The Mizzou campus is all atwitter today over a scheduled appearance this evening by the world’s biggest celebrity — my old constitutional law prof, Barack Obama. As I write this, I’m watching the Obama folks prepare for the rally, which is to take place on the quad my office overlooks. I must say, it’s a pretty impressive operation.

Without doubt, Sen. Obama — whom I admire and of whom I am quite fond (on a personal level) — has run an amazing campaign. He’s raised gobs of money, and he’s managed to deflect most of Sen. McCain’s attacks while getting his own attacks to “stick.” One of his most effective strategies has been to tie Sen. McCain to President Bush by, among other things, highlighting the extent to which McCain “voted with the President.”

Yesterday, my friend and colleague, Royce Barondes, undertook a similar analysis. He researched how frequently Sen. Obama voted with the nation’s one socialist senator, Vermont’s Bernie Sanders. Royce emailed me the results of his research this morning: “In Senate Roll Call votes in the first session of this Congress, where the two voted, Obama voted with Sanders 92% of the time.”

This breaks down as follows:

The two senators both participated in the same vote 273 times. (There were 442 total votes during the period, but there were 169 occasions on which one senator voted and the other didn’t; 166 of those times, Sen. Obama was the non-vote.)

Of the 273 votes in which both senators voted…

* They both voted yea 157 times.
* They both voted nay 93 times.
* They voted differently (one yea and one nay) 23 times.

The two senators thus voted in concert on 250 of 273 occasions. That’s a 91.58% agreement rate.

Josh has previously poked some holes in this sort of “voting with” analysis, but putting those aside, Royce’s findings raise an obvious question: If the fact that Sen. McCain voted “with the President” 90% of the time means a McCain administration would be “more of the same,” does the fact that Sen. Obama voted with Congress’s sole socialist 92% of the time mean that an Obama administration would be socialist?

I suppose we needn’t evaluate that syllogism to answer the underlying question. We could simply consider, among other things, Sen. Obama’s:

* support for the (badly misnamed) employee free choice act,

* avowed desire to “spread the wealth around,”

* opposition to the Central American, Colombian, and South Korean free trade agreements,

* promise to renegotiate NAFTA,

* letter to President Bush asking him not to cut farm subsidies as part of the Doha Round,

* promise to preserve the 54 cent per gallon import tariff on Brazilian ethanol,

* vow to increase the minimum wage and index it to inflation,

* support for windfall profits taxes on successful businesses,

* plan to expand welfare by giving income tax “refunds” to people who don’t pay income taxes,

etc., etc., etc.

It looks like the FTC is interested in doing more than just investigating RPM (see Thom’s excellent post), as the agency just announced a series of public workshops on the question of how best to distinguish pro-competitive uses of RPM from those that raise competitive concerns. From the announcement:

The FTC is requesting public comment from attorneys, economists, marketing professionals, the business community, consumer groups, law enforcers, academics, and other interested parties on three general subjects:

1. The legal, economic, and management principles relevant to applying Sections 1 of the Sherman Act and Section 5 of the FTC Act to RPM, including the ability to administer current or potential antitrust or other rules for applying these laws;
2. The business circumstances regarding the use of RPM that the Commission should examine in the upcoming workshops, including examples of actual conduct; and
3. Empirical studies or analyses that might provide better guidance and assistance to the business and legal communities regarding RPM enforcement issues.

Thom’s paper offers one proposed test based on the available theoretical and empirical evidence and grounded in the error-cost approach. One of the key virtues of Thom’s test is that he would initially place the burden on the plaintiff to demonstrate an output effect. I’ve written before, as have many others, that all of this talk about RPM and its effect on prices is nothing more than distraction given that both pro-competitive and anti-competitive theories predict a price increase. Thom’s test is nuanced and includes structured rule of reason inquiries for establishing the likelihood of such an effect through circumstantial evidence. You should read the paper if you haven’t already.

In the paper, Thom is a bit too kind to the proponents of proposed tests that would either turn on observing prices before and after the imposition of RPM or would place a burden on the defendant utilizing RPM to first show, without a predicate showing of actual or likely reduction in output, that its use fit some pre-determined justification for RPM. The former tests are wrong on the economics because we want price and not output. We should not entertain price tests as relevant here. We should also dismiss as inconsistent with economic learning tests that do not at least attempt to reconcile burdens with the theoretical and empirical learning on vertical restraints and RPM more specifically. I’ll leave as an exercise to the reader to figure out which tests those might be and which errors they commit.

