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Moresi and Salop (2013) have extended the “upward pricing pressure” approach used in analyzing horizontal mergers to the analysis of vertical mergers. They present test expressions called the vGUPPIu and vGUPPId to see if the upstream and downstream prices will rise as a result of the merger. This approach has gained acceptance. In this paper we present the results of Monte Carlo simulations of a vertical merger for a simple setup with one upstream monopolist and two downstream firms. In the simulations, the upstream price paid by the remaining downstream rival can either rise or fall. The downstream price always falls. The downstream rival may exit even when the upstream price falls. Based on these simulations, we see if the Moresi and Salop formulas predict the directions of price changes correctly. We also derive a variation on the Moresi and Salop formulation, arriving at different vGUPPI formulas. Overall, neither approach does well. Both versions of the vGUPPIu predict upstream price increases, whereas the simulations show many decreases. The merged firm’s downstream price always falls in the simulations. The Moresi and Salop downstream price test is correct 82.1% of the time, whereas the variant is correct 100% of the time.

Formal merger analysis typically ignores the possibility that both prices and quality levels may be endogenous. This paper extends the traditional analysis of mergers to include both quality and price effects. Based on simulations, we find that mergers can either raise or lower the quality levels of the merging firms; non-merging firms always raise their quality levels. We find that while the standard upward pricing pressure index is a good predictor of the qualitative results of merger simulations, the equivalent index for quality performs poorly.

INTRODUCTION The scene-size-up is a crucial first step in the response to a mass casualty incident (MCI). Unmanned aerial vehicles (UAV) may potentially enhance the scene-size-up with real-time visual feedback during chaotic, evolving or inaccessible events. We performed this study to test the feasibility of paramedics using UAV video from a simulated MCI to identify scene hazards, initiate patient triage, and designate key operational locations. METHODS We simulated an MCI, including 15 patients plus 4 hazards, on a college campus. A UAV surveyed the scene, capturing video of all patients, hazards, surrounding buildings and streets. We invited attendees of a provincial paramedic meeting to participate. Participants received a lecture on Sort-Assess-Lifesaving Interventions-Treatment/Transport (SALT) Triage and MCI scene management principles. Next, they watched the UAV video footage. We directed participants to sort patients according to SALT Triage Step One, identify injuries, and to localize the patients within the campus. Additionally, we asked them to select a start point for SALT Triage Step Two, identify and locate hazards, and designate locations for an Incident Command Post, Treatment Area, Transport Area and Access/Egress routes. The primary outcome was the number of correctly allocated triage scores. RESULTS Ninety-six individuals participated. Mean age was 35 years (SD 11); 46% (44) were female and 49% (47) were Primary Care Paramedics. Most participants (79; 82%) correctly sorted at least 12 of 15 patients. Increased age was associated with decreased triage accuracy [-0.04(-0.07, -0.01); p = 0.031]. Fifty-two (54%) correctly localized 12 or more patients to a 27 × 20m grid area. Advanced paramedic certification, and local residency were associated with improved patient localization [2.47(0.23,4.72); p = 0.031], [3.36(1.10,5.61); p = 0.004]. The majority of participants (70; 81%) chose an acceptable location to start SALT Triage Step Two and 75 (78%) identified at least 3 of 4 hazards. Approximately half (53; 56%) of participants appropriately designated 4 or more of 5 key operational areas. CONCLUSION This study demonstrates the ability of UAV technology to remotely facilitate the scene size-up in an MCI. Additional research is required to further investigate optimal strategies to deploy UAVs in this context.

We describe a model of entry timing assuming that a second mover can benefit from observing the experience of a first mover. We focus on how market attractiveness characteristics such as size and cost affect the time until first entry. The effects depend on whether the number of participants is exogenous or endogenous. In the former case, a more attractive market leads to earlier entry. In the latter case, it leads to later entry. Treating the number of firms as an integer, free entry leads to non-monotone, but testable, effects of market attractiveness on entry timing.

