Low Price Conspiracy: Trade Regulation and the Case of Japanese Electronics
Bowman, Gary W., Blackstone, Erwin A., Atlantic Economic Journal
Low Price Conspiracy: Trade Regulation and the Case of Japanese Electronics
Low price conspiracy, a form of predation in which several firms conspire, is of increasing concern. It was alleged in the Japanese Electronics case on which the Supreme Court ruled in 1986 [Matsushita v. Zenith, 1986] and in Congressional testimony about cement [Ousterman, 1982, p. 59]. Firms concerned about foreign competitors may raise this issue. Often predation is not properly distinguished from dumping. (1) Dumping, in essence, is price discrimination across international boundaries. Although neither price discrimination nor dumping necessarily implies predation or desire to injure competition, firms which are faring poorly in the marketplace are more likely to see bad intent. Furthermore, use of the antitrust laws or at least some of the dumping laws to restrain those with lower prices seems to require that the firms with low prices had bad intent. Of course similar issues can arise in purely domestic markets.
Much of the antitrust debate and perhaps most of the (foreign) trade regulation debate in the context of multifirm predators has dealt with long run structural change in an industry--especially failing firms.
The first parts of this paper define and characterize low price conspiracy. The second parts evaluate the Japanese Electronics case in that (the alleged) context and consider briefly some other explanations.
In this paper predation is defined as an action by which a firm or group of firms attempts to eliminate one or more firms for the purpose of gaining market power, raising price, and increasing profit. If the action is an agreement among firms to lower price, it is low price conspiracy. Gain of market power is key if there is a public policy issue of loss of economic efficiency. This paper is focused on situations in which the industry is basically competitive with generally homogenous products before the formation of the low price conspiracy. (2)
When a group of firms has consistently lower prices than another group of firms for a period long enough to imperil the latter, then the possibility of low price conspiracy may be considered. Alternatively the alleged conspirators may merely share some cost advantage over the other group. For example, an innocent group of firms with significantly lower capital costs may appear to be pricing below cost since their accounting profit levels would be unremunerative to other firms. Members of the group would expand capacity and move into new geographic and product markets at what seem to others to be unacceptable returns. Further they are likely to have a longer horizon for all their investments and plans.
A low price conspiracy has two phases: a low price phase while competition is being eliminated and a high price phase during which enough profit must be made to more than recoup the losses of the low price phase. Hence, the low price conspirators face all the problems of agreement to raise price in the high price phase plus the difficulties in the low price phase and in coordinating the two phases. (3)
Several conditions are necessary for any reasonable chance of success for a low price conspiracy. If such activity is illegal, it may be precluded. It is assumed that either this is not the case or the conspirators feel that it is likely they will not be faced with legal difficulties. Additionally the conspirators may not use the courts for enforcement of their agreement. (4) The phrase low price conspiracy is used even though it connotes illegality.
Certainly any price lowering or raising conspiracy will have more difficulty if there are more firms in the conspiracy since additional firms increase coordination difficulties. A price conspiracy's attraction also depends on the degree of additional profit resulting if the conspiracy succeeds, so the industry demand must not be highly elastic.
To make a low price conspiracy attractive, the losses of the low price phase together with interest on these losses must be more than recovered later in the high price phase. Hence the group must be able in the high price phase to police its own ranks to avoid price competition from developing among its members. Since price will have to be above the competitive level, entry will be attractive and must be restricted. Personnel and assets of firms eliminated in the low price phase must not reenter. The possibility of being driven out by another period of low prices may serve to discourage some entry. The possibility may be lessened by the high cost to the conspirators especially if prices for the entire industry must fall (as they would for generally homogenous products) to drive out the entrant.
A low price conspiracy must be reasonably expected to be more profitable than alternative plans. One very important alternative is to include the proposed victims in the group, raise price immediately, and completely dispense with the low price conspiracy. Although the size of the group is increased and therefore individual profit shares are smaller, the losses from low prices are eliminated, higher profit begins immediately, and concern for re-entry of the personnel and assets of the eliminated firm is obviated.
