentration play a central role, but many other methods of evaluating economic effects are also employed, especially during the phase when the Agencies investigate mergers and make their enforcement decisions. 

When they go to court, the Agencies invariably seek to establish the structural presumption by defining a relevant market and asserting that the merger will substantially increase concentration in that market. That is the legacy of the Philadelphia National Bank burden-shifting framework. The structural presumption continues to find support among Industrial Organization economists, especially in cases where the competitive effects of concern involve coordinated effects. 

But economic learning has advanced greatly since 1963. We now understand far better the myriad ways in which a lessening of competition can occur in a wide variety of market settings, as well as the ways in which mergers and acquisitions can be beneficial. We also have far more experience using the available evidence—both quantitative and qualitative—to score horizontal mergers in terms of their threat to competition. In the end, judges care about whether a proposed merger is likely to cause harm, and they are accordingly very much open to economic analysis that is informative about the merger’s likely competitive effects. Economic expert witnesses thus have a far bigger role to play in merger litigation than as mere Herfindahl–Hirschman Index (HHI) calculators. 

The ongoing process by which economic learning moves from academic research to agency practice and from there into the case law will continue. For example, the 2023 Merger Guidelines introduce ideas related to platform competition (Guideline 9) and labor markets (Guideline 10) that are likely to appear before long in the case law, enriching and updating the case law. These examples illustrate how economics is critical to the common-law process by which merger law evolves. 

Shapiro’s disclosure of entities providing significant financial support is here

Articles represent the opinions of their writers, not necessarily those of the University of Chicago, the Booth School of Business, or its faculty.