The latter tests are also wrong on the economics, but in a different way. One of the many advantages to setting the rule of reason as the analytical default for business practices and reserving the per se rule for those practices which we know, through judicial learning or economic experience, “always or almost always reduce output” is that it constrains antitrust enforcers and judges from condemning business practices which look unfamiliar or which we do not understand simply because we do not yet have an efficiency justification. Antitrust has a long history of condemning business practices which we later found out are a normal part of the competitive process. We can tell that story for RPM, vertical mergers, horizontal mergers, exclusive dealing contracts, tying — well, we can tell it about nearly everything within antitrust’s domain. This is what Ronald Coase was warning us about when he wrote:

One important result of this preoccupation with the monopoly problem is that if an economist finds something—a business practice of one sort or other—that he does not understand, he looks for a monopoly
explanation. And as in this field we are very ignorant, the number of ununderstandable practices tends to be rather large, and the reliance on a monopoly explanation, frequent.

Many of the proposed tests which would place substantial burdens on defendants to explain their conduct with reference to some narrowly accepted justifications for RPM, usually based on what I view to be an overly restrictive and erroneous reading of Leegin, come very close to looking like attempts to design structured rule of reason approaches with the goal of circumvent the burden shifting consequence of overturning Dr. Miles. The notion that we know so much about the competitive effects of RPM such as to justify its treatment as “inherently suspect” or worthy of summary condemnation under certain specific and identifiable conditions is both wrong as a matter of economics and empirical evidence and inconsistent with Leegin.

There is a lot that we do know know about precisely how RPM works, when and by whom it is adopted, and to what effect. But both what we do and what we don’t know about RPM can and should cut in favor of adopting burdens which require plaintiffs to show meaningful competitive harm before we condemn a business practice which all agree is efficient most of the time. Precisely how we specify those burdens, presumptions and safe harbors in a way that is consistent with the principles of rule of reason analysis and economic learning is a very important question (Thom’s paper is a step in the right direction toward answering that question) and one that the FTC should be applauded for allocating resources toward in these workshops. I’d also note that while much attention has been paid to developing a sensible structured rule of reason approach for the plaintiff’s prima facie burden in RPM cases, less (but not zero) has been paid to developing safe harbors grounded firmly in economic theory and empirical evidence which would provide firms using RPM to distribute their products some certainty with respect to antitrust exposure.

I’ll have more thoughts on RPM, the economics of vertical restraints, and sensible safe harbors later.

Once again displaying its tenacious devotion to old Dr. Miles, the FTC is investigating whether makers of musical instruments and audio equipment have engaged in illegal resale price maintenance (RPM). Yesterday’s WSJ reported that the Commission has issued subpoenas to a number of prominent musical instrument manufacturers, including Fender, Yamaha, and Gibson, as well as to the retailer, Guitar Center, Inc. The Commission is apparently seeking to determine whether the manufacturers’ minimum advertised price (MAP) programs, which forbid retailers from advertising prices below some minimum level, amount to unreasonable vertical restraints of trade. In the post-Leegin world, even those MAP programs that amount to agreements to set retail prices are not automatically illegal. Instead, a challenger must establish their anticompetitive effect.

Most likely, these arrangements are pro- rather than anti-competitive. To see why, consider the possible anti-competitive harms and pro-competitive benefits that may result from RPM agreements and the pre-conditions for their occurrence.

The potential anti-competitive harms stemming from RPM are (1) facilitation of a cartel at the retailer level [i.e., retailers persuade the manufacturer to establish and enforce a retailer cartel by "requiring" them to adhere to minimum resale prices] and (2) facilitation of a cartel at the manufacturer level [i.e., colluding manufacturers all require their retailers to charge minimum resale prices in order to (a) reduce the manufacturers' individual incentives to cheat on the fixed price they charge retailers, who can't enhance total sales of the manufacturer's brand by passing any price cut on to consumers, and (b) enhance price transparency so that their cartel is easier to monitor].

In order for either of these anti-competitive harms to materialize, a number of structural pre-requisites must be present. For RPM to facilitate a dealer-level cartel, the retail market must be capable of cartelization (e.g., it must be fairly concentrated, with significant entry barriers, etc.). Moreover, because manufacturers would normally want retail mark-ups to be as small as possible and would thus tend to resist requests for RPM, the retailers seeking to enlist manufacturers in establishing/policing their cartel must have some power in the retail market. Given the low barriers to entry in retailing, such retailer market power is rare. For RPM to facilitate a manufacturer-level cartel, the manufacturers’ market must be susceptible to cartelization (e.g., concentrated, subject to entry barriers, etc.) and the use of RPM must be fairly widespread among manufacturers comprising a substantial percentage of the market.