Any low price conspiracy must divide the members of the industry into two groups: conspirators and victims. Suppose for a moment that whatever group formed could eliminate the victims, block entry, raise price, and more than recoup losses and interest. Given this situation any firm which was potentially designated as a victim might bargain with the non-victims to become a non-victim. A victim, however, could be any firm. All firms--victims and non-victims alike--must initially be on at least roughly equal competitive footing (i.e., similar cost curves), since a firm which made an inferior product or had high cost would tend to be eliminated by competition without any low price conspiracy.
The predators would generally need larger financial resources than the victims to be able to sustain the losses necessary in the low price phase and to make the threat of bankruptcy real to the victims. Other factors which may serve the same end are larger (than victim) predator investment in specialized plant, equipment, and human capital. These mean that it would cost the predators more to fail than the victims.
If the coalition of firms in the conspiracy is unstable, then the conspiracy may fail or may never really form. A firm has potentially a strong incentive to wish to be out of the conspiracy in the money losing low price phase but in the conspiracy in the profitable high price phase. Althogh the obstacles to low price conspiracy may be great, this paper considers the situation in which they are overcome and a group of firms embarks on a low price conspiracy.
It is assumed that a low price conspiracy is formed, victims are identified, and the process of driving out the victims is underway. For a low price conspiracy to succeed it must be that the victims are expected to fail before the conspirators fail. As price falls the quantity demanded by the market will increase the conspirators must expand output to meet this increase as well to meet amounts due to decreases in production from the victims who in matching price will move down their marginal cost curves. Thus the conspirators will not only be selling below average cost but also be expanding output at these prices. Their losses will generally be larger than those of the victims who are contracting output.
Each member of the conspiracy will wish to avoid sales, since it is selling below marginal cost where each additional unit sold increases its loss -- a remarkable situation. Each member will be avoiding sales and buyers. It will not wish to advertise and will want to create difficulties for potential buyers to contract with it. Members, as individuals, will desire to have no sales representatives, little or no inventories, to offer poor service, to delay shipments, and to degrade the design of the product and quality of construction. They would even want objectionable product characteristics.
Individually firms would wish to avoid sales, but collectively they desire to expand sales. Market share agreements would involve forcing members to take customers. Of course these remarkable possible actions by individual members who wish to decrease sales may be tempered by consideration of reputation that could follow the firm into the high price phase where increased sales are desirable. Concern about reputation might make it more attractive to avoid sales by lack of product availability rather than by, for example, product quality degradation unless the high price phase is many years away from the low price phase.
In a conspiracy in which price is raised, profits are higher than otherwise and each firm individually wishes to increase its sales. Collectively these firms must restrict sales to keep price up. For a conspiracy to lower price the group collectively wishes to expand output, while individually firms wish to restrict output. There are many ways to promote or encourage sales. Table 1 lists several factors regarding market behavior and describes the likely interest of the group and of individual members in price raising and price lowering conspiracies.
Japanese Electronics Case
In the Japanese Electronics case [Matsushita v. Zenith 1986] Zenith Radio Corporation (Zenith) and National Union Electric Corporation (NUE) claimed that 21 Japanese manufacturers or vendors of televisions illegally conspired to drive out U.S. television producers by charging artificially high prices in Japan and low prices in the U.S. (5) The conspiracy was alleged to have begun "as early as 1953 with full operation by sometime in the late 1960s." The low price phase was alleged to have continued into the 1980s. For the complainants to recover damages their logic required losses as a result of unreasonably low prices. To be anticompetitive a restriction of competition must follow. If so it is a low price conspiracy as defined above. The case is analyzed in terms of this framework below and then some alternative explanations are briefly considered.
Entry into the television industry must be difficult to make predation worthwhile. However, entry is not difficult. Indeed the Japanese firms entered the industry after the U.S. firms. Now Korean and Taiwanese firms have entered. Moreover, even were the U.S. firms to be driven from the market, once price were raised they would probably return. As Easterbrook  states:
"There are no barriers to entry into electronics, as the proliferation of computer and audio firms shows. The competition would come from resurgent United States firms, from other foreign firms (Korea and many other nations make TV sets), and from defendants themselves."
Large buyers like Sears and J. C. Penney also provide a strong threat of entry if prices were to exceed the competitive level. Either could by contract guaranty substantial sales to an entering firm. For example, in 1982 Sears sold about 7.3 percent of the U. S. televisions [International Competitiveness in Electronics 1982, p. 114]. Indeed, the Supreme Court felt that the lack of entry barriers made the alleged conspiracy implausible.