Consider a monopolist in one market that faces competition in a second market. Bundled loyalty discounts, in which customers receive a price break on the monopoly good in exchange for making all purchases from the monopolist, have ambiguous welfare effects. Such discounts should not always be treated as a form of predatory pricing. In some settings, they act as tie-in sales. Existing tests for whether such discounts violate competition laws do not track changes in consumer surplus or total surplus. We apply a new test to an illustrative example based on SmithKline that assumes the “tied” market has homogeneous goods. If the tied market is characterized by Hotelling competition, bundling by the monopolist causes the rival firm to reduce its price. In numerical examples, we find that this can deter entry or induce exit.

We study two vertical constraints on pricing which have received little study. A vertical MFN (“VMFN”) refers to an MFN on retail prices that is sought by an upstream manufacturer. A vertical margin constraint (“VMC”) refers to a requirement that the margin earned by a retailer on a manufacturer’s product not exceed what the retailer earns on a rival manufacturer’s product. Vertical agreements containing these constraints are found in the soft drink and cigarette industries. We study these vertical constraints in the context of two asymmetric manufacturers. In this setting, only the larger manufacturer uses the VMFN. We characterize pure and mixed strategy equilibria and find, as have others, that the VMFN raises prices, relative to a benchmark case. The VMFN harms the retailer and the small manufacturer, helping the larger manufacturer. This can lead to foreclosure of the small manufacturer. The VMC has opposite effects, leading to lower prices and higher retailer profits than in the benchmark case. It requires pre-commitment by the retailer in order to be used.

This paper covers the activities of the Economic Analysis Group (EAG), during 2003–2004. It describes the economic analysis undertaken by EAG in several important investigations, litigations, and administrative and appellate matters.

What price should downstream entrants pay a vertically integrated incumbent monopoly for use of its assets? Courts, legislators, and regulators have at times mandated that incumbent monopolies lease assets required for the production of a retail service to entrants in efforts to increase the competitiveness of retail markets. This paper compares two rules for pricing such monopoly inputs: marginal cost pricing (MCP) and generalized efficient component pricing rule (GECPR). The GECPR is not a fixed price, but is a rule that determines the input price to be paid by the entrant from the entrant's retail price. Comparing the retail market equilibrium under MCP and GECPR, the GECPR leads to lower equilibrium retail prices. If the incumbent is less efficient than the entrant, the GECPR also leads to lower production costs than does the MCP rule. If the incumbent is more efficient than the entrant, however, conditions may exist in which MCP leads to lower production costs than does the GECPR. The analysis is carried out assuming either Bertrand competition, quantity competition, or monopolistic competition between the incumbent and entrant in the downstream market.

Of the many activitiesof the Antitrust Division of theU.S. Department of Justice, we havesummarized some that raise interestingeconomic issues. We describe recentimprovements in the methodology to beused in ``coordinated effects'' analysisof mergers. We also discuss four casesbrought by the DOJ that raise issues ofmarket definition, the influence ofcommon partial ownership of competitors,and the effects of fringe suppliers inconstraining collusion by large firms.

We propose a model of Bertrand competition in which consumers choose firms based on prices and qualities. Service quality depends on congestion, which is a function of capacity and output. We first present theoretical properties of the model. Next, we calibrate the model to the wireless industry and use it to evaluate the impacts of changes in spectrum allocation on consumer welfare and profits. Simulations of the model show that when one firm acquires more spectrum, consumer welfare at all firms increases due to congestion externality effects. We find that a transfer of spectrum from one firm to another can either raise or lower consumer welfare at the firms not involved in the transaction, again due to externality effects. Where it is possible to compare the results of our model to the wireless industry, they are consistent with the data. We also explore some possible effects of the upcoming 2016 spectrum auctions.