It’s unlikely that the structural pre-requisites to either form of anti-competitive harm exist here. With respect to the dealer cartel possibility, the relevant retailer market is unconcentrated, and entry barriers are low. Retailers couldn’t very well cartelize, and if they tried to do so, retailers offering lower mark-ups would enter the market. It’s therefore unlikely that RPM could facilitate a dealer cartel. I don’t know about the structural pre-requisites to the “facilitation of manufacturer cartel” theory, but the fact that the FTC isn’t (to my knowledge) investigating direct collusion among the instrument manufacturers themselves suggests that there’s no basis for supposing that the RPM here is being used to facilitate any such cartel.

So the potential anti-competitive harms of RPM are unlikely to exist here. What about the pro-competitive benefits?

Well one pro-competitive benefit is pretty darn obvious. A musical instrument is the sort of thing whose attractiveness to consumers will be greatly influenced by point-of-sale services. If a customer can try out a brand of an instrument, ask questions of a knowledgeable salesperson, see the various features demonstrated, maybe take a lesson or two, and be assured that he can return the instrument to the store for occasional servicing, the amount he is willing to pay for that brand will increase. A manufacturer thus has an interest in ensuring that these point-of-sale services remain available. If low-overhead retailers (like Internet retailers) can free-ride off the efforts of high-service dealers, then these output-enhancing point-of-sale services will eventually disappear, to the detriment of the manufacturers. The manufacturers thus have an interest in forbidding the advertising — and even the charging — of low prices by low- (or no-)service retailers. Such restrictions are necessary to promote the services that are desired by consumers and will maximize the total output of the manufacturers’ products.

As Josh has noted a number of times, the free-rider explanation is not the only pro-competitive explanation for RPM agreements. In this case, though, the free-rider story seems pretty plausible. The collusion-facilitation stories, not so much.

It will be interesting to see what the FTC finds and how much proof of pro-competitive effect it requires before it acquits the MAP arrangements at issue. Based on its recent action in the Nine West case, I expect that it will scrutinize the arrangements very closely. I, of course, would recommend that it follow the approach set forth in my forthcoming William & Mary Law Review article, Dr. Miles Is Dead. Now What?: Structuring a Rule of Reason for Evaluating Minimum Resale Price Maintenance.

Not so fast, says Will Wilkinson is this must read (and well earned) dismantling of Jacob Weisberg’s recent Slate column which has been getting a lot of attention:

If you think “libertarianism” caused the financial crisis, you’re either stupid or dishonest. Weisberg’s argument comes down to the single, simple thought that but for the resistance of Greenspan, Gramm, and Cox to certain regulatory proposals — a libertarian resistance — the crisis would not now be upon us. And so libertarianism is to blame. Accept or reject that thought as you will. It remains that, on Weisberg’s own accounting of things, the crisis would not now be upon us but for countless other contributing causes. So what to make of the light-years-from-libertarian ideological assumptions behind the rest of the regulatory regime? Why, nothing at all! And that’s what it means to be a hack.

What’s going on here? I think Weisberg rightly sees that control over the popular narrative about the causes of the financial collapse could have a big effect on public opinion. And Democrats are about to win the White House together with a robust Congressional majority. So here’s the main chance! The long-awaited dream! The desperate desire! The rightful claim of establishment liberals to the commanding heights is imminent! Now is the time! The sense of entitlement is about to meet title! And the GOP is in utter disarray, having long ago lost any semblance of a coherent philosophy of government. The field is almost clear. Only the utopian punter, holding a tattered copy of Atlas Shrugged, guards the goal line. The embittered professors and graying editors-in-chief cannot bear to wait another season. They will wake to their triumphant dawn. The cry goes up: “Smear the libertarian queer!” And never mind the rules.

Bring it, Weisberg.

My colleague Ilya Somin piles on with a post pointing out some obvious flaws in the “blame deregulation” narrative.

I think conferences like this are an effective way to attract talented economists to work on interesting antitrust problems.  I can envision a similar event from the Bureau of Competition or policy shops featuring academic research from law and economics scholars.  Here’s the conference announcement:

The Federal Trade Commission’s Bureau of Economics will host a two day conference to bring together scholars working in industrial organization, information economics, game theory, quantitative marketing, consumer behavior, and other areas related to the FTC’s antitrust and consumer policy missions. Examples of potentially relevant topics include online advertising, information disclosure, horizontal and vertical mergers, bundling, loyalty and other discounts, dynamic oligopoly, intellectual property, and behavioral and experimental economics.