The length of time required to drive out the U. S. firms is also important. When the alleged conspiracy began, the U. S. firms were dominant they had the advantage of recognized brand names and established distribution systems and they
were the leaders in the technology of television, even licensing patents to Japanese firms. Many like RCA and General Electric were large, diversified, and profitable. For 1960 the Fortune  list of the largest 500 U.S. industrial corporations included at least seven television manufacturers. (6) Even a monopoly Japanese firm under those circumstances would probably not want to invest its resources in trying to drive out the entrenched U.S. firms. In any case, even in the 1980s Zenith and RCA still had the largest market shares, together almost 40 percent of the industry's sales. Moreover, their shares had remained at about that level throughout the 1970s.
The plaintiffs in effect argued that more than twenty years of losses was not enough to drive out the U.S. firms. Moreover, the losses would almost certainly be growing. During the claimed conspiracy the share of the Japanese firms grew from less than 20 percent to almost 50 percent, but this is far short of 100 percent. How many more years would be required to permit even a monopoly predatory firm to begin to recoup is unclear. Let us assume that only an additional ten years would be required. In that event our hypothetical monopoly would have to earn enough profits to cover the losses of thirty years (which were growing larger and larger as its share was growing) as well as the interest on those losses. The Supreme Court quite reasonably noted that the magnitude of the required losses made the plaintiffs' theory implausible.
The interest costs associated with the alleged conspiracy's losses are substantial. For example, a $1 loss in 1960 together with a 10 percent interest rate would require about $8 of profit simply to break even in 1981 or $16 in 1991. Given the fairly easy entry, such recovery seems most unlikely [Blackstone and Bowman, 1987].
Even if the conspiracy could signal threats of bankruptcy to entrants, there would be little effect on manufacturers of related electronics equipment such as stereo who might enter television industry at low cost. A conspiratorially low television price could not drive those firms out of business. Further, if only the U. S. prices were below cost, buyers from outside the U. S. (like Canada where sets are substantially identical to the U. S.) might attempt to purchase in the U. S. and to drive up U. S. prices and substantially increase the costs to the alleged predators.
The case involved allegations of predation and conspiracy. Consistent with out analysis the Supreme Court noted [Matsushita v. Zenith, 1986, p. 1358]:
"These observations apply even to predatory pricing by a single firm seeking monopoly power. In this case, respondents allege that a large number of firms have conspired over a period of many years to charge below-market prices in order to stifle competition. Such a conspiracy is incalculably more difficult to execute than an analogous plan undertaken by a single predator." (7)
In addition the allocation of sales (and associated losses) in the low price phase must correspond with the allocation of sales (and associated profits) in the high price phase. Indeed, high price conspiracies in the U. S. generally fall apart in a few years. (8) Under the circumstances it seems almost inconceivable that the alleged conspiracy could have lasted even a few years.
The plaintiffs claimed that several facts evidence the existence of a low price conspiracy. They claimed both that prices and profits were higher in Japan than in the U. S. as a result of the conspiracy and that those profits could not be eroded by entry of U. S. firms and hence were available to finance the predatory prices in the U. S. It is not clear that profits regularly were higher in Japan. For example, in 1976 Fuji Electric exited from the Japan television market [Television Digest, 1976, p. 10] which suggests that its profitability was insufficient to keep it in the market. In fact, that market seems quite competitive. However, retail, not price at the factory gate, may have been higher in Japan because of the nature of the distribution system. (9) Even if there were high profits from sales in Japan, there is no reason to spend these (or to spend funds from any other sources) on the losses associated with a predation scheme unless the scheme is likely to be profitable. Moreover, market shares in the U. S. and in Japan differ so that no correspondence between profits and losses exist. As the Supreme Court stated, there is no necessary connection between the two markets.
As support for the argument for low price conspiracy the plaintiffs claim that there were formal agreements under the auspices of the Japanese Ministry of International Trade and Industry (MITI) to establish minimum prices for televisions exported to the United States and that the Japanese manufacturers effectively sold at prices below these check prices through rebates. In other words they cut prices to gain additional business. If MITI were part of a pricing conspiracy as the plaintiffs indicate, then its actions are inconsistent with low price conspiracy but consistent with high price conspiracy. (10) Of course MITI may simply have been sensitive to possible protectionist sentiment which might lead to trade barriers for televisions and other Japanese goods.