We characterize screening for collusion as a problem of inference whose essential elements include competitive null hypothesis (H0), a collusive alternative (H1), and an empirical indicator (X) to differentiate between them. Using this framework, we review the theoretical and empirical efforts to design screens and find that screens fail for one of three reasons: (i) the empirical indicator cannot distinguish between H0 and H1; (ii) H0 is not indicative of competition or H1 is not indicative of collusion; or (iii) the world is neither H0 nor H1. The often under-appreciated, second and third conditions imply that before using a screen, the practitioners should make sure that the industry in question “fits” the theoretical model or assumptions on which the screen is based.

A regulated upstream monopolist provides an input to firms in a downstream market. If the monopolist enters the downstream market, a natural concern is that it will act so as to raise its downstream rivals' costs. An offsetting incentive is that a higher downstream price will reduce demand for the input, which reduces the monopolist's profit. Conditions under which one incentive dominates the other are derived. The monopolist may desire to lower its downstream rivals' costs rather than raise them. These findings suggest that regulatory policy towards such downstream entry should not focus exclusively on the ability to discriminate.

The U.S. Congress passed sweeping telecommunications reform legislation in 1996 that will enable the Regional Bell Operating Companies (RBOCs) to enter the interLATA long-distance market once certain conditions are met. This legislation empowers the state public service commissions, the Federal Communications Commission and the Justice Department to determine collectively when RBOC entry into interLATA long-distance markets satisfies the public interest. This article reveals that as long as RBOC long-distance market shares remain below certain critical levels, the RBOCs do not have the incentives (despite having the opportunity) to discriminate against their downstream competitors. These findings suggest that a public policy focused exclusively on eliminating the opportunity to discriminate may needlessly delay RBOC entry into interLATA markets and thereby deprive consumers of the benefits of enhanced competition.

We examine the incentives for abuse under rate-of-return (ROR) and incremental surplus subsidy (ISS) regulation. Abuse consists of expenditures by the regulated firm that provide private benefits, but do not reduce production costs. We show that ISS regulation provides efficient incentives for owners of the regulated firm to limit abuse by subordinates. We also prove that abuse by owners of the firm will generally be greater (smaller) under ROR regulation than under ISS regulation when consumer demand for the regulated product is inelastic (elastic). Furthermore, we show that to limit abuse and improve welfare under ROR regulation, it can be advantageous to “ignore” available information about consumer demand.

In this paper we characterize the Pareto-optimal set of non-linear pricing schedules when non-negative weights are assigned to each customer type. Our analysis first compares general non-linear tariff schedules and sets of self-selecting two-part tariffs, when there are two customer types and the cost function is linear. We then derive optimal sets of two-part tariffs for arbitrary numbers of customer types and general cost functions. We also consider the sustainability of non-linear pricing schedules under the threat of entry of rival firms.

We analyze an oligopolistic pricing and entry model in which there is a sunk cost of entry and in which firms' outputs are homogeneous. Firms' pure strategies consist of a binary entry decision, and conditional on entry a uniform or non-linear price schedule. There does not exist a pure strategy Nash equilibrium in this model, so we analyze the symmetric mixed strategy equilibrium. The main result is that if there exists a positive sunk cost of entry, then an increase in the number of potential competitors puts more probability weight on higher prices. This result is counter to the usual intuition that underlies current antitrust policy.

We study optimal nonuniform pricing in a setting where a customer's demand at the start of a billing period contains a random variable whose realization becomes known by the end of the billing period. In this context, an optional calling plan is a tariff which the consumer must select based on his/her expectations about the random variable, whereas, under a tapered tariff, the consumer's choice of usage charge is made after he/she knows the realization of the random variable. We show that for low to moderate levels of uncertainty about the random variable entering the demand function, the optional calling plan approach to nonuniform pricing yields higher expected profit than does the tapered tariff approach, given risk-neutral consumers. We illustrate this finding with a case study and argue that it is consistent with the historical evolution of tariffs in the interexchange telecommunications market.

The "parallel behavior is enough" standard cannot assist the courts in distinguishing horizontal agreements to restrain trade from normal competition. It would very likely impose significant costs on the economy by distorting competitive incentives and encouraging meritless litigation designed mainly to induce financial settlements.