The scientific committee for the conference is:

• Susan Athey (Harvard)
• Patrick Bajari (Minnesota)
• John List (Chicago)
• Carl Shapiro (Berkeley)
• Scott Stern (Northwestern-Kellogg)

The conference will be held at the Federal Trade Commission New Jersey Avenue Conference Center, 601 New Jersey Avenue NW, Washington, DC 20001.

PRE-REGISTRATION

Pre-registration for this conference is not necessary, but is encouraged so that we may better plan for the event.
To pre-register, please email your name and affiliation to BE-IOC@ftc.gov.
NOTE: When you pre-register, we will collect your name, affiliation, and your email address. This information will be used to estimate how many people will attend. We may use your email address to contact you with information about the conference.
Additional information will be posted as it becomes available.

SPEAKERS SLATED TO APPEAR, AS OF 9/30/2008

• Alan Sorensen “The Welfare Effects of Ticket Resale”
• Andrew Sweeting “Equilibrium Price Dynamics in Perishable Goods Markets: The Case of Secondary Markets for Major League Baseball Tickets”
• Steve Puller “Testing Theories of Price Dispersion and Scarcity Pricing in the Airline Industry”
• Stephen Meier “Charging Myopically Ahead: Evidence on Present-Biased Preferences and Credit Card Borrowing”
• James Hilger “Expert Opinion and the Demand for Experience Goods: An Experimental Approach in the Retail”
• Cary Deck “Price Discrimination with Sequential Purchasing: Theory and Experiments”
• Dean Karlan “Put Your Money Where Your Butt Is: A Commitment Savings Account for Smoking Cessation”
• Mike Waldman “Why Tie a Product Consumers Do Not Use? Explanations – efficiency, price discrimination, and exclusion”
• Claudio Lucarelli “Sleeping with the Enemy: Inter-firm Product Combinations”
• Christian Rojas “The Role of Information and Monitoring on Collusion”
• Matt Weinberg “An Evaluation of Merger Simulations”
• Jeremy Fox “Improving the Numerical Performance of BLP Static and Dynamic Discrete Choice Random Coefficients Demand Estimation”
• Katja Seim “Beyond Plain Vanilla: Modeling Joint Product Assortment and Pricing Decisions”
• David Reiley “Retail Advertising Works!…on Yahoo!”
• Anindya Ghose “Modeling and Estimating the Relationship Between Organic and Paid Search Advertising”
• Gunter Hitsch “Tipping and Concentration in Markets with Indirect Network Effects”

Director of the FTC Bureau of Economics Michael Baye posted slides of Antitrust Contests from a conference presentation in Stockholm. I am a co-author on the project along with FTC economist Paul Pautler. The paper is an attempt to structurally estimate a Tullock contest model of antitrust litigation using some unique data on economic labor effort by both sides in FTC litigation while controlling for other important determinants of litigation outcomes. The slides show our model, some estimates, and simulation results. This particular paper is part of a broader research agenda studying the role of economists, economic knowledge, and economic evidence in antitrust litigation and enforcement more generally. I’ll be doing some blogging about a more related project, but you can preview a preliminary version of our work on economic training and judicial decision making in antitrust here.

Dean Erwin Chemerinsky and UCI School of Law are in the news.  WSJ Law Blog reports on a little scuffle between Chemerinsky and Second Circuit Chief Judge Jacobs about the purported public interest mission of the law school whether it entails a distinct political leaning.  Here’s Chemerinsky:

Implicit in Jacobs’ remarks is the assumption that pro bono work is inherently liberal. That is just wrong. Much pro bono work has no ideological content, such as in helping a victim of domestic violence get an essential restraining order . . . Sometimes, pro bono work is in a direction conservatives applaud, such as in representing the property rights of home owners who want to challenge a city’s use of its eminent domain power. Sometimes, it is in a more liberal direction.

That’s a fine argument in theory.  There are a ton of conservative leaning public interest groups and causes.  It will be quite interesting to see how the public interest specialization operates in practice.  As a big fan of law school specialization, including specialization between rather than within law schools, it wouldn’t bother me a bit if Chemerinsky’s law school openly marketed itself as an ideologically left-leaning law school oriented toward particular public interest causes.  Competition between law schools who differentiate on these margins is a healthy thing.  But thats not going to happen.  Indeed, this isn’t the first time that Chemerinsky has claimed that the law school will not have a political ideology.  Here’s a picture and profiles of the inaugural faculty thus far.  I think a consensus view has emerged that this is a very impressive initial faculty who is going to do very well by most objective quality measures.  But as Professor Bainbridge notes, the proof that UC Irvine is committed to a non-ideological faculty will be in the pudding.