Perhaps the key to determine what sort of price conspiracy (if any) existed is to compare individual firm incentives and actions with the collective incentives and actions of the conspiracy. Table 1 identifies several dimensions for such a comparison. Since the defendant firms individually were vigorously pursuing sales in the U. S. market, prices were probably above marginal cost. That behavior is opposite to what would be expected if a low price conspiracy really existed.
The plaintiffs also alleged that the Japanese producers agreed to sell to no more than five distributors. (11) This phenomenon is inconsistent with a low price conspiracy since its problem is to assure that the firms actually sell all of their agreed quantity. Requiring producers to sell to no less than five distributors would be consistent with a low price conspiracy. Moreover, the agreement would have to assure that each company actively promoted sales. Monitoring would have to assure adequate inventories, sales, personnel, reasonable credit terms, and adequate warranty and service policies. In fact, the evidence suggests much individual firm effort at product improvement, increased sales and promotion effort, and competition to offer better warranties, all of which are consistent with trying to sell more, not less. These actions might be consistent with cheating on a high price conspiracy, but they are not consistent with a low price conspiracy.
During the life of the alleged conspiracy there were substantial changes in market shares and new entry. For example, Sharp's market share among the Japanese firms went from the fifth largest in 1980 to the second largest in 1988 while Mitsubishi improved from sixth to fourth. (12) This shifting does not suggest conspiracy, and it would very substantially complicate the process of apportioning losses and later anticipated profits. Moreover, North American Philips, a Netherlands firm with 11.5 percent of the U. S. market in 1982, would remain while the U. S. firms were supposedly being driven from the market.
The incentive to cheat should have been especially strong because of the length of time required to eliminate the U. S. firms. If the low price phase were expected to last twenty or even thirty years, firms would wish not to enter but to wait until the U. S. firms were eliminated. In fact there has been substantial entry into the U. S. television industry, including Gold Star Electric International, a Korean firm, and Sampo Corp. of America and
Tatung Company of America, Taiwanese firms.
There have been substantial improvements in television quality including integrated circuit technology, better and larger pictures, and projection television. These improvements are costly. It is virtually inconceivable that a conspiracy could effectively force its naturally recalcitrant members to discover them. An improvement causes the member to lose more both from the research and development cost and from resultant extra sales (at below cost). Moreover, the alleged members maintained their spending on advertising and expanded their other non-price efforts which are also inconsistent with a more than 20 year low price phase.
The possibility of recoupment is remote not only because of easy entry but also because cheating would be difficult to prevent. The large number of models and features, rapid technological change, probably a fairly elastic product demand (for individual firms), large and knowledgeable buyers, and other on which cheating could occur like prices, rebates (13), and warranties all make remote the prospect of successful collusion. Moreover, the possibility that successful collusion would evoke antitrust enforcement or other sanction could not be ignored. The Supreme Court reasonably concluded that recoupment might well be impossible so that a motive for the claimed predation was lacking.
Competition and the Good Performance of the
U.S. Television Industry
The U. S. television industry has performed well over the last twenty years, and its current structure is such that continued good performance is to be expected. In terms of market concentration the top four firms in 1982 had about 59 percent, and there were about fifteen manufacturers. The Herfindahl index for 1982 was under 1200 which is well below the 1800 figure where concentration is considered high. In fact the industry was only slightly above the 1000 figure, a value that the Justice Department considers indicative of competitive industries. Even after the merger of RCA and General Electric caused the Herfindahl index to rise about 320 points, it was still around 1500 [International Competitiveness in Electronics, 1982, p. 114]. Thus, the industry's concentration was not far different from earlier periods only the identities of some of the firms have changed.
Top brands have lost market share to smaller firms' brands. For example, between July 1984 and June 1985 the top five brands lost 6.3 percent while the top ten lost 5.6 percent. The structure of the industry was probably more competitive in 1985 when the top two held about 35 percent of the color market than it was in 1968 when the top two had 50 percent [Television Digest, 1985, p. 13].