The Telecommunications Act of 1996 generated substantial controversy regarding the prices that competitive local exchange carriers should pay for using the unbundled network elements ("UNEs") of local exchange carriers. Throughout the debate, two primary pricing methods have been advocated: (1) setting the price of a UNE equal to its direct, forward-looking cost (known as the uniform, total element long-run incremental, cost ("TELRIC") approach), and (2) setting the price equal to the incremental cost of a UNE plus the incumbent's opportunity cost of providing the UNE to a competitor (known as the efficient component pricing rule ("ECPR")). A modification of the ECPR approach (known as "differential access pricing") has been recommended by Professor William Baumol, which allows for the presence of cross subsidies in retail rates. We explore the subtleties of each pricing method, detailing background on the debate, analyzing the FCC's position, and discussing Professor Baumol's proposal. In doing so, we highlight deficiencies of the TELRIC approach, noting particularly that the method induces entrants to engage in cream-skimming while preventing them from profitably offering service to subsidized retail customers, and prevents incumbent local exchange carriers from recovering forward-looking incremental costs. Further, we discuss how Professor Baumol's differential access pricing method solves most of the problems associated with the TELRIC approach, while noting that Professor Baumol's pricing method is not without its own shortcomings. Finally, we describe our pricing methodology, called the Market-Determined ECPR (M-ECPR). We demonstrate the advantages of the M-ECPR pricing methodology, concluding that this method eliminates cream-skimming opportunities and facilitates entry into all the local exchange carrier's markets, while allowing regulators to maintain cross-subsidies. We conclude by welcoming Professor Baumol's recent change of position, since he had previously advocated TELRIC pricing.

This paper discusses the economic issues involved in the government's case against Microsoft. In particular, we examine the competitive effects of Microsoft's contractual restrictions, including the bundling of its Internet browser with the Windows 98 operating system in agreements with computer manufacturers (also called Original Equipment Manufacturers or OEMs), online services providers (OLS), Internet service providers (ISP) and Internet content providers (ICP). A secondary purpose is to review and critique the economic evidence presented by Microsoft in support of its contention that its behavior is not characteristic of a monopoly.

What price should entrants pay an incumbent monopoly for use of its assets? Courts, legislators, and regulators have at times mandated that incumbent monopolies lease assets required for the production of a retail service to entrants in efforts to increase the competitiveness of retail markets. This paper compares two rules for pricing such monopoly inputs: marginal cost pricing ("MCP") and Generalized Efficient Component Pricing Rule ("GECPR"). The GECPR is not a fixed price, but is a rule that determines the input price from the entrant's retail price. Comparing the retail market equilibrium under MCP and GECPR, the GECPR equals or dominates MCP in terms of allocative efficiency. If the incumbent is less efficient that the entrant, the GECPR also dominates MCP in allocative efficiency. If the incumbent is more efficient than the entrant, however, conditions may exist in which MCP leads to lower production costs than does the MECPR, so that the total surplus may be higher under MCP. The analysis is carried out assuming either Bertrand competition, quantity competition or monopolistic competition between the incumbent and entrant.

Currently, the FCC is refining a proposal to regulate the access services of the local exchange carriers (LECs) under a price-cap scheme, modifying rate-of-return regulation. See FCC (1988, 1989). One element of the proposal is that new services be treated for tariff review purposes in a manner quite similar to the FCC’s Optional Calling Plan Order, which set out a net revenue test for approval. This net revenue test would require that (1) a new service must be projected to increase net revenue for the service subject to price-cap regulation and that (2) this increase be projected to occur within the lesser of two time periods: 24 months from the incorporation of the new service into a price filing, or 36 months from the introduction of the services. This showing must be accompanied by net revenue projections which include marginal costs, price elasticity, and cross-elasticity effects.1

We analyze optimal multiproduct nonlinear prices in the case where consumer tastes are characterized by more than one taste parameter. We present conditions under which the optimal nonlinear price schedule can be computed by finding optimal price schedules separately for each market. If so, they are unbundled; if not, they are bundled. Bundling is weakly superior to unbundling and is strictly superior when a condition that we term uniform ordering of demand curves is weakly violated. With uniform ordering of demand curves, multiproduct nonlinear prices have the same features as single-product ones. Without this condition it is easy to construct examples that contradict some well-known results from the standard literature in mechanism design.