To be honest, the lack of ideological diversity is far less interesting to me than what I perceive to be the nearly complete absence of commercial law faculty.  Who is going to teach core courses like business associations?  What about antitrust?  Securities?  Bankruptcy?  Is there going to be a transactional curriculum?  Or is business law outside the scope of public interest?  I certainly hope not.  At least, that’s not what I tell my students.

Emailed James Heckman in response to fellow the Milton Friedman Institute (MFI) committee member John Cochrane, who had warned Heckman about his publicly expressed views that he was open to considering changing the name of the MFI and that at least some of the now well-cataloged objections to the MFI were rooted in the view that U of C too hastily approved the MFI proposal (HT: Levitt). Here’s what Cochrane reportedly wrote to his colleague:

My strong, personal suggestion is that you are digging yourself deeper and deeper into public statements that you will regret. Now, not only is Friedman’s name expendable, the GSB political, but President [Robert] Zimmer ’rushed this through.’ He’ll be delighted to see that in print. You may have long, convoluted explanations, but that won’t do much good when this sort of thing gets out.

It is a sad statement how far afield this debate has gone from Friedman’s intellectual achievements as a research economist and in advancing economic thought. In my view, those contributions alone justify the MFI and it strikes me as fairly disingenuous to object to a social science research institute in his honor.  I don’t think opening discussions about re-naming the MFI helps matters.  If the opposition is fairly represented by their own letter (thoroughly rebutted here), they seem content to ignore any serious discussion of Friedman’s contributions to social science.

Today’s New York Times features an op-ed by Michigan Law Professor Michael Barr and former Clinton advisor Gene Sperling that (somewhat predictably) blames our current financial mess on a lack of “common sense regulation” and exonerates the Community Reinvestment Act, Fannie Mae, and Freddie Mac.

I propose a counter-narrative.

It begins with a nutshell version of the financial crisis, which might look something like this:

The banks won’t lend (except at very high interest rates). That’s because (1) they lack liquidity (since much of their asset base is in mortgage-backed securities that are difficult to value and subject to a lemons problem), (2) this lack of liquidity is creating a limits to arbitrage situation that further prevents banks from selling their troubled assets, and (3) the banks lack trust in many of their counter-parties — other financial firms who also have lots of distressed assets on their books. We got into this sticky situation because the large volume of mortgage defaults has both reduced the value of mortgage-backed securities and rendered them very difficult to value (and thus pretty illiquid). Default rates have risen because housing prices in many areas have fallen abruptly.

At the root of the whole big mess, then, is the bursting of the housing bubble. That raises the question of why the bubble emerged in the first place. In thinking about that issue, I’ve been driven back to my favorite discussion of price bubbles in general — that set forth in Burton Malkiel’s classic book, A Random Walk Down Wall Street.

A price bubble, of course, is a situation in which the price of a type of investment asset far exceeds the underlying value of that type of asset. Throughout history, price bubbles have emerged on all sorts of investment assets. Some notable examples include Internet stocks in the late 1990s/early 2000 (e.g., Amazon’s stock fell from a high of 75.25 in 2000 to low of 5.51 in 2001-02; Yahoo’s, from 238 to 8.45; and Priceline’s, from 165 to 1.05); Japanese real estate in the 1980s (e.g., the appraised value of Tokyo’s imperial palace and grounds in 1990 could have purchased all of California), and tulip bulbs in Holland in the 1600s (e.g., in 1637, the Viceroy tulip bulb reportedly sold for a price in excess of 20 times the annual income a skilled craftsman).

How in the world does this “madness of crowds” happen?

Malkiel suggests that bubbles emerge when a substantial percentage of investors switch from a “firm foundation” approach to valuation to a “greater fool” approach. Under the former approach, the fundamental value of an investment asset amounts to the discounted present value of the cash flows the asset can be expected to generate in the future. (This is the valuation approach that underlies much of modern finance theory.) Under the latter approach, an investment asset’s value equals the amount a “greater fool” will pay to take the asset from the investor. (This is the valuation approach to which John Maynard Keynes referred in his famous beauty contest analogy.) When the investing public becomes enamored with a particular asset class like tech stocks or tulip bulbs, lots of investors — even sophisticated ones — will stop thinking about hard stuff like future cash flows and will focus solely on whether they can profitably re-sell (to greater fools) assets they suspect to be over-valued.

So what should we make of our own recent housing bubble? The discrepancy between rental rates and monthly mortgage payments in many communities suggests that many homeowners were ignoring the firm foundation of value. But that’s to be expected. For most folks (flippers excluded), a home, while obviously an investment asset, is also a consumption good. Many homeowners are really just looking for a comfortable place to live, and they may ignore (or at least minimize) investment considerations.

