Abuse of dominant position

This is a complex concept to define. What follows is a schematic definition (for more details, see CeCo Glossary on Dominant Position). It is also worth noting that a dominant position can be held either individually or collectively (see CeCo Glossary on Collective Dominance).

Under this conception, dominance is equivalent to the economic concept of substantial market power (see CeCo Glossary on Market Power). That is, a firm’s capacity to influence the market by setting higher prices and limiting the availability of goods or services. (Monti, 2003).

In other words, what characterizes a dominant firm is its ability to affect allocative efficiency (see CeCo Glossary on Efficiency) by altering one of the parameters of competition, independently of what its competitors, clients, or ultimately final consumers do.

In this sense, when assessing dominance, the competitive structure of the market must be taken into account, an particular attention should be given to three factors: (i) the market position of the dominant firm and its competitors (market shares, market dynamics, degree of product differentiation, etc.); (ii) entry conditions (entry barriers, strategic behavior, etc.); and (iii) the bargaining power of the firm’s customers.

In the traditional view, dominance is defined based on the “commercial superiority” of a firm over its competitors. This superiority allows the economic agent to exclude rivals from the market or at least restrict their expansion, distorting the competitive process. For example, if it prevents competitors from achieving economies of scale that would allow them to compete efficiently.

In this case, dominance is conceived as a purely jurisdictional matter. Below a certain threshold (e.g., market shares), the rules sanctioning abuse of dominant position do not apply.

This approach was used in the Alcoa case in the United States.

In general, holding a dominant position is not illegal or unlawful per se. What the prohibition of unilateral abuse seeks to prevent is the abuse of said position.

However, in some jurisdictions, there is reference to a “special responsibility” borne by a firm in a dominant position. In general terms, it is said that the agent should avoid impeding, through its conduct, the development of effective and undistorted competition in the market (European Commission, 2009).

These aim to exploit the opportunities that dominance offers to directly affect consumers.

Examples include the unilateral modification of commercial terms, imposition of abusive prices, arbitrary price discrimination, privacy violations, among others.

Their unlawfulness will depend on each specific legal system, as many jurisdictions do not consider exploitative abuses to be sanctionable.

Exclusionary abuses exclude certain economic agents or create an artificial disadvantage for rivals. They indirectly reduce consumer welfare by depriving them of the benefits of the competitive process.

In the context of U.S. law, for example, Hovenkamp (2005) explains that exclusionary conduct is that which (1) is reasonably capable of creating, enhancing, or prolonging a firm’s monopoly power by limiting competitors’ opportunities and (2) does not benefit consumers, is unnecessary for delivering benefits to them, or causes disproportionate harm relative to the benefits it generates

Among the most studied forms of this type of abuse are predatory pricing, refusal to deal, margin squeeze, exclusivity agreements, abusive litigation, and hoarding.

This consists of aggressive competition by incurring losses or sacrificing short-term profits in order to drive out a competitor or entrant, and thus gain a dominant position in the future, harming consumers.

Such practices imply sacrificing short-term gains in exchange for the expectation of greater medium- or long-term profits from a reinforced dominant position.

As Kaplow and Shapiro (2007) note, predatory pricing is a controversial figure in competition law. Advocates of punishing predatory pricing seek to prevent large firms from using their dominance to block new competitors or exclude existing ones. Skeptics argue that price cuts are the essence of competition and that punishing a firm for setting very low prices must be done with great caution, as successful predation is extremely rare.

This generally arises in vertical relationships. It occurs when a dominant firm controls an essential upstream facility or input that gives it dominance in a downstream market. A downstream competitor seeks access to this facility, which is denied by the dominant firm directly or indirectly, through delays in negotiation or setting excessively high prices (margin squeeze).

Refusal to deal is also a controversial figure in competition law, as firms are generally free to act, negotiate, and contract according to their business strategy.

Under circumstances which are usually exceptional, competition authorities have found that refusal to grant access to essential resources may violate competition law if the dominant firm is able to completely eliminate competition.

In U.S. law, the Aspen Skiing doctrine requires that the dominant agent alter a prior practice selectively, and that its decision does not follow the most rational path for profit maximization. In other words, the only plausible explanation is the intention to exclude its competitor from the market in the long run.

Refusals to deal may also occur indirectly by setting excessively high prices, also known as “margin squeezes.”

According to O’Donoghue and Padilla (2006), margin squeezes refer to a set of strategies employed by a vertically integrated dominant firm to make downstream competitors’ business unprofitable.

The key question in these cases relates to the prices charged to such competitors. If the allowed margin prevents them from competing effectively, a margin squeeze is deemed to have occurred.

According to the European Commission (2009), a firm holding a dominant position might attempt to block rivals from accessing customers by using mechanisms such as exclusive purchasing requirements or loyalty discounts, practices generally categorized as exclusive agreements.

According to Kaplow and Shapiro (2007), exclusivity agreements are arrangements in which a supplier conditions the sale of its product on the buyer’s agreement not to purchase from its competitors.

These contracts are generally considered to have both anticompetitive effects and efficiency benefits (Kaplow and Shapiro, 2007).

According to the European Commission (2009), exclusivity agreements entered into by dominant firms carry risks for competition because they tend to erect artificial entry barriers that, by preventing competitors from achieving economies of scale, limit the expansion of existing competition or prevent the emergence of new rivals.

Conditional discounts are, according to the European Commission (2009), price reductions offered to incentivize specific purchasing behaviors. These usually apply when a customer’s purchases surpass a set threshold within a given period, triggering a discount either on the entire volume bought (retroactive) or solely on the portion exceeding that threshold (incremental).

In this case, the likelihood of anticompetitive effects is higher when the dominant firm’s rivals compete only for a portion of the market demand (contestable share). This is because the dominant firm has a guaranteed level of demand, primarily due to its status as an unavoidable trading partner.

These are abuses that have both exclusionary and exploitative components, such as tying and arbitrary price discrimination.

This conduct consists of the sale of two different products or services by a firm with market power over the market of one of said products.

Tying differs from bundling. In tying, the products in the bundle are not sold separately. In bundling, the products can also be purchased separately, but the bundle is offered at a discount compared to the sum of individual prices.

Tying can come in two forms: (i) contractual, when the customer purchasing the “tying” product also agrees to purchase the “tied” product (and not competitors’ alternatives), or (ii) technical, when the product is designed to work with the “tied” product, or is physically integrated so they are only sold together.

According to the European Commission (2009), tying is a common practice aimed at benefiting consumers. However, it notes that when a company holds a dominant position in the market of the main product or in the bundled market, such practices can create harm by limiting access to competing products included in the bundle (the tied market), and potentially restricting competition in the main market as well.

In general terms, this consists of charging different prices for similar products that have the same marginal cost.

A distinction is made between first, second, and third-degree price discrimination. First-degree is based on consumer behavior, where the highest price a consumer is willing to pay is charged. Second-degree depends on product characteristics, applying different prices based on the number of units purchased. Third-degree is based on buyer characteristics: different categories of customers are created according to their demand curve, and a different price is set depending on their demand elasticity.