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Securities and Antitrust

Antitrust Law

What Is Antitrust Law?

Antitrust law deals with the protection of trade and commerce from unlawful restraints on trade, such as price-fixing, price discrimination, and harmful concentrations of power in monopolies.

An antitrust law is a rule banning certain acts that interfere with the normal operation of markets by putting limits on the ability of companies to build monopolistic power. Markets are trade and commerce in goods and services bought and sold at prices set by supply and demand. When a market for a particular kind of product has many sellers and many buyers, that market is efficient. Because there are many sellers in an efficient market, no seller can control the market and take advantage of buyers by offering substandard products at unreasonable prices. Also, the competition of an efficient market encourages sellers to respond to changing buyer needs and tastes and to innovate and improve products.

The economic theory of open-market competition has a weakness. When some firms try to improve their competitive positions and gain market power, they take actions that result in diminished competition and decreased efficiency. For example, they might make secret agreements with other firms to keep prices artificially high.

Lawmakers created antitrust laws to regulate and in some cases prohibit business activities that lead to restraint of trade—actions that interfere with competition and the efficient operation of markets. Antitrust laws are not intended to interfere with legitimate business activities or to penalize businesses that grow as a result of their proper business decisions and strategies.

Antitrust laws have two primary guiding principles that support open and competitive markets.

The first of those guiding principles is that a monopoly, a market where there is only one seller and buyers have only one source of a product, is the opposite of an open and competitive market. Monopolies themselves are not illegal, but achieving monopoly power through methods that restrain trade is illegal. For instance, in many communities, utility companies are monopolies—they are private corporations owned by individuals and other private entities, but they are the only source of that utility in that community. These utilities are monopolies because the government has determined that the most efficient way to provide the utility services is through a single regulated company. In these cases no other companies are allowed to provide the utility service, but the business practices and rates charged by the company that is allowed to operate as a monopoly are regulated by the government. On the other hand, a company that attempts to establish itself as a monopoly through the use of mergers that eliminate competition or exclusive agreements that interfere with free trade is attempting to create a monopoly using illegal means.
A monopoly exists when there is one firm in a market and that firm controls the price and supply in that market.
The second guiding principle of antitrust law has to do with activities that restrain trade but that are not intended to achieve monopoly power. Antitrust laws forbid agreements between businesses in a market that have the effect of reducing competition and restraining trade. For instance, if there are five producers of milk in a specific geographical area and the two largest of those milk producers agree that they will charge a set price for the milk they produce, a monopoly is not established because there are still three milk producers that have not agreed to the set price. But there is a reduction of competition because the two largest milk producers have essentially agreed not to compete with each other. That agreement to charge a set price would be an agreement that violates antitrust laws.

History of Antitrust Law

Competition is considered an essential part of a capitalist market, and antitrust laws are aimed at ensuring that competition is allowed to flourish.

The Interstate Commerce Act of 1887 was the first federal law enacted to address abusive business practices. The act was relatively narrow in its application and did not provide a sufficient basis for lawmakers to prevent abusive business practices.

Because of the inadequacies of the Interstate Commerce Act, the Sherman Antitrust Act became law in 1890. This act addressed the use of trusts to control businesses. In antitrust law, the word trust means an organization that controls many or all of the competitors in a market. The trust keeps prices high for consumers and limits innovation in the industry.

Section 1 of the Sherman Antitrust Act bans trusts that try to restrain trade. Section 2 makes trying to monopolize any part of commerce a felony. The act does not identify specific activities that are in violation; the courts decide that. One standard that courts use is the rule of reason—the standard in which a court weighs the benefits of an action that is in restraint of trade against the harm to commerce that results from the action. If the benefits outweigh the harm, then there is no violation.

Many practices that are generally considered to be anticompetitive or that are viewed as reducing competition actually have both positive and negative effects on a market. For instance, a proposed merger between two companies that sell similar goods or services in similar markets will reduce competition, but the proposed merger may also improve the efficiency of the combined companies and make certain economies of scale available. Reduced competition is often a burden to trade that results in increased prices for the goods or services involved since competition typically keeps prices lower. On the other hand, the combined companies may be able to eliminate duplication in facilities and operations and accomplish purchases of raw materials in large quantities at lower prices, all of which can lead to lower costs and lower prices. Therefore, the rule of reason allows a court to weigh both the positive benefits to trade and the negative burdens to trade that will result from the anticompetitive practices.

Rule of Reason

Courts use the rule of reason to determine if the benefit provided by a restraint of trade outweighs the burden imposed by the restraint of trade.
The other rule that courts have established is for a per se antitrust violation, which is a specific action that violates the Sherman Antitrust Act, whether or not the action affects the market. If a company takes specific actions to restrain trade, then the court will rule against the company even if its attempt to restrain trade was unsuccessful. One example of a per se antitrust violation is price-fixing, which happens when two or more companies secretly agree to set a price. Another example is division of markets, which happens when companies secretly agree not to compete with each other in certain areas. A group boycott, which happens when companies agree not to sell products to certain buyers, is also a per se antitrust violation.
The courts have established a list of per se antitrust violations for which there are no defenses.
The Clayton Antitrust Act prohibits four business practices: price discrimination, exclusive arrangements, certain mergers, and interlocking directorates. Price discrimination is when sellers charge different customers different prices for the same product based on what they are willing to pay. An exclusive agreement is an agreement between a supplier and a buyer that the buyer will not purchase a product from anyone other than the supplier. A merger is a combination of two or more existing firms into a new firm that continues the businesses of the old ones. An interlocking directorate is a situation in which one or more persons serve on the boards of directors of competing firms.
The Clayton Act prohibits price discrimination, exclusive arrangements, mergers, and interlocking directorates.
In addition to the Clayton Antitrust Act, Congress also enacted the Federal Trade Commission Act in 1914. That act established the Federal Trade Commission and prohibits "unfair methods of competition" (behaviors identified in the Clayton Antitrust Act and by the courts) and "unfair and deceptive acts or practices" (such as false advertising and misrepresentations of goods and services) in commerce. The Federal Trade Commission is authorized to bring actions to stop the business practices that are prohibited by the act, to seek monetary damages for violation of the act, and to prescribe rules describing specifically what business practices are prohibited. Although the Federal Trade Commission does not have the authority to enforce any statute other than the Federal Trade Commission Act, the United States Supreme Court has ruled that a violation of the Sherman Antitrust Act (which prohibits trusts intended to restrain trade and which attempts to create monopolies) is also a violation of the Federal Trade Commission Act, so in effect the Federal Trade Commission enforces both the Federal Trade Commission Act and the Sherman Antitrust Act.