But what’s really interesting is the degree to which professional investors — banks and other mortgage lenders — were willing to “buy” investment assets (i.e., to make loans, which are really just payments in exchange for IOUs) with precious little regard for the “firm foundation value” of those assets. Why would the banks make so many loans to folks who were unlikely to be able to repay them (sub-prime loans)? And why would they perform so little due diligence before extending credit to many borrowers (Alt-A or “liars’ loans.”)?

Perhaps it’s because they knew there was a greater fool out there. Fannie Mae and Freddie Mac — government sponsored enterprises that enjoy an implicit federal guarantee that allows them to borrow money cheaply — stood ready to buy or guarantee all sorts of crazy mortgages. Indeed, those two entities bought or guaranteed about 70% of new mortgages issued in the first quarter of 2008, and they own or guarantee roughly half of all mortgages in the United States.

Why could banks so reliably count on Fannie and Freddie to buy or guarantee their improvident mortgages? Because Congress, which has given Fannie and Freddie the implicit government guarantee that allows them to borrow money cheaply, encouraged them to purchase or guarantee risky mortgages in order to facilitate affordable housing. As House Financial Services Committee Chairman Barney Frank explained things at a 2003 hearing on GSE reform, “Fannie Mae and Freddie Mac have played a very useful role in helping to make housing more affordable … a mission that this Congress has given them in return for some of the arrangements which are of some benefit to them to focus on affordable housing.” (More from Mr. Frank here. More on this implicit bargain between Congress and the FMs here.)

How shrewd of Congress. It could pursue the laudable goal of affordable housing, without any explicit federal subsidy, by rewarding Fannie and Freddie with a then implicit (now explicit) guarantee that would allow them to dominate their rivals. Looks like a political free lunch.

But there was one problem. In order to appease Congress and thereby maintain their favored status, Fannie and Freddie had to buy up lots of questionable investment assets. That meant that there was a greater fool out there. The existence of that greater fool freed mortgage initiators to disregard the firm foundation approach to valuation and to make all sorts of easily off-loadable subprime and liars’ loans. Voila, a bubble.

Or maybe it was Reagan-era deregulation.

• Henry Manne offers his thoughts on the financial crisis and the increasing role for those who understand markets to play in the new regulatory age
• Larry Ribstein defends the Illinois no-LSAT admission program
• Krugman on Krugman
• A conference on property rights I wish I could attend featuring a keynote from Harold Demsetz, my early frontrunner for the Nobel in economics in 2009
• Tomorrow, the FTC is having its conference on the use of FTC Act Section 5 as a Competition statute (agenda here) — this is an important issue where there is some substantial disagreement.  It should be an interesting event.  The conference links to a webcast.

The Federal Circuit came down on the side of rule of reason analysis, and no liability, in a reverse payment case in Cipro (HT: Antitrust Review and Patently-O):

Since there was no basis for the district court to confidently predict that the Agreements at issue here would be found to be unlawful under a rule of reason analysis, we find no error by the court in declining to find them to be per se unlawful. Instead, the court properly went through a rule of reason analysis to determine whether the Agreements were in fact an unreasonable restraint of trade….

Settlement of patent claims by agreement between the parties—including exchange of consideration—rather than by litigation is not precluded by the Sherman Act even though it may have some adverse effects on competition.11 Standard Oil Co. v. United States, 283 U.S. 163, 171 & n.5 (1931).

Here is what the Federal Circuit said about the Sixth Circuit Cardizem decision:

And, although the Sixth Circuit found a per se violation of the antitrust laws in In re Cardizem, the facts of that case are distinguishable from this case and from the other circuit court decisions. In particular, the settlement in that case included, in addition to a reverse payment, an agreement by the generic manufacturer to not relinquish its 180-day exclusivity period, thereby delaying the entry of other generic manufacturers. In re Cardizem, 332 F.3d at 907. Furthermore, the agreement provided that the generic manufacturer would not market non-infringing versions of the generic drug. Id. at 908 n.13. Thus, the agreement clearly had anti-competitive effects outside the exclusion zone of the patent. See Brief for the United States at *16 n.7, Joblove, 127 S. Ct. 3001 (No. 06-830); Brief for the United States as Amicus Curiae at *17, FTC v. Schering-Plough Corp., 548 U.S. 919 (2006) (No. 05-273), 2006 WL 1358441. To the extent that the Sixth Circuit may have found a per se antitrust violation based solely on the reverse payments, we respectfully disagree.