We examine profit-maximizing nonlinear pricing under a stylized version of the FCC's price-cap plan for AT&T, whereby the firm's average revenue in each period is constrained not to exceed some fixed level. When average revenue in each period is calculated as the ratio of total revenue in that period to output in the preceding period (as in the FCC's plan for AT&T), incentives are created for the firm to engage in strategic nonlinear pricing. These incentives can lower both consumers' surplus and total surplus under price-cap regulation. We propose alternative implementations of price-cap regulation that eliminate these incentives for strategic pricing. We also examine whether current profits should influence future revisions of the cap. We show that small amounts of such linkage can enhance total surplus, due to pricing distortions that arise under price-cap regulation.

This paper studies transfer prices and compensation mechanisms in a principal-agent model with moral hazard and private information by the agent. Production requires unobservable effort by the agent and a purchased input. In general, it is optimal for the principal to create an internal market for the input and charge the agent a tax or subsidy that differs from the market price. Conditions are found under which the optimal compensation function is given by the difference between a nonlinear "revenue" function depending only on output and a nonlinear transfer pricing function that depends only on the amount of the purchased input. Copyright 1991 by Economics Department of the University of Pennsylvania and the Osaka University Institute of Social and Economic Research Association.

The authors propose a regulatory mechanism, called the incremental surplus subsidy (ISS) scheme, that can be implemented even when the regulato r has no knowledge of the monopolist's cost structure. The regulator need only share the firm's knowledge of demand (which may be imperfec t) and be able to observe (with a lag) the firm's expenditures. The I SS scheme induces the firm to set marginal cost prices, to minimize p roduction costs, and to undertake efficient investment levels. It als o severely limits the firm's rents, and eliminates them altogether if the firm's discount rate is known. Copyright 1988 by Economics Department of the University of Pennsylvania and the Osaka University Institute of Social and Economic Research Association.

The existing literature on public utility pricing with stochastic demand has reached no consensus on the profitability of pricing and investment policies which maximize expected surplus. This note contributes a theorem which resolves the issue and contains previous results as special cases.

In an example, we compute optimal consumption policies with wage uncertainty and find that when the time horizon is large enough, wage uncertainty may be ignored.

A regulatory incentive mechanism is presented in which the regulated firm has superior information about both cost and demand, compared to the regulator. The mechanism leads to truthful revelation of the demand function and extracts all rents due to private demand information in a nondistorting way. The scheme assumes that the regulator can observe lagged expenditures by the firm. This mechanism leads to efficient pricing, operating, and investment behavior by the firm. Finally, it is shown that the mechanism is closely related to recent proposals for price-cap regulation and that under certain assumptions simple modifications of these proposals will lead to the mechanisms discussed herein.

Introduction The optimal nonuniform price schedule P* (Q) generates more consumer surplus for a given revenue requirement than any other self-selecting tariff. In operational terms however, it is important to know just how much better it does over arguably simpler Ramsey and Fully Distributed Cost pricing rules. To answer this question, we need to be able to compute these alternative pricing rules and evaluate the consumer surplus and revenues generated for a variety of assumptions about demand and cost conditions. These computations represent a potentially difficult numerical problem where the willingness to pay reflects differences in tastes across a population of individuals. The consumer surplus and revenue integrals have themselves to be integrated over consumer types. In the case of the optimal nonuniform pricing rule, there are functions to be twice integrated that involve an optimal price schedule P*(Q) that is only implicitly defined. This implicit definition of the price schedule P*(Q) arises from the fact that the optimal price is derived from the first order conditions specific to a given customer type θ. The optimal price schedule is then defined in terms of the maximum quantity consumer type 6 will purchase. In other words, given a willingness to pay function p(Q,θ) decreasing in Q and increasing in consumer type θ, the maximum type θ will consume is given as the Q for which P = p(Q,θ) . Thus, provided the self-selection constraint is satisfied it is possible to define (implicitly) the unique function P = P*(Q) for all consumer types θ.