Real prices for television have been falling. The average color set in 1960 sold for about $390 while in 1980 the price was about $350 [Standard and Poors 1980]. The fall is an important reduction in current prices, but it is a very substantial reduction in real prices since the price level increased approximately twofold over this period and television quality increased substantially. Indeed, the consumer price index for televisions in January 1986 was 85 (100 in 1967) compared to about 328 for all consumer items. Beneficial competition may be difficult for competitors. An example occurred in 1981 when Zenith was forced to reprice some of its product to meet competition from RCA. Zenith referred to the situation as "chaotic" and noted that some prices were "down to 1973 levels" [Television Digest, 1981b, p. 10]. Incidentally, Hitachi, a Japanese firm, also had to meet the competition from RCA.
Increased competition has forced U.S.firms to use the most efficient means of production including, if necessary, partial production or assembly overseas. For example, Zenith and North American Philips each announced plant closings in 1981. According to Television Digest [1981c, p. 10]:
"Both shutdown reflect intense price competition in the industry, spurring moves to compete by lowering overhead, increasing production efficiency, and improving quality. U. S. makers are meeting challenge by shifting all hand work to Mexican border plants where wage rates are low, centralizing assembly in single, highly automated U.S. plants, closing down others."
Zenith, for example, was concentrating production in the Springfield plant because it was the only plant able to accommodate floating work station production lines, It had already spent $18 million to establish the new lines [Television Digest, 1981 c, p. 10].
Possible Explanations For the U.S. Television
Industry other than Low Price Conspiracy
In the 1950s the firms manufacturing for the growing U.S. television market were primarily American. The number of these firms began to decline apparently because production technology began to favor somewhat large scale production. Concentration, however, was not great then or later. Just before 1960 some Japanese firms began to sell in the U.S. Typically they sold small black and white sets to large American retailers. At this time they had only a small part of the U.S. market.
During the 1960s American firms generally continued to be the technological leaders especially in new color television. Japanese firms often licensed U.S. patents. Japan may have had a comparative advantage (perhaps only in black and white) partly because of lower labor costs.
In the 1970s Japanese firms seemed to move into the role of technological leaders, but by some part of the 1980s they may have lost their comparative advantage at production of standard television (which now included basic color) sets to such places as Korea and Taiwan. In terms of technological leadership and cost of production the position of the Japanese firms was similar to that of U.S. firms in the 1960s. In the early 1970s production technology and input prices both changed in Japan. At this time especially, Japanese television producers may have found cost decreases due to learning by doing until adjustment to the new situation was made.
Japanese television prices on an absolute basis or relative to prices of sets made by others may have been influenced by many factors. Wage and interest rates may have been less in Japan than in the U.S. (but not less than in Korea and Taiwan) for much of the period. It is also possible that firms in Japan had objectives of satisfactory profit and of sales rather than the profit maximizing which might be ascribed to U. S. firms. These goals combined with a lower discount rate may have led to a willingness to accept lower profit rates than U. S. firms.
An estimate of the gain to the American economy from lower prices due in larger part to Japanese (and other non-U. S.) competition is about $234 billion dollars which is the present value of the gain in consumer surplus from 1967 to 1988 due to lower price and does not include important gains from product innovation. (14)
Procedural Matters Encouraging Competition
An important aspect of the Japanese Electronics case involved the Supreme Court's decision to permit lower courts to dismiss cases where economic logic made the claims dubious. Such use of summary judgments will foster competition including that from foreign sources since the cost of defending obviously non-meritorious claims will be reduced. This increased reliance on economic principles is consistent with the general trend of Supreme Court decisions.
The analysis of low price conspiracy suggests that even if it were legal, it requires very special and uncommon conditions. Such conditions were not present in the U.S. television industry, and the Supreme Court correctly concluded that the evidence did not support the existence of a low price conspiracy involving Japanese television manufacturers. The Court indicated that persuasive actual cost evidence must be presented to overcome economic logic that predation is very unlikely. Predation can still be shown but the standard of proof is high. After all allegations of low price conspiracy may be more likely to limit competition than any actual low price conspiracy itself.