The growing tension between the circuits and the Roberts Court’s willingness to tackle antitrust issues suggests it might. But the lack of consensus regarding the appropriate analytical framework for evaluating reverse payments, and the disagreement between the FTC and DOJ, both are inconsistent with the characteristics of SCOTUS antitrust selection so far. I’ve predicted elsewhere that in the short term the Court will take a horizontal merger case (Whole Foods, anyone?), will overrule Jefferson Parish and clean up tying law, and hinted that perhaps in the longer term take a reverse payment case as an economic and legal consensus emerged.  I weighing the lack of consensus factor heavily.  Perhaps others think differently.

Do readers think the Supreme Court is likely to grant cert on a reverse payment case?

Turns out the Global Competition Policy issue on Reviewing the DOJ Report on Competition and Monopoly, in addition to the articles I pointed to in this post, has added a few more responses to the Report, the FTC Response, and what the schism might mean for antitrust enforcement over the next several years. So far I’ve read and very much enjoyed the articles from Tom Barnett (DOJ), Luke Froeb and Pingping Shan, and Sean Gates (the others look good too).

One of the emerging points from these top notch antitrust commentators is the hypothesis that, building on the error-cost framework which suggests that optimal antitrust liability rules should be designed to minimize the sum of Type I and Type II errors as well as administrative costs, perhaps the explanation of the schism between the FTC and DOJ is just about the different priors that these agencies had about the relative frequencies and magnitudes of such harms. Its an interesting point. And one that while not mutually exclusive with my opinion that the agencies have different views about the role of economics in antitrust enforcement, suggests that it might not be the whole story.

This “different priors” story is also something that he been used to explain divergence between the US and EU with some success. Its a story that is tempting — in part because it allows one to evaluate the debate in terms that do not assign fault to either side. In addition to being tempting, I’m sure there is some truth to the story that the agencies have very different priors about the competitive effects of certain types of conduct. But I’m not convinced that different priors is really the story here. It strikes me as one of those explanations that explains nothing by predicting everything. Here are a few questions about this explanation that comes to mind.

First,  what evidence is there in support of the different priors explanation?  If the rift is really about empirical evidence concerning the likely impact of competitive conduct, and therefore the relative frequencies and magnitudes of Type I and Type II errors, that discussion is taking place outside of the public documents.  Different priors about competitive conduct presumably respond to the available evidence.  But as I’ve pointed out that the FTC Statement is incredibly light on reliance on economic theory or evidence and heavy on rhetoric, e.g.  “the Department’s Report is chiefly concerned with firms that enjoy monopoly or near monopoly power, and prescribes a legal regime that places these firms’ interests ahead of the interests of consumers. At almost every turn, the Department would place a thumb on the scales in favor of firms with monopoly or near-monopoly power and against other equally significant stakeholders.”

Second, where did the different priors come from?  The rift is on Section 2 is somewhat new.  Did the FTC and DOJ just recently diverge on views on Section 2 conduct?  Or has this rift been a long time coming?  Its one thing to say that two different enforcers have different priors as an explanation for the rift.  But I think that some deeper digging into the formation of those priors is worth doing.Third, I think there is some evidence that the FTC and DOJ do not agree that the error-cost framework is the right approach to thinking about the design of antitrust rules.  If true, its a major deviation from a consensus view that has developed in the cases and scholarly commentary in favor of the error-cost approach.  The basic idea, derived from Judge Easterbrook’s classic:  The Limits of Antitrust, 65 TEX. L. REV. 1 (1984), is that liability rules should minimize the sum or error and administrative costs.   In the antitrust context, Easterbrook argued that the optimal rules should be biased towards false negatives because false acquittals are self-correcting and the identification of anticompetitive conduct is such a difficult task.  There is some evidence that the FTC Majority Commissioners do not think that the error-cost approach, contrary to the consensus view, is appropriate (with my comments in the paragraphs below each bullet):

• In response to the DOJ Report’s adoption of the error-cost framework and explanation of its concerns over over-enforcement, the FTC states that the challenge of identifying anticompetitive conduct “is not unique to Section 2″ and asserts its confidence that “the federal antitrust enforcement agencies and the private antitrust bar are up to that task.”

The confidence in the ability to distinguish pro-competitive from anti-competitive single firm conduct in a setting that redounds with complex welfare tradeoffs, static v. dynamic efficiencies, and innovation, its remarkably different from the “first, do no harm” principles espoused in the DOJ Report.  Certainly, this passage supports the “different prior” story as well.  But again, the defense of the more aggressive FTC position does not seem to be about evidence or our knowledge about competitive effects.  Rather, this is about confidence in lawyers and regulators to get the right answer.