In models of a multiproduct firm with increasing returns to scale, prices are not set equal to marginal costs. Ramsey prices, which are inversely proportional to the elasticity of demand when demands are independent, are usually used in this situation. An analogous pricing system has been derived for a single commodity firm charging different "marginal" prices, depending upon the amount consumed. Our main purpose is to study properties of such nonuniform price functions for a multi-product firm which faces consumers who are differentiated by a single characteristic. We show, using this simplification, that a multiproduct monopolist offers a nonuniform price schedule--analogous to the single product nonlinear price system--on a one-dimensional path, along which consumers choose their optimal bundles.

Introduction In the last chapter we showed that a properly chosen set of n +l selfselecting two-part tariffs could Pareto dominate a set of n self-selecting two-part tariffs. The reason for this welfare dominance is that the set of n +1 two-part tariffs gives each type of consumer the ability to find a two-part tariff more closely attuned to his willingness to pay than under the original set of n two-part tariffs. Because of the relationship between a set of n self-selecting two-part tariffs and a single nonuniform price schedule with n rate steps, this result suggests that welfare can be made progressively higher by constructing nonuniform price schedules with more and more rate steps, each one progressively smaller in length, obtaining in the limit a continuously varying nonuniform price schedule. In the upper panel of Figure 4.14 we depicted four self-selecting two-part tariffs which form the shaded piecewise-linear outlay schedule. The associated marginal price schedule is the declining block schedule in the lower part of that figure. If we were to let the number of optimally chosen self-selecting tariffs tend to infinity, then the resulting outlay schedule would be the smooth lower envelope of the two-part tariffs given as R(Q) in Figure 5.1. The corresponding smooth marginal price schedule is given as the curve P(Q) in the lower panel. In this chapter we will explore the properties of smooth nonuniform price schedules which maximize total surplus, subject to the firm breaking even.

Actual rates of return to regulated firms that face systematic growth in demand, in factor prices and in technical productivity are rarely, if ever, precisely at the target rates set by regulatory agencies. If regulators make discrete price adjustments only after the firm's actual rate of return deviates from the target rate by some threshold amount, then during periods of strong wage growth, the actual returns are less than the target return on the average, and price increases are required at ever shortening intervals. If regulators make continuous price adjustments so as to minimize a quadratic penalty (disutility) function, then the firm's return may be consistently above or below the target rate.

Introduction A key ingredient in most discussions of efficient pricing theory is the assumption that the regulated monopoly's customers are independent of each other. That is, it is assumed that the amount consumed by one customer has no impact on the surplus which can be earned by another customer. For this reason, it is possible (and convenient) to ignore interactions between consumers in designing efficient prices. In reality, there are many reasons why interactions between consumers could be important; in such cases, efficient pricing rules should take account of them. One especially important type of interaction occurs when the utility sells both to business customers and residential consumers. Residential consumers buy the utility's services as final products to be consumed. The business customers buy the utility's services as inputs into their own production processes, which produce outputs that they sell to other businesses and to final consumers, including, possibly, the utility's residential customers. The prices that the utility's business customers charge for the goods and services which they produce link their welfare to those of the utility's residential customers, who buy both the service of the utility and the outputs produced by the utility's business customers. Individual business users' profits are linked to the extent that they compete with each other. This type of interaction also occurs when a utility sets a nonuniform price schedule for business customers. Changes in marginal prices at given points on the schedule will affect total outlay for firms which consume larger amounts of the utility's services. This, in turn, affects prices in these industries.