(1) A group of firms is often alleged to have dumped. If there were predatory intent, the issue would be one of low price conspiracy. Such claims have also occurred in memory chips, wire rods, and titanium sponge. For example, the Commerce Department in 1986 was contemplating imposition of dumping duties of as much as 188% of the U.S. price for imported chips from Japanese producers [Uttal, 1986, p. 113]. See also Business America [1984, p. 19] and Lowndess [1984, pp. 72-8]. In titanium sponge, the production capacity of sponge in both Great Britain and Japan was argued to be many times their domestic demands, providing an incentive for their firms to dump. If this situation is without implications for long term industry performance, it is outside the scope of this paper.
(2) Pre-existing (high price) conspiracy may use low price conspiracy to tighten its hold on the industry and move price closer to the monopoly level or to eliminate an entering firm and preserve its hold on the industry. These situations are not directly discussed although the analysis and results would generally apply.
(3) The literature predatory pricing is voluminous. See, for example, the seminal work by Mcgee [1958 and 1980]. See also Areeda and Turner , Scherer , and Williamson .
(4) Williamson [1975, pp. 238-44] has focused on contracting problems for firms attempting to raise price. He too assumes that the contract although not illegal could not be enforced in the courts. He concludes that except for simplistic text book situations firms would commonly decline to enter such agreements. The low price conspiracy involves an immensely more complicated problem.
(5) Similar allegations of multi-firm dumping have been made by the cement industry which claimed that dumping prices in the case of Japan have been coordinated by an export association of Japanese cement producers. Prices in Japan were alleged to be $60 per metric ton compared to $37 for export [Ousterman, 1982, p.59].
(6) G.E. was 4th RCA 25 Philco 121 Motorola 157 Zenith 204, Emerson 328, and Magnavox 330 [Fortune 1961].
(7) McCall  has suggested a two-tiered aproach for deciding predation. If the market is not conducive to predation, the plaintiff must show by conclusive evidence that predation has occurred. In effect, the Supreme Court has taken this approach.
(8) For example, Postner [1970, p. 401] reports that the typical conspiracy for the 1960s which was discovered lasted about six years. Blackstone and Bowman  suggest a somewhat longer period (8.6 years) for the 1970s.
(9) Competition in Japan and among the defendants makes unlikely price discrimination between the U.S. and Japanese markets. Even if price discrimination did exist, it would have taken advantage of the presumed lower price elasticity of demand in Japan, not eliminated competitors in the U.S. nor raised price later to non-competitive levels.
Comparing prices to determine whether price discrimination existed is especially difficult because a television set used in Japan cannot be used in the U.S. since broadcast technologies differ.
(10) Scherer [1987, p. 1003] has pointed out that MITI often acted to rstrict capacity in this time period. This would tend to raise price both in Japan and abroad.
(11) The minority opinion of the Supreme Court, in opposing granting summary judgement dismissing the complaint, stressed that a fact-finder might conclude that a conspiracy existed. For example, the minority noted that if the Japanese firms divided the market and if each concentrated its effort on only five buyers, the group could more easily obtain the business of U.S. firms.
(12) Figures are calculated from Television Digest [1981a, p. 10 1988, p. 14].
(13) For example, in 1980 Zenith offered a $50 U.S. savings bond for all 18 inch $810 or more consoles while RCA offered a $100 rebate [Television Digest, 1980, p. 12].
(14) This calculation uses Houthaker's [1966, p. 130] television market demand elasticity of -1.2. It assumes that all television demand curves from 1967 to 1986 have this elasticity. Hence the form is P=a(t)Q 1/12 where a(t) changes as the demand curve shifts outward.
The consumer price index for televisions is used as a measure of the real price of television (1967 - 100 and 1986 - 85). It is assumed that absent foreign competition the price of televisions would have risen as the price of U.S. Electrical Machinery and Equipment prices (1967 - 100 and 1986 - 257.6). The sales of television were approximately 2436 million dollars (SIC 2651) in 1967 and 5855 in 1986.
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Publication information: Article title: Low Price Conspiracy: Trade Regulation and the Case of Japanese Electronics. Contributors: Bowman, Gary W. - Author, Blackstone, Erwin A. - Author. Journal title: Atlantic Economic Journal. Volume: 18. Issue: 4 Publication date: December 1990. Page number: 59+. © 1999 Atlantic Economic Society. COPYRIGHT 1990 Gale Group.
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