• In response to the Easterbrookian point that false positives are likely to have greater social costs than false negatives because the latter are self-correcting, the FTC says “Even if correct, however, this hypothesis does not adequately consider the harm consumers will suffer while waiting for the correction to occur.  Markets can and do take years, even decades, to correct themselves. For one reason or another, it may take a long time for rivals to surmount entry barriers or other impediments to effective competition. Indeed, the monopolist’s own deliberate conduct may further delay a market correction and prolong the duration of consumer harm.”

Of course, it isn’t correct that because markets take some time to correct themselves that Type I and Type II error costs are equal.  The claim is not that false negatives are costless, it is that they are less costly than false positives.  False negatives, everyone agrees, have self-correcting tendencies that operate with varying degrees of speed.  False negatives have no such self-correcting mechanism.  The point that false negatives might self-correct slowly is not sufficient to address the theoretical point.

Its certainly true that one can design rational responses to different priors that result in different monopolization policies without assigning error to any of the designers.  I’m willing to concede that different perceptions of the likelihood and magnitude of errors are part of the story here.  Unfortunately, I think its a small part.  Were it a larger part of the discourse, I think a very rational discussion could be had about what sorts of rules and enforcement activities are warranted by the available evidence and which are not.  Sadly, I don’t see too much of that type of discussion.  For the record, my opinions here track closely to my view of the convergence issue between the United States and Europe: too much deference to different theoretical priors without respectfully hashing out how those priors hold up to available evidence.

The Wall Street Journal offers an update on the settlement talks with DOJ over the Google-Yahoo deal, which includes some interesting details about possible concessions to get the deal through:

In the settlement talks with the government, both companies have discussed concessions. These include capping the volume of Google ads Yahoo would use, assurances that Yahoo would continue to compete in search ads, and a reporting mechanism to ensure compliance, people close to the talks said. U.S. officials hope to impose measures that will ensure that prices advertisers must pay don’t rise significantly after the deal … .

Reworking the deal to include a reporting mechanism, could require the companies to disclose more about the mechanics of their closely-guarded search-advertising technology than they want to. And caps on how many Google-sold ads Yahoo can display could limit Yahoo’s financial gains from the agreement.  Google’s critics, including Microsoft, have forcefully argued that online search advertising is too dynamic and complex to allow a settlement that could work and be effectively policed.  If the companies reach a settlement with regulators, its principles would likely be laid out in a consent decree that would be filed in court.

While that would allow the deal to proceed, it would also be a formal recognition of Google’s market power. That could constrain the Mountain View, Calif., company’s conduct in the future and might draw private antitrust suits from competitors or advertisers.  Even as senior Justice Department officials weigh the companies’ proposals to resolve antitrust issues, its trial staff continues to prepare a lawsuit to block the deal, according to lawyers and executives contacted by the government.  Justice Department officials already have deposed Google Chief Executive Eric Schmidt and other key figures in the case. Opponents, including Microsoft, have been provided documents and depositions for use in a possible lawsuit.  The companies have been cooperating with the Justice Department’s investigation and recently agreed to delay implementing the deal until at least Oct. 22 to give federal and state antitrust officials time to complete their separate investigations.

Scott Kieff (Wash U., Hoover Project on Commercialization Innovation) has posted a paper on Quanta v. LG Electronics: Frustrating Patent Deals by Taking Contracting Options off the Table?:

The Supreme Court’s unanimous decision in Quanta v. LG Electronics may make it significantly more difficult to structure transactions involving patents. While this decision does make a group of players into winners in the immediate term for existing patent deals (this group includes any customer who, like Quanta, buys patented parts without buying a patent license), almost everyone is likely to come out a loser going forward.

The Court in Quanta decided that a patent license that LG Electronics sold only to Intel – and explicitly limited to exclude Intel’s customers, like Quanta, and priced to reflect these modest ambitions – would be treated by the Court as extending permission under the patent to those Intel customers. The legal “hook” on which the Court hung its decision is the patent law doctrine called “first sale” or “exhaustion.”

The Quanta decision is likely to have a serious negative effect on the nuts and bolts of patent licensing agreements. On one reading, it stands for little more than the unremarkable proposition that the actual patent license contract at issue was just badly written. But that would be a simple matter of applying state contract law to the underlying facts of the contract-not the type of issue that typically gains the Supreme Court’s attention. So the real motivating force behind the Court’s decision to take the case is probably something else. The extensive briefing and commentary, as well as the opinion’s colorful dicta, all suggest that the true import of the case is the way it speaks about what patent contracting can be done – as a matter of Court-created policy for federal patent law.

If this view of Quanta is correct, then the decision may be remarkably important in several respects. It may greatly frustrate the ability of commercial parties to strike deals over patents. It may also stand as an example of a seemingly conservative Court acting in direct contravention of clear congressional action.